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Embezzlement
Prevention and Detection for Small and Mid-size Businesses and Tax
Exempt Organizations
The purpose of this
article is to provide information to small and mid-size businesses
and tax exempt organizations about embezzlement prevention and
detection. This is not the first article we have published on the
topic and, unfortunately, it will not be the last.
According to the
U.S. Federal Bureau of Investigation embezzlement is the unlawful
misappropriation by an offender to his/her own use or purpose of
money, property, or some other thing of value entrusted to his/her
care, custody, or control. It is a serious problem in the
United States. Some estimate that annual embezzlement related
losses are now up to about $600 billion dollars per year.
It might be argued
that small and mid-size businesses and tax exempt organizations are
more susceptible to embezzlement than large businesses. Unlike
large business, they do not have the resources to establish
sophisticated internal controls. For example, in a small tax exempt
organization a bookkeeper’s routine duties might require him/her to
issue invoices to customers, record the receipt of the customer
payments and then deposit the amounts in the organization’s bank
account. The lack of other individuals involved in the process
could provide opportunities for the embezzler. For instance, the
bookkeeper/embezzler, without the knowledge of management, could
simply establish a separate bank account, deposit a customer’s check
in the account and then cover up the misappropriation by crediting
the customer’s account using one or more bogus transactions. If the
bookkeeper has access to incoming mail along with the general
ledger, it would be easy to perpetuate the fraud with little risk of
detection.
Given the lack of
resources to develop and maintain sophisticated internal controls,
how might the small or mid-size organization prevent embezzlement?
Well, to be honest, it’s virtually impossible to prevent
embezzlement. As they say, if there’s a will, there’s a way.
On the other hand, management could make it more difficult for the
would-be embezzler by the implementation of policies and procedures
designed to reduce the opportunities to steal.
Good internal
controls can not only make it difficult for a thief but they
could also enable management to detect embezzlement when it occurs.
While this article is not designed to cover everything about
internal controls, a few simple steps are worth mentioning.
·
Adopt a policy of mandatory vacations and
mandatory duty rotations. It is not uncommon for the
embezzler to interfere with the customary workflow to effect the
embezzlement. However, if your policies require the embezzler to
give up control of his/her work, he/she will recognize that the
fraudulent scheme might be more easily detected, and thus be
detoured from committing the illegal act.
·
Establish a hotline for whistleblowers
and train employees how and when to use it. While most hotline
calls do not trigger fraud investigations, one of the best ways to
detect fraudulent activity is through other employees. Let
employees know about the organization’s ethics from the top down.
Explain that any unethical conduct imposes costs on everyone.
Employees who believe that they are being monitored are less likely
to steal.
·
Don’t hire thieves. This means that if
you intend to place an individual in a position of trust, you should
conduct a background check. The typical background check involves
employment and education verifications, reference checks, criminal
conviction checks, drug screenings and a credit check. You may need
the candidate’s consent prior to conducting some components of your
background check, so you should seek the advice of a qualified
attorney.
·
Conduct periodic surprise internal audits.
These are most effective after identifying high risk areas and
designing procedures to achieve the desired objectives. It is not
uncommon for management to engage a qualified CPA to help them plan
the audits and perform the procedures. It is important to note that
simply knowing that the organization has a policy of conducting
surprise internal audits can act as a deterrent to the would-be
embezzler.
In addition to
internal controls, one should be mindful of the motivating
factors that could drive one to steal. It might be
surprising to learn that greed may not always be the motivator.
Moreover, recognition of these factors could help identify risks so
you can prioritize your prevention efforts. Some factors follow
(the list is not all inclusive).
·
Family drug, alcohol or gambling problem
·
Deteriorating health of a family member
·
Death of a family member
·
Extramarital affair
·
The assumption of too much debt
·
Embarrassment because of lack of material possessions
·
The outward desire to be accepted by an affluent group
You might also be
surprised about the characteristics of the typical embezzler.
While the list that follows should not be considered a profile, it
should give you a general sense of one’s risk areas.
·
The amount of the embezzlement is generally larger for
long term employees.
·
While over two-thirds of all embezzlers are between 31
and 50 years old, those in their 60s caused the largest loss per
incident.
·
The higher the embezzler’s education level, the larger
the loss per incident.
·
Over 60 percent of all embezzlers were men.
·
About 75 percent of all embezzlers work in accounting,
executive, sales, or customer service positions.
We found it most
unsettling to find that a high percentage (one study found 40%) of
fraudulent cases involved collusion with others.
These schemes are not only the most difficult to detect, but they
are by far the most costly.
Finally,
don’t rely on your CPA to detect embezzlement during his/her
normal end-of-year engagement. That might sound counterintuitive
but the fact is that only about 5 percent of all fraud is detected
by external auditors. If you want your CPA to help improve the
chances that fraud will be detected if it exists, consider engaging
him/her to design and perform custom tailored procedures (see
surprise internal audits above).
Embezzlement
prevention and detection is not an exact science. All your best
efforts may not prevent it and if it occurs it might not be detected
for years! Nevertheless, it would be imprudent to rely on your
instincts or hope that it will never happen to your organization.
And, although you may not have the resources of a large business,
there are indeed certain important yet inexpensive steps you can
take to reduce your risks. We trust that this article has given you
a few ideas.
If you have any
questions or if you need more information please do not hesitate to
contact Vincent Ruocco, LLC, CPA at 203.932.2931.
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