According to the U.S. Small Business Administration, there are 28 million small businesses in America that provide 55% of all jobs. Since 1982, the number of small businesses has increased by 49 percent. Imagine now, you’ve worked hard and spent countless hours each week locked away from friends and family to create your own small business. It’s grown to a handful of employees and you contract out or hire a manager for your payroll services which, in turn, allows you to focus more on growing the business, instead of the administration side. A year or two down the road, you realize money isn’t staying in the business like it once was. You decide to check in on your payroll processes and realize your company has sixteen employees, but you send out paychecks to twenty-two employees. You decide to investigate, only to find out you’re paying ghost employees. And to top it off, your payroll manager is skimming off the top and bulking up their own salary without telling you. If this happens, you’re not the first business owner that has had funds embezzled from them via a payroll fraud scheme.
The estimated cost to employers related to payroll fraud is nearly $3 trillion dollars according to Ceridian, a human capital management company. The median amount lost per fraud event is $72,000, an amount that could cripple most small businesses. 8.5% of workplace fraud is related to payroll processes and the average time it takes to discover a payroll fraud is 24 months. There are also other types of payroll fraud other than ghost employees:
- Falsified hours and salary occurs when employees say they work more hours than they actually do to increase their take home salary. Sometimes managers can give preferential treatment to employees they favor or employees who give them cash in return.
- Commission schemes occur when individuals fake the number of sales made so they can increase their overall salary. If employees are responsible for turning in their own sale sheets, they can easily fabricate the numbers to give them a higher return of commission.
- False workers’ compensation claims happen when employees fake injuries to collect disability payments. In some cases, the employees will claim disability from one job while working another.
- Ghost employees refer to someone that is on the payroll, yet not an actual employee. Ghost employees can take on several forms:
- Disgruntled Payroll Manager: If the individual who handles your payroll system doesn’t believe they are getting their fair share, it is relatively easy for them to fabricate payroll records and collect the funds themselves.
- Multi-Employee Fraud: In complex payroll systems, one employee will be able to add new employees, but another must sign off on their checks. These two employees will get together and collude to falsify time sheets.
- Family/Friend Compensations: An employee creates a payroll account for a friend or family so they can receive a paycheck and share the funds.
Small Businesses have a couple of different routes in protecting themselves from payroll fraud. The first is hiring professional auditors to come in and look at the business books and make sure all the financial aspects of the company are being done in a legal manner. Professional auditors work with their client to uncover any fraudulent employees and can be valuable assets for any business. However, many of these auditors can be expensive, in both the financial investment and the time commitment. When these auditors come in, they can occupy work space, pulling employees from their current projects to discuss previous ones, and even lower employee morale, if the employees find out management brought the auditors in because they do not trust them.
That being said, not all small businesses can afford to have yearly audits done, so here are some key steps the business owners themselves can do to prevent payroll fraud.
- Separate payroll duties for preparation, disbursement, and distribution. The individual that creates the employee database and puts in their salaries, should be different from the person that prints up and signs the check. You can also decrease the likelihood by implementing direct deposit. To change it up, once or twice a year hand deliver your employees’ checks if possible, to make sure no one is trying to skim money from you.
- Evaluate HR policies and make sure staff is up to date on adding/removing employees. By being diligent and removing previous employees’ information from the dataset, you make it much more difficult for former employees’ information to be used for ghost employment.
- Make it harder to falsify time sheets by implementing automated time tracking for employees to clock in and out. This can be as sophisticated as swipe cards with GPS tracking software placed in them, or as low-key as a security camera at the timesheet box that takes snapshots of the time when employees check-in and out during the work day.
- Lastly, the owner themselves, or a trusted advisor, can run internal audits on the payroll system. These are key points to be on the lookout for:
o Deceased person’s or previous employee’s social security numbers.
o Paycheck without any state or federal tax deductions.
o Employee ID numbers that are much higher than those of legitimate employees.
o Multiple direct deposits going to same bank account.
o Multiple checks being delivered to the same address.
Payroll fraud can be debilitating to a small business and run even the most successful ones into the ground. But, by taking a few steps and implementing some standard security and business procedures, businesses can drastically reduce their likelihood of being taken advantage of and losing funds to a payroll scheme.