Avoid Employee Fraud: Locks are for Honest People

Locks are for honest people. At least that’s what my Dad used to say. In other words, he felt that under the right set of circumstances, nobody was immune to temptation. For example, he would argue that you locked your car to keep the honest people from breaking in; “Locks don’t stop criminals,” he would say. The same is true for a business owner taking actions to avoid employee fraud.

Without trying to impugn anyone’s integrity, over the almost 40 years of my career, I’ve found his observation to be pretty valid. What’s more, because we want to give people the benefit of the doubt, we often don’t take proper actions to avoid employee fraud. When I think of this, I can’t help but remember an experience several years ago in a small business I was part of at the time. Without giving away too many details, we didn’t have a sophisticated point of sale computer system to track sales; we didn’t even have a cash register. Like a lot of small businesses at the time, we worked out of a cash drawer with manually created receipts.

We all had access to the cash drawer and all had the ability to create receipts for what was put in it. The owner of the business would collect the cash and credit card slips that were collected for the day to make his deposit. This system was based upon our unquestioning trust in the people that took payments from our customers. And, because of that trust, I don’t think he reconciled all the receipts with the payments he received everyday.

To make a long story short, one of the employees discovered that if she could convince any particular customer to pay in cash, she could destroy the receipt and pocket the cash—and nobody would be the wiser. It was over a year after she started doing this before anyone noticed anything out of the ordinary, but she had walked away with thousands of dollars in cash before she was caught. She was a senior member of the staff and an employee who had been with us for several years when we let her go for stealing. There was no lock to stop this otherwise good person from succumbing to temptation.

Our efforts to avoid employee fraud weren’t enough. As a result we lost a good employee.

I recently spoke with fraud expert, Martha Dreiling about her suggestions for avoiding employee fraud. We talked about many different types of fraud that impacts small businesses, including employee fraud, which is particularly distasteful to face.

“Every employer wants to have complete trust in their employees,” says Dreiling, “but sometimes any employee can sometimes get themselves into trouble.”

She suggests that employee fraud comes in several different forms and isn’t restricted to dipping into the cash drawer:

1. Revenue Skimming
2. Payroll Fraud
3. Vendor Billing Fraud
4. Fraudulent Invoicing
5. Expense Reimbursement Fraud

Over the course of my career, as an employee and a business owner, I’ve either witnessed or been the victim of some of what she identifies above. Even with point of sale systems, invoicing systems, and expense tracking software, if you aren’t monitoring and spot-checking your employees, you are vulnerable.

With that in mind, she recommends the following 14 best practices to help you keep your honest employees honest and catch the others.

1. It starts with hiring the right people: “Of course no hiring process is perfect,” she says. “Nevertheless, basic pre-employment background screening is a good business practice.” She suggested this is particularly true for any employee who would be handling cash, high-value merchandise, or have access to sensitive customer or financial data.
2. Conduct routine and unscheduled audits: “It just makes sense to be aware of what your employees are doing and to monitor their activities. Unscheduled audits of various accounting, cash handling, and inventory management related duties is considered a best practice,” she said. “Making it unpredictable is the key.”
3. Don’t have any one person handle all the accounting processes: “When you separate accounting processes between more than one person, it’s less likely anyone will have the opportunity to take advantage of a weakness in your accounting process,” she argues.
4. A mandatory vacation policy could be a fraud prevention tool: “Sometimes, employees that are committing fraud are reluctant to take time off because they’re afraid they might be discovered while they’re away,” said Dreiling. “It’s hard to cover your tracks when you’re not there.” On a personal note, I discovered a business partner had been revenue skimming while he was on vacation.
5. Lock it up and don’t share the key: “Make sure you keep things like checks, invoices, and other critical business information locked up when not being accessed by authorized employees,” Dreiling suggests. “And don’t give any employees who aren’t designated authorized users on your business accounts access to business credit cards or any account numbers.”
6. Don’t share you personal credit cards: “This probably goes without saying, but don’t share your personal credit cards, account numbers, or personal banking account information with any of your employees,” she said.
7. Reconcile and monitor business banking activity frequently: Although it can sometimes feel like a chore to a business owner who doesn’t relish spending time in the books, Dreiling suggests, “Reconcile and monitor business banking account activity frequently and regularly examine bank statements to detect anomalies.”
8. Read the fine print: “ALWAYS take the time to carefully review any documents you are required to sign and never sign any incomplete or blank documents,” says Dreiling.
9. You need a checklist for when employees leave: “It doesn’t matter if they are voluntarily or involuntarily leaving, there are some things you need to do,” she says. “Update signature cards for your business bank accounts, change online passwords, update computer system access, change any combinations to safes or filing cabinets, and make sure to collect any access control devices like key fobs, access cards, and keys. Make this part of the termination or exit interview process.”
10. Keep your Secretary of State up to date: “Don’t forget to update any business records on file with the state where you do business when partnerships or officers in the corporation change,” she adds.
11. Review employee timesheets and expense reports: “Unless you’re business is small enough that reviewing timesheets and expense reports is something you do yourself, make sure managers or supervisors review and approve timesheets and expense records before they are submitted for payment,” she said. “You should also require receipts as part of the expense reimbursement process.”
12. Restrict access to payroll records: “It’s a best practice to control access to payroll systems and changes to employees’ salaries should require review and approval,” she said.
13. Does a security camera make sense? Dreiling suggested, “Installing a security camera could make sense in areas where employees are dealing with cash.”
14. Employee dishonesty liability insurance: “Employee dishonesty liability insurance protects employers from financial loss due to the fraudulent activities of an employee or group of employees. The loss can be the result of employee theft of either money or property.” She added, “Whether or not this type of insurance makes sense for you is something you’ll need to investigate.”

Depending upon the nature of your business, some of these suggestions could feel like overkill, but you could be surprised at what you might find. As a younger man I was surprised to learn that many businesses actually plan for “shrinkage,” or the theft of merchandise by employees. Applying these best practices could likely help you and your business avoid the consequences of fraud perpetrated by employees. Taking actions to avoid employee fraud is much like using a lock to keep an honest person honest.