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Protect Your Small Business – A Guide to Stopping Payroll Fraud

The last thing you want as a small business owner is your money going down the drain. According to statistics, half of all businesses collapse by their fifth year. While the reason for the collapse is usually a combination of many factors, payroll fraud can bring your business down fast. Luckily, you can protect your business from this kind of fraud if you implement the right measures. This guide highlights several ways to identify payroll fraud and how to stop it before it brings your business to its knees. 

What is Payroll Fraud?

Payroll fraud is any fraudulent activity that results in the unauthorized use of company funds. Payroll fraud is not limited to small businesses.

According to statistics, payroll fraud occurs in 27% of all businesses, but small businesses are impacted the most because of their limited revenue and lack of proper safeguards.

Different Forms of Payroll Fraud


Check Tampering

Check tampering is arguably the most common type of payroll fraud in America. It occurs when an employee steals, forges, or alters a check payable from the employer’s account.

Ghost Employees

This type of fraud is perpetrated by employees responsible for managing the payroll. It involves entering a non-existent person into the payroll to pocket the ghost employer’s salary.

Timesheet Fraud

Most small businesses pay their employees by the hour. This means the more hours they clock in a week, the more they earn. Some employees are tempted to falsify the hours worked, especially if your company does not have foolproof measures to prevent timesheet fraud.

Pay Scale Alterations

Employees are paid different hourly rates based on their classification. Unscrupulous human resource employees can work in cahoots with some employees to make pay scale alterations so that an employee gets more than they deserve. 

Customer Payroll Fraud

Not all forms of fraud are perpetrated by employees. Your customers can also engage in payroll fraud to give the wrong impression of their financial situation.

For example, in the real estate industry, you may require prospective clients to produce proof of income before getting accommodation. Unfortunately, sometimes customers can use fake pay stubs as proof of income and get rental accommodation, which could mean allowing tenancy to someone that may not afford to pay rent.

Worker Misclassification Fraud

Worker misclassification fraud is another type of fraud not perpetuated by the employee. Instead, it is perpetrated by employers to avoid remunerating their employees as required under the law or denying them their benefits.

Often it involves classifying employees as independent contractors, denying them employees the benefits they deserve, and avoiding paying payroll taxes. Employee misclassification is a serious offense that can result in penalties that include hefty fines, higher tax rates, interests on taxes not paid, and prison time.

Safeguarding Against Payroll Fraud

Different types of fraud call for different preventive measures. So what works for one business person may not work for you. But some standard practices can help minimize the chances of payroll fraud irrespective of the type. Some of these measures include:

Taking Formal Business Management Classes


Most employees take advantage of employers that do not have business management knowledge. If you depend solely on the word of your employees to manage your business, you will be at a greater risk of fraud.

So, your first step to preventing payroll fraud will be taking formal business and financial accounting classes. Doing so helps ensure that you are on top of your business accounts which can help minimize the loss of revenue through fraudulent activity.

Incorporate Technology in Payroll Management

Preventing fraud in your small business is possible, but it can take too much time and effort that could be used in handling other important matters of handling a business.

Luckily you do not have to handle all the work yourself. You can leverage technology to make payroll management easier and error-free. For example, rather than use traditional timesheets to track employees’ hours, you can use apps connected to your employee’s android or IOS devices that make it impossible to clock in unless they are on location. 

Outsource Payroll Management

Even with the best payroll management software, unscrupulous employees may still find a way to cheat the system. So, it is best to outsource payroll management to ensure that your payroll management is watertight.

There are many payroll management service providers in the market. You only need a service provider who checks all your boxes to handle payroll on your behalf. Besides eliminating the chances of fraud, outsourcing payroll can save you time, so you focus on areas that need your attention, like improving customer experiences.

Have an External Auditor Audit Your Firm

If you only depend on internal auditors to audit your business accounts, they may falsify figures to steal from you. So it’s always best to have an outsider conduct an audit from time to time.

Because an external auditor has no vested interest in the outcome of their audit, you can expect to get reliable audit results from them which can help you identify where you could be losing money.

Role Segregation prevents Payroll Fraud

While it’s possible to have some bad players in your business, chances are not all your employees are corruptible, which you could use to your advantage. For example, you can have several people handle different stages rather than having one person handle all payroll matters.

One can track the employees’ timesheets, the other writes the checks, and has another counter check to see everything is okay before you can sign. This way, one unscrupulous employee may not succeed in defrauding your business.

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