Stop Embezzlement Before It Drains Your Small Business

Is an embezzler secretly sapping the financial vitality of your small business?

You may not recognize the problem until you accidentally discover a discrepancy or the theft becomes so large that the embezzler can no longer cover it up. Instead of waiting for either to happen, you can proactively prevent your employees or contractors from finding a loophole to exploit in your accounting or cash-handling systems.

To identify your small business’s financial vulnerabilities, conduct an “internal control review.” This analyzes who handles which accounting responsibilities and considers how these duties may be reallocated for greater protection against embezzlement.

Here are some common ways that embezzlers steal money from businesses — and tips for stopping them before they start.

Use RFID, Sequential Receipts to Prevent Cash Theft

When it comes to employee theft, cash is one of the most attractive and vulnerable targets. If your small business is a bar, a restaurant, a nail or hair salon, a corner grocery, or a retail store, it probably sees a large amount of cash change hands on a regular basis. This creates the opportunity for employees to avoid ringing up any given sale so they can surreptitiously pocket the cash.

Keep tabs on your cash income by monitoring inventory as closely as you can, using RFIDs, labels with bar codes, or very careful itemizing. As products sell, you’ll accumulate evidence of how much money your business should have received, and shortages should be relatively easy to spot.

It’s also helpful to use sequentially numbered receipts and put up prominent signs that encourage customers to ask for a receipt. Even better, offer a reward to any customer who isn’t automatically given a receipt. Any missing receipts will provide clues to missing cash.

Monitor Checking Accounts to Prevent Kiting

Check kiting happens when someone writes a check for an amount that exceeds their account’s balance and then deposits a check from another account — one that also has insufficient funds — to “cover” it. This falsely inflates the balance of the first checking account, in order to allow checks that would otherwise bounce to clear.

By writing and cashing checks on your business’s account in a carefully timed sequence, a fraudster may withdraw a huge balance of money that doesn’t actually exist. Such embezzlement normally won’t be discovered by the banks involved for days. You’ll not only pay for overdrafts at the bank, your business’s reputation will suffer, your account will likely be frozen for a while, and your business may be held liable for some or all of the losses.

To prevent check kiting, keep a close eye on all your demand deposit accounts and set up your accounting system so that no one has sole responsibility for both writing checks and making deposits.

Verify Customer Payments to Prevent Lapping

Another common way to embezzle funds is called “lapping.” It involves pocketing funds from a transaction and using funds from a subsequent transaction to cover the shortfall when making a bank deposit. A skilled embezzler keeps this routine going for long periods of time, diverting a large amount of your company’s income into his or her pocket.

The catch for these embezzlers: They always need to be on hand (they can’t take days off) to make sure that no one else messes up their careful sequence of lapping, in which each new customer payment gets credited to the “wrong” account to cover up the prior theft(s).

Business owners can combat lapping by separating accounting duties: Let one employee handle cash and another post payments to customer accounts. Also monitor the age of your receivables; lapping makes them appear older than they truly are. And verify that the dates of customer payments match the dates of the corresponding deposits.

Implement Stricter Procedures to Prevent Phony Refunds

Fake refunds are another lucrative source of embezzled funds. The refunds may be in the form of repayments your business has made to individual customers when no goods were actually returned, or money that’s paid to your business after you have overpaid a vendor’s invoice. In either case, the embezzler pockets the refunds.

Protect against these kinds of fraud by having customers sign for their refunds and by having vendors credit overpayments against future invoices instead of returning the extra money. You should also closely monitor the employees involved with these kinds of transactions.

About Robert Moskowitz

Robert Moskowitz is an Emmy-winning author and editor with a knack for conveying complex and difficult topics in a friendly, down-to-earth style.
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1 comments
CurrierCPA
CurrierCPA

Very interesting and great info. Lots of people ask me about this at my firm and after I do tell them they still don't get it. This is a great article to refer them to. Thanks!

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  2. [...] 1. Manage your finances using multiperson control. Giving only one employee the authority to receive payments, make deposits, and reconcile customer accounts can be an open invitation to act unscrupulously with your money. Instead, separate the power to disburse funds — from purchases to payroll — and the power to accept payments and make bank deposits. Assign a third person to record transactions and reconcile your account balances. It’s also a good idea to require anyone who handles your business’s money to take a weeklong (or longer) vacation at least once a year. [...]

  3. [...] 1. Manage your finances using multiperson control. Giving only one employee the authority to receive payments, make deposits, and reconcile customer accounts can be an open invitation to act unscrupulously with your money. Instead, separate the power to disburse funds — from purchases to payroll — and the power to accept payments and make bank deposits. Assign a third person to record transactions and reconcile your account balances. It’s also a good idea to require anyone who handles your business’s money to take a weeklong (or longer) vacation at least once a year. [...]

  4. [...] are a few: The check signer and the check writer should not be the same person. Refunds to customers should be approved by someone other than the employee actually making the [...]