Employee Fraud, Internal Control and Segregation of Duties

Unfortunately, employee theft is rising at the rate of 15% annually. The US Department of Commerce reports that $50 billion annually is lost to employee theft. While the average theft is small and relatively short-lived, it isn’t uncommon for theft to last multiple years and cost millions of dollars. Employee fraud typically occurs when a high level of trust is combined with a lack of internal control. 

Segregation of Duties 

In simplest terms, segregation of duties means no single employee should have too much authority and responsibility over finance and accounting functions. No employee should be able to both perpetrate and conceal errors or fraud. This is often difficult to accomplish in a small business.

The primary duties that should be segregated are:

• Authorization or approval of a transaction
• Custody of assets
• Recording transactions in the accounting system
• Reconciliation

For example, the individual responsible for approving a cash disbursement should not also be responsible for writing the check, signing the check, mailing the check, and reconciling the checking account at month’s end. The individual responsible for receiving accounts receivable payments should not also have the responsibility to approve or record write-offs or AR adjustments. 

Consider Controls to Mitigate Risk 

Depending on the size of your organization, appropriate segregation of duties might not always be practical or possible, but you can almost always implement additional controls to reduce risk.

Here are a few controls every business owner should consider: 

• Review of bank activity periodically throughout the month and at month end, including images of the cleared checks
• Thorough monthly review of the financial statements
• Periodic review of the payroll register  
• Implement a policy for adding new vendors and only paying approved vendors
• Run background and credit checks on new employees with financial responsibilities

This list is certainly not all-inclusive and can vary depending on the type of business. It’s good to ask your accounting staff questions regularly so everyone knows you are paying attention. 

Check Employee Dishonesty Coverage 

Employee dishonesty insurance offers an employer protection against losses caused by employee misconduct. 

Make sure you have adequate coverage. Keep in mind that you’ll likely have additional expenses beyond the actual loss. Legal fees as well as professional fees to determine the amount of the loss can add up. 

It’s very common for standard coverage to be $50,000 or less, which is probably inadequate. Even a small business can easily sustain a loss of $250,000 or more over a period of time. 

Don’t hesitate to contact your Dent Moses advisor for additional information.