An Old Familiar Tune—
But the Audience Was Tone Deaf
by
L. Ted Gayle
Director of Audits and Investigations
A few months ago, a young broker whom we will call "Jim," came into my office with his attorney Jim came to report that his unlicensed bookkeeper (whom we'll refer to as "Jane") had embezzled somewhere between ten and fifty thousand dollars from his trust accounts and from certain other accounts maintained by his company The story of Jim and Jane is true. Only their names have been changed to protect their anonymity. Unfortunately this story repeats itself far too often in the real estate business, so a recitation of the facts might be instructive for all brokers.
It seems that Jim first became a real estate broker in 1975. For over ten years he sold real estate for other firms but then decided he could better achieve his career goals by going into business for himself His business consisted primarily of sales, but since he sold rental investment property, investors often wanted Jim to manage their property. He had also bought investment rental property himself which he managed. Jim's property management business grew to some eighty units including his own properties and the properties owned by fifteen other investors. Although the property management division of his company was small by most standards, it was too large and too time-consuming for him to be both the property manager and to do all the other things necessary to keep his young company going. In addition, he found that being in business for himself created additional demands on his time, and that he had to learn the new skills associated with managing an office, supervising employees, and understanding profit and loss statements and trust accounts.
Jim determined that the time had come to hire. someone to collect rents, post and balance the books, reconcile bank statements, send out owner's statements, prepare 1099's, deal with landlords, tenants, and repair people, go to court to have delinquent tenants evicted, and a thousand and one other chores associated with property management. The first person he hired lasted only a few months, and each succeeding person stayed only about Six months. In fact, Jim was ready to abandon the property management business altogether until he methane.
Jane had previously worked for several real estate management companies. Jim worked very closely with Jane for the first six months of her employment. He was very impressed with her knowledge of bookkeeping as well as her ability to deal with the public. But after a while, Jane seemed to resent Jim's looking over her shoulder. Reflecting on his experiences with previous bookkeepers who had remained with him for only a short period of time, he wondered if they may have resigned because of his close supervision. With Jane, he felt for the first time that his property management operations were in good hands and so he decided to give her a free rein.
For nearly two years his property management division appeared to be running smoothly. Then suddenly trust account checks began to bounce, owners complained that they were not getting their rent checks, tenants complained that they couldn't get their deposits refunded when they moved out, and Tenant Security Deposit Accounts fell below a balance of $500. Upon confronting Jane about the situation, she admitted that she had been taking rents and cash payments for tenant security deposits during the entire two-year period of her employment. Jim then contacted 'his attorney and employed a public accounting firm to help reconstruct his accounts to determine the actual extent of the embezzlement. The accounting firm found that Jane had made entries in the computer that accurately reflected what happened with regard to the collection and disbursement of money But unfortunately the bank statements did not cast the same reflections. The firm estimated that some thirty thousand dollars had been~embezzied.
What are some management techniques that Jim could have implemented that might have prevented this embezzlement?
1. He should have calculated the dollar value of tenant security deposits held for his properties and the properties he managed for his fifteen investors and examined his tenant security deposit trust account bank statements each month to determine if the reconciled bank balances were in line with his calculations.
2. He should have calculated the dollar amount of rent that the eighty properties would generate each month and examined his trust account bank statements each month to determine if the deposits to those accounts coincided with his calculations.
3. He should have had Jane prepare monthly trial balances for each account, comparing the money held for others to the amount actually shown on deposit in the reconciled trust account bank statements. 4. He should have had an accounting firm prepare an audited financial statement of his property management division annually
5. He should have set aside perhaps two months each year to personally perform an audit of the trust accounts on an unscheduled, surprise basis.
6. He should have bonded Jane. (Although this would not have prevented the embezzlement, it would have at least prevented Jim from having to personally replace the missing funds, and it would have offered his clients a greater degree of security.)
7. And, to the extent possible, he should have divided his office and bookkeeping responsibilities between employees in order to check embezzlement opportunities such as this. (In smaller offices where you don't have the luxury of delegating certain tasks to different employees, the Broker-In-Charge must become more personally involved in verifying that trust funds are being properly accounted for, including examining bank statements each month to confirm that what should be—is.)
Perhaps most importantly Jim should have simply exercised closer supervision over Jane. Perhaps a red flag should have been run up when Jane began to resent Jim's close scrutiny Whenever Jim questioned Jane regarding the accuracy of her trust accounts, she would always respond that the trust accounts were accurate and in balance. She would even show him certain figures to prove her claims, but those figures proved to be fabricated.Jim had developed a 100% trust in Jane, her ability, and honesty. But because of this misplaced trust, he admitted that he did not pour over bank statements to any great degree. He is still shocked that someone would steal from him.
Jim said that his property management business generated a net profit of approximately S1,000 per year. Therefore, if his business remains the same, will take thirty years for him to recoup the funds embezzled. He said that it is very painful to sit down and write checks to owners for past rents that had been collected by Jane but were never deposited in the bank. Jane had spent the money but now Jim has to dig deep into his pockets to make up these deficits