Fraud prevention: An overview

This blog is part of the “Fraud Risk” series.

Jump to:

What is fraud prevention?

Why is fraud prevention important?

Understanding how to prevent fraud

Next step: Detection

Fraud is about deception. And that form of deception from fraud risk that puts nearly every organization in the danger zone is the situation where someone isn’t who they say they are.

Identity fraud (also interchangeable with identity theft) and other forms of criminal deception cost financial services firms, insurers, healthcare providers, and government agencies billions each year. These large organizations are far from the only victims of fraud. According to the Association of Certified Fraud Examiners, small businesses experienced a higher frequency of fraud from 2002 to 2022 than larger organizations. Those instances of fraud are often committed by company staff and even executives. But others can be due to employees at all levels clicking on what looks like a legitimate link from someone they know—a link that can open up a company to a data breach or ransomware infestation. An FBI internet crimes report noted that email scams increased 111% from 2018 to 2022, with victims losing $2.7 billion in 2022.

Whatever the organization’s mission, size, or industry, there are strategies and digital tools available that can prevent fraudulent data and financial loss—whatever the type of fraud, and whether the source of the deception is internal or external, a real person or a fake one.

What is fraud prevention?

Fraud prevention is the implementation of proactive measures and controls aimed at deterring, detecting, and mitigating fraudulent activities within an organization.

Fraud prevention starts with understanding what fraud is. Fraud involves intentional deception to gain something of value, usually money. One commits fraud through false statements, misrepresentation, or dishonest conduct intended to mislead or deceive. Fraud risk refers to the possibility of financial losses due to deception perpetrated by an individual or a group either inside or outside the organization. In some cases, the perpetrators may be both internal and external, working collaboratively. Fraudsters aren’t always seeking money, at least not directly. In some cases, they want a company’s digital data, which they can exploit in numerous nefarious ways.

Fraud prevention is the first of the three fundamentals—prevention, detection, and investigation–of fraud risk management. Fraud prevention is clearly the best way to manage fraud risk. For agencies overseeing government benefits, for instance, preventing fraud before it happens can be easier and certainly less costly than trying to claw back fraudulently obtained benefits. Law firms can use client portals to safeguard their confidential data. And organizations of all kinds can protect themselves from digitally driven fraud by following such basic but crucial techniques as strong passwords, two-factor authentication, and updating network security software.

Even larger digitally oriented organizations can be lax about these fundamental fraud prevention strategies. In December 2023, a hacker accessed the data from 14,000 23andMe accounts using old passwords. A second level of identity protection would have foiled the attack.

Risk prevention can’t stop all fraudulent activity. Fraudsters are continuously devising new ways to outwit organizations’ best efforts. But these fraud risk strategies can help them reduce their most potentially damaging fraud risks.

Why is fraud prevention important?

To prevent fraud, organizations need to manage fraud risk. Risk management is the process of identifying, assessing, and controlling potential risks or uncertainties that could negatively impact its objectives or finances.

Benefits of fraud prevention

Robust fraud prevention programs can provide numerous benefits, including:

• Reduced financial losses
• Better compliance with applicable regulations
• Employee awareness of potential fraud
• Improved corporate governance

Challenges of fraud prevention

That noted, effective fraud risk management isn’t easy to establish. Organizations need to be aware of the challenges–and the best practices, which require time and rigor to put (and keep) in place.

Trusting too much

No one wants to believe that long-time employees, customers, or vendors might be capable of fraud. Accepting that possibility is a necessary part of fraud prevention. That noted, even truly trustworthy people can be used to make phishing emails and fraudulent messages look authentic. Email scammers are using social engineering techniques to get unwitting targets to send funds (or even gift cards) to a fraudulent person or entity.

Complexity

An organization may be so large and its records so complex that it’s difficult to detect fraudulent transactions. An infamous recent example is Theranos, a high-flying startup that claimed its technology could perform rapid blood-testing using compact automated devices. Not only were its claims proven false—so were its financial projections. Theranos executives used accounting sleight-of-hand to convince its big-money investors that it would generate over $100 million in revenues in 2014 and $1 billion in 2015. Actual revenues for those years turned out to be significantly smaller. In 2022, the company’s leaders were convicted of wire fraud.

Fraud also has become more global. A great deal of fraudulent activity is being committed by transnational criminal organizations with the resources and the digital savvy to create increasingly believable false identities for perpetrating phishing attacks, opening false bank accounts, or stealing government benefits.

Technology

Technological advances can present new opportunities for organizational success–and new ways for bad actors to commit fraud. Fraudsters can disguise themselves as company executives and request accounting to immediately pay a fake invoice or transfer money to a phony bank account. Meanwhile, more “traditional” phishing attacks remain successful conduits for cyber fraud.

Digital technology is enabling individuals and fraud gangs to create synthetic identities using real Social Security numbers or other purloined individual data. According to the McKinsey Institute, synthetic identities are involved in about 85% of all fraud worldwide.

Risk, fraud, and investigations solutions Know today’s risk and navigate tomorrow’s challenges View our products

Understanding how to prevent fraud

While fraud risk will never disappear, it’s worth noting that many fraudsters are detected. But it can be several costly years before that happens. Organizations often overlook red flags that might be signals of potential fraud. These red flags aren’t necessarily evidence of actual fraud. But they are risk factors that organizations should be aware of.

Signs of potential fraudulent activity

• Employee red flags include living beyond his or her means, financial difficulties, and spending time in the office alone outside of work hours. Remote work has made the detection of employee fraud more challenging.
• Examples of management red flags include frequent disputes regarding risk audits, a lack of transparency with employees about the organization’s financial performance, and overly complex financial transactions.
• Insurers and financial services organizations need to be alert for signs of potential money laundering. Such warning signs vary depending upon whether the potential perpetrator is a customer, broker, or vendor. Organizations need to comply with anti-money laundering (AML) regulations to be vigilant in ways particular to their industries.

Best practices for fraud prevention

These are notably crucial risk strategies nearly any kind of organization can establish:

Risk assessment

Risk assessment involves looking at the risks an organization faces relating to its size, complexity, industry, and goals. Fraud risk assessment specifically identifies the kinds of fraud an organization is most susceptible to and how it might occur. The assessment prioritizes fraud risks based on their likelihood and how dangerous they might be to the organization. An organization should update its risk assessment regularly, since fraud risks evolve and new vulnerabilities appear.

Internal controls

Internal controls play an essential role in minimizing fraud risk. Risk audits conducted by several parties across the organization (as well as by external auditors) boost the effectiveness of fraud prevention, detection, and investigation efforts. Controls also should be regularly reviewed and updated.

Employee training

A simple but effective strategy for preventing fraud is educating organization employees about potential fraud risks they may encounter. An obvious example—though not obvious to every organization, as many have found to their sorrow—is teaching them to be suspicious of phishing emails and other forms of fraudulent communication.

Multiple lines of defense

With fraud becoming increasingly complex, organizations should develop a risk management strategy that involves numerous departments, including HR, accounting, and IT.

Digital technology tools 

Because of the complexity of the data and the increasing sophistication of fraud schemes, more and more organizations are exploring the use of technology solutions for fraud prevention. For those organizations involved in financial services, insurance, and government benefits, a key risk strategy is identity verification–ascertaining that customers, vendors, and benefits applicants are who they say they are. Digital tools are available for many fraud-prevention applications. Applications using artificial intelligence (AI) and machine learning are being developed to identify data patterns and anomalous transactions that could indicate fraudulent activity.

Next step: Detection

Again, prevention is the best approach to fraud risk management. Sometimes, however, fraudulent activity can slip through even the most rigorous prevention armor. That’s when fraud detection, the second fundamental of fraud risk management, must come into play. Techniques for fraud detection can mitigate fraudulent actions that could result in financial losses and data breaches, whether the source of the fraud is internal or external. Detection will be the topic of an upcoming article.

The next fundamental Fraud detection: identification and analysis of suspicious activities to uncover fraud Read blog post