Creative accounting is a

euphemism A euphemism () is an innocuous word or expression used in place of one that is deemed offensive or suggests something unpleasant. Some euphemisms are intended to amuse, while others use bland, inoffensive terms for concepts that the user wishes ...

referring to

accounting Accounting, also known as accountancy, is the measurement, processing, and communication of financial and non financial information about economic entities such as businesses and corporations. Accounting, which has been called the "languag ...

practices that may follow the letter of the rules of standard accounting practices, but deviate from the spirit of those rules with questionable accounting ethics—specifically distorting results in favor of the "preparers", or the firm that hired the accountant. They are characterized by excessive complication and the use of novel ways of characterizing income, assets, or liabilities, and the intent to influence readers towards the interpretations desired by the authors. The terms "innovative" or "aggressive" are also sometimes used. Another common synonym is "cooking the books". Creative accounting is oftentimes used in tandem with outright financial

fraud In law, fraud is intentional deception to secure unfair or unlawful gain, or to deprive a victim of a legal right. Fraud can violate civil law (e.g., a fraud victim may sue the fraud perpetrator to avoid the fraud or recover monetary compen ...

(including

securities fraud Securities fraud, also known as stock fraud and investment fraud, is a deceptive practice in the stock or commodities markets that induces investors to make purchase or sale decisions on the basis of false information, frequently resulting in lo ...

), and lines between the two are blurred. Creative accounting practices are known since ancient times and appear world-wide in various forms. The term as generally understood refers to systematic misrepresentation of the true income and

asset In financial accounting, an asset is any resource owned or controlled by a business or an economic entity. It is anything (tangible or intangible) that can be used to produce positive economic value. Assets represent value of ownership that c ...

s of corporations or other organizations. "Creative accounting" has been at the root of a number of accounting scandals, and many proposals for accounting reform—usually centering on an updated analysis of

capital Capital may refer to: Common uses * Capital city, a municipality of primary status ** List of national capital cities * Capital letter, an upper-case letter Economics and social sciences * Capital (economics), the durable produced goods used fo ...

and factors of production that would correctly reflect how value is added. Newspaper and television journalists have hypothesized that the stock market downturn of 2002 was precipitated by reports of "accounting irregularities" at

Enron Enron Corporation was an American energy, commodities, and services company based in Houston, Texas. It was founded by Kenneth Lay in 1985 as a merger between Lay's Houston Natural Gas and InterNorth, both relatively small regional compani ...

, Worldcom, and other firms in the

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. According to critic David Ehrenstein, the term "creative accounting" was first used in 1968 in the film ''The Producers'' by

Mel Brooks Mel Brooks (born Melvin James Kaminsky; June 28, 1926) is an American actor, comedian and filmmaker. With a career spanning over seven decades, he is known as a writer and director of a variety of successful broad farces and parodies. He began ...

, where it is also known as Hollywood accounting.

Motivations behind creative accounting

The underlining purpose for creative accounting is to “present business in the best possible light” typically by manipulating recorded profits or costs. Company managers who participate in creative accounting can have a variety of situational motivations for doing so, including: *Market and stockholder expectations of profits *Personal incentives *Bonus-related pay *Benefits from shares and share options *Job security *Personal satisfaction *Cover-up fraud *Tax management *Management buyouts *Debt covenant *Manager's self-interest *Mergers and acquisitions

Types/examples of creative accounting schemes

Earnings management

Creative accounting can be used to manage earnings. Earnings management occurs when managers use judgment in financial reporting and in structuring transactions to alter financial reports to either mislead some stakeholders about the underlying economic performance of a company or influence contractual outcomes that depend on reported accounting numbers.

Hollywood accounting

Practiced by some Hollywood film studios, creative accounting can be used to conceal earnings of a film to distort the profit participation promised to certain participants of the film's earnings. Essentially, participants in the gross revenue of the film stay unaffected but profit participants are presented with a deflated or negative number on profitability, leading to less or no payments to them following a film's success. Famous examples of deceiving good faith profit participants involve Darth Vader actor David Prowse (with $729M adjusted gross earnings on '' Return of the Jedi'') and '' Forrest Gump'' novel writer

Winston Groom Winston Francis Groom Jr. (March 23, 1943 – September 17, 2020) was an American novelist and non-fiction writer. He is best known for his novel '' Forrest Gump'' (1986), which became a cultural phenomenon after being adapted as a 1994 film o ...

(with $661M gross theatrical revenue)—both of which have been paid $0 on their profit participation due to the films "being in the red".

Tobashi schemes

This form of creative accounting—now considered a criminal offense in Japan, where it originated—involves the sale, swap or other form of temporary trade of a liability of one company with another company within the holding's portfolio, often solely created to conceal losses of the first firm. These schemes were popular in the 1980s in Japan before the government instituted harsher civil laws and eventually criminalized the practice. The Enron scandal revealed that

had extensively made use of sub-corporations to offload debts and hide its true losses in a Tobashi fashion.

Lehman Brothers' Repo 105 scheme

Lehman Brothers Lehman Brothers Holdings Inc. ( ) was an American global financial services firm founded in 1847. Before filing for bankruptcy in 2008, Lehman was the fourth-largest investment bank in the United States (behind Goldman Sachs, Morgan Stanley, ...

utilized repurchase agreements to bolster profitability reports with their Repo 105 scheme under the watch of the accounting firm

Ernst & Young Ernst & Young Global Limited, trade name EY, is a multinational professional services partnership headquartered in London, England. EY is one of the largest professional services networks in the world. Along with Deloitte, KPMG and Pricewat ...

. The scheme consisted of mis-reporting a Repo (a promise to re-buy a liability or asset after selling it) as a sale, and timing it exactly in a way that half of the transaction was completed before a profitability reporting deadline, half after—hence bolstering profitability numbers on paper. Public prosecutors in New York filed suit against EY for allowing the "accounting fraud involving the surreptitious removal of tens of billions of dollars of fixed income securities from Lehman's balance sheet in order to deceive the public about Lehman's true liquidity condition".

had done exactly the same about 10 years earlier; in their case,

Merrill Lynch Merrill (officially Merrill Lynch, Pierce, Fenner & Smith Incorporated), previously branded Merrill Lynch, is an American investment management and wealth management division of Bank of America. Along with BofA Securities, the investment ba ...

aided Enron in bolstering profitability close to earnings periods by willfully entering repurchase agreements to buy Nigerian barges from Enron, only for Enron to buy them back a few months later. The U.S. Securities and Exchange Commission (SEC) filed charges and convicted multiple Merrill Lynch executives of aiding the fraud.

Currency swap concealment of Greek debt by Goldman Sachs

In 2001–2002,

Goldman Sachs Goldman Sachs () is an American multinational investment bank and financial services company. Founded in 1869, Goldman Sachs is headquartered at 200 West Street in Lower Manhattan, with regional headquarters in London, Warsaw, Bangalore, Ho ...

aided the government of

Greece Greece,, or , romanized: ', officially the Hellenic Republic, is a country in Southeast Europe. It is situated on the southern tip of the Balkans, and is located at the crossroads of Europe, Asia, and Africa. Greece shares land borders wi ...

after its admission to the Eurozone to better its deficit numbers by conducting large currency swaps. These transactions, totaling more than 2.3 billion Euros, were technically loans but concealed as currency swaps in order to circumvent

Maastricht Treaty The Treaty on European Union, commonly known as the Maastricht Treaty, is the foundation treaty of the European Union (EU). Concluded in 1992 between the then-twelve member states of the European Communities, it announced "a new stage in the ...

rules on member nations deficit limits and allowed Greece to "hide" an effective 1 billion euro loan. After Goldman Sachs had engineered the financial instrument and sold it to the Greeks—simply shifting the liabilities in the future and defrauding investors and the

European Union The European Union (EU) is a supranational union, supranational political union, political and economic union of Member state of the European Union, member states that are located primarily in Europe, Europe. The union has a total area of ...

, the investment bank's president Gary Cohn pitched Athens another deal. After Greece refused the second deal, the firm sold its Greek swaps to the Greek national bank and made sure its Short and

Long Long may refer to: Measurement * Long, characteristic of something of great duration * Long, characteristic of something of great length * Longitude (abbreviation: long.), a geographic coordinate * Longa (music), note value in early music mensu ...

positions towards Greece were in balance—so that a potential Greek default would not affect Goldman Sachs.

Parmalat's mis-accounted credit-linked notes

Italian dairy giant Parmalat employed a number of creative accounting and wire fraud schemes before 2003 that lead to the largest bankruptcy in European history. It sold itself Credit-linked notes with the help of

through a

Cayman Islands The Cayman Islands () is a self-governing British Overseas Territory—the largest by population in the western Caribbean Sea. The territory comprises the three islands of Grand Cayman, Cayman Brac and Little Cayman, which are located to the ...

special-purpose entity and over-accounted for their value on the balance sheet. It also forged a $3.9Bn check from

Bank of America The Bank of America Corporation (often abbreviated BofA or BoA) is an American multinational investment bank and financial services holding company headquartered at the Bank of America Corporate Center in Charlotte, North Carolina. The bank ...

. The publicly listed company stated to investors that it had about $2Bn in liabilities (this figure was accepted by its auditors

Deloitte Deloitte Touche Tohmatsu Limited (), commonly referred to as Deloitte, is an international professional services network headquartered in London, England. Deloitte is the largest professional services network by revenue and number of professio ...

and

Grant Thornton International Grant Thornton is the world's seventh-largest by revenue and sixth-largest by number of employees professional services network of independent accounting and consulting member firms which provide assurance, tax and advisory services to privat ...

), but once audited more vigorously during the bankruptcy proceedings, it was discovered that the company's debt turned out to actually be $14.5Bn. This massive debt was largely caused by failed operations in Latin America and increasingly complex financial instruments used to mask debt—such as Parmalat "billing itself" through a subsidiary called Epicurum. It was also discovered that its CEO Calisto Tanzi had ordered the creation of shell accounts and diverted 900M Euros worth into his private travel company.

Offshoring and tax avoidance

In order to avoid taxes on profits, multinational corporations often make use of offshore

subsidiaries A subsidiary, subsidiary company or daughter company is a company owned or controlled by another company, which is called the parent company or holding company. Two or more subsidiaries that either belong to the same parent company or having a sa ...

in order to employ a creative accounting technique known as "Minimum-Profit Accounting". The subsidiary is created in a tax haven—often just as a shell company—then charges large fees to the primary corporation, effectively minimizing or wholly wiping out the profit of the main corporation. Within most parts of the

and the

, this practice is perfectly legal and often executed in plain sight or with explicit approval of tax regulators. Nike, Inc. famously employed offshoring by selling its Swoosh logo to a

Bermuda ) , anthem = "God Save the King" , song_type = National song , song = "Hail to Bermuda" , image_map = , map_caption = , image_map2 = , mapsize2 = , map_caption2 = , subdivision_type = Sovereign state , subdivision_name = , es ...

-based special-purpose entity subsidiary for a nominal amount, and then went on to "charge itself" licensing fees that Nike Inc. had to pay to the subsidiary in order to use its own brand in Europe. The Dutch tax authorities were aware of and approved of this siphoning structure, but did not publish the private agreement they had with Nike. The licensing fees totaled $3.86Bn over the course of 3 years and were discovered due to an unrelated U.S.-based lawsuit as well as the

Paradise Papers The Paradise Papers are a set of over 13.4 million confidential electronic documents relating to offshore investments that were leaked to the German reporters Frederik Obermaier and Bastian Obermayer, from the newspaper'' Süddeutsche ...

. In 2014, the Bermuda deal with Dutch authorities expired, and Nike shifted the profits to another offshore subsidiary, a

Netherlands ) , anthem = ( en, "William of Nassau") , image_map = , map_caption = , subdivision_type = Sovereign state , subdivision_name = Kingdom of the Netherlands , established_title = Before independence , established_date = Spanish Netherl ...

-based Limited Liability Partnership (CV, short for Commanditaire Vennootschaap, generally known as a Kommanditgesellschaft). Through a Dutch tax loophole, CV's owned by individuals that are residing in the Netherlands are tax-free. Exploiting this structure saved Nike more than $1Bn in taxes annually and reduced its global tax rate to 13.1%; the company is currently being pursued for billions of dollars worth of back taxes in litigation by multiple governments for this multinational

tax avoidance Tax avoidance is the legal usage of the tax regime in a single territory to one's own advantage to reduce the amount of tax that is payable by means that are within the law. A tax shelter is one type of tax avoidance, and tax havens are jurisdi ...

In popular media

A number of center around financial scandals and

that involved creative accounting practices: * '' Enron: The Smartest Guys in the Room'' * ''Inside Job'' (2010 film) * PBS documentary film based on '' The Ascent of Money'' * Documentary based on '' The Commanding Heights'' * ''

Betting on Zero ''Betting on Zero'' is a 2016 American documentary directed by Ted Braun. It investigates the allegation that Herbalife is a pyramid scheme, and follows Bill Ackman's short investment in Herbalife, which is ostensibly a billion-dollar bet that ...

'' * ''

The China Hustle ''The China Hustle'' is a 2017 finance documentary produced by Magnolia Pictures and directed by Jed Rothstein. The documentary reveals systematic and formulaic decades-long securities fraud by Chinese companies listed on the US stock market. ...

'' * ''Dirty Money'' * '' £830,000,000 – Nick Leeson and the Fall of the House of Barings'', about Nick Leeson and

Barings Bank Barings Bank was a British merchant bank based in London, and one of England's oldest merchant banks after Berenberg Bank, Barings' close collaborator and German representative. It was founded in 1762 by Francis Baring, a British-born member ...

* '' The Inventor: Out for Blood in Silicon Valley'' * '' Chasing Madoff'', about the Madoff investment scandal * '' The Price We Pay'' * '' Fyre'' and ''

Fyre Fraud ''Fyre Fraud'' is an American documentary film about the fraudulent Fyre Festival, a 2017 music festival in the Bahamas. Directed by Jenner Furst and Julia Willoughby Nason, it premiered on January 14, 2019, on Hulu. Premise ''Fyre Fraud'' is ...

'', two competing documentaries about the

Fyre Festival Fyre Festival was a fraudulent luxury music festival founded by con artist Billy McFarland and rapper Ja Rule. It was created with the intent of promoting the company's Fyre app for booking music talent. The festival was scheduled to take plac ...