Payroll is already a significant expense for most businesses. Add fraud on top of that outlay, and the impact can be serious. According to the Association of Certified Fraud Examiners, the cost of payroll fraud from nefarious activity accounts for 8.5% of occupational fraud globally. The average case of payroll fraud may carry a price tag of over $70,000. That’s money that comes straight out of a company’s profits. How does this kind of thing happen, and what can you do to stop it?
Falsification of Records Is Common
How is it possible to cheat the payroll system? Wages, salary, commissions, and reimbursements happen on the basis of documentation. Therefore, payroll fraud always involves some type of falsification of records. For example, an hourly worker might ask a buddy to punch them in or out on the time clock at work. Employees who work on commission might create fictitious sales records in order to get paid more than they have earned. And of course, claiming non-business expenses like trips and meals for reimbursement is also a popular way to commit fraud. In many cases, the total amount lost to time theft and fraudulent expense claims may be small. But these unnecessary payroll expenses do add up over time.
There’s another type of payroll fraud that’s even more troubling. This type of fraud is where the costs can reach truly frightening heights. If the fraud is taking place at a higher level in the organization, a manager or someone else with significant system access might create an entirely fictitious employee. They might then have those wages diverted to the manager’s own pocket or collected by a partner in crime. These “ghost employees” can remain on the payroll for years with no one the wiser. This can especially happen in large, multi-location organizations. There, people don’t know everyone by name and face. This kind of fraud can cost an employer hundreds of thousands of dollars.
When Should You Suspect Payroll Fraud?
It’s not always a red flag if someone buys a brand new car they can’t afford. Spending outside one’s budget is pretty common in the U.S. But an employee living way outside their means might deserve a closer look. You should look closely if they claim far more expenses or time worked compared to other workers in similar roles. From a record-keeping standpoint, discovering that more than one employee has the same bank account number is a potential sign of fraud. It might be that two family members who don’t share the same last name have a joint account. Or, the second employee might not exist at all. It’s worth investigating.
The single biggest risk factor for fraud is not having systems and controls in place to prevent fraud. An audit is the first step to identify whether there is a problem. Conducting quarterly reviews of projected vs. actual payroll expenses is also smart. Discrepancies that show up in an audit could be errors, or something more deliberate. Either way, investigation of abnormalities are a must since issues cost money in unnecessary payouts. Also, inaccurate payroll records could cause your company to be out of compliance with the Department of Labor requirements.
Ways to Reduce the Cost of Payroll Fraud or Prevent Payroll Fraud Altogether
#1: Hire People You Can Trust to Reduce the Cost of Payroll Fraud
Since payroll fraud is always an inside job, hiring trustworthy employees is the first step in prevention. It’s not always possible to tell who is being honest, but a thorough background check including criminal check, credit check, alias search, reference interviews, and verification of education/employment is a good start. People who are deeply in debt, those with a history of writing hot checks, and those who are willing to lie on their application about their credentials may pose a higher risk of defrauding their employer as well.
Additional tip: Using biometric time clocks is one way to use technology to limit common “buddy time punching” issues. Having supervisors check that employees are actually on the job when they should be is another.
#2: Don’t (Completely) Trust the People You Hire
Or perhaps it’s better to say, “trust but verify.” Only people who absolutely need access to payroll should have those permissions. And all activity on the payroll system should be logged, from what records were viewed to what changes were made, when, and by whom. There should be at least two people working in payroll—one to prepare the records and one to review them. Review should happen at every payroll cycle, to spot discrepancies such as an employee getting paid for a shift they were not scheduled to work or a new employee showing up in the system without all the other new hire paperwork being completed. It’s important to start payroll early enough each cycle that there’s always time to do a review.
The payroll administrator should also not be the person reconciling the bank records or signing the checks. Having more than one party involved increases accountability, and reduces the temptation to take advantage of the system. Of course, these checks and balances only work if the fraud prevention processes are enforced. Engaging a third party payroll processing partner helps automatically with the segregation of duties, makes it easier to audit records, and helps limit the risk of fraud due to the best practices that are built in. But it is always the employer’s responsibility to keep a watchful eye on payroll expenses.
#3 Get the Bank on Your Side to Reduce the Cost of Payroll Fraud
There are many ways a business bank account can be protected against payroll fraud. Paying employees with direct deposit or pay cards eliminates the risks of check-related fraud. It also limits the risk of payments getting lost or delayed, and cuts down on the time employees have to spend running to the bank. Most employees are happy with the direct payment method, and modern payroll vendors make it easy to set up and administer this type of program.
Not ready to give up on checks yet? Positive pay is another fraud detection service that is offered (often for free) by most banks. The bank matches the check and account numbers, dollar amount, and payee with a pre-approved list from your organization. Everything has to match up, or the payment is marked as an exception and sent to you for review and approval.
At Efficient Hire, we are proud to work with a number of trusted payroll processing partners to reduce the cost of payroll fraud. Our onboarding system also integrates directly with payroll to further reduce the risk of errors, omissions, and fraudulent activity. Let us know if we can help you connect with a payroll partner or implement applicant tracking or onboarding to systemize more of your HR processes and reduce the cost of payroll fraud.