Fraud can happen anywhere, by anyone, including your own workers.
- Don't rely too heavily on background checks.
- Limit employee access to information.
- Asset misappropriation, corruption and payroll fraud are the most common types of employee fraud
As a small business owner, you might be well versed in fraud prevention. However, many employers fail to realize that fraud can happen anywhere, by anyone – including your own workers.
No matter how close your team might be, or how careful you are when recruiting, you should always be prepared for fraud by employees. Here are three employee fraud prevention tips for employers.
1. Begin with your hiring process
Each time you hire a new employee, you're taking a risk. While hiring is a necessity for every business, there are steps you can take to minimize threats, such as conducting background checks on candidates.
"A background check for an employee can provide important insight into an individual's past behavior and potentially be an indicator of future actions," said David Thomas is the CEO of Evident, a data security platform. "However, a background check is just the first step. Validating that an employee or applicant is who they say they are with the appropriate documents, has the credentials and education they claim to have on their resume, and meets any regulatory requirements needed for their role are also invaluable identity verifications that can minimize the risk of fraud."
Background checks are not faultproof, and they don't always provide you with the most recent or relevant information of an applicant. For instance, Ken Stalcup, CPA, CFE, CFF, ABV, a senior director with Houlihan Valuation Advisors, had a recent investigation involving an accountant who committed financial fraud. Stalcup's client ran a background check on the accountant prior to hiring him, and it came back clean. However, the accountant had just committed financial fraud in another state, and the information was not yet detected by the background checking system. The company lost about $400,000 to the fraud.
"In my experience, [background checks] won't be very effective," Stalcup said. "It may weed out a few obviously bad prospects with an extensive, documented bad history, but background checks will not guarantee a fraud-free environment."
Moral of the story? It doesn't hurt to have a system in place. However, don't rely on it as your sole means of fraud prevention.
2. Minimize employees' access to information
"In any business, there are a number of ways for fraud to occur," said Thomas. "One of the biggest opportunities to prevent fraud, especially by employees, is to implement clear processes and controls across the company."
Thomas advised minimizing the amount of exposure and access employees have to information. This includes internal numbers, customer data, etc.
This can be achieved by delegating control among the entire team rather than giving it all to one trusted person. Stalcup said that if only one person is responsible for all the accounting information, there won't be any effective internal controls to prevent fraud.
"Generally, the best way to prevent fraud is to establish good internal accounting controls," said Stalcup. "That means no one person has the ability to initiate, approve and record a transaction."
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3. Get help
If you are suspicious of fraud, act quickly – but not on your own. Don't approach the suspect with empty accusations. Make certain that this employee is actually committing fraud and hire legal help.
"You need to build a rock-solid case if you can," said Stalcup. "Then, once you have collected enough information, you can confront the employee with the help of an attorney and the HR department. It's likely you will have one opportunity to talk to the employee before they quit or lawyer up, so you have to be ready."
From there, you can decide what course you want to take and how it will affect you and your business going forward. Many employers turn to certified fraud examiners (CFEs) to assist in the process. According to Stalcup, "CFEs are typically hired after the attorney and client realize there is a loss, and want to take additional steps to recover or prosecute."
"Typically, the client and a lawyer will discuss the nature of the fraud," he said. "If the client has insurance covering fraud losses, the insurance company might want a CFE to quantify the loss. If the client wants to prosecute the employee, they may have to persuade the prosecutor to file charges based on evidence from a CFE."
However, Stalcup added, many clients often "recover nothing and will not hire a CFE or disclose the situation. They will just fire the employee and move on."
Types of employee fraud
There are several types of employee fraud. Understanding these types of fraud can help you avoid falling victim to them.
The most common types of employee fraud are:
- Asset misappropriation
- Payroll fraud
Asset misappropriation is usually the first thing that comes to mind when you think of employee fraud. One type of asset misappropriation is using company resources for purposes other than their true intention.
This could mean taking your family on a business trip and having the company pick up the tab, using the company car and fuel card to run personal errands, and taking home company supplies. Taking money from the company before it enters the accounting system is also asset misappropriation. This includes overcharging customers and pocketing the difference, fake billing schemes, and fake expenses.
Corruption is the second most common type of employee fraud. It often involves someone in a position of authority, and includes bribery, product substitutions and kickbacks.
Payroll fraud occurs in more than one-fourth of businesses. On a small scale, payroll fraud includes clocking in and leaving work or forging a timesheet to include more hours. On a larger scale, ghost employee schemes are common. In these schemes, employees are on the books and getting paid, but they don’t exist. Instead, the money goes to the person who set up the ghost employee account.