While we never want to believe that fraud can happen in our business, unfortunately we don’t always have the mechanisms in place to prevent temptation, or even honest mistakes. Most embezzlers starts small, with unnoticeable amounts that wouldn’t cover the coffee fund, with good intentions of paying it back. But once it starts and is successful (i.e., goes unnoticed), it can be tough to break the habit of easy money. In fact, the median duration of fraud until detection is 18 months! Rationalization, financial need, opportunity, justice — these become common excuses. And small businesses, those with less than 100 employees, had a median loss in 2014 of $154,000!

Definition: Occupational Fraud
The use of one’s occupation for personal enrichment through the deliberate misuse or misapplication of the employing organization’s resources or assets.

Signposts of fraud

  • an employee lives way beyond his means
  • an employee has unusually close ties with clients or vendors
  • an employee has addiction problems
  • an employee frequently makes mistakes, or is disorganized and blames the mismatched totals to that
  • an employee insists on maintaining control over the assets
  • an employee has lots of computer problems (“It was the computer, not me.”)
  • an employee consistently comes in earlier or leaves later than everyone else

Internal control
For effective internal control, 3 key functions should be segregated:

  • authorization of transactions
  • accounting/reconciling of transactions
  • custody of assets

Each of these functions should be performed by a different individual. Of course, if staffing is such that two of the duties must fall into the same hands, then additional checks should be performed. Although collusion could occur between two or more individuals, it makes the fraudulent act that much more difficult to remain hidden.

Preventing fraud
Part 1: Documenting the flow of funds

  • create an invoice for services rendered
  • check out client and create a receipt of payment
  • balance the system’s revenue totals with the total payments received with the bank deposit

Part 2: Segregating duties

  • the employee creating the invoice shouldn’t be the person that accepts payment
  • the employee that approves the invoice shouldn’t be the person that reconciles the invoice with the system totals
  • the employee that approves the invoice shouldn’t be the person that accepts payments
  • the employee that approves payment of the invoice shouldn’t be the person that pays the invoice
  • the employee that lists the checks for deposits shouldn’t be the person that makes the deposit
  • the employee that makes the deposit shouldn’t be the person that records that deposit in the accounting records

In general, a different person should be used for creating the client invoice, collecting money, listing the checks for deposits, depositing funds, and balancing the money at the end of the day! If it is a contiguous process, insert someone to perform some of the duties, even if it takes a bit longer.

Part 3: Rotating duties/breaking cycles of control
Even in a small organization, it is good practice to have staff cross-trained. If fraud is occurring with a single employee, it will be easier to pinpoint the culprit if the discrepancies reduce while that individual is off money-handling duty.

Part 4: Spot checks
Random spot checks are always a good idea. If an employee reacts or protests too much, take heed. But the spot checks may be just the what the doctor ordered to keep employees on their toes!

Part 5: Compare benchmarks, internally and externally, and reconcile regularly
While the discrepancies may be small, a gradual change in the cost of supplies or in the revenue received should be explored. If the changes are inexplicable, dig deeper to determine if the changes are real or due to misappropriation of funds. By reconciling the system invoice totals with the accounting entries with the bank deposit entries, you will have a good idea when one part is out of balance with the others.

Remember: Only YOU can protect your business.

Source: Report to the Nations on Occupational Fraud and Abuse: 2014 Global Fraud Study