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8 Small Business Fraud Prevention Strategies

Posted on Monday, August 28, 2023

Fraudulent activity can have lasting financial consequences for business owners. Take steps now to prevent small business fraud with these tips.

Two Small Business Owners Looking Over Ways To Prevent Business Fraud

You work every day to build your small business and forge customer relationships. But when was the last time you thought about fraud protection? According to the Association of Certified Fraud Examiners (ACFE), small businesses with fewer than 100 employees lose approximately $155,000 per business because of fraud each year. The consequences of fraud can extend far beyond the balance sheet, affecting employee morale, customer loyalty and business reputation.

In this article, we’ll discuss why fraud protection isn't a mundane task to be checked off a list. It’s a smart business management task that you should follow regularly to ensure business continuity as a small business owner.

1. Be Aware of Common Sources of Fraud

Fraud can be present both inside and outside your small business. Here are a few types of fraud that you should understand:

Internal Fraud

Internal fraud can involve employees or others who abuse their positions or knowledge to commit fraudulent activities. Embezzlement is the most common type of internal fraud for small businesses. It involves diverting company funds for personal use, often by creating fake transactions or altering financial records. Employees can make up fake invoices and expense reimbursements, manipulate vendor records or overinflate expenses to siphon money from your business.

Payroll fraud is another top type of internal fraud. Perpetrators may create fake employees, add them to the payroll and collect their salaries. Or manipulate time records to receive inflated pay for overtime hours not worked, alter pay rates or concoct other schemes to divert funds.

Inventory theft or manipulating inventory records is another type of internal fraud to watch for. This includes stealing inventory or products for personal use or resale. Some may try to give unauthorized discounts to friends, family or themselves, resulting in reduced revenue for your business.

To prevent embezzlement and other types of internal fraud, you should implement strong internal controls, foster an ethical culture and regularly review financial records. It's important to strike a balance between trust and oversight, ensuring that your employees are aware of anti-fraud policies and the consequences of engaging in fraudulent activities.

Third-Party Fraud

Third-party fraud involves external parties, such as your customers, vendors, partners and even people you don’t know, attempting to defraud your small business. Small businesses can be vulnerable to various types of third-party fraud due to limited resources and potentially less robust fraud detection mechanisms. Common third-party fraud examples include:

  • Vendor Billing Fraud or Bribes: Vendors overstate the price of goods or services on invoices; charging more than agreed upon. Or bill for products or services that were never delivered. This can also include offering kickbacks or bribes to employees in exchange for preferential treatment or business opportunities.
  • Supplier Scams: Suppliers send invoices for nonexistent services or goods to trick businesses into making payments. Or pose as legitimate suppliers and request changes to payment details, diverting payments to the scammer’s account.
  • Invoice Manipulation: Legitimate invoices are altered to direct payments to other accounts.
  • Marketing Counterfeit Goods: You may unknowingly purchase counterfeit products from suppliers or online marketplaces, which can affect your product quality and business reputation.

Preventing third-party fraud requires a combination of proactive measures, including due diligence like researching vendors and suppliers. It's also important to create a comprehensive fraud prevention plan that encompasses both technological measures and employee education.

Cyber Fraud

Cyber fraud is a type of third-party fraud involving the use of technology to commit fraudulent acts that result in financial gain for scammers.

Phishing attacks are often considered to be the most common type of cyber fraud to impact small businesses. They involve cybercriminals sending fraudulent emails, messages or links to websites that appear legitimate in order to trick recipients into revealing such sensitive information as passwords, credit card numbers or account credentials. These attacks can also lead victims to unknowingly download malware or provide access to their systems.

Other top examples of cyber fraud include:

  • Ransomware Attacks: This type of malware encrypts a business's data and demands a ransom payment in exchange for the decryption key. If not dealt with promptly, ransomware attacks can lead to data loss and operational downtime.
  • Business Email Compromise (BEC): In BEC scams, cybercriminals impersonate a trusted executive or employee to manipulate others into making unauthorized money transfers, disclosing sensitive information or performing other actions that benefit the attacker.
  • Data Breach: This involves unauthorized access to sensitive customer or employee data, which can be used for identity theft, financial fraud or other malicious purposes. Cybercriminals may sell the stolen data on the dark web.
  • Payment Card Fraud: Payment card fraud occurs when cybercriminals steal credit card or payment information from customers during online transactions. This can happen through compromised websites or point-of-sale systems.

Small businesses should be proactive in addressing cyber risks and staying informed about evolving threats in the digital landscape. Implementing a cybersecurity strategy is crucial to protect both the business's operations and its customers' sensitive information.

2. Educate Your Employees on Business Fraud Protection

Your employees are often the first line of defense against fraud. They interact with customers, vendors and financial processes daily, making them more likely to encounter suspicious activities or attempts at fraud. Educating your employees about cybersecurity best practices, including how to identify phishing emails and avoid clicking on suspicious links, is essential. Those who are educated are better equipped to recognize potential attacks and are less likely to fall for deceptive tactics.

In addition, employees who understand the consequences of insider threats are less likely to engage in fraudulent activities. They can become active participants in protecting your small business interests as well as reputation.

3. Safeguard Your Company’s IT Infrastructure

Keeping your small business and its IT infrastructure safe is essential to protect your sensitive data from fraud. Here are six proactive steps you can take to defend your company:

  1. Conduct a Pragmatic Risk Assessment: Identify anything that is at risk of a cyberattack and determine if your business would survive if information were stolen or locked by a hacker for an extended period.
  2. Use Strong Passwords and Multi-Factor Authentication (MFA): Use complex passwords that include a mix of upper- and lower-case letters, numbers and special characters. MFA, otherwise known as two-step verification, can be added for an extra layer of security.
  3. Update Software Regularly: Keep operating systems, software and applications up to date with the latest security patches to mitigate vulnerabilities. Store critical data and systems in an off-site location to mitigate the impact of data breaches or ransomware attacks.
  4. Use Firewalls and Network Security: Install firewalls to monitor and control incoming and outgoing network traffic. Use reputable antivirus and anti-malware software to detect and prevent malicious software from infecting systems. Encrypt sensitive data to protect it from unauthorized access.
  5. Implement Cybersecurity Policies: Develop and enforce cybersecurity policies that outline acceptable use, password requirements and incident response procedures. Use secure websites for online transactions and avoid clicking on links or opening attachments from unknown sources. Ensure that third-party vendors have strong cybersecurity practices in place if they have access to your systems or data.
  6. Form an Incident Response Plan: Create a plan that outlines steps to take in case of a cybersecurity incident, including notifying stakeholders and mitigating damage.

4. Keep Up to Date on Record Keeping

Being on top of your business operations can go a long way toward shielding yourself from fraudulent activities. Keeping accurate, detailed records is a good start. This provides a baseline to compare your ongoing financial activities. It will help you track what money is coming in and what is going out, and what vendors or other contractors should be billing you.

Quicken® and QuickBooks® are two great treasury management services from Northwest Bank that can help you efficiently organize your business finances to save time and money.

5. Use an Encrypted Email

An encrypted email is a proactive measure that your business can take to support your cybersecurity defenses, prevent fraud and protect sensitive information from unauthorized access. This email ensures that the content of your message remains confidential and prevents unauthorized recipients, including hackers and cybercriminals, from intercepting and reading the email.

6. Follow Bank Wire Best Practices

Another essential component in protecting your business finances is to follow bank wire transfer policies. This helps minimize the risks associated with wire fraud, protecting your financial assets and maintaining the trust of your customers, partners and stakeholders. Regularly monitoring and auditing wire transfer activities can help identify unauthorized transactions or suspicious requests.

7. Use Bank Services to Help Prevent Fraud

Take advantage of bank resources that can provide your business with additional layers of security, expertise and tools to help identify and prevent fraudulent activities. Here are a few popular banking services:

Mobile Banking

A mobile banking app provides real-time access to account balances, transactions and activities. It has various security features to prevent unauthorized access, such as automatic logouts, multi-factor authentication and device-specific authentication. If you or another employee who has access to your small business account notices suspicious activity through the mobile app, they can contact the bank immediately to notify them.

Remote Deposit Capture

Remote Deposit Capture is another service that can help reduce fraud. You can scan and deposit checks to your accounts from your computer or mobile device. This eliminates travel time and any liability associated with others taking checks to the bank.

Credit Card Processing

Credit card processing solutions can play a significant role in reducing small business fraud by providing secure and reliable methods for accepting payments. These solutions have various time and cost-saving features and added security that can help mitigate the risks associated with fraudulent transactions.

Check Fraud Protection

Check fraud protection measures can provide valuable safeguards for your small business against various types of check-related fraud. Northwest Bank has a solution called Positive Pay that allows you to provide your bank with a list of authorized checks. Any check presented for payment that doesn't match the list is flagged for your review before processing.

ACH Manager

Automated clearing house (ACH) services can be used to pay your employees via direct deposit and to make and receive payments to and from your vendors and suppliers. It is faster and more secure, and it gives you more control over when cash leaves your account.

8. Visit With Your Commercial Banker

Consult with your business banker about additional small business cybersecurity tips and how Northwest Bank can help keep your assets protected. They can provide expert guidance tailored to your specific business and industry. Not only that, but they also offer a Business Security Center to help protect your financial information.

Contact our team of business bankers today to learn more about how Northwest Bank can help your small business reduce the chances of fraud.

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