Operating a business comes with some risks. There are many types of fraud that business owners have to protect themselves from. We have compiled a list of 19 types of business fraud here.
- 1. Misappropriation of Company Assets
- 2. Corruption
- 3. Financial Statement Fraud
- 4. Payroll Fraud
- 5. Invoice Fraud
- 6. Identity Theft
- 7. Tax Fraud
- 8. Insurance Fraud
- 9. Money Fraud
- 10. Return Fraud
- 11. Multiple Payment Fraud
- 12. Affinity Fraud
- 13. Vendor Fraud
- 14. Data Theft
- 15. Property Theft
- 16. Commission Fraud
- 17. Credit Card Fraud or Expense Reporting Fraud
- 18. Unemployment Fraud
- 19. Phone/Phishing Scams
1. Misappropriation of Company Assets
Misappropriation of company assets is the most common form of fraud that a business can face. In this type of fraud, an employee will use his or her position to steal from their business.
There are several ways that this can occur:
- The individual can steal cash, time, merchandise, services, or intellectual property
- He or she can falsify expense reports
- Purchase order schemes can occur, in which payments are made to fake vendors
- Company credit cards can be used for personal expenses
- Checks can be forged
- Sales can be falsified to collect commissions on those sales
- Timesheets can be falsified
- Company vehicles can be used for personal use
There are several steps an employer can take to help prevent the misappropriation of company assets. First, they can vet all of their employees thoroughly before hiring them. Next, they can implement a whistleblowing policy and promote a culture of fraud awareness among the team. They can also have security measures put into place that restrict access to certain things based on the level of employment in the company. Finally, they need to establish a clear plan of action if they do discover fraud taking place.
Once fraud is discovered, employers need to decide what to do with the fraudster. Simple termination leaves the person free to seek employment at another company and repeat the same behaviors. If it is available in their area, they can take part in a fraud data sharing program or they can choose to prosecute the individual.
The term corruption covers many different types of business fraud. What it means is a person in power in a business has deliberately mishandled funds or engaged in some kind of dishonest behavior. Corruption can include money laundering, accepting bribes, manipulating public elections, conducting business transactions with criminals, and making unreported transactions.
Corruption tampers with the resources in a business. This in turn reduces the efficiency with which the business turns those resources into profit. Additionally, corruption affects businesses by reducing the available resources. This may cause resources to be scarce, causing the business to not be run effectively or to maintain its levels of operation.
When the corruption inside a business is made public, that business’s customers will lose their faith in it. Leadership would then have to deviate valuable resources to monitor how many customers they are losing, thereby decreasing overall productivity.
3. Financial Statement Fraud
Financial statement fraud is the most costly type of fraud but is also the least common. It is the purposeful altering of the books to be in favor of the company so that it appears to be in better financial condition than it is. Typically this is done to trick the public or investors. It may also be done to manipulate stock or increase bonuses.
This type of fraud requires opportunity. It can be avoided by delegating different parts of the accounting process to different employees instead of just one. By spreading out the tasks, it is less likely that someone would be able to alter the books by themselves.
There are several ways in which a company can detect financial statement fraud. General ledger verification should be performed routinely. Transactions should be reviewed to look for unusual amounts, fluctuations, or patterns in the financial records. Accounting estimates should be reviewed for biases that could result in material misstatement due to fraud.
4. Payroll Fraud
Payroll fraud is committed through the payroll system of a company. There are several types of this fraud, including ghost employee schemes, advance fraud, timesheet fraud, and paycheck theft.
Ghost employee schemes involve the creation of a fake employee. This is usually done by the employee who works in payroll. Once they create a fake employee, the pay is directed to the fraudster.
Advance fraud and paycheck theft are very straightforward. In advance fraud, an employee simply asks for a payroll advance and never pays it back. In paycheck theft, one employee steals another employee’s paycheck and cashes it.
Timesheet fraud can occur in several different ways. An employee can falsify his or her timesheet to fraudulently increase hours worked. One employee can clock in or out for another employee when they are not present. The payroll employee can manually increase hours on another employee’s timesheet.
5. Invoice Fraud
Invoice fraud occurs when a company receives a fake invoice from a supplier. The invoice comes from a fraudster, who is often an employee in the sales or accounting departments.
The fake invoice could be for products or services that were never bought. The fraudster will create a fake supplier company or even use a legitimate company with altered information, such as a different bank account.
The best way to avoid this type of fraud is to cross-check each invoice against actual goods and services received. Background checks should also be conducted on new suppliers.
6. Identity Theft
In identity theft, a business can either be the victim or the perpetrator. This makes it a complex form of fraud.
It is when one individual steals the personal information from another individual for the specific purpose of using that information to steal from him or her. This can include taking the person’s social security number to open a new line of credit, committing crimes under someone else’s identity, or using someone else’s credit card number to make purchases.
Businesses can also commit identity theft. This is done by stealing the bank account and other personal information from their clients.
Businesses can be the victims of their employees or other businesses. Employees with sensitive information may use that information to steal from the company. Another company might choose to steal information from a business through transactions conducted between the two businesses.
7. Tax Fraud
Tax fraud, or tax evasion, is the type of fraud where a business falsifies its earnings and expenses that are reported to the IRS to avoid paying all of its taxes. In other words, the business willfully cheats on a tax return to avoid paying the whole tax requirement. Examples include claiming personal expenses as business expenses, not reporting income, claiming false deductions, and using a false Social Security Number.
Avoiding tax fraud is simple. Businesses need to accurately report earnings and expenses on their tax returns. They should never over or underreport anything to avoid paying more taxes.
8. Insurance Fraud
Most companies offer workers’ compensation benefits to their employees. Both the employee and the employer can use this insurance to commit fraud.
Some employees will try to profit off the insurance by filing false claims. They falsify injuries or illnesses to claim benefits not meant for them. This hurts the business by resulting in higher premiums. Smaller business owners face more out-of-pocket expenses.
Businesses can commit insurance fraud in several ways as well. They can misrepresent payroll or incorrectly classify their employees to receive lower insurance premiums. They can deduct premium dollars from employees’ wages. Businesses can also knowingly fail to have required workers’ compensation coverage.
Businesses can avoid insurance fraud by following the rules associated with workers’ compensation. They can also be strict with the filing of workers’ compensation claims, checking all submitted documents for authenticity.
9. Money Fraud
Money fraud is the use of counterfeit bills to make a purchase. If businesses do not check regularly, the bills will go undetected until it is too late.
This type of fraud can be avoided if cash-handling employees are trained on how to verify whether bills are counterfeit or not. A business can also invest in a counterfeit money detector if large amounts of cash are handled routinely.
10. Return Fraud
Most retail businesses have a policy for refunds, returns, and exchanges of defective merchandise. Some customers take advantage of these businesses by lying about their purchases, returning stolen merchandise, using stolen receipts, or using items and returning them before the return period is up.
Businesses can defend themselves against this type of fraud by requiring receipts for all returns and exchanges. They can offer store credit instead of cash for refunds.
11. Multiple Payment Fraud
Multiple payment fraud can occur when your accounting becomes complex. How this fraud occurs is very simple, multiple payments are issued when only one is required. This act is committed by the business’s bookkeeper or person in charge of finances. The second payment goes directly into this person’s account.
Businesses can effectively prevent this type of fraud by keeping track of their accounting records. Periodic audits of payments made will allow them to identify when multiple payments are being created.
12. Affinity Fraud
Affinity fraud is where a fraudster targets members of a distinct group based on characteristics like religion, age, or race. He or she is either an actual affiliate of the group or pretends to be. This person will most likely promote a pyramid scheme in which new members’ investments will pay initial members to make it look like the scheme makes money.
Affinity fraud can be avoided by thoroughly investigating the investment plan. Companies will need to check out every aspect of the plan regardless of how trustworthy the person is who is presenting the opportunity. Investments should never be made solely based on the recommendation of a group someone belongs to.
Investors should also not fall for investments that promise guaranteed returns or amazing profits. They should also be leery of investments with no risks.
They should also avoid investments that are not in writing or if they are told by the representative that there is no time to put it in writing. They should also be suspicious of any opportunity they are told to keep confidential.
Fraudsters are using the internet more and more, using spam. Investors should avoid unsolicited emails regarding investments to protect themselves.
13. Vendor Fraud
Vendor fraud can be committed in multiple ways. Employees can commit this type of fraud on their own or in concert with a vendor. Alternatively, a vendor can commit fraud on their own. There are several different types of vendor fraud.
Billing schemes involve the creation of false payments. These are generated by employees who direct the payments to themselves using the company’s payment system for vendors. They either create a fake vendor or manipulate an existing vendor’s account.
In bribery schemes, employees accept or ask for payments from vendors in exchange for advantages.
Check tampering schemes involve the forging, creating, or altering of checks. An employee takes checks that are intended for paying a vendor. He or she then either alters the name of who the check is for or forges the payee’s signature to deposit the check into his or her account.
In an overbilling scheme, a vendor will pad his or her invoices to either charge the company for products above what is delivered or to charge a higher price than originally agreed on. This can be conducted in concert with an employee who receives a bribe or by the vendor alone to swindle the company.
Price fixing occurs when multiple competing vendors work together to set minimum prices. This gives the appearance that all the vendors’ prices are competitive while the purchasing company pays an increased price regardless of which vendor is selected. This is usually a vendor-specific fraud; however, employees of the company may sometimes provide the vendors with information on pricing and budgets, which facilitates the fraud.
There are many different ways in which a company can protect itself from vendor fraud. These include:
- Conducting employee background checks on new hires
- Separating the duties of check signer from check preparer
- Conducting targeted verifications of vendor files
- Verifying vendors’ business names, phone numbers, addresses, bank accounts, tax identification numbers, and vendor contact persons
- Comparing vendor addresses to employee addresses
- Rotating duties of acquisition employees
- Implementing a review process on payments to vendors
- Reviewing master files to ensure the volume of billing is consistent and within reasonable levels
14. Data Theft
Next up on our roundup of the different types of business fraud is data theft. Data theft, a type of employee fraud, can be one of the most devastating types of fraud for a company if it relies on its intellectual property for its products or services. Marketing and sales efforts can be compromised. The company can also be put into a serious situation with authorities when personally identifiable information is stolen.
Data theft can include trade secret theft, theft of customer or contact lists, and theft of personally identifiable information. Trade secret theft is when proprietary information is stolen by an employee to sell to competitors. Theft of customer or contact lists occurs when a departing employee copies the lists of company contacts either to sell or to use. Theft of personally identifiable information (PID) occurs when an employee steals or shares client lists, credit card numbers, or any other valuable PID to sell to other parties.
Data theft can be prevented by restricting access to the company’s proprietary information to strictly only those who need it to complete their jobs. IT controls can be set up to alert management to large data downloads and transfers that occur at odd times. Companies can purchase software that alerts management to suspicious activity on the network, such as an employee trying to access unauthorized, sensitive information.
Additionally, confidential information should be disposed of properly. Documents should be shredded and electronic devices should be wiped clean before reassigning or disposing of them. Employees should be under a clean-desk policy in which they are prohibited from leaving sensitive information on their desks when they are not present.
15. Property Theft
Property theft is a type of employee fraud in which the employee steals assets from the company. This can be anything from computers to merchandise to raw materials. Anything that can be taken with ease will be a likely target as well as things that can be easily resold.
Property theft can be mitigated through several methods. The company can perform routine inventory counts. There can be physical security implemented such as badge readers, cameras, visitor management systems, and locked doors. Additionally, there can be a zero-tolerance policy implemented in regards to theft.
16. Commission Fraud
There are three typical types of commission fraud. These include the invention of sales, overstatement of sales, and inflation of commission rates.
The invention of sales can happen in two ways. First, a retail employee can enter a fake sale at the register to generate a commission. Second, an employee can create a fraudulent sales contract for a business service. Sometimes, an employee will create this fraudulent contract with the expectation that the sale will go through.
Overstatement of sales is the inflation of sales. An employee tampers with internal sales reports and/or invoices to inflate the sales of the company. It can also be completed by inflating sales captured by the company’s point-of-sale system.
In the inflation of commission rates, an employee will change a company’s commission records to raise their rate of pay. Employees who do not have this level of access may team up with someone who does to alter the compensation rates.
There can even be more advanced schemes that involve the collusion of employees with customers and other third parties.
Commission fraud can easily be tracked. These schemes create a trail of data and documents that the company can use to detect misbehavior. For example, the company should regularly compare commission expenses to company sales. The volume of commission payments should match up to sales revenue.
Companies should also pay attention to the total commissions paid to each employee. Particular focus should be placed on the outliers who make significantly higher commissions than everyone else. Sales activity should be analyzed alongside associated commission rates to ensure consistency across the board.
Sometimes these commission schemes require the collusion of multiple employees and customers. This usually leaves an email trail. Companies can be consistent with their policies and procedures to monitor employee email communications for evidence of fraud.
17. Credit Card Fraud or Expense Reporting Fraud
This is the most common type of fraud in small businesses. An employee will pay for something that is for his or her benefit, not the company’s, with a company credit card or write it off as a company expense. Examples of this include restaurant meals that were not business-related but were charged for business advancement and business travel that never truly occurred.
Business owners can even commit this type of fraud. They use the business credit cards for personal purchases in the hopes that the fraudulent activities will lower their taxes.
When business owners commit credit card and expense reporting fraud, they are lowering the value of their business. Mixing personal with business expenses opens up their liability. They are at an increased risk of an audit. They set an example of a culture of fraud for their employees.
Credit card and expense fraud are prevented through accounting counterbalance. Spending limits are set, purchasing controls are put in place, and routine audits are conducted.
18. Unemployment Fraud
Unemployment fraud schemes have reached new heights. In this type of scheme, a person will claim they were laid off or terminated from your company when, in fact, they never worked there.
All unemployment claims are sent to employers in writing by the state. They should be reviewed to verify the information. Any discrepancies should be reported back to the state immediately. This will remove any company liability.
19. Phone/Phishing Scams
Last on our list of types of business fraud are phone and phishing scams. These are used to get information or purchases from a company. A less than above-board company can call another company pretending to get information on the status of supplies on hand. Once they are speaking to a manager, they use deceptive language to get “verbal approval” to ship supplies. The unsuspecting company then receives a large order of unexpected supplies and is forced to pay for it.
A person conducting a phishing scam can call a company and pretend to be a legitimate company or that company’s corporate office. They use this to their advantage to steal important, protected information.
The way to avoid these types of scams is to educate the staff. They need to be trained to ensure they know how to handle these types of calls so that they are not scammed.