How to Counter Your Vulnerabilities

Every organization is at risk of falling victim to costly acts of fraud. It makes no difference if the organization operates for profit or as a nonprofit.  Nonprofits, though, have some common characteristics that can make them particularly susceptible to such schemes. Fortunately, you can help combat the risks to your nonprofit by implementing some simple controls.

Weak Spots

Nonprofits tend to operate in a culture of trust and rapport, and that’s one reason that they’re attractive targets for fraud perpetrators. Organizations are often founded by a handful of passionate and idealistic volunteers and develop over time into a team with tighter relationships than typically seen in many for-profit businesses. As a result, management of these organizations may not feel the need for antifraud controls, or find it hard to ask tough questions in the face of signs of fraud.

Similarly, many nonprofits place significant control in the hands of a limited number of people, for example, the founder, CEO and executive director. This is a risk even in an organization with some internal controls because these powerful individuals can simply bypass or override the controls, with their lower level staff too intimidated to intervene.

Nonprofits that have a lot of cash on hand, either in the office or at remote events, also can run into fraud problems. Cash has a way of disappearing into people’s pockets, especially at events held without proper accounting procedures to create a paper trail, with items consisting of  numbered tickets, receipts and similar records.

These aren’t the only factors that make nonprofits so vulnerable to fraud. High turnover (in staff, volunteers and board members), and a heavy reliance on volunteers and limited resources also contribute.

Suggested Controls

Internal controls in the form of strong policies, procedures and governance are a must for every nonprofit, regardless of its size. Proper controls can help deter and detect fraud.

Perhaps the most critical control is the segregation of duties.  A single employee should never be responsible for collecting, recording, reconciling and depositing cash receipts. Segregating duties can be a challenge for smaller nonprofits. However, at the very least, the duties of handling and reconciling funds should involve one individual authorizing payments and another receiving and distributing funds. A third party should receive and review bank statements. If a nonprofit lacks the manpower, it should consider using board members or outside advisors.

Nonprofits should also conduct background checks on their board members, employees, volunteers and anyone else who might handle cash. The checks should encompass credit history, references and criminal history and be updated periodically. Keeping a would be perp out of the organization is well worth the upfront cost of such checks.

Governance also plays a role in deterring and detecting fraud. An organization’s board of directors should perform proper oversight by naming qualified individuals to independent finance and audit committees. It should also set an antifraud tone by developing and then enforcing policies on matters such as conflicts of interest and the treatment of whistleblowers.

In addition, the board or management should make an anonymous fraud hotline available for employees, volunteers, vendors and clients. The Association of Certified Fraud Examiners has consistently found that tips are the most common and low cost detection method for occupational fraud. It’s best if tips are reported to the board or one of its committees, rather than management.

Finally, an organization should formally educate its employees about fraud. The nonprofit should provide training on: anti-fraud policies, red flags that could signal fraud and how the hotline works. Board members and volunteers with financial responsibilities should receive the training as well.

An Ounce of Prevention

You can’t prevent all fraud.  No organization can, but, you can reduce the risk of substantial fraud losses by recognizing your vulnerabilities and taking appropriate steps to mitigate them, and to investigate thoroughly when fraud is suspected. Choosing to ignore fraud and instead just hope for the best may result in suffering both financial and reputational damage.

Sidebar: Understanding the Fraud Triangle

According to the Association of Certified Fraud Examiners, U.S. organizations lose about 5% of annual revenue to occupational fraud. Experts say occupational fraud is more likely to take place when three conditions are present — motive, rationalization and opportunity.

Motive. The motive leg is sometimes referred to as “pressure.” The perpetrator has some motive for the fraud, and it often comes in the form of pressure, such as pressure to meet organizational goals. Motive can also be personal, including the need to pay off debt.

Rationalization. Perpetrators are capable of justifying their dishonesty. Fraudsters might rationalize that they’ll pay the organization back eventually or that they deserve stolen assets because they’re underpaid.

Opportunity. Opportunity is the leg of the fraud triangle that employers can most control. Perpetrators take advantage of opportunities that they think will allow them to get away with their actions. Weak internal controls, poor management oversight and ineffective audits can all present opportunities for fraud.

© 2017

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