Defend Your Business Against Fraud

For small businesses, preventing fraud is often a challenge. Implementing strong internal controls to defend against fraud is your first line of defense. As the owner, you wear so many hats already that it’s easy for this to fall to the bottom of the list. According to the Association of Certified Fraud Examiners (ACFE), small businesses experience fraud at a higher percentage than larger organizations – and small businesses with less than 100 employees lose an average of $200,000 in a fraud incident. It is estimated that 60% of all fraud losses are not recovered. Can you afford to take that risk?

Lack of internal controls and too much trust in one employee are the main factors in fraud against small businesses. Often the fraud isn’t planned in advance, but rather a crime of opportunity that is rationalized in various ways. Many employees who commit fraud are first time offenders and many have worked for their employer for at least 4 years.

Good internal controls are a vital strategy to safeguard assets, prevent fraud, and ensure accurate financial reporting. Let’s explore the practical internal controls that small business owners can implement to enhance their financial integrity.

Practical Internal Controls

Review the following eight practical steps you can implement now to defend against fraud.

Separation of Duties: Distribute financial responsibilities among different employees to prevent errors and fraud. Ensure no single individual has control over all parts of a financial transaction. This might look like one person entering bills for payment while another person authorizes the payments.

Access Controls: Limit access to financial systems and data to authorized personnel only. Use secure passwords and authentication methods to protect sensitive information.

Approval Authority: Establish a clear protocol for who can authorize transactions and expenses to help prevent unauthorized expenditures and financial discrepancies. Your bookkeeper should not be a signer on your bank account.

Accurate Record Keeping: Maintain accurate and detailed records of all financial transactions, including invoices, receipts, and payments. This ensures transparency and facilitates easier auditing. Require all payments to have backup documentation. If you issue credit or debit cards to employees, have a clear process for reviewing transactions and require that receipts be turned in timely.

Reconciliation Processes: Regularly reconcile bank statements and financial records to catch and correct any discrepancies early. The person who does this process should not be the same person who processes bills and authorizes payments.

Secure IT Systems: Invest in secure and reliable accounting software that allows user permissions. If using an online bill payment system, look for options where only signers on the bank account can authorize payments. Regularly update and back up financial data to protect against cyber threats and data loss.

Separate Business and Personal: As the owner, keep your business and personal finances completely separate. Do not mix your personal bills into the business bank account as this causes confusion on what qualifies as a business expense and creates opportunities for fraud. It is easier for an employee to hide paying their own personal charges out of the business when the owner has mixed theirs.

Financial Policies: Develop and document financial policies and procedures that align with your business goals and regulatory requirements. Make sure they are readily accessible to all employees.

Examples of Fraud

Over our many years in accounting we’ve seen various types of fraud. Here are some examples:

A Controller who set up their personal car payment to come out of the business account. When this wasn’t caught, they added other personal bills to auto-pay on the business credit card. There was no oversight for their work. They were a 10+ year employee who was completely trusted and “dedicated” – they never even went on vacation (this is a red flag!). This person became ill unexpectedly, and an outside firm was asked to cover the position while they were out. The firm’s personnel noticed the discrepancies and discovered the fraud had been going on for years. Loss was approximately $250k.

A bookkeeper who was being paid as an independent contractor would give the owner a stack of checks to sign each week without including backup documentation.  Eventually the owner realized that they were signing checks to the bookkeeper at a more frequent rate than expected. When questioned, the bookkeeper said that they were “just paying themselves in advance that one time.” When the owner finally brought in an outside person to review the books, the bookkeeper had been “paid in advance” for many months. Loss was approximately $10k.

A bookkeeper who used the business credit card as their own personal card. There was no oversight of their work or separation of duties for reconciling the charges. They would “hide” the charges by spreading them across various accounts in the books.  In less than a year, the loss to the business was $80k.

Implementing Internal Controls in a One Person Accounting Office

Many small businesses cannot afford to have multiple people in their accounting office, making it more challenging to defend against fraud.  Often, when fraud happens, the knee jerk reaction is for the owner to take on all financial duties on top of everything else they are already doing. It doesn’t have to be that way! Should you as the owner be involved – absolutely!  At minimum, you should be the one who authorizes all check payments while sticking to the processes you’ve built around approving them, such as requiring backup documentation.  A great way to implement internal controls is to utilize the help of an outside firm, such as EverythingCounts, to provide oversight.  Often, the awareness that someone else is reviewing the accounting  will prevent crimes of opportunity.

Implementing robust financial internal controls to defend against fraud is crucial for small businesses to manage risks effectively and ensure long-term success. These controls not only protect against fraud but also improve overall operational efficiency.