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November 22, 2010

The continuing challenge of workplace fraud in financial services

Is it true that most economic crimes are committed by insiders? Yes, according to a worldwide study on workplace fraud that the Association of Certified Fraud Examiners' (ACFE) conducted. ACFE's study found that organizations lose an estimated 5 percent of annual revenues, or $2.9 trillion globally, to insider fraud. (A down economy probably sees even higher losses.) Banking and financial services are the industries that most commonly feel the impact of workplace fraud (see the table).

Industry of Victim Organizations by Frequency
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The study also said that the median loss caused by workplace fraud was $160,000, and nearly one-quarter of the frauds involved losses of at least $1 million (see the chart). Typically, the frauds lasted a median of 18 months before being detected.

Distribution of Dollar Loss
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Theft of electronic data and information increases
A separate report looking at international fraud trends found that companies are experiencing an increase in theft of information and electronic data compared with the physical theft of assets. The report noted that the financial services sector had the highest level of information and electronic data theft. The biggest problem for financial services was information theft (42 percent), followed by internal financial fraud (31 percent) and regulatory breaches (25 percent). According to the report, in the last twelve months, businesses lost almost $1.7 million per billion dollars in sales worldwide, compared with $1.4 million per billion dollars.

Common elements in workplace fraud: The fraud triangle
There are many reasons an employee might commit fraud. Experts regularly cite financial pressures as the primary motivation for committing workplace fraud. According to the ACFE study, employees who live beyond their financial means accounted for 43 percent of the workplace-fraud cases; employees with other money difficulties accounted for 36 percent.

Opportunity or ability to commit a fraud can also motivate someone to commit workplace fraud. It is also the area that an employer can best control through dual and internal controls.

Rationalization is another motivating factor, perhaps the most difficult one to pin down since it may not manifest itself outwardly. Rationalization is how a dishonest employee might justify his or her fraudulent actions. For example, the thief may take money with the intent initially to repay it, or may feel deserving of the stolen funds because he or she feels unappreciated or undervalued at work.

Having any or all three of these elements present (financial pressures, opportunity, and rationalization) creates what is known as the fraud triangle. Although the presence of any of these factors can increases the risk of workplace fraud, gaining a better understanding of how each one presents itself in the workplace can help deter fraud. Strengthening detection in any organization may entail going beyond applying sophisticated anti-fraud software and establishing a work culture that educates staff as another resource for detecting possible fraudulent activity. Staff can play a vital role in combating workplace fraud when provided an anonymous reporting channel and education on procedures and expectations for communicating known concerns or potential wrongdoing.

Combating workplace fraud
While we cannot eliminate workplace fraud entirely, awareness of known "red flags" may help identify workplace fraud in development or before material losses from the fraud are experienced. An effective system of internal checks and balances generally reduces an organization’s exposure to workplace fraud.

Weaknesses in internal controls may provide insiders' opportunities to access data that they can then use to perpetrate financial fraud. As workplace fraud becomes increasingly sophisticated, the exposure of financial services to workplace fraud will continue to be an ongoing challenge. However, having a better understanding of the common elements of workplace fraud may help prevent, detect, and deter it from occurring.

By Ana Cavazos-Wright, senior payments risk analyst in the Retail Payments Risk Forum at the Atlanta Fed

November 22, 2010 in financial services , fraud , workplace fraud | Permalink


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