The Psychology of Fraud

A renewed focus on criminal profiling has put white-collar crime squarely in a limelight most perpetrators do their best to avoid. By Kristine Blenkhorn Rodriguez | Summer 2015



It’s not easy to silence a room full of senior executives all too accustomed to holding the floor. But a few well-chosen phrases are usually all it takes, says Jim Ratley, president and CEO of the Association of Certified Fraud Examiners (ACFE). Try “asset misappropriation,” “corruption charges” and “financial statement fraud.” That’ll pretty much do it.

When Ratley speaks to executives, they know the message won’t be pretty. No fraud is. But hearing the words usually only seen in screaming headlines—and hearing them in the context of their own companies—is a sobering experience to say the least. And even more sobering is the fact that 36 percent of frauds are committed by a member of management and 19 percent by an owner/executive. In other words, by their peers.

Ratley goes on to explain that white-collar criminals are most likely to be 31- to 45-year-old males, who have been with the company for more than five years. If he’s a manager, he’s probably bilked the company out of $130,000 or so. If a higher-level executive, the number soars to $500,000. And, says Ratley, you can place safe bets on him working in one of these departments: Operations, sales, finance/accounting, executive/upper management, customer service or purchasing.

A couple more sobering facts to chew on: Even when fraud is detected and acted upon, only 14 percent of victim organizations fully recover losses. And close to 60 percent may not recover much at all.

Despite all the technological advances influencing just how a fraud might be pulled off and detected, the act itself—at its core—remains the same, says Tim Voncina, a Chicago-based managing partner for RGL Forensics. “David Cressie’s fraud triangle still holds true today. The three prongs—opportunity, motivation and rationalization—are essentially the human bits that time and technology just don’t seem to change,” he explains.

Voncina works with everything from mom-and-pop shops to the Fortune 100. “Complacency happens in all of them,” he says. “It’s usually a lack or breakdown of internal controls. Maybe one person has more responsibility than is smart. Or there’s not enough separation of duties. But the one sure thing is...greed takes over and that’s when the crime becomes identifiable.”

In 2009, agents with the FBI’s Behavioral Analysis Unit (BAU) began consulting with colleagues in New York who specialized in securities fraud detective work, essentially bringing a new angle to white-collar criminal investigations. The BAU agents’ profiling skills, which previously had focused solely on serial killers, have been widely popularized in countless books, movies and TV shows, and are considered extremely useful in understanding what makes fraudsters tick. In this case, agents were brought in to review FBI case files for Bernie Madoff and other convicted scammers, including Bayou Group's Samuel Israel, whose $400M hedge fund turned out to be a Ponzi scheme, and former Democratic fundraiser Hassan Nemazee, who stole nearly $300M from Citigroup and two other big banks.

Despite their considerable contributions to fraud investigation work, Frank S. Perri, a criminal trial attorney for over 20 years, believes that the behavioral profiling of white-collar offenders is still in its infancy. “We are observing fraud offenders in management capacities; the behavioral traits that serve as fraud offender risk factors are at times the same traits they are rewarded for in organizations,” he explains. He cautions that behavioral traits are not the cause of fraud but rather serve as identifiable risk factors that may indicate an increased probability of fraudulent activity.  

“Part of the problem in understanding the fraud offender profile,” he explains, “is that people engage in projection bias to downplay the traits they observe in others, especially those individuals that they work with. They assume that others share the same values as they do in terms of integrity, and therefore it’s not conceivable that those close to them would engage in criminal activity.”

Too often people equate criminality with the way a person looks, says Perri. “If someone doesn’t have the conventional look of a street-level criminal, then one is not a criminal. Social psychological research has shown that people attribute qualities of integrity to those that display similar traits to their own, such as their level of education and their religious affiliation. Yet there are plenty of examples such as Bernard Madoff, Andrew Fastow of Enron and a host of other high-level fraud offenders who didn’t display those street-level criminal looks. The question that isn’t asked is how do criminals think in a manner that is similar regardless of the crime they commit, be it white-collar crime or burglary? For accountants and other anti-fraud professionals, understanding how criminals think is an important element of why we maintain professional skepticism.”

Take David Colletti, a former marketing VP at MillerCoors, who was indicted in May of this year. Colletti worked for the company from 1982 to 2013, overseeing the marketing and sale of beer to restaurants and bars, according to the indictment filed in Chicago federal court. He allegedly conspired with several others to falsely bill MillerCoors for fictitious promotional events and services, and shared the payouts with his fellow defendants. The indictment states that the defendants used proceeds to invest in a hotel and an arena football team.

“Take a look at the photos of this guy and most like him,” says Perri. “You’d have him over for dinner, sit next to him in a meeting, and not once think he was involved in criminal activity.” Which is why, Perri explains, so many white-collar criminals are able to get away with fraud for millions of dollars, which is what the indictment for Colletti and friends cites.

So what exactly are the personality traits that prevail among high-level fraud offenders?

According to Perri, such individuals tend to be entitled (believing they should have access to resources regardless of the impact on others), exploitative, prone to rule-breaking and Machiavellian in their attitude (where the ends justify the means). These offenders move an organization to engage collectively in fraud by employing strategies such as manipulating the ‘tone at the top,’ relying on unquestioned obedience from subordinates, recruiting others who share their value system, removing those who don’t and punishing subordinates without cause. 

Other traits include a need for power, strong convictions and high self-confidence. On the flip side, being overly sensitive to criticism, having poor listening skills and lacking empathy for others are also indicators. “These fraudsters may have illusions of infallibility, of not getting caught—which is exactly why they usually are caught,” Perri explains.

WorldCom’s Bernard Ebbers, for one, had a reputation for being a micromanager who picked apart financial statements—and yet told investigators he didn’t have enough knowledge of accounting to be aware of fraud (talk about not adding up). The words of forensic psychologist Robert Hare come to mind: “Not all psychopaths are in prison, some are in the boardroom.” Hare went on to say, “There are certainly more people in the business world who would score high in the psychopathic dimension than in the general population and you’ll find them in any organization where, by the nature of one’s position, you have power and control over other people and the opportunity to get something.”

Universities are just starting to offer degrees on the subject of white-collar crime, mainly at the graduate level. Perri will be teaching such a course at DePaul University, Chicago, this fall.

“There’s a great need for more specialists in fraud forensics,” says David Friedrichs, distinguished professor of sociology, criminal justice and criminology at the University of Scranton and author of several books on the subject. He cites a new online program at Carlow University in Pittsburgh that provides a Masters in this discipline.

While the programs are growing, the ability to cultivate professionals who know both the accounting/financial and psychological sides of the equation will be crucial in collectively saving companies trillions of dollars. Current average losses to fraud, in fact, amount to 5 percent of revenues each year.

If we come full circle, back to where we began this article, we revisit a silent room. Ratley has thrown some very sobering statistics at some very concerned executives. Let’s just stay the room doesn’t remain silent for long. Ratley says it’s a safe bet that money will be flowing towards fraud prevention and detection, at least in these companies, quite soon.  

5 Frauds for the Books

The 21st Century began shakily with the likes of Enron, Bernie Madoff and Tyco destabilizing America’s faith in the corporate world and humanity in general. However, they weren’t the only names on a now infamous list.

1. Worldcom. When the second largest long-distance phone company in the United States filed for Chapter 11 in 2002, an internal audit report showed that it had been using fraudulent accounting methods to hide its financial decline. The company’s assets were inflated to the tune of about $11B, with $3.8B in fraudulent accounts.

2. Health South. CEO Richard Scrushy organized and directed his team to come up with fictitious transactions and accounts that would boost the company’s earnings. The fraud cost the company $1.4B, which was reported as earnings from 1996 to 2003. Scrushy almost got away with it thanks to an acquittal by a “friendly” Alabama jury. But prosecutors kept at it and he was eventually convicted of bribery charges on June 2006.

3. Global Crossing. Global Crossing’s bankruptcy is considered one of the top 10 largest filings in American history. Total assets reported were $22.4B, with debts amounting to $12.4B. This debt was amassed by four CEOs. Each was given $23M in personal loans, which ultimately were forgiven.

4. Adelphia Communications Corp. This Pennsylvania-based company was ranked as the fifth largest cable company in the United States before it filed for bankruptcy in 2002 due to internal corruption. Adelphia incurred $2.3B in debt and its founders were charged with securities violations. John and Timothy Rigas had created a complicated cash-management system where they diverted funds to other family owned entities. They were sentenced to 15 to 20 years in prison, while five other officers were indicted.

5. Bear Stearns. Ranking as one of the largest global investment banks, securities-trading and brokerage firms in the world, Bearn Sterns was nearly bankrupt before it sold itself off to JP Morgan Chase for $2 a share, or $240M.