In today’s times, fraud is becoming more prevalent, especially in small business. Owners of many small businesses don’t think fraud is something that can happen to them, however employee fraud should be one of their major concerns. Unfortunately, employee fraud is not uncommon and it is usually an employee you would least suspect. Fraud can be defined in its simplest form as a deception made for personal gain and small businesses are classified as an organization with 100 or fewer employees. The employees of small businesses are often times considered some of the greatest assets of the business. However, there are times where these employees could turn out to be one of the greatest liabilities of the business due to instances of fraud.
Recent studies have found that businesses lose about 5-6% of their revenue each year to employee related fraud. Frequent and severe forms of fraud occur in a small business environment because the employer places a great deal of trust on the employees. Because employees are given greater responsibilities and authority, small businesses find themselves more susceptible to fraud because they do not have the resources that a large business has to implement a system of internal controls or segregation of duties among employees. Therefore, employees may be given assignments to perform a job they are not qualified for, which can lead to the opportunity for fraud.
In order for an employee to commit fraud, three factors must be present: opportunity, pressure and rationalization. These factors are known as the fraud triangle. An employee can have the opportunity to commit fraud if the internal controls are weak, for example if there are no segregation of duties or no management approval. If an employee is under pressure it could cause them to steal from the business, for example, they could have personal financial problems, vices, or revengeful motives. Finally, rationalization occurs when the employee can justify the fraud, for example taking money and thinking they will pay it back, or thinking the company owes me this because of the work I do for them.
There are several different ways fraud can be committed in small businesses, including asset misappropriation, kickbacks, and workers compensation fraud. The most common type of fraud is asset misappropriation, which involves the theft or mishandling of the businesses’ assets, most commonly cash. The embezzlement of cash can be done in several different ways, including skimming, which is taking in cash received by the business that was never recorded in the company books. Cash can also be taken by setting up fictitious vendors and making payments to them. Of course, physical assets, such as inventory, can be stolen by employees too.
Kickbacks, or corporate bribery, occur when an employee of the vendor company offers money or other consideration to an employee of the buying company to induce them to purchase a product or service offered by the vendor. Kickbacks aren’t easily discovered based on looking a company’s books and records because kickbacks do not always have to be in cash form. Kickbacks can also present themselves in the form of interest free loans, excessive entertainment, expensive gifts, etc.
Another common form of employee fraud is workers compensation fraud. Workers compensation insurance protects employees who get injured on the job. Some benefits of workers compensation include covering medical expenses and lost wages. It is possible that an employee could fake an accident, especially if it was not witnessed by other employees, in order to file a bogus workers compensation claim. If the accident occurred prior to a strike or layoff, a claim of this nature could be suspect for workers compensation fraud.
So how can employee fraud be detected and what can be done to prevent it? The most common type of detection comes from within the business, usually a tip from an employee or customer. To prevent and detect fraud, small businesses should give employees a way to report the fraud, for instance setting up an anonymous hotline. Some other ways to prevent and detect fraud include performing background checks on employees, segregating accounting duties, posting a code of ethics and fraud policy, restricting bank account access, securing office inventory, and hiring outside professionals to inspect the books and records of the company. Small businesses should have a plan to be proactive and prepared in case an instance of employee related fraud should befall on them.