The Top 5 NPO Fraud Schemes Unleashed by Employees

March 21, 2019

GTA_National_19Mar19_Website_NPO-5-Fraud-Schemes_LandingPage_679x220.jpg

Nonprofit leaders rely on their talent to execute the organization’s goals. Whether full- or part-time employees, freelancers or volunteers, the people at a nonprofit organization (NPO) make its mission a success. However, sometimes that trust is misplaced with seemingly valued contributors who end up defrauding the organization for financial gain.

The figures are clear. According to the Association of Certified Fraud Examiners’ 2018 Report to the Nations, it is estimated that organizations — NPOs or not — lose 5% of their annual revenues to fraud. Small organizations (those with under 100 employees) lose almost twice as much per scheme as larger organizations. Also in to the report: internal control weaknesses are responsible for nearly half of all frauds.

Cyber fraud currently receives a lot of attention, with data breaches from outside the organization continuing to spike. However, NPOs need to keep their focus on internal fraud as a key part of their risk reduction strategy.

Fending off fraud from within

To help you protect your NPO, we have compiled the top five employee fraud schemes making their mark on NPOs, according to the Association of Certified Fraud Examiners. We also offer detailed tips to prevent each type of fraud.

While NPOs should explore prevention tips common to all organizations, they also need to go granular with their prevention strategy — combating NPO fraud with NPO solutions.

1. Billing schemes

Billing schemes involve issuing a payment from the organization for fictitious goods or services, inflated invoices, or personal purchases.

How to prevent:

  • Adopt zero-based budgeting — this involves starting a budget from scratch each year based on needs, rather than based on previous years’ spending. This may unearth unnecessary or fraudulent spending in the previous year.
  • Bring in a purchase order system — this matches each payment to an approved purchase order and invoice before it is paid. The main benefit: it creates several levels of authorization.
  • Ensure proper segregation of duties — for example, an employee involved in purchasing goods or services should not be the same person who approves and pays the supplier. The more people involved in a financial transaction, the less likely that fraud will go undetected.
  • Implement proper reviews and approvals:
    • Regular scrutiny of budget against actual spending, minimally on a quarterly basis. This will identify fraudulent spending before it is too late.
    • Independent due diligence and approval of all new vendors. This will prevent an employee from setting up and paying a fictitious vendor.
    • Dual approvals for disbursements, with review and approval of supporting documentation.
    • Independent review of corporate credit card spending, bank statements and cancelled cheques.
    • Periodic review of market rate for services used. Overpayment for services often gives employees the opportunity to launch kickback schemes with vendors. The market rate review protects against overpayment — and therefore against kickback schemes.
  • Enforce annual declaration of conflicts of interest by employees that provide visibility into their relationships with suppliers — this will limit personal benefits received by employees or related parties. 
  • Use a bidding system for larger expenditures — this will ensure that the contract is awarded to the best bidder instead of a chosen favourite. 

2. Cheque and electronic payment tampering schemes

This scheme involves stealing employer funds by intercepting, forging, or altering a cheque or electronic payment drawn on one of the organization’s bank accounts.

How to prevent:

  • Ensure unused cheques are accounted for and kept in a secure location.
  • Keep cheques secure after they are signed — cheques are sometimes altered by employees after they are signed by changing the payee or amount paid.
  • Ensure proper segregation of duties between the employee who handles cheques and the employee who enters transactions in the accounting system.
  • Review cheques after they have cleared the bank, focusing on the payees, amounts, and signatures — this will help identify any cheques that have been altered.
  • Reconcile funds expected versus funds received by the organization.
  • For electronic payment tampering:
    • Limit the people who have online access to the bank account.  
    • Make sure the bank notifies you of any strange payments.

3. Expense reimbursement schemes

This scheme involves an employee claiming non-business expenses for reimbursement on their expense report.

How to prevent:

  • Set up proper expense claim forms that require detailed information: date of expenditure, nature of expenditure, purpose of expenditure, and name of other participants.
  • Allow reimbursement only with original receipts, not with copies.
  • Ensure that a line supervisor approves all expense reports by checking expenditures against the employee’s calendar and work requirements.
  • Audit expense claims periodically.

4. Cash-skimming schemes

This scheme involves an employee stealing cash meant for the organization before it is recorded on the organization’s books and records.  

How to prevent:

  • Reconcile expected cash with received cash.
  • Estimate expected results of every fundraising activity.
  • Segregate duties of fundraising from handling of funds from issuing of receipts.
  • Issue receipts for all donations received, and compare to amounts deposited to the organization
  • Have more than one person handle cash at all times.
  • Conduct random audits by calling donors to determine amount donated — to ensure you do not alarm donors, position these calls as routine follow-ups.

5. False financial reporting

In whatever manner employees or volunteers defraud an organization, they often attempt to conceal the scheme. They may do this with a complementary scheme: creating false financial results. The onus to combat this scheme often falls on an NPO’s leader.

How to prevent:

  • Ensure financial information prepared by employees is independently reviewed.
  • Do not rely solely on the financial information provided by management. Consider adopting some additional procedures to gain comfort:
    • Examine supporting information on which financial reports are based.
    • Always know what your cash balances are in all bank accounts.
    • Keep track of amounts owed to vendors on a regular basis. If vendors are not being paid on a timely basis, that could indicate fraud in your NPO. This is because fraudsters often pay themselves before paying amounts due to vendors.   
    • Know what your fixed costs are each month, such as utilities, salaries, insurance, and rent. Additional costs outside the fixed costs need to be monitored and pre-approved.
    • Review all credit card statements and bank statements each month to ensure that the expenditures are in line with the organization’s goals.

Looking to protect your NPO from internal fraud? Learn how BDO can help.

Contributor: 

Rosanne Walters 
Partner, Financial Advisory Services