Member Article

As seen in Property Casualty 360:

1.  Policies & procedures
 

The methods employees utilize to steal from their employers are fairly common. Some examples include falsifying expenses, inflating expenses, double billing expenses, misusing petty cash accounts, using the company credit card for personal expenses, routing money to fictitious vendors, fabricating invoices, and putting friends and family on the payroll.

The common theme among these is the exploitation of gaps in the system by those who have access to company funds. Employees who have access to money intended for business expenses and who abuse that authority to steal, commit a type of fraud commonly known as embezzlement. Depending on how the scheme is executed, such as by mail or electronically, could also qualify the conduct as the crimes of mail or wire fraud.

The first step in guarding against embezzlement is to have proper checks and balances in place to make sure those with authority over the money do not abuse it. Initially, consider, create and apply those safeguards through written policies and procedures.

The policies should detail the types of expenses considered appropriate for business purposes and the kinds of expenses for which the company would repay an employee. Additionally, policies should prescribe the procedures for employees to request approval for business expenses. Multiple options can achieve the appropriate level of protection. Identifying the potential abuses at the first-level review is essential because it catches problems early and prevents them from growing into massive thefts.

The employment of effective checks and balances through meaningful policies and procedures puts all employees on notice of their obligations and provides a sound foundation for any business to protect itself from fraud.

2.  Insurance
 

While proper policies and procedures serve as the essential ounce of protection, if an employee circumvents them, the business’s insurance serves as the pound of cure. All business owners should discuss effective insurance policies with their brokers or representatives.

One of the most important policies a business can utilize to protect itself against an employee who steals is a fidelity policy. This type of insurance policy is also referred to as a crime, crime shield or fidelity bond policy. In general, fidelity policies will cover a business for losses caused by an employee’s dishonest or fraudulent acts. These provide businesses with the best chance of regaining the stolen money from an employee.

3.  Ask questions
 

Asking questions when circumstances suggest something might be amiss is the best method to discover potential problems and prevent larger ones. Employees at every level should be encouraged to speak up when things do not seem right. Fostering this type of business environment not only encourages employees to help detect fraud before it grows too large, but also serves as a deterrent to potential fraud.

4.  Investigate
 

Every business should take the questions and concerns of its employees seriously. Failure to do so discourages employees from helping expose fraud and promotes apathy. When an employee sounds an alarm regarding improper expenditures, management should initiate a definitive and meaningful response.

A business could utilize company personnel or outside experts, such as forensic accountants, attorneys or both to investigate fraudulent conduct. Not every concern warrants a full-fledged investigation, but no matter the response, the company should inform the employee who raised the concerns of management’s response.

While the concerned employee may not be entitled to know the results of the investigation, management should convey that it took the concern seriously and addressed the substance of the matter.

5.  Report to insurance
 

Reporting the dishonest or fraudulent conduct to the insurance company might seem intuitive if the company already had the foresight to secure fidelity insurance, but its importance is often overlooked when a company becomes focused on addressing the immediate effects of the fraud.

The timing of making such a report depends on the specific requirements of the fidelity policy, but the sooner the better. A company should never lose coverage for having unnecessarily delayed providing notice of a possible claim.

The first notice of a potential claim should be made quickly after an employee raises a question or concern that warrants a response from management. The formal claim to the insurer that includes the loss amount usually comes later, after the company has completed its investigation.

Notably, with respect to the claim ultimately submitted to the insurer, it is in the company’s best interests to conduct a thorough investigation. The investigation should be performed by a reputable, experienced outside expert. A third-party investigation can increase the likelihood the insurance company will accept the results of the investigation and provide payment under the terms of the policy.

6.  Report to authorities
 

There are generally two types of business owners who are victims of employee fraud:  Those who want to press criminal charges, and those who want their money back but may not want anyone to go to prison.  Ultimately, whether to report the fraud to the authorities is the client’s decision, but there are benefits to doing so.

First, some fidelity policies require the company to report the embezzlement to the authorities in order to trigger potential coverage under the policy. Second, even if not required by the fidelity policy, reporting the fraud to the authorities conveys to the insurance company and other employees that the company take the loss seriously and will not tolerate any fraud.

Third, some fidelity policies require proof the employee had the intent to cause a loss to the company and a criminal conviction inherently provides such proof. Fourth, the authorities will secure an order that requires the employee to make restitution, or can seize assets from the employee that could be sold to repay the money.

Fifth, if the insurer pays the company for the loss amount under the fidelity policy, then the insurance company would be entitled to any restitution the authorities are able to secure.

7.  Build up your defenses
 

The best step a company can take after suffering a loss at the hands of an employee is to use the experience to strengthen its safeguards. The employee’s fraud would have exposed holes in the company’s systems, policies and oversight procedures. The company should learn from its mistakes and implement meaningful remedial measures to fix those gaps.

These tips offer practical guidance to all businesses. The knowledge is important for smaller businesses because employee fraud could be devastating. It is equally important for large businesses because there are many more opportunities to engage in fraud and more employees who can cripple the business.  Following these general steps will allow any business both to protect against and to recover from insider fraud.

Robert G. Marasco is a San Diego-based litigation partner at Dinsmore & Shohl LLP. He focuses his practice on government investigations and white collar crime. Marasco previously served as an assistant United States attorney at the U.S. Department of Justice, United States Attorney’s Offices in the District of New Jersey and the Southern District of California, where he was lead prosecutor on hundreds of investigations of both individual and corporate targets.