How Can I Protect My Business From Fraud?

Prevent Business Fraud
Prevent Business Fraud. Cultura RM/Ian Spanier/Getty Images

Fraud is one of the most common ways that businesses lose money. But you can take steps to avoid being the victim of fraud. 

What Is fraud?

According to Black's Law Dictionary, fraud is "knowing misrepresentation of the truth or concealment of a material fact to induce another to act to his or her detriment." Notice that fraud is intentional; the person committing the fraud knows that the statement or omission is not factual.

Also, note that there are two kinds of fraud:

  • Fraud of commission, in which someone states a fact that they know is not true "That car has never been in an accident," (knowing that it has been) or
  • Fraud of omission, in which someone conceals a material (important) fact, as in knowing that a car has been in an accident and not disclosing it.  

Fraud is usually a civil crime (one person or entity against another), but in some cases, especially willful acts, it can be criminal (prosecuted by a government entity).

It should also be noted that for a charge of fraud to be brought, there must be loss. If you buy a car from that guy who says, "that car was never in an accident," and you find out it was in an accident, you must prove that somehow you were harmed, maybe because the car doesn't run right or that it is worthless because of damage that you didn't notice.

What Are Types of Fraud?

Fraud can come in many types.

Here are some examples that affect businesses:

  • Bankruptcy fraud, which might include hiding or undervaluing assets, concealing information about the company or destroying documents
  • Mail fraud, using the US Post Office to make false representations
  • Employment fraud, falsifying information on an employment application or not reporting convictions and felony charges before hire
  • Insurance fraud, claiming an injury or falsifying insurance claims documents
  • Wire fraud, using electronic communications (including Internet, TV, or radio) to make false representations
  • Identity theft, stealing business information, usually electronically, and including tax information and credit card fraud

Fraud Against Businesses

The media are full of stories about fraud against individuals, but businesses are just as likely to be the victims of fraud, and maybe even more so, because a business deals with many employees, vendors, and customers every day, any one of whom can be attempting to defraud the company.

Employee and Insider Fraud

The most common types of insider fraud are theft of assets and accounting fraud; if these are done by employees, this type of fraud is often termed embezzlement. Other ways employees and other insiders defraud a company is by skimming cash, writing fake checks to themselves, or taking goods or supplies from the company.

Customer Fraud

Customers or buyers can defraud a business in a variety of ways, including writing bad checks, using bad credit cards, shoplifting, returning items not purchased to get a refund (called return fraud, or filing a false claim for an injury or accident on your property.

Contractor or Vendor Fraud

Independent contractors or subcontractors who do work for your company can shortchange you on work, over-charge, or bill for work never done.

Preventing Fraud Losses to Your Business

While you can't prevent every instance of fraud from happening to your business, you can take precautions to minimize fraudulent activity.

To prevent employee fraud and embezzlement:

  • Do background checks on all new employees, particularly those who have financial responsibilities
  • Separate financial duties so no one person has everything
  • Let employees know you are looking
  • Don't give up your financial responsibilities to any employee (check-writing, for example)

Read more about how to deter employee embezzlement.

Preventing Other Types of Fraud

  • To prevent cash losses, train your employees in how to spot counterfeit money, bad checks, and stolen credit cards. Institute specific policies in dealing with these situations.
  • Set up inventory control policies to keep track of supplies and inventory so it doesn't walk out the door. You may not be able to count every pencil, but you should know what's in the supply cabinet or in inventory at all times.
  • Review accounts payable, invoices, and purchase orders periodically to make sure they are from real vendors and that you are getting the items you order.
  • Institute data policies and back up your sensitive company data continuously.
  • You may want to consider setting up a surveillance system to keep an eye on customers and employees.
  • Prevent identity theft by monitoring your business accounts. 

In general, the best ways to prevent and detect fraud against your company are:

  • Setting up systems to monitor activity in all critical areas, from employees to customers to vendors, and
  • Actually doing the monitoring, so you know what's going on.