Forensic Accounting
Brand Protection
Computer Forensics
Corporate Investigation

Volume 10 - No. 1                    Download PDF

In this edition of
The Kessler Report:

Craft or Graft?  The Insidious World of Construction Fraud

Bid Rigging: Fleecing the Public from Day 1

Understanding the Need for an Independent Inspector

Q&A with Fraud Specialist Ronald Goldstock

Construction Contracts: What to Know Before You Sign

Defending Your Walls: How to Help Prevent Construction Fraud

Kessler's Corner:
What to do if You Suspect Fraud

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Craft or Graft?  The Insidious World of Construction Fraud

Whether it is a public works project, a new high-rise office building, a corporate headquarters, a stadium or a sewer pipe, few things are as costly -- and often controversial -- as construction projects.  Major construction almost always affects a considerable amount of people from company employees to local community members, and when it comes to public construction, the taxpayers are the ones footing the bill. 

Construction projects usually result in structures that are necessary for a company or community to function, and often represent much more than a building or public service.  These structures represent the very face of major corporations, the modern appeal of a small town or the convenience of a booming urban environment.

Therefore, it's no surprise that when major construction frauds are revealed, the outcry is usually enormous.  However, the unfortunate reality is that most construction frauds go completely unseen, and millions of dollars are embezzled from unwitting public and private organizations on a rather regular basis.

Construction, while a truly indispensable and mostly honorable industry, has a nasty reputation for being rife with fraud.  And with good cause... the business is simply littered with unscrupulous contractors looking to swindle innocent businesses, naïve organizations and even government agencies.  Scams range from blatant, one-man "take the money and run" plans to complex financial deception requiring the cooperation of numerous crooked contractors and outside facilitators.

But why has construction fraud become so common, and quite often, so ridiculously flagrant?  The answer is fairly simple... because construction fraud is easy.  Easy to perpetrate, easy to get away with, and successful prosecution is often extremely difficult.  Financial officers and public officials sign off on expenditures without even a cursory glance as corrupt contractors take advantage of their lack of vigilance, corruption runs rampant at job sites and local offices, and purchasers procure bids from contractors without taking the time to research the market.

Furthermore, illicit activity in the construction business is not exactly a modern concept.  Fraud, bribery, con games and outright theft have seemingly been an inextinguishable part of the industry for ages, so what would make today's world any different?  Just as it has always been, the allure of easy money is often enough to draw hardworking John Q. Public to a life of crime. 

Perhaps one of the principal challenges in the fight against construction fraud is that virtually any type of scam can be applied to the business, giving dubious contractors and pure con artists an almost endless array of opportunities to rip off their victims.  In addition, due to the very nature of large construction projects, corruption can take place during any phase of the job, from pre-planning to final inspections.  The result is an industry that presents so many risks that some type of fraud or dishonesty has become practically unavoidable.  Of course, certain varieties of fraud are more common than others due to their likelihood of success, low odds of detection or, as is sometimes the case, forced necessity:

Fraudulent Disbursements
Generally found in large-scale commercial or government projects, this broad category usually involves crooked contractors in positions of financial authority.  Some classic methods of jobsite embezzlement include shell companies, personal purchases, ghost employees, falsified wages, phony workers compensation claims, overstated and fictitious expenses, fake invoices and altered contracts.  Quite often, spurious expenditures are approved with no regard to the customer, as workers purchase brand new tools, computers, wireless phones, and a litany of other wasteful and unnecessary items that shouldn't be billed to their client.  Some contractors have even been known to intentionally purchase excessive amounts of expensive materials, such as copper wire, and sell off the unused product to an outside buyer for a large profit. 

Mediocre Materials & Labor
If you're paying for top-quality concrete, you should be getting nothing but top-quality concrete.  However, some contractors will bill for the good stuff and use cheap or diluted materials instead, thereby saving (and subsequently pocketing) a great deal of cash.  Of course, this not only defrauds the customer, but may put lives in danger due to the use of substandard materials.  Even worse, some contractors will take it a step further by knowingly engaging in shoddy, haphazard construction and passing it off as complete, or covering up poor wiring and plumbing with freshly-painted walls.  All   across the country, inspectors have been known to discover dozens of building code violations when customers thought their structures were completely safe. 

Bribery & Corruption
It's a problem for countless industries, but because the jobs are so costly and are often besieged with red tape, the construction business is renowned for being rife with corruption.  People with economic or civic influence, such as public officials, corporate executives, labor unions, mobsters and even other contractors, are often tangled up in construction fraud through bribery, kickbacks, gratuities, bid rigging and extortion.  Perhaps the most common variety of corruption lies with those who have the power to move the project along, often in the form of inspectors or union leaders who can bring projects to a virtual standstill at a moment's notice.  Those who have this sort of powerful leverage are often bribed or given kickbacks without much deliberation.  Some even see it as a standard part of the job, a toll paid to the figurative gatekeeper.  Of course, shady dealings between construction managers and preferred subcontractors are also quite common, and are even more apt to go unnoticed, persisting for years and damaging the bottom line of one buyer after another. 

Tax Fraud
Nearly every sort of construction scam involves tax fraud in some way, a crime that takes place primarily due to the crimes that preceded it.  For instance, if bribery and corruption is taking place, tax fraud is inevitable since recipients will certainly not be reporting illegal income (and can thus be susceptible to tax evasion charges) and those handing out illicit payments will seek to cover up their under-the-table spending by generating fraudulent expenditures that can be reported as business expenses.  False disbursements, overcharging for materials, ghost employees... these are all bases for tax fraud, and often the process of concealing illegal transactions directly leads to other crimes, such as the falsification of business records or, when large sums are involved, money laundering.  And while it's not likely that crooked contractors are particularly concerned about being prosecuted for tax evasion, sometimes (as was the case with famous mobster Al Capone) it can be one of the most effective means of putting these criminals behind bars.

Bid Rigging
This form of fraud takes place before any contract is signed, before an architect draws up plans, before a single bag of concrete is mixed.  In essence, the customer is being ripped off in advance.  As bids for construction projects are being solicited, a number of contractors conspire together to establish excessive contract prices or ensure that a particular vendor will be chosen for the job.  The non-competitive environment generated by the group is crucial to their racket, and legitimate competition is often forced out of the picture by any means necessary.  And due to the fact that there is usually no hard evidence of collusion, bid rigging is among the most difficult frauds to uncover and prosecute.

(See the article "Bid Rigging: Fleecing the Public from Day One" for more information on this clandestine form of fraud.)

Certainly these four examples do not come close to a conclusive list, but they provide a general overview of the various types of fraud and corruption in the construction industry.  Quite simply, there are far too many differing schemes and plots to document here, and most of them are specifically tailored to a particular segment of the marketplace or a certain geographical area. 

So what does the future hold for construction-related racketeering?  Construction fraud has, for quite some time, remained fairly stagnant in terms of innovation.  New cons do arise here and there, particularly with the emergence of technology in the accounting process, but by and large, the various types of fraud occurring today are not much different from the scams of twenty years ago.

Fortunately, while construction fraud is still widespread, public awareness is growing at a significant rate.  High-profile corporate scandals including Enron, WorldCom and Tyco have brought fiscal malfeasance to national attention, and as a result, many organizations are beginning to institute checks and balances that were sorely missing.  In addition, the Internet has made it much easier for potential customers to research the reputations of contractors and to locate fair market rates, giving buyers an advantage and helping to circumvent fraud before it occurs.

But will this heightened vigilance be enough?  Will construction fraud continue to plague businesses and public organizations alike?  Certainly no amount of publicity or internal control is going to make construction scams disappear... in fact, it will likely cause illicit contractors to become even more stealthy and clever.  But for the most part, the populace is taking a step in the right direction, and hopefully this emerging era of accountability will help keep fraudsters at bay and cash in the pockets of its rightful owners.

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