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Payroll fraud is like a slowly leaking water pipe. At first, the damage can be difficult to spot or might not seem like much. But over time, the amount of money thieves can steal from a business through international payroll schemes can be sizable. In one example, a woman was able to steal nearly $300,000 from her employer during her employment. Although the paper trail revealed losses of $300,000, prosecutors estimated that the woman might have taken more than three-quarters of a million dollars from her employer, starting from the time she was first employed in 2010 and lasting until she was terminated in 2013.
Payroll fraud can happen to any size company but is a risk particularly for small businesses. In their 2018 Report to the Nations, the Association of Certified Fraud Examiners (ACFE) found that companies with fewer than 100 employees were more than twice as likely to experience payroll fraud compared to larger businesses. Payroll fraud is also international. There have been reports of it occurring at companies around the world. Understanding the risk of payroll fraud and how it happens can help your global business take steps to prevent it.
How Serious Is Payroll Fraud?
The amounts people can steal from their employers through payroll fraud schemes are usually substantial. In one particularly notable case, the president of a payroll processing company, which handled payroll and payments for other businesses, stole $26 million. Another example of payroll fraud cost New York City $600 million.
The ACFE reports that about 7% of all fraud cases are payroll fraud and the average company loses around $63,000. The typical payroll fraud scheme is long in duration — the median length of a scheme is about 30 months.
Since payroll fraud tends to go on for a while before it’s detected, companies affected by it can have a challenging time getting reimbursed for the funds lost. In the case of the woman found guilty of stealing around $300,000, the amount she must pay back to her former employer is nearly one-third of the amount she is suspected of actually taking during the scheme.
Payroll fraud also affects innocent bystanders. When the president of a payroll processing company stole millions of dollars from its clients, the people who were immediately affected were the employees of the processing company’s clients. Thousands of employees woke up one morning to learn that their paychecks were being withdrawn from their accounts. In some cases, the withdrawals led to overdrafts and the fees associated with overdrafts. In addition to people losing their paychecks, the fraud also caused employees of the payroll company to lose their jobs and a source of income.
Don’t underestimate the effects of payroll fraud on your company and the people you work with. One bad apple can have a serious effect on your company’s reputation and ability to make its payments.
How Payroll Fraud Happens
There are multiple causes of international payroll fraud. The fraud can be a result of actions taken by employees of a company or by the company itself. According to the ACFE study, when payroll fraud is committed by an employee, it’s usually by someone who works in accounting or administrative support. Although payroll fraud can be committed by two or more people working together, a single individual is usually responsible.
Some of the types of international payroll schemes include:
- Ghost employees: Ghost employees receive a paycheck from a company but don’t actually work there. In many cases, the employees don’t exist and never worked for the business. It can be easy to identify ghost employees in certain instances. Some fraudsters aren’t very creative when it comes to naming their fictitious staff members. They might use a variation on their own names, a placeholder like “John Doe,” or even something like “X.”
- Timesheet fraud: Timesheet fraud is a very common form of payroll fraud. An employee might adjust the amount of time they report working upward to get more money from their employer. Often, the time amounts are small enough not to detect notice right away. For example, an employee might add an extra 15 minutes to their reported hours each day. As a result, they might get in more than 40 hours a week and receive overtime payments from the employer, even if they didn’t actually work that many hours.
- Buddy punch-ins: Employers that use time clocks and punch cards can experience payroll fraud in the form of buddy punch-ins. This type of fraud can seem innocent. For example, an employee who’s running late might ask a friendly co-worker to punch their time card for them so that it looks as if they got to work on time. But it’s still a form of fraud, as employees are claiming to be on the clock when they aren’t actually at work.
- Misclassification of workers: Some types of payroll fraud are committed by the employer, rather than employees. One example is the misclassification of employees or workers to avoid paying payroll taxes or benefits. Employers will occasionally treat employees as independent contractors, even if they don’t meet the requirements of the definition. Another example of misclassification of workers occurs when an employer pays “under the table” and doesn’t issue any tax documents at all.
- Payroll advances that don’t get paid back: Employees might ask for advances on their pay from time to time, with the assumption being that they will pay back the advance. When the advance doesn’t get repaid, it’s fraud. In some cases, the advance might not be recorded properly by the payroll staff. They might list it as an expense, rather than an asset. Alternatively, the payroll team might fail to follow up with the employee to make sure the advance gets repaid.
- Fraudulent pay rates: Another example of payroll fraud occurs when pay rates are incorrectly reported. A person in the payroll department might adjust an employee’s hourly wage upward, for example, giving someone $21 per hour rather than the $20 they are meant to earn. To avoid detection, some employees will adjust the pay rate for a limited period, such as just a couple of paychecks.
- Unauthorized bonuses: Payroll fraud can occur when someone issues a bonus check to an employee or themselves without approval from the appropriate individual or department.
- Falsified leave or paid time off: If an employee claims paid time off when they aren’t eligible for it or takes paid leave when they aren’t supposed to, it’s a form of payroll fraud.
- Falsified withholding: In some cases, payroll fraud occurs when amounts that should be deducted from a person’s paycheck aren’t, such as taxes, retirement contributions and insurance benefits. The company still pays the expenses, though, meaning it can lose a significant amount of money over time.
- Falsified expenses: Employees with expense accounts can commit payroll fraud by claiming expenses that aren’t work-related. For example, an employee might take their family out to dinner and expense it. They may also create a fake receipt for a purchase that never happened.
How to Identify and Correct Payroll Fraud
Some types of payroll fraud can be easier to spot than others. For example, it can be tricky to know how to identify ghost employees if your business has branches around the world. You have no way of knowing who exactly is working at your office in Tokyo if you’re based in the US, for instance. One way to detect ghost employees is to work with a third party that has people in the country for you. Your third party can be a ghosthunter, making sure that everyone who receives a paycheck from your business actually works for the company. The third party can also act as a professional employer organization, managing all aspects of payroll for your international employees, taking one more thing off of your company’s to-do list.
Along with working with a professional employer organization, you can put measures in place to make sure everyone getting paid by your company actually works there and actually exists. Contacting references and performing background checks on potential new hires is one way to make sure they are real. Requiring direct deposit for all employees is another way to reduce the risk of paying ghosts.
You can identify other types of payroll fraud, such as falsified wages, timesheets, and expenses by auditing and reviewing payroll before making payments. The person who reviews and approves payroll should not be the same person who processes it. The person who reviews payroll should be responsible for ensuring that:
- Hours worked match the expected number of hours an employee should work: If an employee works more than 40 hours or works more than the number of hours they were hired for, the person reviewing payroll should follow up with the individual’s supervisor to make sure everything is above board. Another option is to require approval before any employee can submit a timesheet with more than 40 hours worked in one week.
- Hourly wage is accurate: The person reviewing payroll should compare employees’ expected hourly wage to the wage they are actually receiving. If there’s a discrepancy, further investigation should take place.
- Appropriate amounts are withheld: Taxes and other withholdings should be deducted from employees’ paychecks. If they are not, the person reviewing payroll needs to find out why.
- Expenses are appropriate: The person responsible for auditing or reviewing payroll should also look at any expenses claimed by employees and verify that they are appropriate or legitimate. The review can include looking over receipts to make sure the expenses claimed match the receipts. The expenses should also be work-related.
How to Prevent Payroll Fraud
Global payroll fraud doesn’t have to cost your business hundreds of thousands of dollars. Knowing how to prevent payroll fraud can stop it in its tracks or before it ever begins. Here are steps you can take to prevent payroll fraud from affecting your business.
- Thoroughly screen everyone before you hire them: Ideally, the people you hire will be honest and trustworthy. Screening new hires by checking their criminal background, verifying references and confirming education and previous employment will help you avoid hiring dishonest people. You can outsource the screening process when hiring employees internationally.
- Use electric timesheets and require approval: It’s easy for employees to adjust paper timesheets, but more difficult for them to tweak electric timesheets. Using electric timesheets and requiring supervisor approval of the time submitted can help to prevent falsified reports of hours worked.
- Use biometrics to eliminate buddy punch-ins: Requiring co-workers to clock themselves in, if you use a physical time clock, will prevent buddy punch-ins. One way to do that is to use fingerprints or other biometric data to verify an employee’s identity before they clock in.
- Limit who can access payroll data: The fewer people who have access to your company’s payroll and who can make adjustments or changes to it, the better. Limiting access to payroll reduces the risk that someone will adjust hours worked or rate of pay.
- Require a second set of eyes on payroll reports: All payroll reports should be reviewed and approved before payments are issued. There should also be a process in place to pause payments and issue corrections if any inaccuracies are noted.
- Know what to look for when reviewing payroll: Make sure your company isn’t paying people with very similar names and identical addresses. Also, be cautious of payments made to people who live at the same address or payments made to the same bank account for different employees.
- Have a system in place to identify and remove terminated employees: One way to prevent payments to ghost employees, particularly people who no longer work for your company, is to flag records or files after an employee leaves the company. A flagged file should not continue to receive payments.
- Eliminate check payments: Payroll fraud is easier to commit when paper checks are involved. With direct deposit, each payment gets sent to a bank account. You can verify that the account information is correct and that it belongs to the appropriate employee. If necessary, you can reverse payments sent if you suspect fraud is at play.
- Establish a zero-tolerance policy: You can deter fraud by establishing a zero-tolerance policy. Letting employees know the rules and the possible consequences of committing payroll fraud can prevent people from doing it.
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