September 01, 2018

An Inside Job: Unearthing Fraud in Law Firms

Fairly simple systems can protect your firm from inside fraud.

Ian Hu

Many incidents of fraud are inside jobs. Let’s begin with a true story about Claudio, a senior lawyer who ran a small law firm, and Beatrice, his assistant. I’ve changed their names to protect the innocent—and the guilty.

Over the years Claudio developed a system to handle money that worked like clockwork. When he received money from a client, he deposited the funds in the trust account. When a vendor requested monies, he would call to confirm the instructions. When he checked his trust accounts, the funds would always be there. And, best of all, he trusted Beatrice implicitly since he had worked with her for 30 years. He was sure she would never do anything to hurt him.

Now 30 years is a long time to form a bond, and Beatrice and Claudio could finish each other’s sentences. “Could you ...” he’d begin, and she would finish with “... file the pretrial memorandum with the court. Sure.” They weren’t exactly Romeo and Juliet, but they complemented each other at work. They had met when he was a young lawyer at a much bigger firm, and she had followed him, even counseled him, as he jumped ship and started a solo practice. She did so again when he left the big city and joined a small firm. He paid her a living wage, nay, a comfortable wage, likely among the highest in town. He gave her ample vacation days and days off to take care of her children, shrugging off the occasional late arrival. Every year they’d celebrate her birthday; he’d take her out to lunch at a place of her choosing. He thought he was a good employer, and you and I would probably think so too.

Beatrice seemed happy, but she wasn’t. After 30 years she was tired of Claudio’s quirks and quibbles. She felt underappreciated, having to take the brunt of calls from angry clients and to cover for Claudio’s mistakes. She deserved more, she thought. She asked for advances and pay raises to no avail. So she began to take monies from the general account and updated her wardrobe. He didn’t notice either one. Who would miss a little money here, a little there?

On the morning of the closing of a client’s deal, $2 million was deposited into the trust account. Beatrice had access to the account, having gained Claudio’s confidence through the years. She logged into it and diverted the $2 million into a private account. Then she packed up and left before lunch. She never returned.

Trust and Authority Are Vulnerable Points

A person who commits fraud in a law firm has to be in a position of trust to take advantage. It’s typically the person you trust the most with access to the inner workings of the office and how money is handled. This doesn’t mean you need to cast a suspicious eye on your closest colleagues. Instead, put in place a system that applies to all, such as giving all lawyers and staff regular spot audits. Consider a time period that is practicable for your firm, beginning with quarterly. The audit could involve the review of checks and endorsements. At a small firm, a senior partner and/or office administrator should check that clients and suppliers are receiving payments. Look for handwritten amendments to the payee or double endorsements on the checks when they are returned from the bank. Watch for works in progress and accounts that are written off as the swindler may be billing the time to the client but avoiding detection by endorsing firm checks to pay himself or herself personally.

These criminals are often in authority positions, not just the rank-and-file employees who happen to have access. A partner can take money out of a client’s account for personal use and make up the shortfall by moving money into the client’s account from another client. The partner can then continuously move money between clients’ accounts to maintain the illusion. Attorneys with know-how can also set up shell companies and move money between accounts, be it monies for clients’ mortgages, purchases and sales or settlements.

The Good Gossip

How do you know if an attorney or staff member is committing fraud? A change in personality, lifestyle or working hours can be a sign. A colleague who spends long hours at the firm and never takes time off can be the person who feels most aggrieved (“I put in all this time, and this is all the thanks I get?”). A change in conspicuous consumption (Timex to Rolex; Camry to Lamborghini—you get the picture) can mean an attorney or staff member is overextended, in debt and under financial pressure. An attorney who ceases to meet billing targets may also be motivated to commit a fraud.

Who notices when an attorney or staff member is at risk? Fellow colleagues often see the signs before anyone else. An outside auditor has no idea if the officemate down the hall has traded in camping vacations for safaris. But the friend next door does. Office gossip can turn out to be a great fraud prevention tool as employees are common reporters of frauds.

Things That Aren’t Quite Right

When things aren’t quite right, there’s a chance you are looking at a fraud taking place. An invoice that ends in an even number, such as $100.00, without taking into account the local tax rate, is unusual. Altered checks, invoices, purchase orders and reports may be traced back to missing documents; names and addresses of clients and customers may be suspiciously similar to the names of lawyers and staff; past-due account notices may show up for bills that were thought to be paid; second endorsements may appear on checks when they shouldn’t be; and handwriting on documents may seem out of place. A seemingly innocent complaint from a vendor, asking “Why are you so late on payment?” when, in fact, you thought that payment had been made, can be another sign of an inside fraud being perpetrated. Listen to your inner voice when usual expectations go askew.

Preventing Fraud

Fraud prevention means keeping a finger on the pulse of the firm, such as watching for any change in morale among lawyers and staff. Also pay attention to personality and lifestyle changes. In a small firm these can be accomplished without much difficulty as colleagues and staff are more likely to be in regular contact with each other. Larger firms must rely on a firm culture that encourages mentorship and collegiality. Meanwhile, firms of all sizes can implement regular spot audits of those with access to accounts, letting that “Spidey sense” tingle when aberrant accounting issues are noticed.

Ian Hu

Counsel, LawPRO

Ian Hu is a counsel in claims prevention and practicePRO at LAWPRO. He is also a member of the ABA Law Practice Division’s Law Practice Today board and has served on LP’s Attorney Well-Being and Diversity & Inclusion committees. ian.hu@lawpro.ca

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