For a growing law firm, preventing internal fraud is rarely top-of-mind. Yet the small office setup is the ideal environment for misuses and abuses that, over time, can add up to significant losses.
It’s not enough to do your due diligence and run a background check on a new employee. So often, fraud in professional service firms goes unreported and unprosecuted because the victims are too embarrassed to come forward. There’s no guarantee that a new hire is trustworthy, just because they look good on paper.
But new employees are not the only source of internal fraud: often there’s a longtime, trusted office manager involved in literally every aspect of the firm. They might be issuing payroll, handling AP and AR, and reconciling accounts on a monthly basis, with no oversight whatsoever.
However, according to Clay M. Kniepmann, an attorney and member of our Fraud, Litigation and Valuation practice, “As law firms grow, they move out of the phase where they can really be that close to everything going on. They don’t realize that they’ve reached a certain size and need to establish internal controls.”
Here are the most common forms of internal law firm fraud, and how you can work to prevent them.
Credit Card Abuse
There are several different ways credit cards can be abused: most obviously is using a business card for personal purchases – which is why adopting a company-wide expense platform, such as BILL, can be helpful. Weekly reconciliation of expenses will also catch these unauthorized transactions before they add up to something bigger.
For law firms, when client retainers are paid through credit cards, another possibility for fraud occurs when it is time to refund the balance: an employee might credit the refund back to their personal card.
In this scenario, it is usually an angry client or a watchful credit card company who catches the abuse. To avoid it, have different employees take payments and refund them.
Payroll Fraud
One quick way to siphon company money is for the person issuing payroll to pay phantom employees a monthly salary, or issue raises and bonuses that were not authorized.
External oversight, whether by a third-party vendor or the managing partner, will ensure that payroll is accurate.
Accounts Payable / Receivable Fraud
When only one person issues, deposits and records payments, it becomes easy to invent vendors or make duplicate payments and then alter the books to hide the trace.
The only guarantee against this kind of fraud is to set up a division of roles, for example: the office manager prepares checks, the controller records them, and the owner reconciles and reviews. If you’re working with an outsourced CFO, that individual can supervise the pyramid.
Enrolling in positive pay through your bank is another safeguard against this kind of fraud: positive pay provides secondary verification that you wrote all checks being deposited in your name.
Preventing fraud is a lot less costly than correcting it after the fact, but it’s easy to push it to the back burner and think, “That won’t happen to us.” But if you put these guardrails in place, the chances are much better that it never will.
Quick Tips to Prevent Fraud
- Enroll in positive pay
- Use an expense platform
- Create separation of duties in office financial management
- Reconcile accounts weekly
- Outsource payroll, AP and AR
Working with a virtual CFO provides oversight to help avoid financial mismanagement and fraud. Interested in learning more? Check out our virtual CFO services for law firms or schedule a consultation.
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