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The fraud triangle is a three-factor theory of why people commit fraud. Today, the fraud triangle is perhaps most visible in the accounting field. In the early 2000s, United States and international accounting standards adopted a three-pronged framework with respect to financial statement fraud that is understood to refer to the fraud triangle: ‘incentive or pressure to commit fraud, a perceived opportunity to do so, and some rationalization of the act . . . .’

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The origins of the name ‘the fraud triangle’ for the three-factor theory are not entirely clear. However, Dr Steve Albrecht, a certified public accountant and accounting professor, stated that he was the first to label the factors the ‘fraud triangle’. He explains that an attendee at a seminar he gave at a paper company suggested that the three-factor approach resembled the ‘fire triangle’. Albrecht used the term in a 1991 article, Fraud in Government Entities: The Perpetrators and the Types of Fraud.

The origins of the fraud triangle’s factors do not themselves lie in the accounting field, however. For that, scholars generally credit the 1950s’ research of a sociologist, Dr Donald Cressey, who studied prisoners convicted of embezzlement and similar crimes in an effort to understand why some previously honest people embezzle. His research built in part on the work of his mentor at Indiana University, Edwin Sutherland, who coined the term ‘white collar crime’ in a 1939 speech to the American Sociological Association.

The three prongs and beyond

As explained above, the fraud triangle has three prongs. The first prong, ‘incentive or pressure’, involves an impetus, usually financial, for someone to commit fraud. This may involve the prospect of financial gain, the avoidance of financial loss, or the opportunity to retain one’s job, for example. The second prong, ‘perceived opportunity’, generally refers to the awareness of an opening to commit the fraud, as well as the skills to do so. The third and final prong, ‘rationalisation’, references a psychological process. The idea is that the fraudster mentally justifies the behaviour as acceptable in some way.

Scholars have extended the fraud triangle in various ways. For example, a pair of scholars added to the fraud triangle the factor of ‘capability’ to carry out the fraud and avoid detection, coining the resulting four-factor version the ‘fraud diamond.’ In part, my article examines the role of experiential learning in facilitating repeated frauds. It uses the events described in the co-authored autobiography of coin dealer and Hollywood Producer Bruce McNall, ‘Fun While It Lasted’ as an illustrative example.

Tax fraud

There is an extensive literature on tax compliance and evasion. Although tax has sometimes been used as an example in discussions of the fraud triangle, the legal literature on tax evasion generally does not mention it. However, the fraud triangle’s three prongs—incentive or pressure, perceived opportunity, and rationalisation—fit nicely with analysis of tax evasion. First, there is a financial incentive to evade taxes because evasion saves money compared to complying, assuming that the audit rate and penalty structure keep the expected cost of evasion comparatively low, as is true in the US system. In addition, taxpayers who owe money when filing may feel financial pressure. In the corporate context, some employees may experience pressure to lower the company’s effective tax rate.

Second, the perceived opportunity prong highlights the importance of both (1) structural systems that foreclose opportunities to evade (analogous to speed bumps that physically deter driving too fast) and (2) visible monitoring that reduces the opportunity to cheat (akin to a visible speed camera or red-light camera). In the tax context, withholding at source and third-party reporting reduce the perceived opportunity to evade taxes by simply failing to report an income item.

Third, the rationalisation prong reflects the justifications that fraudsters may use to justify their behaviour to themselves. In the tax context, rationalisations may include thoughts like ‘the government will never miss the money’, ‘others are a lot less honest than I am’, and ‘I need to make my own tax breaks because the tax system favours the rich’. These potential rationalisations suggest the importance of enforcement that signals that the government does care about funds lost to evasion and that it pursues tax evaders, including high-income evaders.

Bridging tax compliance theories

One purpose of my article is to expand on the limited existing applications of the fraud triangle to tax evasion. But perhaps the most important contribution my article makes is to use the fraud triangle as a lens on tax compliance literature.

The legal literature on tax compliance often emphasises the importance of either (1) economic deterrence (particularly through the use of an audit regime and penalties) or (2) behavioural aspects of compliance. Sometimes proponents of behavioural theories claim that the deterrence model is wrong or that enforcement reduces tax compliance, a claim I have rebutted in other work. However, there is no reason that the deterrence and behavioural theories cannot co-exist. Empirical studies have generally found that audits and audit threats have a strong positive effect on tax compliance, and that some behavioural factors, such as norms appeals, can also have a positive effect. In fact, enforcement and strong compliance norms may be mutually reinforcing.

My article argues that the fraud triangle can serve as a lens that bridges competing theories of tax compliance because the triangle reflects the importance of both economic and behavioural factors. The ‘incentive’ aspect of the incentive or pressure prong reflects the importance of economic analysis. That prong fits well with the traditional deterrence model, which is an economic model.

Perceived opportunity also fits well with the deterrence model. An increased perceived likelihood of detection reduces the perceived opportunity to evade. An increase in the perceived likelihood that evasion would be detected could stem from a perceived increase in such things as the risk of audit or the likelihood of matching a third-party information return with the taxpayer’s tax return. Such perceptions would reduce tax noncompliance, including evasion.

By contrast, the rationalisation prong is a psychological factor that fits more neatly with principles of behavioural economics. For example, the behavioural element of community norms of compliance or noncompliance may affect the taxpayer’s compliance behaviour. Norms of noncompliance may make it easier for a taxpayer to use rationalisations for evasion like ‘everyone is doing it’ or ‘others are worse than I am’.

In addition, some scholars source ‘tax morale’—intrinsic motivations to pay taxes—in trust in government. A belief that the government is incompetent or corrupt or that the tax laws are unfair may make it easier for some people to rationalise shirking their tax obligations. Improving government behaviour or the relevant tax laws would help remove that rationale but should not be regarded as a panacea. Professor Joshua Rosenberg argued years ago that the causality may also run in the opposite direction: ‘an important reason we believe tax laws are unfair is that we do not comply more fully with those laws.’ Put another way, eliminating any sound basis for rationalisations based on government behaviour will not eliminate evasion. People may use other rationalisations to avoid the cognitive dissonance of thinking of oneself as honest while engaging in tax fraud.


One implication of this discussion is that to spur compliance, it may be helpful not to look at only one aspect of tax evasion in isolation. For example, withholding taxes designed to place most individuals filing income tax returns in a ‘refund’ posture help reduce financial pressure at tax time. Third-party reporting accompanying that withholding (and for other payments) reduces the taxpayer’s perceived opportunity to evade. Procedural fairness on the part of the tax collector and messages that reinforce strong norms of tax compliance in a community may help reduce some rationalisations for cheating. All three techniques may promote tax compliance.

In short, although some techniques may work better than others to reduce tax evasion, they may also be mutually reinforcing. And the lens of the fraud triangle helps show connections among otherwise seemingly disparate approaches.


Further reading

Leandra Lederman, The Fraud Triangle and Tax Evasion, 106 Iowa L. Rev. 1153 (2021).

Leandra Lederman, Tax Evasion and the Fraud Diamond, The Surly Subgroup (December 18, 2018).

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