Do your clients have ghosts on the payroll? If so, they might be losing thousands of dollars to bogus salary and bonus expense each year. Here’s how phantom employee frauds work, including the warning signs and tips to help clients “exorcise” these scams from their payroll records.
Real life example
Phantom employees can be make-believe people or, more likely, real people who are in cahoots with an individual who’s in charge of payroll records. For example, a senior director for a health insurance company recently pleaded guilty to setting up his wife and another person as phantom employees. The director’s wife, who supposedly worked from home, performed no services for the company but earned wages and bonuses totaling more than $785,000.
The other phantom employee, a friend of the director, was paid $61,000. The director entered false documents, such as performance reviews and other reports, into the company database and altered emails to justify the payments.
Opportunity for fraud
It may seem easier to hide phantom employees in large businesses, especially those with multiple locations and offsite payroll departments. But small firms can be victims, too. All it takes is a dishonest employee who’s in charge of authorizing transactions or has other access to the payroll system. These scams require three simple steps:
- Put the phantom on the payroll. This can be as simple as adding a fictitious name to the payroll system or using the name of an employee who’s retired or otherwise left the company. If the criminal doesn’t have access to the system, he or she might have to forge documents to create a fictitious account.
- Create wage records. If the phantom employee is paid a regular salary, it may not be necessary to fabricate time sheets or other records. Routine payments at regular intervals work to the criminal’s advantage. However, the perpetrator may have to falsify time sheets and other documents for hourly phantom employees.
- Take the money. Converting paychecks or direct deposits to cash may require more subterfuge than direct cash payments. For example, an employee may set up a falsified bank account for direct deposits. Check cashing is riskier and may lead to apprehension. But once the crook pockets the cash, the fraud trail goes cold.
There are certain warning signs that a phantom employee is haunting your payroll system, such as:
- Missing employee files,
- Employees with overly vague (or no) job titles or descriptions,
- Multiple employees with the same mailing address or bank accounts for payroll deposits,
- Employees who list a post office box as their mailing address, and
- High, unexplained employee turnover rate.
These warning signs can be cause for concern. However, your clients may discourage the creation of phantom employees by imposing stronger internal controls.
Your clients can take various measures to strengthen internal controls. For example, a business could simply stop paying employees in cash. Direct deposits aren’t foolproof, but they can cut down on fraud by eliminating paper paychecks and the possibility of alteration, forgery and most theft.
Managerial review can also reduce a business’s risk. For example, different supervisors might be assigned to approve payments to employees on a random basis. This makes it more difficult to hide a phantom employee. Supervisors should also be trained on how to scan the payroll records for red flags, such as suspicious names and multiple employees with the same mailing address.
Finally, the payroll system should be equipped with checks and balances. For instance, the head of a department should be required to verify any employees that are added or removed from the payroll system. Moreover, payroll records can be coordinated with personnel reviews. If an employee doesn’t show up for a review, it warrants further investigation.
Forensic accounting expertise
Phantom employees allow fraudsters to hide in plain sight. Over time, false wage payments can add up and become harder to detect. Contact a forensic accounting expert to help your clients reveal these scams.