Did you Know: Canadian small businesses lose $3.2 billion annually from occupational fraud? (Source: Certified General Accountants of Ontario).
You might think you know all the employees on your payroll, however it may be possible for a hidden “ghost employee” to be lurking in your payroll system.
What is a ‘Ghost Employee”
Think of them as individuals on the payroll, who are either non-existent, terminated, retired or deceased employees. They can be legitimate employees who weren’t removed from the payroll system (after retirement etc.) or fake individuals who were intentionally created so that their pay could be directed to a bank account controlled by the fraudster.
The Greg Jones’ Story
Let’s take a look at the real-life story of “Greg Jones”, who was responsible for payroll at his company. The company had fluctuating production periods and hired temporary employees. They required flexibility to add and remove employees from the payroll register.
The “Ghost” Employee Who Remains Hidden
The company was in the midst of hiring a bunch of new staff to meet the next quarter’s manufacturing demands. Greg took the opportunity to add a ghost employee to payroll.
Greg prepared the necessary paperwork required to set up a new employee and proceeded to add the fictitious employee to payroll. All the information was made up except for the bank account, which was owned by Greg.
Greg set up the system so that only ‘active’ employees would show up on the payroll register. To avoid detection, when Greg went on vacation, he simply deactivated the ‘ghost’ employee from payroll and it did not show up on the register, which was reviewed by one of his colleagues during his absence. At year-end, Greg would reverse the year-to-date earnings and deductions to avoid any tax implications.
Greg left the company two years later, deciding he had made enough ‘extra’ income (but felt the risk was too high to stick around). He got away with over $250,000 undetected.
With the right kind of ongoing and continuous vigilance or monitoring, it is possible to detect, and preferably, deter such schemes from occurring at your small business.
Preventing “Ghost” Employees from Gaining Employment
My experience investigating fraud has shown that fraudsters often do not take vacation, do not seek assistance from other colleagues and tend to keep their cards close their chest. There’s a reason for this: They are engaging in a fraud scheme and are trying to avoid its detection. Let’s review some recommendations for reducing your risk of ghost employees:
1. Validate changes and monitor for potential discrepancies
If the company had the right audit controls, Greg’s scheme would have been detectable. A verification of new employees added to payroll would have identified the fictitious employee immediately, as would a review for duplicate bank account numbers.
2. Have the right internal processes in place for segregation of duties
Consider implementing a tool (i.e. software) that will continuously monitor changes and/or potential discrepancies. The illegitimate SIN Greg used on the paperwork would have been easily caught by running a formula against all SIN’s.
3. Keeping fraud and errors top of mind through ongoing training
Employees must be properly trained to enter payroll accurately. Those responsible for reviewing payroll should also be provided with regular training about indicators of intentional and unintentional payroll errors.
4. Periodic rotation of payroll function
Organizations should cross-train certain employees in order to enable periodic rotation of the payroll function. Ideally, the rotation should be done without advance notice.
One option to reduce your risk of ghost employees on your payroll is to leverage a fully outsourced payroll solution. Learn more in this whitepaper highlighting bottom line incentives for business process outsourcing (BPO) services.
In the next blog post we will cover payroll mistakes related to employee expenses and reimbursements.
Guest blogger Edward Nagel, CPA,CA●IFA, CBV is Principal and founder of nagel + associates, Forensic and Investigative Accountants.