Fraud and embezzlement don’t just happen at large companies. In fact, theft may be more common in small businesses because many lack internal controls that are typically in place at larger organizations. But the good news is that effective internal controls don’t have to be complicated or expensive.
The best way for small businesses to battle fraud is to create a segregation of duties framework. With segregation of duties, you have one person responsible for each of three different areas: Authorization of cash expenditures, physical custody of cash and reconciliation of cash expenditures.
Here’s what you need to know:
• Segregate cash disbursements. Only a designated, trusted manager should sign checks, authorize electronic payments, or perform fund transfers. This control has a dual purpose: management sees how the company is spending its money, and the cash disbursement function is kept separate from bookkeeping and accounting. The opportunity to embezzle is much higher if the same person signs checks, authorizes electronic transactions, and enters disbursement transactions in the accounting records. You can strengthen this function by having solid purchase order policies and having separate functions approving bills. Then the person who signs checks or authorizes transactions can ensure the payment is approved prior to disbursing the cash.
• Segregate control of cash. Have an owner or manager occasionally spot check incoming electronic transactions and tie them to the company bank account. If you receive physical checks, have an owner or manager open the mail before passing it on to accounting. That’s one way to detect unusual transactions before they’re recorded in the company books. Alternatively, you might ask someone separate from accounting to open the mail and prepare a deposit slip, or prepare a daily reconciliation of all transactions.
• Segregate reconciliations. For companies with limited resources, a periodic review of bank reconciliations by someone outside of accounting can provide a mitigating control. Non-accounting personnel performing these reviews will need to be trained. They’ll need to understand the risks involved and the types of unusual or unsupported transactions needing further investigation. Cross training staff also helps to ensure continuity of operations when accounting employees take vacations or leave the company. Or better yet, bring in an outside accounting expert to conduct periodic audits of key functions.
Segregation of duties can help your company keep track of cash and help prevent theft by an employee before it happens. One of my primary objectives is to help you achieve your financial goals through a holistic approach that is tax-efficient in my wealth management and tax resolution practice. For more information, visit www.fredtfoxiii.com.
Fred T. Fox III is a Lawton native who owns his own business.