Detecting and Handling Phony Employee Disbursements
Phony employee disbursements pose a significant fraud problem for businesses. These practices include frauds such as padded expense accounts, check tampering, payroll fraud, and false employee insurance claims.
False employee disbursements occur as a result of various fraudulent practices. These phony disbursement schemes have been around for ages, but unfortunately continue to be quite successful. Identifying the different frauds out there and why they work can help you prevent them from succeeding against you and your business.
Padding an Expense Account Is Fraud
Expense account padding is an age-old sport of sales forces and executives who travel for business purposes. A firm policy, firmly enforced, can go a long way toward controlling the temptation to fudge expense reports.
Expense reimbursements can be overstated or downright fictional. Duplicating receipts and changing dates on receipts for meals, taxis, fuel and, even, lodging is common.
Claiming reimbursable expenses for goods or services never incurred or incurred by others is also frequently done.
Lax processing is the root cause of reimbursing false expense accounts. Cases of collusion between the employee and the reimbursement clerk are not unheard of . . . splitting the take.
Strict supervision and detailed auditing of expense reports before reimbursement is essential. In addition, internal control systems and strict policies must be established and enforced.
False Register Voids and Refund Frauds Falsify Transactions
Some particular types of employee fraud do not involve stealing money from actual sales, but instead falsifying transactions.
Overstated refunds or bogus refunds at cash registers are an age-old method of misappropriating cash out of a business.
Once again, the flaw is lax or absent supervision, loose controls, no separation of duties. (Is this beginning to sound like a broken record?)
Manager approval needed for voids and refund transactions. No exceptions!
Many Employees Can Tamper with Checks
Check frauds can be perpetrated by a discouragingly large cast of characters. The most obvious is, of course, the individual whose job it is to issue checks for a business. However, keep in mind that almost anyone in a firm who has access to blank checks can create phony payees and divert funds to their own use in any number of ways.
The following are various methods of committing fraud through check tampering:
Authorized check signers. As blatant a fraud as it might seem, a person with check signing authority can issue checks payable to his or her self, or to an accomplice. If someone other than the business owner is responsible for keeping the books and paying the bills, this is a real risk.
Tampering with a legitimately issued check to alter the payee is another method. The date or invoice number may also be tampered with. The altered payee may be the crooked employee, a fictitious name or even a shell company set up to receive illicit funds. The real vendor is recorded in the check register to mask the fraud. It will come to light eventually when the vendor fails to receive his funds, but by then the money and likely the crook will be long gone.
Forged endorsements are yet another method. Sometimes this is done with an inside accomplice at the bank.
Automatic signature machines make life easy for employees or others with access to company checks as they make the phony checks look completely legitimate.
Legitimate checks can be intercepted after being properly signed and recorded, and payees altered or endorsements forged . . . perhaps a stack of checks in envelopes left by the door for the mailman, but carried off by a crook?
Check washing is becoming more and more common . . . chemically erasing the payee and even the amount from a check. These can be deposited to a new or existing account, and the account cleaned out and closed before anyone notices.
Forged maker schemes are when an employee steals a blank check, makes an accomplice the payee, forges the authorized signature and splits the take when it's deposited by the accomplice.
Lack of secure storage of check stocks and, of course, lack of supervision and separation of duties are the main causes of scams involving checks.
Check tampering occurs when one employee controls the checkbook and also records expenses, and often reconciles the bank statement as well.
This exposure can be controlled by the owner signing all checks personally and, as discussed previously, opening all the mail personally. Employees who issue checks cannot be the same people as those who reconcile bank statements.
An auditor or regular employee assigned this task must compare the payee in the check register and the amounts with the canceled checks. And checks paid to employees (other than payroll checks) need to have detailed documentation supporting them.
The checks themselves should:
- Bear holographs or other printing safeguards to prevent check washing.
- Blank checks, especially, must be kept in a secure location.
- Employees handling cash and checks should be bonded by a fiduciary.
Electronic banking is a good way to eliminate paper check tampering, but it has its own hazards, so be aware of them and don't blindly trust wire transfers and the rest.
Employee Billing Fraud Is Most Costly Fraud
False billing frauds currently represent the largest dollar losses in small businesses. Unlike larceny, these are not spur-of-the-minute, minor-amount crimes. These are premeditated and substantial.
Billing frauds are too numerous to count. Fake payee (shell) companies, crooked vendors in cahoots with employees, or even freelance (non-accomplice) suppliers can be involved.
Shell companies (or even a fictitious "shell" person) can be created as phony vendors. The fraudster-employee creates an identity for a fake vendor, perhaps rents a mailbox at a UPS Store, and opens a bank account using the fake identity and maybe his wife's maiden name as agent for the vendor.
An invoice is created billing his employer for goods or, more commonly, services, and the bill is run though the payables system. When the check is generated, it goes to the phony vendor mail drop box and is picked up promptly and deposited to the fake vendor bank account. Most likely an ATM card is used to clear the money out of the account.
If inadequate purchasing and payment controls exist at the company, this scam can go on regularly for months or even years.
Be aware that "shell companies" are almost always involved in money laundering frauds. Shells are still legal, but they constitute a huge threat to national security since they offer terrorists as well as common swindlers a way to form legal entities to facilitate their crimes.
Vendors can use a variety of methods and ruses to commit fraud. Some of the more common are the following:
- A fraudster-employee can work in cahoots with an accomplice vendor, allowing the vendor to inflate invoices or short deliveries. The take is then split among the participants.
- A non-accomplice vendor is one who is completely unaware that a customer's employee is using him to steal.
- Freelance fraudster vendors can over-bill you, short your orders, double-bill you, etc.
- Employees in a position to make personal purchases with company funds through false billing schemes or even corporate credit cards scams bear watching.
- Multiple payments to the same payee is another method -- often called pay and return. The employee pays Vendor A and Vendor B, but sends A's check to B and B's check to A. He then calls the vendors to apologize for this error, asks them to return the checks and he'll reissue correct ones. The employee intercepts the checks when they are returned and uses them for check washing or other fake payee scams. The employee issues a second payment to each vendor, mailed to the correct address and marked as replacing lost checks.
Again, the lack of division of responsibilities in handling payments, purchase orders, checks, bank reconciliations will come back to bite you every time!
Prevention, as always, is the best defense. Phony payments involve a plethora of transactions, and prevention will require some targeted methods depending upon whether payment is to a vendor, a benefit claimant, a customer, or employee.
In the case of shell company fraud, one good way to determine if it exists is to regularly review your Approved Vendor List. How many use post office box addresses? For employee-vendor fraud, check vendor addresses against the payroll addresses. Do any match? Look up unfamiliar vendor names in your phone book. Do they really exist?
The permutations of billing fraud go on forever. Just use your imagination. Pretend you're a crooked employee and try to figure out how you'd get money out of your business by using your payables system.
Watch Out for Employee Payroll and Insurance Frauds
Sometimes fraud is found in the wage payments to employees or in employees' fake insurance claims.
Payroll Fraud Takes Numerous Forms
Ghost employees can receive big bucks in falsified wages and commissions if you fail to keep a close eye on who actually works for you. A ghost can be totally fictitious or could also be an accomplice of the employee perpetrating the fraud. Any employee with authority or access to add a person (real or imagined) to the payroll can easily bring this off.
Deliberately failing to delete a terminated employee from the payroll system can also create a ghost. In this case, the perpetrator must be sure to intercept the check before it leaves the workplace.
To avoid the hassle of forging timekeeping records, the perpetrator can choose to create a salaried employee.
When one individual handles multiple payroll functions, payroll fraud can flourish. Timekeeping, authorizing overtime, check preparation, distribution, check signing, bank reconciliations and HR duties are a potent recipe for fraud if handled by only one or even two employees.
Separation of duties in preparation, distribution and reconciliation of payroll checks is essential. Consider these indicators of a problem.
- Fake employee checks often have no deductions, so pay attention when signing checks.
- When the bank statement comes, review all checks for dual endorsements. They often give you interesting information.
- Payroll costs over budget can indicate a ghost might be present.
- Use direct deposit whenever possible. No paper means no alterations . . . but deposits could still be misdirected illegally.
- Check payroll journals and checks for duplicated names, addresses or Social Security numbers.
Act to Prevent Employee Insurance Fraud
Fraud can also be perpetrated by employees making false insurance claims. Employee insurance fraud is easier to prevent that to prove after the fact. If an employees makes fraudulent health insurance claims, the claims usually won't have any cash benefit unless they collude with a physician, lab or other service provider.
False workers' compensation claims are a very costly fraud perpetrated not only by malingering employees, but just as often by dishonest physicians overcharging or billing for procedures not performed. It's not unheard of for crooked lawyers to get in on this act as well.
Or, an employee may make a perfectly legitimate claim, but subsequent frauds by his doctor, lawyer or even an employer may take place unbeknownst to the claimant. Since most states mandate workers' compensation insurance coverage, almost no business is immune.
Flaws can include one or more of the following:
- Worksite supervision is sometimes lacking. Many claimed accidents are "unwitnessed." Malingerers can be skilled actors.
- One expects ethical behavior from medical and legal professionals, but in many cases, expectations are not met.
- Employers deceive insurance underwriters/agents by misclassifying employees or understating payroll in an effort to reduce premiums.
A good safety program and zero tolerance for suspicious-seeming claims would be a good start. Company policies on supervision, documentation, prompt reporting of mishaps and daily follow-up with employees on disability leave also help.
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