When most people think of fraud, things like email viruses, phone scams, and stolen credit card information come to mind. While most businesses have implemented safeguards to prevent and detect these external threats, many business owners overlook the potential for occupational fraud — that is, fraud committed internally.
According to a 2018 global study by the Association of Certified Fraud Examiners (ACFE), the construction industry is the ninth most affected industry when it comes to occupational fraud. Luckily, there are ways to spot potential threats and mitigate the risk of this underestimated crime.
Understanding Occupational Fraud
Occupational fraud involves the use of one’s occupation for the deliberate misuse of an organization’s resources or assets with the goal of personal gain. This includes misconduct by employees, management, and even owners. Regardless of the perpetrator, the activity is almost always secretive, policies are usually violated, and the activity is committed for financial gain.
According to the ACFE, fraud is more likely to happen at the employee level than at the executive level. However, the dollar value associated with fraud significantly increases with the perpetrator’s seniority. Criminal motives are typically the result of stressors, such as illness, excessive debt, or a spouse losing their job. This financial or emotional pressure mixed with the opportunity to commit the crime often leads to the rationalization that the company can “afford” the loss. This “fraud triangle” model is used to illustrate the possible factors that drive someone to justify and commit the crime.
Common Fraud Schemes
According to the ACFE, the most common fraud schemes within construction include corruption (42%), followed by billing (37%), and financial statement fraud and noncash schemes (tied at 23%). Corruption is a general term covering things like kickbacks, straw vendors, fictitious suppliers, bribery, bid-rigging, and conflicts of interest. Billing schemes include inflated costs on invoices, invoices for non-existent projects, or invoices for labor performed on personal projects. Accounts payable manipulation, check and payment tampering, fake or manipulated PDF documents, and cybersecurity are also frequent contenders.
There are certain behavioral trends that typically accompany occupational fraud. Unexplainable purchases of luxury items such as cars and extravagant vacations could point to someone living beyond their means. Employees that foster unusually close relationships with vendors or customers can also be cause for concern, especially if the employee safeguards information or becomes secretive about the account. Employees exhibiting a “wheeler-dealer” attitude that allows them to work outside of routine procedures can often abuse power and trust. Employees that do not take a vacation or relinquish duties can also indicate suspicious activity. Among other things, being aware of these red flags and changes in behavior can help identify potential misconduct and stop perpetrators early on.
Creating a robust code of conduct and proactively enforcing internal controls can help strengthen security and mitigate major risks of loss. This doesn’t have to mean hiring more personnel, which can often be cost prohibitive. There are plenty of effective checks and balances that contractors can implement to minimize the risk and impact of fraud:
- Strong code of conduct and tone at the top
- Frequently monitoring data for sudden changes or disparities in financials and bank statements
- Enforcing job rotation and mandatory vacation to ensure no single employee has consistent power over a particular function
- Frequent review of expense reimbursement and budget to actual reports to discourage cost manipulation
- Conducting internal fraud training and creating a confidential hotline for employees to report suspicious behavior
- Surprise audits to deter employees from manipulating systems or controls
- External audits of financial reporting and internal controls to monitor and ensure segregation of duties (especially the purchasing and procurement process)
Even when fraud is caught, fear of bad publicity and costly legal fees often keep the crime out of court. Many business owners prefer private settlements and internal discipline to minimize cost and time away from the business. However, since many repeat offenders go unprosecuted, it’s critical to take legal action in order to alert future employers of an employee’s criminal record.
With these tips for understanding, identifying, and preventing occupational fraud, owners and stakeholders can rest assured they are being proactive in mitigating the risk for their business.