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Benefits of Establishing a Fraud Hotline
By Kyle Elser & Andy Horita

You may already know that tips are by far the most common means of initial fraud detection, according to the Association of Certified Fraud Examiners' (ACFE) 2018 Report to the Nations. In fact, the ACFE reports that internal audits were the initial fraud detection method just 15 percent of the time, but tips were the source for 40 percent of the cases detected. Moreover, the ACFE found that those organizations that have a fraud hotline in place experienced losses that were 50 percent smaller than those that did not, and the duration of the fraud was cut in half when a hotline was in place. Clearly, the empirical data support the cost effectiveness of fraud hotlines. 
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But the true benefits of a fraud hotline require more than a call center that is staffed around the clock. Web-based reporting, email, mail, and even faxed reporting mechanisms are also not sufficient. Although it may be painful to admit, a qualified staff of Certified Fraud Examiners, Certified Public Accountants, and Certified Internal Auditors is not enough to ensure that the potential benefits of a fraud hotline are realized. In fact, no fraud hotline could ever hope to be successful without the support of management and, ideally, an independent audit committee to provide oversight and accountability.

In the City of San Diego, our fraud hotline program is fortunate to have the support of city management. A key part of our fraud hotline’s success is biweekly meetings with senior city management to refer new cases that require investigation by departments, review the formal resolutions provided by departments, and discuss prior city practices related to difficult and unusual cases. The authority of the committee helps ensure that fraud hotline investigations are generally completed within 30 days. If there are questions raised by the resolutions, or deviations from best practices, the committee can request an updated resolution from the department. In some cases, the committee may decide that additional investigation is necessary. Our fraud investigator, one of the authors of this article, maintains a caseload of around 20 investigations that could potentially have a significant impact on the city.

The city’s independent Audit Committee receives quarterly reports on fraud hotline activities, reviews the status of recommendations from substantiated public fraud hotline reports, and has the authority to refer matters to the full City Council for further consideration. Since the Audit Committee’s two councilmembers and three experts from the public have oversight authority, they have the power to ask pointed questions of city management. Whenever fraud, waste, or abuse issues are identified—either through substantiated fraud hotline investigation reports or performance audits—the Audit Committee members hold city staff and management accountable.

Recently, when a pattern of under-working was brought to light, an Audit Committee member asked management why there was a staffing shortage given the revelation that employees were only being required to work in the field fewer than four hours a day for eight hours of pay. The Audit Committee also holds the fraud hotline itself accountable, as we will discuss later.


HOLDING EMPLOYEES ACCOUNTABLE

In addition to the well-known benefits of fraud hotlines globally, we have found that another benefit of the fraud hotline at the City of San Diego is the improved perception of accountability within the city. Occasionally, the public versions of our substantiated fraud hotline reports grab the media’s attention. Such publicity serves two purposes: it reminds city employees and the public about the fraud hotline as a reporting resource, and it reassures whistleblowers that their concerns will be investigated. Here are a few high-profile cases that originated from fraud hotline tips:

  • We received an allegation that a Parks and Recreation Department employee may have been responsible for funds missing from a city recreation center. Our investigation found that over $100,000 was missing over a six-month period. We made recommendations to strengthen cash-handling procedures at recreation centers and held two employees accountable. Two employees were prosecuted and pleaded guilty to misdemeanor charges. 
  • We received an allegation regarding unusual and excessive purchases of car batteries that the city didn’t need. Our investigation identified over $240,000 of supply items purchased with no records of the inventory being received by the city. The scheme involved collusion with vendors, major internal control weaknesses, and a pattern of fraud by a city employee. Our fraud hotline report made recommendations to strengthen internal controls over inventory and hold the employee accountable. The employee was prosecuted and pleaded guilty to a felony. 
  • We received two independent allegations regarding an employee using a city vehicle for personal purposes. Using vehicle GPS records, we found that the employee, and five other employees, including two supervisors, conducted a substantial amount of personal activities on city time. The city lost approximately $6,000 in unearned wages paid to the employee for time spent on personal activities. We made recommendations to hold the employees accountable, strengthen internal controls over monitoring city vehicle use, and to issue corrected W-2 forms to report over $26,000 as income for the personal use of the city vehicles. One employee was prosecuted and pleaded guilty to a misdemeanor. 

Whenever fraud hotline investigations are substantiated, we ensure that employees are held accountable through formal recommendations. Since union-represented employees have prescribed due process rights any time an investigation could result in a reduction in pay or termination, city departments conduct formal fact-finding investigations that are independent from our fraud hotline investigations. We also refer any potential criminal matters for prosecution, which was the situation for all three of the cases cited above.

Catching and punishing bad employees may be what most internal auditors and members of the public think of when they consider the benefits of a fraud hotline. But there are other benefits to having a robust fraud hotline program in place beyond just holding guilty employees accountable.


HOLDING MANAGEMENT ACCOUNTABLE

We have also found that the investigations that result from tips to our fraud hotline help to hold management accountable for improving internal controls through formal recommendations that are made and tracked using the same process we use for performance audits. Over the past decade, we have issued over 45 public reports of substantiated fraud hotline investigations and made 133 recommendations to improve internal controls, hold employees accountable, and implement best practices.

Recommendations have ranged from updating existing internal controls policies, to changing the way the city accesses and uses GPS data to track vehicle activity, to improving contract oversight. These recommendations, and the formal follow-up process, ensure that management is publicly accountable for taking corrective action to address issues that were identified as part of fraud hotline investigations. We review the implementation status of the recommendations at public Audit Committee meetings, which helps to ensure that timelines for implementation are either met or justified.


ACCOUNTABILITY TO WHISTLEBLOWERS

Yet another benefit of our fraud hotline is that it provides accountability to whistleblowers. It’s important to consider the risks that whistleblowers take by coming forward with their concerns and suspicions. The ACFE report notes that while the majority of tips are reported by identified employees, 14 percent of fraud cases are reported anonymously. Our experience suggests that the primary reason whistleblowers choose to remain anonymous is out of fear of retaliation. Those employees, and other individuals who identify themselves, also have a keen interest in ensuring that their identity will be protected and remain confidential. California law prohibits the public disclosure of both the subject employees and the individuals who submitted the reports.

We provide quarterly public fraud hotline activity reports that list the status of all cases during the period that were closed, open and unresolved, or not within our purview to investigate. These reports provide a mechanism for us to communicate the results of our investigation to the whistleblowers, and they confirm that the case is being actively investigated. Providing accountability to whistleblowers ensures that the risk they took to report the suspected wrongdoing was not in vain. The public reports also benefit the fraud hotline program by providing as much transparency to the public as legally possible.


HOLDING THE FRAUD HOTLINE ACCOUNTABLE

Audit Committee oversight regarding the timeliness of resolutions, priority of cases, resource needs, and even the quality of our fraud hotline reports and recommendations helps to hold our fraud hotline activities accountable to the committee’s expectations. A recent topic of discussion has been the increase in the number of fraud hotline cases from an average of 100 to more than double that over the past two years, as illustrated in the following chart.

The number of fraud hotline cases reported to the City of San Diego has increased dramatically over the past two years.

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Our fraud hotline staff of one FTE, with some administrative assistance and occasional assistance from audit staff, is responsible for coordinating and tracking investigations that are referred to departments, referring cases that are not in their purview to investigate, and investigating 20 or more complex cases at a time.

Given this workload, the Audit Committee regularly reviews our public quarterly fraud hotline activity reports to ensure that the cases are being resolved in a timely manner given the existing staffing level. If there are delays in resolving cases, the committee members routinely ask for explanations and anticipated completion dates.

Holding the fraud hotline’s performance accountable not only assures efficient resolutions to cases, but also highlights the value of the investigations themselves. The committee chairperson recently remarked that a fraud hotline report and its recommendations read like a performance audit. High praise indeed.


LESSONS LEARNED: A FRAUD HOTLINE PROGRAM REDUCES THE RISK OF FRAUD, WASTE, AND ABUSE

Based on the statistics presented by the ACFE and the results of the City of San Diego’s hotline cases, many organizations are likely to be victimized by fraud, waste, and abuse in one form or another. Establishing a robust fraud hotline program is a very important element of anti-fraud controls. The City of San Diego’s fraud hotline program has helped to identity significant fraud, prosecute the perpetrators involved, and strengthen internal controls. In conclusion, some key components of a successful fraud hotline program are:

  1. Open the hotline to employees, vendors, and citizens to anonymously report suspected fraud, waste and abuse.
  2. Vigorously publicize the fraud hotline by issuing public reports on substantiated cases, which are often picked up by the media, and notifying all employees that a hotline is available through posters, emails, and presentations at new-employee orientation sessions. The mere threat of detection from having a fraud hotline acts as a deterrent. 
  3. When fraud, waste, or abuse is identified, determine the root causes that allowed it to occur, and strengthen controls to reduce the risk that it will happen again. 
  4. Less serious allegations can be referred to departments to investigate and take appropriate corrective action when necessary. Fact-finding investigations conducted by departments other than internal audit will often result in strengthening internal controls as well. 


ABOUT THE AUTHOR

Kyle Elser is the Interim City Auditor at the City of San Diego. Prior to his appointment, Kyle was the Assistant City Auditor, and he has been with the City for over 23 years in various positions. Kyle was instrumental in preparing the City's first Annual Citywide Risk assessment, and has overseen the City's Fraud Hotline since it was open to public in 2008.  

Andy Horita has been the Fraud Investigator for the San Diego Office of the City Auditor since April of 2014. Andy has a Master's of Social Work and a Master's in Accountancy. He is also a Certified Fraud Examiner and a Certified Public Accountant in the State of California. Andy is currently the President of the ACFE San Diego Chapter.