Internal Fraud and How to Prevent It
By Arslan Hassan , Guest Blogger –
Employee fraud is more common than you think. Organizations of all varieties suffer from similar problems. Research reveals that companies lose about 5% of their annual revenue each year because of internal fraud and online businesses are at an even higher risk for fraud.
Organizations should create a plan to reduce fraud in the following categories:
• Financial Statement Fraud: It causes the most median loss. The scheme involves intentionally misstating or omitting information in the financial reports of the company. It can be in the form of inflated assets, hidden liabilities, or fictitious revenues.
• Corruption: There are corruption schemes in place that allow employees to influence the business transactions for violating their duty as an employer. Some of the examples of corruption include conflict of interest, extortion, and bribery.
• Asset Misappropriation: It is the most common. Employees develop schemes to exploit and steal resources, such as cash, by making false expense reimbursement claims.
The following tips will help organizations prevent internal fraud.
1. Develop a System of Checks and Balances
One of the best ways to prevent internal fraud is by developing a system of checks and balances. It would help ensure that a single individual does not have control over every part of a financial transaction. Here is what the system should mention.
• Separate handling of receipt and deposit functions along with record keeping and reconciling.
• Require disbursements, payroll, and purchases to be authorized by designed persons.
• Ensure that the same individual is not authorized for writing and signing checks.
• Separate the payables and purchasing functions.
• Require paychecks to get distributed by an individual who is not recording or authorizing payroll transactions.
• Require supervisors to approve the timesheet of employees before payroll gets prepared.
• An independent check of work is necessary if the organization is very small to separate duties.
2. Reconcile Bank Accounts Every Month
Next, bank accounts should be reconciled every month to keep an eye on every transaction. An independent person should complete the reconciliation work to ensure that check signing responsibilities or bookkeeping responsibilities do not provide an opportunity to commit fraud.
As for canceled checks, they should be examined to ensure that vendors are recognized and signatures are made by authorized signatories to ensure that payments are made accordingly. The bank statements also need to be examined to ensure that everything is in sequence.
3. Restrict the Use of Business Credit Cards
If employees are given a business credit card, it is important that use is restricted and all charges are verified to ensure that they are business-related. The following should be considered.
• Examine the credit card statements and check to see if there are corresponding receipts every month.
• Require the employees to submit original receipts for every expense
• Inform employees about the limitations on usage of the cards.
• Set an account limit for each credit card.
• Establish a policy for ensuring that employees only use credit cards for business use.
4. Prepare Fiscal Policies in Writing
Next, you need to prepare fiscal policies in writing. There should be procedures in place that are approved by the Board of Directors to ensure that there are policies for the following.
• Conflicts of Interest
• Petty Cash
• Purchasing Guidelines
• Use of Assets
• Expense Reimbursements
• Attendance and Leave
• Cash Disbursements
5. Permit Vehicle and Tech Use for Business Purpose Only
In addition to the above, it is pertinent to limit vehicle and tech use to business purposes only. Assets like equipment, cell phones, vehicles, and the like should be used only for the right reasons. Expenses relating to the maintenance of the assets should also be examined periodically.
An equipment list must be prepared. Similarly, vehicle logs need to be maintained to monitor mileage, odometer readings, the purpose of each trip, the name of the employee that used the equipment, and more.
6. Protect Petty Cash Funds
Petty cash funds need to be protected at all times. The same goes for other cash funds to prevent employee fraud. This is possibly by limiting access to the funds and keeping the funds in a locked drawer while restricting the number of employees that can access it.
Receipts of every petty cash disbursement should be provided and the date, purpose, amount received, and use must be mentioned. Besides this, the petty cash fun has to be reconciled before it is replenished. There should be a limit on the petty cash replenishment amount.
7. Protect Checks from Fraudulent Use
Checks can be fraudulently used if there is no system in place. The following guidelines should be strictly followed for preventing fraudulent use of checks.
• Prohibit writing “cash” in the payable section.
• Retain and deface voided checks.
• Mark the invoices as paid with the correct check number to ensure that they are issued.
• If the amount exceeds the specified limit, two signatures should be required. One of the signatories should be a board member.
• Checks should only be signed if all the information and supporting documents are provided.
8. Discourage or Avoid Related Party Transactions
To avoid fraud and maintain maximum transparency, related party transactions should be discouraged or avoided altogether. A written code of ethics and conflict of interest policy should be written to prevent employee fraud.
9. Conduct Ongoing Credibility Assessments with Employees
Where local statutes allow, conducting credibility assessment (lie detector) testing for pre-employment screening or with current employees on a regular basis is a viable way to send the message that inappropriate or criminal behavior will be discovered. Behavior can be changed where systems and processes are put in place.
EyeDetect is a non-invasive, next-generation solution that detects deception with 88% accuracy. Tests take 15 to 30 minutes and test results are available within 5 minutes post-test.
Internal fraud should be avoided at all costs. Take advantage of the above-mentioned tips to minimize its risk. From developing a system to discouraging related party transactions, to conducting ongoing credibility assessments, it is possible to prevent employee fraud.
If one lived in a perfect world, one could believe that all employees are loyal and hard-working. However, in this day and age employees are often placed in positions that allow them to easily commit fraud, especially if there are no checks and balances in place. If employers and companies would use EyeDetect from Converus to assist in conducting a quick, 15-30 minute test to vet their employees, it would allow for greater peace of mind for the employer and employees alike. Click here to learn more about EyeDetect. Thus, it is crucial to invest in prevention and detection to reduce loss.
Arslan Hassan is an electrical engineer with a passion for writing, designing, and anything tech-related. His educational background in the technical field has given him the edge to write on many topics. He occasionally writes blog articles for Dynamologic Solutions.
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