A lapping scheme is a deceptive practice that some employees may use to conceal theft within an organization. This fraudulent activity typically targets accounts receivables, manipulating financial records to hide the misappropriation of cash. In this article, we will delve deeper into the mechanics of lapping schemes, how they can be detected, and the measures businesses can employ to prevent them.
What is a Lapping Scheme?
A lapping scheme occurs when an employee alters the records of accounts receivables to cover up stolen funds. This is done by using the payment received from one customer to offset the amount owed by another customer — essentially creating a cycle of deception through the manipulation of cash receipts. The employee takes money from one transaction, uses it to settle a previous account, and then applies the next payment to cover the theft—all without the knowledge of customers or management.
Mechanics of the Fraud
To illustrate, suppose an employee diverts a payment of $150 intended for accounts receivable. To mask this theft, the employee will adjust the accounting records such that the next incoming payment (let’s say, $200) is applied to the earlier $150 payment. The remaining $50 would then still need to be addressed (applied to the next transaction), leading to a continuous cycle of reallocating incoming payments to cover up for the missing cash.
Key Takeaways
- Definition: A lapping scheme is a form of accounting fraud where an employee alters accounts receivable to mask stolen cash.
- Detection: A forensic accounting audit can reveal lapping schemes by showing trends such as an increase in the aging of accounts receivable.
- Prevention: Simple procedures can significantly reduce the risk of this fraud occurring in the workplace.
How to Detect Lapping Schemes
Detecting a lapping scheme can be challenging but is attainable through a thorough examination of cash receipts and customer accounts. Here are some methods for detection:
-
Monitoring Cash Receipts: Tracing cash receipts to customer accounts can reveal patterns of misapplication or discrepancies. Consistent misallocation to incorrect accounts is a red flag.
-
Employee Behavior: Employees actively engaged in lapping may avoid taking vacation days, as doing so would expose their fraudulent activities.
-
Aging of Accounts Receivable: An increase in the aging of accounts receivable indicates that receivables are not being settled on time, which can be a sign of a lapping scheme. As the cycle continues, it becomes increasingly difficult to mask the thefts.
-
Customer Feedback: If customers report inconsistencies with their statements (such as missing or incorrect payments), this can signal potential fraud.
How to Prevent Lapping Schemes
Implementing certain internal controls within a company can significantly reduce the risk of lapping schemes occurring. Effective measures include:
-
Segregation of Duties: Separate responsibilities for cash handling and billing to ensure that no single individual has control over both processes. This division creates checks and balances that can deter fraudulent behavior.
-
Independent Statement Delivery: Assign someone other than the cashier the responsibility of delivering statements to customers. This prevents the fraudster from altering or intercepting customer communications.
-
Regular Audits: Conduct regular audits of cash receipts and accounts receivable to ensure accuracy and compliance with company policies.
-
Mandatory Vacation Policies: Implement a policy requiring employees to take their vacation time. This approach can uncover fraudulent activities, as it will necessitate that another employee steps in to perform the duties of the "lapper."
-
Tracking Credit Memos: Be vigilant in tracking how employees use credit memos, as they might leverage this to write off misappropriated funds.
-
Direct Customer Payments: Utilize lockbox services for customer payments. This way, funds go directly to a bank, reducing the opportunity for employees to divert cash.
Example of a Lapping Scheme in Action
To understand the impact of a lapping scheme further, let’s consider a hypothetical scenario:
- A company receives $150 for a payment but an employee diverts this payment into their personal account.
- The employee then applies the upcoming $200 payment from another customer to the initial $150 receivable.
- This process leaves $50 that still needs to be accounted for along with the subsequent receivables.
- As more payments come in, the employee continues reallocating funds to cover previous thefts, creating a seemingly foolproof method of deception.
Conclusion
Lapping schemes represent a serious threat to organizational integrity and can lead to significant financial loss if not detected in time. Businesses must remain vigilant and proactive in creating a culture of transparency, rigorously managing their internal controls, and fostering an environment where financial ethics are paramount. With the right protocols in place, organizations can significantly mitigate the risks associated with these fraudulent activities.