5 Internal Controls to Avoid Fraud in the Payroll and Personnel Cycle
Published October 5, 2022.
Business owners are well-aware that properly processing payroll is no simple task. And of course, it becomes even more complicated when you have a large number of employees or staff with different hourly wages. This is why an increasing number of companies have started taking the payroll process much more seriously, ensuring that every worker is adequately compensated.
The truth is that improperly handled payroll will negatively affect every aspect of your business, which is why having internal controls in place is crucial. There are different types of payroll fraud that can negatively affect a company, like overpaid employee wages, ghost employees, and employee misclassification. If you don't have strict internal controls in place, it's incredibly difficult to prevent payroll fraud or even understand that it's happening.
5 Internal Controls to Implement
Internal controls are important because they protect the resources of a business, helping it properly distribute payroll while keeping its reputation. Let's take a look at the five most important internal controls.
1. Divide Responsibilities
When it comes to payroll, you should never have one person in complete control of the process. This provides them with the opportunity to commit fraud without anyone noticing. So, the best way to avoid this problem is by dividing the responsibilities among different employees and never leaving everything in one basket.
For example, one employee can be in charge of data entry, while another can be responsible for issuing checks. This way, no one employee has centralized control over the process, making it incredibly difficult to commit fraud. Unfortunately, dividing responsibilities in smaller companies with fewer employees is a lot more difficult than expected.
» Do you understand the roles of your payroll staff? Discover the difference between a payroll analyst and payroll specialist
2. Limit Access on Accounting Systems
Another way to protect your business is by limiting access to the accounting software that you use for payroll. In simpler terms, it means that only employees who absolutely need to use the software have access to it. This will make it much harder for anyone to commit fraud, as they would need to hack into the system or find another way to access it.
3. Review Documentation Regularly
It's also important to review the documentation related to payroll on a regular basis. This includes documents like timesheets, employee records, and tax forms. By reviewing this documentation, you'll be able to catch any red flags that may indicate fraud. For example, if an employee's time sheet doesn't match up with their hours worked, that could be a sign that they're inflating their work hours.
» How do you keep thorough documentation? Consider investing in payroll software with essential features
4. Generate and Analyze Reports
Generating reports is another great way to keep track of the payroll process and ensure that everything is running smoothly. These reports will help you spot any irregularities which could be indicative of fraud. Some of the reports that you should generate and oversee on a regular basis include check registers, time cards, and payroll journals.
» How can you easily generate reports? Consider using automated payroll software
5. Document Changes to Employee Details
Whenever there is a change to an employee's personal information, you should always document it. This way, you can keep track of any changes and make sure that they are authorized. Although it rarely happens, fraud like this can be quite devastating for the company's reputation.
So, if an employee changes their address or bank account, you should always get written authorization from them. Any changes to an employee's details must be officially requested so that you can have a paper trail, including changes in salary and status. This way, you can be sure that the changes are legitimate and not being used to commit fraud.
Additional Controls to Consider
In addition to the primary internal controls we mentioned above, there are a couple of other controls that might be helpful.
One way to further protect your business is by outsourcing the accounting and payroll process. This means that you would hire another company to handle these processes for you.
The advantage of having your accounting outsourced is that it would be much harder for your employees to commit fraud, as they wouldn't have access to the accounting software.
» Should you outsource HR and accounting functions? Discover the advantages and disadvantages of outsourcing payroll
Conducting Regular Audits
Another way to keep track of the payroll process is by conducting regular audits. In the majority of cases, audits require hiring an outside company to come in and review the process. The benefit of this is that it would help you spot any irregularities and make sure that everything is running smoothly. However, having audits from a third party might be somewhat costly, which is why many companies avoid having them altogether.
By implementing internal controls, you can help prevent payroll fraud from occurring in your business. Internal controls are incredibly beneficial since the consequences of fraud are a lot more costly than the resources required to have these controls implemented. Of course, before implementing any type of internal control, you should consider assessing your company's resources to know what you can implement.