What is the True Cost of Fraud?
As was mentioned in a previous article here on Tactical Rabbit: “Since 1995, each year sees anywhere from 8,000 to 11,000 white-collar crime prosecutions. Cost estimates vary wildly because of the difficulty of defining what should be included under the umbrella of white-collar crime, and how to measure its impact. Suffice it to say that estimates of the annual cost of white-collar crime in the U.S. range from $44 billion to more than $600 billion.” This article will dive a bit deeper into exploring the true cost of fraud.
Consumer Fraud’s Impact on the Retail Industry When speaking of white-collar crime, we usually mean employees embezzling or otherwise misappropriating funds from a company or organization, but there’s another kind of fraud that has a huge impact on the retail industry. which is consumer-facing retail fraud, which can include such methods as fraudulent/unauthorized transactions, fraudulent requests for refunds, bad checks, and lost/stolen merchandise (which includes fees for redistributing items). According to a LexisNexis report, so far in 2015 merchants have lost 1.32% of their revenue to fraud and its related costs, an increase of 94% over 2014.
Can the True Cost of Fraud Even Be Determined? Why can’t we get any more specific about what white-collar crime costs the United States beyond the huge range of from $44 billion to more than $600 billion? This is a two-fold problem. The first part of the problem lies in defining white-collar crime specifically enough to know what’s included! When the federal government measures the incidence of white-collar crime, it is based on the categories of fraud, forgery/counterfeiting, embezzlement, and the very nebulous “all other offenses” categories. The lattermost category is simply not effective in serving as a catch-all. What goes into it? Who knows?
It’s a shame, really, because there are very good definitions that would make it easier to measure white-collar crime and its cost. For example, Cornell University Law School spells out in detail the following common offenses that should be included under the umbrella of white-collar crime. They are:
- Antitrust violations
- Computer and Internet fraud
- Credit card fraud
- Phone and telemarketing fraud
- Bankruptcy fraud
- Healthcare fraud
- Environmental law violations
- Insurance fraud
- Mail fraud
- Government fraud
- Tax evasion
- Financial fraud
- Securities fraud
- Insider trading
- Public corruption
- Money laundering
- Economic espionage
- Trade secret theft
That’s a very long and specific list, but as you can see it captures the full range of things that qualify as white-collar crime.
In addition to the problem of defining what white-collar crime means, there is another major problem. That is defining what goes into calculating white-collar crime’s total cost. To give you a sense of how complicated this is, take a look at one example of a major white-collar crime: The Enterasys Networks scandal. Back in 2000, the company was formed as a spinoff from Cabletron. It specialized in computer networking and security products. In the lead-up to going public in 2001, several of its executives realized that the company needed to look better to Wall Street. There were lots of secret side deals and backdating of contracts, as well as making false reports to the Securities and Exchange Commission and its outside auditing firm. At the conclusion of court proceedings, four of the executives involved received substantial prison sentences. Investors lost $97 million dollars. More than 300 jobs (nearly a third of its workforce) were cut after the company lost $11 million in just one quarter.
You could include all kinds of things in the cost of this single example of white-collar crime. There’s the $97 million investors lost. There are all the investigation and court costs, which can be extensive. You could include the cost of keeping the four executives in prison for each of their sentences, which ranged from three to eleven years. Then there are the 300 employees who lost their jobs. How do you count that? Had the scandal not taken place, how long would each of them have been employed and at what salary? It’s tricky, to say the least.
The average cost to investigate a financial crime is $20,000, and the average cost to prosecute such a case is $30,000, so the investigative and court costs for each crime average roughly $50,000. A single year with 10,000 white-collar crime convictions means half a billion dollars ($500 million) are spent in pursuing those crimes through the criminal justice system. But when you throw in the big cases like Enron or Enterasys, these litigation and investigation cost balloon several-fold, especially with the inclusion of a lot of (expensive) expert witnesses. When it comes to jail and prison time, that’s going to add up to something between $2-$3 billion based on the cost of housing prisoners and the average sentences for white-collar criminals.
As you can see, until there is a better consensus on defining white-collar crime as well as what costs should be included, measuring the true cost of fraud will continue to result in wildly varying estimates.