Payment Controls in Small Business

An Unconventional Approach to Safeguarding Cash

Billing schemes accounted for 23.9 percent of all payment-process fraud cases, and most of these cases go on for almost two years before they’re discovered. Here are two simple controls business owners can put in place to dramatically discourage fraud. The first is setting up a system for the owner to regularly review accounting statements each month at home. 

Payment Controls in Small Business: An Unconventional Approach to Safeguarding Cash

Billing schemes accounted for 23.9 percent of all payment-process fraud cases, and most of these cases go on for almost two years before they’re discovered. Here are two simple controls business owners can put in place to dramatically discourage fraud. The first is setting up a system for the owner to regularly review accounting statements each month at home. The second is putting in place a similar system whereby the owner talks regularly to vendors about accounts. The key point to both? They warn accounting staff, in advance, that statements are being reviewed by the owner.

At the beginning of a conversation about payment controls it is easy to want to jump to catch phrases like “segregation of duties” and “internal audits”. They are certainly some of the most common and highly effective controls businesses can put in place to ensure the integrity of their payment cycles. However, payment process controls are not a “one-size-fits-all” type application. Conventional controls such as segregation of duties, internal audits, and anonymous hotlines can be difficult and expensive to implement in small businesses. This is likely why statistics show small businesses incurred the highest median occupational fraud1 losses in 2008 and why the biggest contributor to such losses was thought to be a lack of sufficient internal controls.2

Considering the challenge of implementing internal controls in a small business, the owner can certainly use history as a guide to tailor where to focus limited resources. Billing schemes and check tampering schemes, both of which take advantage of the payment process, were the most commonly reported types of occupational fraud to occur in small businesses in 2008.3 Billing schemes accounted for 23.9 percent of all payment process fraud cases and check tampering schemes 14.7 percent.4 Similarly, these schemes accounted for the two highest median losses within payment processes; billing scheme losses coming in at $100,000, and check tampering scheme losses at $138,005. Losses related to these schemes likely come in at over six figures because most occupational frauds go on for two years before they are discovered.6 With these statistics in mind, this article will focus on how to implement payment process controls aimed at preventing fraudulent billing and check tampering schemes against small businesses.

Billing schemes in general are the misappropriation of company resources through manipulation during the bill payment process. These schemes can be difficult to prevent in small businesses where there are not enough people in the office to have full segregation of duties. However, a control that should be implemented regardless of the number of people in the business is to have the owner of the business either have bank statements sent to their home or subscribe to online bank statements. Doing so provides the owner with an opportunity to review payments made each month along with the related canceled checks.

“The frequency of these types of fraud schemes is due to a lack of internal controls in small companies.”

 The key aspect of this control, however, isn’t the review itself, but is making sure the accounting staff personnel understand that the bank statements are being reviewed by the owner. The best way to enforce this understanding is to follow-up with staff personnel on a couple of randomly selected payments each month; even if there is no suspicion of chicanery. This preventative control will reduce the perception that there is an opportunity for an individual to write a check to himself, to a false vendor, or to purchase a product or service with no business purpose.

The process discussed above is not exclusive to preventing billing schemes; it is also effective at preventing check tempering due to the owner reviewing canceled checks. Adding another control to mitigate payment fraud will further protect the integrity of the payment process. The owner of the business should make sure the accounting staff knows the owner of the business is touching base with vendors on a monthly basis.

Doing so, even if it is to just say hi, gives the vendor an opportunity to let the owner know about any unusual situations such as an unpaid invoice or late payment. When the accounting staff knows this process happens on a regular basis, it will act as a preventative control against billing and check tampering fraud.

The frequency of these types of fraud schemes is due to a lack of internal controls in small companies. The magnitude of losses incurred from such schemes is due to the average two-year time period before discovery. Thus, the focus should be to prevent such schemes from starting and to maximize the potential for early discovery if such a scheme is started. The procedures discussed above address both of these issues. The key to prevention is that employees know the owner is involved in the business’s finances and is checking the transactions that flow through the bank statements.

Joe Epps, CPA/ABV, CFE, CVA, has over 30 years of experience in forensic accounting. His litigation support experience includes contract disputes, anti-trust, economic damages, fraud investigations, business valuation and intellectual property litigation. Joe is currently President of Epps CPA Consulting and teaches a graduate course on Forensic Accounting at Arizona State University. For more information, go to www.eppscpa.com.

Michael Haugen is a CPA and CFE with over four years of forensic accounting experience. During his tenure with Epps CPA Consulting, Michael has been involved in a variety of cases that have given him experience in analyzing business income loss, financial motive, employee dishonesty, inventory theft, personal injury losses, and much more. He is currently a Senior Associate with Epps CPA Consulting.

[1]Defined as “The use of one’s occupation for personal enrichment through the deliberate misuse or misapplication of the employing organization’s resources or assets” by the Association of Certified Fraud Examiners.

[2] Association of Certified Fraud Examiners “2008 Report to the Nation on Occupational Fraud.”

[3] Ibid.

[4] Ibid.

[5] Ibid.

[6] Ibid.

Joe Epps, CPA/ABV, CFE, CVA Michael Haugen, CPA, CFE