According to the recent Association of Certified Fraud Examiners (ACFE) survey, a typical organization loses about 5 percent of its annual revenue to fraud. Although fraud in nonprofits leads to smaller losses, according to this study, there are other issues that fraud can cause beyond financial losses. For instance, fraud can lead to a negative reputation and unrelenting media attention to dissuade donors and partners. For nonprofits, reputation is the most valued asset that can be difficult to retrieve once it is lost.
Nonprofits' vulnerability to fraud
Although fraud affects every industry and every organization can be vulnerable to it, nonprofits can be highly attractive targets to scammers and fraudsters. This can be due to executives and board members not being well versed in financial issues and internal controls within their organizations. Furthermore, in most cases, nonprofits have limited resources available to use for internal controls. This makes the organizations vulnerable to employees who understand the systems well and know the internal controls' inefficiencies. They can take the opportunity to commit fraud. The inherent susceptibility of the nonprofit's systems and the conditions within the organization may allow fraudsters to manipulate systems to commit fraud.
Also, considering nonprofits receive thousands or even millions of dollars from grantors, donors and other people to distribute as scholarships, awards, grants or other financial aid to various recipients outside the organization, they become a target to fraudsters.
How fraud occurs
Although nonprofits are a lucrative area for fraudsters, most of the fraud schemes faced by nonprofits might face every organization regardless of the industry. The common fraud schemes for nonprofits include check fraud, ghost workers, funds embezzlement, fictitious vendor, kickbacks, theft of cash and misappropriation of funds.
Billing schemes are one area that nonprofits are vulnerable. It is where an employee submits invoices for payment that they are not entitled to receive. They often involve creating shell companies with a fake identity to bill for goods or services the organization does not receive.
Other scams that may occur in nonprofits can include overpayments to legitimate vendors in what is called pay-and-return schemes. When the excessive payments are returned, the employee embezzles them.
The management bears the greatest responsibility for identifying the gaps and developing mechanisms to address the issues raised in nonprofits. This can be achieved by avoiding complacency and not assuming that auditors can catch fraud if it occurs. While auditing is important for any organization, it helps less because it uncovers what has already happened. Therefore, nonprofits should find ways of stopping fraud from taking place before it is too late.
The right controls should involve forming an effective and empowered audit team with complete independence from management. Ab effective system of controls should be established and enforced. This system should be a combination of internal and cultural controls that form the core of the anti-fraud program. Another crucial thing is to establish the right tone starting from the top. While compliance with internal controls is good, it can still leave the organization vulnerable if there is a wrong attitude and actions of the management. There is a need for a culture that promotes integrity and ethics and encourages employees to stop fraud. Promoting a culture of integrity and honesty among employees encourages them to be transparent and honest. Clear reporting processes can also help organizations deal with suspicious behaviour before it can escalate into a disaster.