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What are the Red Flags of Fraud?

Do you stay awake at night wondering why your business is running out of cash? Have you grown your sales only to see your costs rise equally? Is your bookkeeper so busy they can barely keep up?

There are many symptoms of fraud which can be easily confused with general business challenges like poor cost management. Can you tell the difference? Keep in mind neither financial statement audits nor tax accounting are not designed to detect all forms of embezzlement. Whether you suspect fraud at your small business or not, you should know the red flags of fraud so you know when to hire a forensic accountant for deeper fraud investigations.

What Are Some Fraud Red Flags?

There are dozens of ways to defraud a small business and each produces its own symptoms. The most common fraud red flags include:

  • Unreconciled cash transactions over 30 days old.
  • Unidentified vendors with repeated or one-time payments.
  • A bookkeeper or accountant who 
    • Never takes time off.
    • Does not give anyone else access to the books.
    • Insists on keeping paper receipts and records.
  • Frequent duplicate vendor payments.
  • Regular inventory shortfalls at physical counts.
  • Increasing vendor expenses as a % of sales.
  • Continuously shrinking cash despite profitable financial reporting.

To learn all of the red flags of fraud and build your fraud awareness, check out our article on types of fraud.

Identifying Opportunities for Fraud

You likely trust your admin or accountant, but trust without anti-fraud measures creates an opportunity for fraud – an essential component of the fraud triangle. Poor risk management and lack of controls critical ingredients to fraud, and here are the most common we see in small business:

Single person managing AP payments.

Many small businesses have one admin, clerk, or partner who is trusted to pay vendors. This unilateral payment authority creates an opportunity to invent “new vendors” or conspire with vendors to overpay and split the excess cash.  

Single person managing payroll.

Similar to AP, payroll is an opportunity to commit fraud and mask it as a routine business expense. Payroll fraud may include being paid extra hours, extra overtime, or even a completely fraudulent employee such as a friend or relative. If your payrolls are not reviewed by management, you have created a situation conducive to fraud.

Same person paying AP and running the books.

If your single person managing AP payments is also your bookkeeper, they have even more opportunity to cover their tracks by misclassifying fraudulent vendor payments as legitimate business expenses or burying the fraud in asset accounts. Only a skilled forensic accountant can properly detect fraud in such situations.

No review of credit card statements.

The most common fraud committed by management is small personal purchases “accidentally put on the wrong credit card.” These bad habits can snowball into hundreds of thousands of dollars. Who is reviewing your employee’s credit card statements and questioning or restaurant items? By skipping this check you are creating a culture that accepts credit card fraud.

No physical inventory counts

For the manufacturing and distribution industry, an absence of monthly physical inventory counts creates an environment where theft will go undetected.

No internal audits

Internal audits are best practice fraud prevention for accounting teams. Small business owners cannot rely exclusively on these audits for prevention, but they are an important risk management tool.

If you are concerned about the fraudulent activity in your small business you need a forensic accounting investigation. Fraud is most often committed by your accounting team so you need to hire an outsider for fraud investigations. Your accounting team will welcome outside scrutiny by forensic accountants if they have nothing to hide.

Telltale Signs of Fraudsters

There are certain employee danger signals that could indicate they are stealing money from your small business. Behavioral red flags include: 

  • Making expensive purchases that do not seem to match up with their pay grade? If someone who’s mid-level or below suddenly becomes the owner of a luxury vehicle or other high-end possessions, this may indicate criminal activity that has resulted in large sums of cash.
  • Engaging in excessive gambling? Loaded under debt? People in such positions often resort to criminal activity for quick money. When hiring new team members, a background check should be able to uncover if a prospective employee has a history of personal debt and credit problems. Such employees should only be assigned to supervised roles with established policies and procedures.
  • Never taking a vacation? Taking time off would expose a fraudster’s scheme to whomever covers during their absence, so they often avoid taking vacations.
  • Stays late at work regularly? Embezzlement by bookkeepers often occurs after-hours when there is no risk of someone looking over their shoulder. 
  • Always appears busy or overwhelmed? Accountants will pretend to be buried in work as an excuse to keep managers from asking them questions about the financials.
  • Reluctant to improve accounting processes? Good accountants continuously seek to improve the transparency and efficiency of their processes. Fraudsters make excuses that process changes would be too expensive, too difficult, or not practical.

How Do I Find Someone to Help with Fraud?

CFOshare performs forensic investigations for small businesses who suspect fraud, embezzlement, or theft. Our experienced CFO’s will dig through accounting records, document any crimes and advise you on how to negotiate or prosecute the fraudster to maximize cash recovery and minimize business disruption. Our team can also help with preventing fraud by putting strong controls and procedures in place. Book your initial consultation now to meet with a CFO and learn if your business red flags warrant a fraud investigation.

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