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blogpost

Fraud within
not-for-profit
organizations

05.26.16

Why it can happen to you and how to protect yourself

Not-for-profit Fraud on the Rise

“Local Accounts Payable Manager Steals Thousands.” “National Charity Loses Millions.” “University Funds Disappear.”

We’ve all seen the headlines. Stories about not-for-profit fraud have been popping up in the news, and the statistics confirm what you might have suspected: fraud in the not-for-profit sector is on the rise.

The Ethics Resource Center published a study showing that rates of fraud and misconduct at not-for-profits have reached or surpassed their for-profit counterparts, where they have historically been below private sector rates.1 This increasing fraud means a potential loss of almost $40 billion a year – or 5% of not-for-profit revenues in the United States.2

What does fraud look like at a not-for-profit? And how can you prevent fraud in your organization?

How and Why Fraud Occurs

A 2016 report from the Association of Certified Fraud Examiners showed that approximately 95% of the perpetrators had never been convicted of a fraud-related offense before.

 Fraud-Schemes.png

The possibility of fraud occurring is difficult for many organizations to accept, especially not-for-profits, which often have fewer employees than their commercial counterparts, and are founded on trust and altruism.

But all fraud is committed by employees – or volunteers – who both identify an opportunity and have motivation to steal. The motivation is typically a personal financial pressure, such as a spouse who lost a job or a spending addiction. Employees must also rationalize their actions to commit fraud – “I’m just going to borrow money now, and I’ll pay it back later.” Or, “I need money badly right now, the organization is doing fine and won’t miss the funds.”

Once a scheme begins, it can fall into one of a few categories.

Common Types of Fraud

More than 83% of fraud schemes fall under asset misappropriation.4 There are two groups of assets that can be misappropriated: cash and inventory/other assets. Money can be taken from a not-for-profit before it is recorded on the books (skimming) or after it is recorded (larceny).

Skimming occurs when someone intercepts cash before it reaches its appropriate destination. For instance, an employee could intercept checks from donors and deposit them in an alternative bank account. Without separation of duties or other appropriate controls, the not-for-profit might never know that the donation existed. With a simple thank you note from the fraudster, the donor would assume that their check was properly received.  

Larceny occurs when someone steals money on the books. Petty cash is a vulnerable target, as are weakly controlled debit and credit cards, which could be charged for personal expenses. An employee could also write checks to a “vendor” which doesn’t actually exist, pocketing the funds for personal use. Reimbursement expense schemes are also common and should be watched for closely. These types of schemes often include a number of people working both on the inside, and on the outside of the organization.

Inventory or physical assets could be misused in many ways. For instance, if a not-for-profit receives gifts of tangible goods – such as sporting equipment, furniture or computers – an employee could divert some of the assets before recording them and sell the goods, keeping the revenue.

The other 17% of fraud falls under the categories of corruption and financial statement fraud. Although less common, they can occur at nonprofits just as they take place at larger, for-profit corporations.

Learn More and Prevent Fraud

A fraud risk assessment – whether performed internally or with the help of an external auditor – is a crucial first step in identifying organizational weaknesses and opportunities for fraud. When identifying risks, nonprofits should examine existing internal controls and add additional measures where necessary.

The ACFE study also found that 39% of fraud schemes were discovered by a tip, and the majority of tips came from employees through a tip hotline.5 Having a clear whistleblower policy in place can help employees feel comfortable reporting suspicious activities.

In general, a clear anti-fraud policy is crucial for any not-for-profit. Sharing policies with employees and board members, and having them all sign a code of conduct, allows the entire organization to take an active role in preventing fraud.

These are just a few of the tactics you can use when assessing fraud risk. Our free white paper recommends specific strategies to combat potential misappropriations and provides guidance on action if and when fraud has taken place.

Take a deeper look at the kinds of fraud risks and associated pitfalls affecting not-for-profits and learn how all organizations—even small ones – can put internal controls in place to reduce the risk of fraud.

Make sure your organization isn’t the next morning headline. Download Impact and Prevention: An Examination of Fraud in the Not-for-Profit Sector.

1 Bradley, John M., "Empowering Employees to Prevent Fraud in Nonprofit Organizations" (2015). Faculty Scholarship. Paper 1446, p 721
2 An Investigation of Fraud in Nonprofit Organizations: Occurrences and Deterrents. The Hauser Center for Nonprofit Organizations, Harvard University, p 5.
3 Report to the Nations on Occupational Fraud and Abuse: 2016 Global Fraud Study, The Association of Certified Fraud Examiners
4 Report to the Nations on Occupational Fraud and Abuse: 2016 Global Fraud Study, The Association of Certified Fraud Examiners, p 4

5 Ibid, p. 21

Financial fraud by the numbers

In a June 2016 Gallup poll, 72 percent of respondents said they had “very little” or only “some” confidence in banks.1 This lack of confidence lives alongside recent headlines—including major fraud schemes revealed at Deutsche Bank this summer—and the fact that the financial services industry is the most affected sector in the world when it comes to occupational fraud.

Financial institutions account for 16.8% of all occupational fraud worldwide, with a median loss of $192,000 per case.2 Longer running, complex schemes can cost organizations much more—overall, 23% of fraud cases in 2015 caused losses of $1 million or more.3

What does a fraudster looks like, and how do they commit their crimes? How do you prevent fraud from happening at your organization? And how can you strengthen an already robust anti-fraud program?

Profile of a fraudster

One of the most difficult tasks any organization faces is identifying and preventing potential cases of fraud. This is especially challenging because the majority of employees who commit fraud are first-time offenders with no record of criminal activity, or even termination at a previous employer.

The 2016 report from the Association of Certified Fraud Examiners (ACFE) reveals a few commonalities between fraudsters:4

  • 3% of fraudsters had no criminal background
  • Men committed 69% of frauds and women committed 31%
  • More than half of fraudsters were between the ages of 31 and 45
  • 3% of fraudsters were an employee, 31% worked as a manager and 20% operated at the executive/owner level

Employees who committed fraud displayed certain behaviors during their schemes. The ACFE reported these top red flags:5

  • Living beyond means – 45.8%
  • Financial difficulties – 30.0%
  • Unusually close association with vendor/customer – 20.1%
  • Control issues, unwillingness to share duties – 15.3%

These figures give us a general sense of who commits fraud and why. But in all cases, the most pressing question remains: how do you prevent the fraud from happening?

Preventing fraud: A two-pronged approach

As a proactive plan for preventing fraud, we recommend focusing time and energy on two distinct facets of your operations: leadership tone and internal controls.

Leadership tone

The Board of Directors and senior management are in a powerful position to prevent fraud. By fostering a culture of zero-tolerance for fraud at the top of an organization, you can diminish opportunity for employees to consider, and attempt, fraud.

It is crucial to start at the top. Not only does this send a message to the rest of the company, but in the United States, frauds committed at the executive level had a median loss of $500,000 per case, compared to a median loss of $54,000 when a lower level employee perpetrated the fraud.6

A specific action plan for the Board of Directors is outlined in our free white paper on financial institution fraud.

Internal controls

Every financial institution uses internal controls in its daily operations. Yet over half of all frauds could be prevented if internal controls were implemented or more strongly enforced.7

The importance of internal controls cannot be overstated. Every organization should closely examine its internal controls and determine where they can be strengthened – even financial institutions with strong anti-fraud measures in place. 

The experts at BerryDunn have created a checklist of the top 10 internal controls for financial institutions, available in our white paper on preventing fraud. This is a list that we encourage every financial leader to read. By strengthening your foundation, your company will be in a powerful place to prevent fraud.

Read more to prevent fraud

Employees are your greatest strength and number one resource. Taking a proactive, positive approach to fraud-prevention maintains the value employees bring to a financial institution, while focusing on realistic measures to discourage fraud.

In our free whitepaper on preventing financial institution fraud, we take a deeper look at how to successfully implement a strong anti-fraud plan.

Commit to strengthening fraud prevention and you will instill confidence in your Board, employees, customers and the general public. It’s a good investment for any financial institution.

1http://www.gallup.com/poll/1597/confidence-institutions.aspx 2-7Report to the Nations on Occupational Fraud and Abuse: 2016 Global Fraud Study, The Association of Certified Fraud Examiners, p. 34-35

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Preventing fraud at financial institutions: An anti-fraud plan is the best investment you can make

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