How To Detect and Prevent Expense Fraud

Fraud from within the organization causes companies to lose 5% of their annual revenues, on average! This article discusses the importance of detecting and preventing expense fraud. It also discusses the various factors that may contribute to fraudulent behavior and how they may be prevented. 

Expense fraud is a serious issue for any organization. Afirm on average, loses 5% of its annual income to occupational fraud, according to research from 2022. However, having employees spend time and resources on  verifying that every expense is accurately filed and compatible with company policies can be a stressful, cumbersome process. By introducing automated, digital technologies, organizations can prevent errors, make the lives of finance teams simpler, and put an end to expense fraud. 

Before we discuss how to detect and prevent fraud, let us discuss the meaning of expense fraud and how it may occur. 

What is Expense Fraud? 

Expense fraud pertains to the abuse (or misuse) of expense reports to spend funds for unauthorized activities and/or in excess of the business's permissible threshold. It is distinct from accidental cases of duplication that may arise without the employee knowing and without any malicious content. 

Opportunities, Pressures, and Rationalization, collectively referred to as the Fraud Triangle, are often the trigger for expense fraud conduct to occur. 

Internal management failures, such as a lack of division of tasks that enables the offender to simultaneously conduct and conceal the fraud, often provide the chance to commit an act of malfeasance

Frequently, financial troubles create pressure for fraudulent behavior.  

Rationalization helps a perpetrator to persuade themselves that their actions were justified. For example, the fraudster may argue that they are underpaid in terms of compensation and overworked and hence deserve the additional funds. 

Fraudulent activities happen to be committed by employees at all levels and across all departments, but fraudulent practices committed by those responsible for governance, such as managers, executives, and the Board of Directors, often continue for the longest time — undetected —  and are the most damaging. They have access to business credit cards, travel often, and are typically expected to have far higher standards. 

Learn More: Travel and Expense Management: Definition, Significance, Benefits, Key Features & Best Practices

Types of Expense Fraud You Need to Watch For  

There are seven key types of expense fraud that a company needs to be able to detect. These are: 

1. Claims for expenses that were never made

When an employee submits fake receipts to obtain reimbursement for expenses or transactions that never occurred, this is termed as bogus expense fraud. These instances are egregious and cannot be attributed to human negligence. 

If your company's expenditure policy does not necessitate receipts for spending below a specific threshold, dishonest workers may file expense claims without receipts and allege they were misplaced. 

2. Reimbursement duplication

When the same expense is recorded over and over again, it is referred to as a duplicate reimbursement. It might or might not be a simple oversight, and it is quite difficult to differentiate between the two. That’s why duplication errors should be prevented from happening in the first place. 

Another common tactic of receiving multiple refunds is double billing. This occurs when workers acquire several receipts for a single expense, such as a credit card receipt as well as the original receipt. To be reimbursed twice, they may present the receipts as separate expenses for the same or separate travels. 

Employees may also claim duplicate reimbursements by charging the same expense to the company's credit card and then presenting receipts for the same expense as a cash payment. 

3. Expense misrepresentation

There are times when employees attempt to submit personal costs for compensation as business-related expenses. This is possibly the least difficult category of expense fraud to commit. It is sufficient to provide receipts for reimbursement of personal expenses. Mislabeled expenditures, like fraudulent expenses, cannot be misconstrued as human error. 

4. Getting reimbursed for unused funds or credits

An employee may buy an item, seek a refund subsequently, and then present the original purchase receipts for compensation. It is most prevalent with canceled or rescheduled flights/accommodations or returned merchandise. 

5. Inflating the real expense incurred

Inflated costs are those that exceed a predetermined threshold or are otherwise overblown compared to the actual amount spent. For instance, this may be an unpaid tip included in a dinner receipt. This may sometimes occur due to human errors, but it's also a simple way to conduct fraud. 

6. Claiming reimbursements for out-of-policy expenses

Even with an efficient expense strategy in place, it is difficult to enforce compliance. There are always workers that disregard regulations. In addition, if the policy infractions are minor, they may well go undetected. It is imperative that your organization does everything possible to inform employees about the expense policy and the repercussions of compliance violations. 

For instance, most companies do not refund purchases of cigarettes, alcohol, or minibar items. However, this does not discourage workers from submitting expenses for after-dinner beverages, even though the expense policy expressly states that only meals are reimbursable. 

Choosing premium seats, paying lounge access fees, or upgrading rental vehicles against company policy are other illustrations of travel expense fraud. 

7. Shadow IT

In a modern digital environment, out-of-policy expenses can also include digital violations in the form of shadow IT. This occurs when individuals sign up for unauthorized SaaS services or download applications outside of the organization's network. This has the unintended effect of possibly allowing viruses or malware through, and into the systems. You also end up incurring repeated costs every month, until the fraud is detected.  

Learn More: How To Create a Travel and Expense Policy [With Template+ Industry Examples]

How to Detect Expense Fraud 

Expense report fraud detection sounds straightforward on paper. Verify that the employee is adhering to the company's expenditure restrictions and procedures by comparing the receipts to the costs claimed, verifying the dates, and comparing the receipts to the dates on which the expenses were incurred.   But what's absent in this process is the tech required to automate the process and remove any room for mistakes. 

Without automation, the scope of fraud detection is daunting. Does the method we just described guarantee that every one of the seven fraudulent activities would be identified? Do your auditors know how to identify fraud? And do you have sufficient accountants to manually handle documentation in bulk? 

The effectiveness of detection depends on the expense reporting system implemented. This approach is problematic if it requires employees to submit reimbursement reports with their own receipts. False receipts and personal expenditures may easily pass through such a system. Manual inspection reveals several exaggerated submissions only after an exhaustive examination. 

Detecting shadow IT expenditures is considerably more challenging. To detect it, the majority of accounting departments must conduct a comprehensive financial audit, and it may still be overlooked since it will be buried in a sea of valid software subscriptions. The only approach to combat expense fraud in the absence of detection is to deactivate all business credit cards and then start over. 

Learn More: How To Automate Travel Expense Reporting in Enterprises  

Steps for Expense Fraud Detection 

According to a 2022 research, there are three primary methods for detecting fraud: tips (42% of incidents), internal audits (16%), or management review (12%). Remember that these are measures implemented after expense fraud has occurred. Among the additional metrics are the following: 

1. Paying attention to date and time, and not just invoice value

Examining the date and timing of a misclassified transaction often reveals red flags for fraud. They may unearth weekend taxi reservations or late-night food deliveries. You may even discover receipts created on a weekend or while the individual was on vacation. 

2. Flagging missing data in mandatory fields using automation

Every government establishes a regulation for vendors to disclose certain information, which varies as per the location. It is frequently a tax identification number or a barcode. Ensure that the receipts you are reviewing have all the information. If a receipt lacks critical data, there is a strong likelihood that it is fraudulent. 

3. Leveraging travel and expense (T&E) analytics

Keeping an eye on certain prevalent spending habits might be enlightening. This might help you narrow the focus area of audits and pinpoint scenarios that demand further examination. With T&E software that includes an analytics feature, this gets progressively easier. 

For instance, you may compare an individual's reimbursement amount to that of their colleagues. If an employee's reimbursement amount is significantly higher than their peers, you may want to examine their report closely. Consider it as a warning if an employee's reimbursement amount for a certain expense category is way higher than the historical average. 

4. Apply T&E automation

With automation, manual expense reports and forged receipts are no longer necessary. A  T&E management software can provide spending restrictions that limit purchases from certain suppliers and merchants. You may submit your expense policy and have it sent to all employees instantly, removing any denial of responsibility, or awareness. This greatly simplifies fraud detection and responsibility. By automating the procedure, you will have access to additional auditing data. 

Learn More: How to Set up a Seamless Travel and Expense System

How to Prevent Expense Fraud 

Prevention, as they say, is much better than cure, and T&E fraud prevention can save your company thousands of dollars in travel and expense funds. It also alerts employees that they operate in a structured, rules-abiding work environment that they can trust. Some of the key ways to prevent expense fraud include: 

1. Standardize T&E policies and guidelines

Your business's policies must be presented to all employees with clarity. The guidelines should contain a formal payment/reimbursement procedure, regulations, and penalties, per diem norms, and a list of prohibited behaviors. The same reimbursement method should apply to all organization personnel. Additionally, periodically remind workers of these rules and inform them of any revisions. 

2. Enforce policies with strict accountability

Effective internal controls demonstrate to all workers that misconduct and dishonesty will not be condoned.. Depending on the gravity of the fraud, sometimes business owners may decide to pursue legal action. This sets an example for other employees. However, keep in mind that the prosecution measures should be previously outlined and not be arbitrarily imposed. 

3. Use automation wherever possible

Automation can prevent multiple submissions. It can immediately transfer credit card expenses to a travel expense report, generate an audit log, automate approvals, and enable you to reject expenses that do not adhere to criteria. 

4. Assign ownership for fraud prevention, with multi-level authentication

A manager or an authorized individual from accounting or human resources should examine and authorize all costs. Ensure individuals responsible for establishing controls recognize what to look for, and why. A two-step approach for verifying all costs (e.g., first by a manager, followed by HR) minimizes fraud and accounting inaccuracies. It is also advisable to educate authorizers to scrutinize submissions and disallow out-of-guidelines expenses. 

5. Clamp down on cash expenses and reimbursements

Cash payments are difficult to monitor. Therefore, electronic transfers are the most efficient method for disbursing funds to employees. Also, providing per diem payments in cash allows workers to incur personal costs with near-zero culpability for these expenses. 

6. Use real-time tracking to make everyone’s lives easier

Using prepaid card technologies (instead of corporate credit cards) may enhance the prevention of expense fraud since employees do not need to maintain receipts. When an employee purchases the product, the finance team or management may examine and observe the transaction in real-time. It boosts the transparency and accountability levels to an extent that expense fraud becomes nearly unthinkable. 

Learn More: Make Your Business Go Places With Darwinbox’s Brand New Travel Module!  

Conclusion  

The best way to detect and prevent expense fraud is to use software that minimizes human error, and also the room to commit fraud or exploit any loopholes. That is why most companies are moving towards automated, cloud-based T&E management, but this, too, has to be augmented through an organizational culture of trust, accountability, and rules adherence.  

Ask for a demo of the Darwinbox T&E solution to know how you can gain more control on spending and reduce losses due to expense fraud.