Payroll Fraud: 7 Key Strategies for Preventing and Addressing 

Payroll fraud impacts 1 in 4 businesses and spans every industry and organization type.  Business owners across all industries and of all sizes experience the seven most common types of payroll fraud, including: 

• Timesheet fraud 
• Pay rate changes 
• Ghost employees/fake employee 
• Billing fraud 
• Sick leave fraud 
• False expense fraud 
• Unpaid advances 

The payroll process is an element of a business that’s most vulnerable to a fraud scheme. MP’s payroll management experts outline the seven best practices for preventing and addressing every type of payroll fraud.   

7 Proven Strategies for Preventing and Addressing Payroll Fraud 

1. Implement an online digital payroll system.  

Employers with complicated payroll records—especially paper systems—are particularly vulnerable to every type of fraud.  Manual punch clocks and multiple documents or spreadsheets are too easy to manipulate and challenging to audit regularly.  The most impactful strategy for preventing payroll fraud is to implement cloud-based payroll software like MP’s.  This ensures access to payroll data is secure, organized, and easy for a payroll clerk or other employees to audit.  Optimal payroll software also allows employers to create customized dashboards to easily run audits as frequently as needed.  Just knowing these audits take place may be enough for employees who would have committed payroll fraud to reconsider.  

2. Utilize time and attendance software. 

Organizations, especially those with more risk of buddy-punching, will benefit from time and attendance software like MP’s.  A digital or a biometric system is much more challenging for employees to falsify.  Software will also allow employers to effortlessly review employee hours, punch-in and punch-outs, and check for fraudulent activity.  

3. Reconcile and audit payroll quarterly (or more frequently).

Organizations will prevent payroll fraud or reduce its impact when they audit records regularly.  The auditor should be a different team member (or members) than those who typically run payroll.  If organizations use payroll software, this audit shouldn’t be time-consuming or costly.  A customized report can be pulled for every audit with just a few clicks.  As an added benefit, the audit may reveal any payroll errors that need to be corrected.  Employers should audit their payroll records at least once a quarter. However, organizations in high-payroll fraud-prone industries, such as healthcare and manufacturing, may want to conduct audits more frequently.  Lastly, it’s important to note that simply knowing about these audits will deter would-be perpetrators.  Payroll fraud is the most prevalent and successful in a disorganized and unstructured system.  When employees and outsiders are aware the organization takes steps to prevent and address payroll fraud, it’s less likely to become a target.  

4. Separate or outsource payroll duties.  

One of the most effective strategies to prevent payroll fraud is assigning different team members to each task.  For example, employees who process payroll should not be the same ones who enter changes or update and change employee payroll records. However, this can also be done more efficiently and effectively by using payroll software with self-service options (like MP’s).  Software also automates and streamlines tasks to minimize the workload on payroll staff. These functions include: requests for new direct deposits, withholdings, 401(k) contributions, etc.  

5. Report payroll fraud immediately.  

Organizations should never wait to report instances of payroll fraud, no matter how small or insignificant they may seem.  Employers should report instances of payroll fraud to the state attorney general’s office or the FBI.  If an employee discovers payroll fraud, they should immediately report it to a trusted manager.  The sooner the fraud is reported, the smaller the damage will be to the company.  

6. Carefully evaluate your payroll provider.  

It’s essential to ensure outside payroll providers are completely trustworthy, since they’ll have access to sensitive information.  They must be not only scrupulous in their practices, but also be vigilant about cyber security.  In some cases, it may make sense to work with a more expensive vendor if they’re trustworthy and have a reliable track record, unlike a cheaper, more unknown payroll provider.  Organizations can ask these five questions of a potential payroll company: 

• Do you have clients in multiple states?  
• Do you have a certificate of liability insurance?  
• Can you share some recent references? 
• Do you adhere to SEC regulations? 
• Have you won any awards? If so, can you share them?    

7. Identify common payroll fraud red flags.  

There are five red flags that frequently indicate payroll fraud or the risk of it.  Red flags are: 

• An employee living a more extravagant lifestyle than their pay grade.  This might include making a substantial new purchase, fancy travel, etc. Of course, this may not always be an indicator.  Employees may have family money, a high-earning spouse, inheritance, or even win the lottery.  But, in the presence of other red flags, it’s worth looking into potential payroll fraud concerns.  
• Gaps or mistakes in payroll records.  If there are missing payroll records or glaring errors, employers should look into them immediately. This is especially true if there are other signs of payroll fraud.   
• Employees who never take PTO.  As noted above, this isn’t a conclusive red flag on its own.  However, employees concerned about having their payroll fraud scheme discovered will often be worried about taking PTO or handing off work duties.   
• Canceled checks and blank checks.  Employers should never sign a blank company check.  They should also always ensure that checks are truly canceled.  An employee may say they’re canceling a check, but then use it fraudulently later.