Fraud and embezzlement: How to safeguard your firm

You've heard the saying, "Sometimes bad things happen to good people?"

That expression could explain why a seemingly good, long-term employee suddenly is accused of fraud or embezzlement. The employee may have abruptly incurred huge medical bills for which he/she needs cash. Or, perhaps the employee has been caught in a spiral of gambling and turned to illegal means to cover debts.

A lot of business owners and organizational leaders think fraud and embezzlement will never happen to them. But these crimes are on the rise, up 15 percent between 1997 and 2001, according to reports by Michigan State Police. Forgery and counterfeiting charges rose 23 percent in that same period. (2002 figures are unavailable.) In our area, there has been a rash of embezzlement cases. Open the local newspapers, and it seems almost weekly there's a story about someone stealing from an organization.

Prevention is key

How can organizations, whether nonprofit or for-profit, prevent this kind of theft in the first place?

First and foremost, segregate duties. The following tasks, for example, should be handled by separate people: making deposits, writing checks and reconciling accounts. In smaller offices, this may be hard to do. If that's the case, consider either a bookkeeper or an accountant and, separately, a treasurer (or someone in a position of authority with financial acumen) or a contracted accounting firm. Doing so is not meant to imply that the treasurer automatically should be suspicious of the bookkeeper and vice versa; rather, this two-party system offers "checks and balances" to protect both of the individuals and the organization.

Employing separate individuals to perform bookkeeping and bank-statement reviews may strain a small organization's personnel resources, but I can't emphasize enough the importance of keeping the functions separate. And even if people's positions are voluntary as opposed to paid (such as serving as a board member for a nonprofit organization), individuals still have a fiduciary responsibility to the organizations that they serve.

A second way to help to prevent embezzlement is to limit check-writing authority to just a few individuals within the organization.

Also, as a general rule, the bookkeeper (or person who handles invoices) shouldn't have check-writing authority. Checks should be pre-numbered and used in sequence. Ideally, checks ought to be processed through the accounts payable system. It's wise to prohibit the signing of blank checks.

A third way to safeguard funds is to keep unused checks in a secure place, such as a locked file cabinet or, better yet, a safe to which only a few individuals know the combination. Voided checks should be defaced and retained in a "void check file" that also is in a secure place. Articles 3 and 4 of the Uniform Commercial Code state that if a company does not adequately secure its check stock, and if that lack of security contributes to the forgery, the bank in many cases may not be held liable for the loss.

A fourth way to deter would-be embezzlers is to have bank statements sent to the business owner's home. Just the knowledge that statements are likely going to be reviewed by the business owner can prevent some people from altering financial documents or scheming to steal money from the company.

These suggestions are truly just the tip of the iceberg for what an organization can do internally to prevent fraud and embezzlement.

There also are procedures for handling cash receipts, purchasing and accounts payable, payroll and other aspects of operating an organization. If possible, work with an accounting firm to develop a comprehensive set of financial-management procedures. Many accounting firms, such as Plante & Moran LLP, have experts devoted to helping organizations detect and prevent fraud and embezzlement.

Prevention at the bank level

Your bank can set in place additional, optional safeguards to protect funds. These safeguards, some of them complementary or at a minimal cost, can include:

– Positive pay services (or match paychecks presented for payment are compared to issue information that you provide to the bank, thus minimizing the possibility of check fraud).

– Account reconciliation services (have the bank reconcile your paid checks and your deposits for you).

– Online banking services (images of paid checks, daily activity and statements can be viewed online).

– Lockbox services (have your clients send their payments directly to a bank post office box and allow the bank to process your deposits).

– Courier services (use licensed-and-bonded courier services offered by your bank to pick up and drop off deposits and other banking-related information).

Fraud, embezzlement and other kinds of financial mismanagement may be on the rise, but organizations can think smarter and be tougher to stop criminal activity in its tracks.

Christopher D. Cuffaro is a Certified Treasury Professional (CTP) and an Accredited ACH Professional (AAP). He's assistant vice president and cash management officer at Irwin Union Bank