October 27, 2023
Protecting Your Small Business from Fraud
Occupational fraud is a silent but costly threat that can jeopardize the financial health and sustainability of small businesses. According to a 2022 report by the Association of Certified Fraud Examiners (ACFE), organizations lose an estimated 5% of their annual revenue to fraud. This is especially concerning for small businesses, which often contend with limited resources and lean teams.
Additionally, only 6% of fraud perpetrators had a prior fraud conviction, making background checks alone insufficient. This statistic highlights the need for comprehensive preventive strategies that extend beyond initial background checks.
In this article, we’ll discuss red flags that small business owners should be aware of and discuss the internal controls that can help prevent fraud.
Detecting Red Flags
Small business owners need to remain vigilant for several red flags that might indicate potential fraud within their organization. These eight specific warning signs, as highlighted in the 2022 ACFE report, were found in 76% of all fraud cases:
Living Beyond Means: This red flag often involves an employee suddenly adopting a lifestyle that doesn’t align with their known income. Extravagant changes may be indicative of financial misconduct.
Financial Difficulties: Employees who are dealing with financial difficulties, such as excessive debt, unpaid bills, or frequent requests for advances, may be more susceptible to committing fraud.
Vendor/Customer Associations: This red flag involves employees who maintain unusually close relationships with vendors or customers. This could indicate a conflict of interest.
Excessive Control Issues: Employees who resist sharing their duties or oversight may be attempting to conceal illicit activities. An example could be an employee who insists on being the sole gatekeeper for financial transactions, refusing to let anyone else review or participate in the process.
Unusual Behavior: Sudden changes in attitude, irritability, or defensiveness can be signs of stress, and stress can lead to fraud for a variety of reasons.
Bullying or Intimidation: A toxic work environment may be a cover for illegal activities. For instance, if an employee with financial responsibilities bullies or intimidates colleagues into silence or compliance, it could indicate an effort to maintain secrecy surrounding fraudulent activities.
Personal Problems: Employees experiencing family issues, or personal crises may turn to fraud as a means of coping with financial stress.
Wheeler-Dealer Attitude: Employees displaying a “wheeler-dealer” attitude, involving a tendency to take undue risks, can be concerning. This might manifest as an employee who frequently ignores company policies.
Preventing Occupational Fraud in Small Businesses
Given the specific challenges that small businesses face in combating occupational fraud, implementing effective anti-fraud measures is paramount. Here are some internal controls that can help prevent occupational fraud, along with practical examples to guide small business owners:
Segregation of Duties: This control involves separating financial responsibilities among multiple employees and/or an accounting firm. For instance, in your small business, you can have one person responsible for authorizing payments, another for processing payments, and a third for reconciling accounts. By establishing that no single employee controls the entire financial process, you reduce the risk of fraud.
Employee Training: Educating your employees about the risks of fraud and how to identify and report suspicious activities is vital. Consider providing training sessions or workshops to raise awareness. For example, you can conduct regular training sessions on recognizing red flags, emphasizing the importance of honest reporting, and encouraging employees to speak up if they suspect any fraudulent activities.
Whistleblower Hotline: Establishing a confidential hotline for employees to report concerns without fear of retaliation is a powerful deterrent to fraud. You can set up a dedicated email address or phone line for employees to report anonymously if they wish. Make sure employees are aware of this channel and encourage its use as a means to report any wrongdoing.
Internal Audits: Regularly conducting internal audits is an essential tool for detecting irregularities and fraud. Consider scheduling periodic financial audits, inventory checks, and process reviews. This may involve hiring an external auditor or accounting firm.
Vendor and Customer Due Diligence: Carefully vetting vendors and customers is a crucial control. Before engaging with a new vendor, conduct background checks, verify their reputation, and seek references.
Anti-Fraud Policies: Developing clear anti-fraud policies and consistently enforcing them is a fundamental step. Create a comprehensive anti-fraud policy that outlines expectations, reporting procedures, and consequences for fraudulent activities. Communicate this policy to all employees, and make sure it is part of your company culture.
By putting these internal controls into practice, small business owners can significantly reduce the risk of occupational fraud. These measures not only deter potential fraudsters but also create a culture of transparency and accountability within your organization.
What’s Next
Occupational fraud is a significant threat to small businesses, but with vigilance and proactive measures, you can reduce the risk. Prioritizing anti-fraud strategies will protect your business’s financial health and prioritize long-term success.
At Wilke CPAs & Advisors, we’re here to help you navigate these challenges and safeguard your business. If you have any questions or need guidance on preventing occupational fraud, contact us today.