Summary
Fraud is a persistent cancer in the non profit world. Local news in New York City reported another fraud of $1 million as the director redirected funds for his mortgage. Just as with other cancers, prevention is cheaper and easier than cure.
This cancer is much larger than officially reported.
- Many nonprofit boards are reluctant to press charges. Board are filled with volunteers who are reluctant to give the examination time needed to find a result that they don’t want to discover.
- Agencies don’t look good to the public when they report a fraud. It affects their brand and threatens future charitable and contract funding. It’s cheaper to ignore it.
- Frauds are often perpetrated by employees who appear to be the most loyal and honest. While their overtime work conceals the fraud, they appear to the world as super diligent. It’s never popular to send Aunt Susie or Uncle Bill off in handcuffs.
- Fraud is usually discovered by accident. Most of us are working in organizations where money is flowing in and out. Even auditors are unlikely to discover frauds below a certain percentage of the revenue of the corporation.
Cure – Expensive and rare
Intentional discovery is almost impossible. Forensic accounting is often more expensive than the potential fraud. It is the Board’s act of last resort.
Prevention – Cheap and Effective
It’s amazing that nonprofits don’t use much prevention. Thousands can be saved. Some of the ideas that follow require no money to implement.
- There should be a Personnel Policy about fraud. Clearly warn people about things that the organization will not tolerate
- In a staff team of 25 or more, create an anonymous survey once a year to ask about fraud. It communicates that you are serious. Include questions such as:
- Do you know of any staff member who has taken company property for personal use?
- Do you know of any illegal acts in the company?
- Have you seen a supervisor ignore complaints about illegal actions?
- Require any person who pays bills, opens mail, or receives money (paid, volunteer, or part time) to take a 2 week vacation of consecutive days once a year. Watch for anomalies during that time.
- Examine executive perks and how they appear to staff throughout the organization. A strong ethical public tone at the top strongly influences people throughout the organization. If you get a free car as director, the janitor may feel justified in pilfering toilet paper.
- Create a simple treasurer’s report that warns of potential non profit fraud to watch. There are six ratios in the financials that predict possible non profit fraud. These include overstating expense, bringing future expense into the current year, and overstating depreciation. While these ratios don’t prove fraud, their presence in the Treasurer’s report means that the agency is serious about fraud detection.
- Compensating Controls – Most organizations can afford compensating controls in lieu of extra staff for division of duties. Let us assume that one person handles petty cash. A simple log with date, purpose, receipt and amount of funds can be required and given to the Treasurer quarterly. It is considered a secondary control but much better than none.
- Preventive Controls – these are primary controls which are more effective. Some are quite inexpensive. For example, buy rubber stamps for every person who opens mail or is involved with deposits. The rubber stamp is marked ‘For Deposit Only, My Happy NonProfit, Farmers Bank # 1235-56789’. Anyone stamps everything as soon as it is first seen. This simple control prevents double endorsement of checks to someone’s personal bank account.
- Leadership – controls are of no use if leadership does not enforce them. I know that fraud correction can ruin friendships, invite retribution, or focus on a beloved staff member. Fraud prevention needs a leader who is more committed to the nonprofit mission than these other considerations. It’s not easy.
- Board Leadership – As nonprofits grow, politicians and others may see the organization as a convenient place to enrich themselves. One non profit outsourced their accounting to a public company created by a former board member. They also invested surplus funds heavily in the new company. Management drained the outsourcing company of assets and closed – effectively taking the non profit’s treasury. Strong board policies to prevent board access to assets and existence of potential conflicts of interest must be written and maintained.
Conclusion:
I first became interested in nonprofit fraud when I heard stories and realized that it’s nearly universal. It’s often a staff member who appears loyal and hardworking, secretly paying personal bills. Most of this fraud is undetected.
Detective controls are expensive, preventive controls are effective and cheap. The faster you start, the more money you will have to help the homeless, feed the hungry, or cure disease. Start today.
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