Fraud Risk: A Comprehensive Guide

According to the latest Digital Trust & Safety Index released by Sift, the number of fraudulent transactions blocked by the company across the fintech industry grew 70% in 2021, underscoring the significant risk facing this particular industry as it relates to  fraud, cyberattacks, and other digital crimes.  

Adopting a robust fraud risk management program is vital to protecting organizations across sectors and verticals from a wide variety of internal and external fraud threats that could lead to loss of funds, reputational harm, or even criminal liability.

What is fraud risk management?

Fraud risk management is the process of evaluating the organization’s fraud risk profile and developing a program that mitigates known vulnerabilities and prevents potential risks, both internally and externally.

Fraud risk management terms explained

To understand what fraud risk management is and how it works, it is helpful to first define two important terms:

1. Fraud risk
2. Fraud risk assessment

What is fraud risk?

Fraud risk is the possibility of any unexpected loss, be it financial, reputational, or material, due to fraudulent activity by an internal or external actor. The impact of fraud can be seen in the form of:

• Financial losses, due to theft, embezzlement, or other types of financial crime
• Reputational harm resulting from service interruptions, public disclosure of a company’s sensitive information, or the loss of customer data
• Material losses, including all expenses related to the remediation or management of a fraudulent event 

See Inscribe's AI Fraud Analyst in action

Types of fraud

Fraud can be broken down into two main categories:

1. Internal fraud
2. External fraud

Internal Fraud is fraud carried out by an individual who is a member of the target organization. Usually, this is an employee or other person directly affiliated with the business, such as a contractor or on-site vendor, who has access to and knowledge of the organization’s policies and procedures, as well as system vulnerabilities that can be exploited. Common examples of internal fraud include:

• Data or intellectual property (IP) theft
• Embezzlement
• Misappropriation of assets, funds, or other resources
• Insider trading and other types of financial crime
• Supplying free services or discounts to friends and family members

External Fraud includes any fraudulent activity occurring outside the organization. This can include actions by customers, clients, partners, competitors, hackers, or other cybercriminals. Examples of external fraud include:

• Payment for goods not supplied or insufficiently provided
• False claims related to undelivered supplies or services
• Kickbacks
• Hacking, data breaches, ransomware, and other cybercrimes that target the company and its assets

What is a fraud risk assessment?

Fraud risk assessment is a tool used by organizations to identify, understand, and mitigate fraud risks. The foundation of every fraud management strategy, a fraud risk assessment is essential in helping businesses proactively identify both internal and external risks, assess the effectiveness of any countermeasures, prioritize new investments, and highlight areas of improvement to help strengthen the organization’s overall security. 

While it is impossible to completely eradicate the risk of fraud, a fraud risk assessment significantly reduces the likelihood of such events and the severity of cases that do occur.

Conducting a fraud risk assessment

Fraud risk assessments should be carried out by a certified fraud examiner, which is a qualification given by the ACFE. To align with best practices, fraud examiners and internal auditors should conduct investigations on a regular basis, and whenever there are significant changes to the organization’s structure, workforce, or core business systems and processes.

Each organization has a unique risk profile. Therefore, a bespoke fraud risk assessment is vital in addressing vulnerabilities specific to the organization. That said, every fraud risk assessment should investigate the following key areas:

• Company assets: Assessment of physical and digital assets, including company cash, equipment, inventory, data, and IP.

• Financial statements: Review of all relevant financial documents, as well as an assessment of all reporting processes and the individuals responsible for this activity.

• Regulatory compliance: Confirmation that the company is compliant with all relevant government and industry regulations.

Building an effective fraud risk management program

An effective fraud risk management program will prevent fraud before it occurs and limit the impact when such an event takes place. Here we outline five key components of a comprehensive and effective fraud risk management strategy:

1. Fraud risk assessment
2. Fraud risk governance
3. Fraud risk prevention
4. Fraud risk detection
5. Fraud risk monitoring

1. Assessing the risk of fraud

Conducting a thorough fraud risk assessment is the first step in building an effective fraud risk management solution. This tool is absolutely essential to understanding where vulnerabilities exist, how well countermeasures protect the organization, and where to make future investments or reinforcements.  

The fraud risk assessment process can be broken down into the following steps: 

1. Conducting an enterprise-wide audit to identify vulnerabilities that could be exploited and by who may be able to do so
2. Assessing the likelihood of fraud occurring and its potential impact on the business
3. Analyzing existing countermeasures and evaluating their effectiveness against potential risks
4. Prioritizing and responding to risks with a comprehensive mitigation strategy
5. Conducting ongoing monitoring to identify new fraud risk factors as they arise

2. Establishing fraud risk governance

Once the risk assessment has been carried out, organizations must develop systems and procedures to protect the entity from risk. A fraud risk governing body should be established within the company to oversee all aspects of the fraud management agenda, including: 

• Establishing a clear and accurate company policy that must be followed by all employees, vendors, partners, and other organizations affiliated with the entity
• Training staff and stakeholders on how to identify fraud risk and raise such issues within the organization
• Selecting and implementing all tools and solutions recommended during the risk assessment
• Monitoring fraud risk, both internally and externally, on an ongoing basis
• Making updates and improvements to systems and countermeasures
• Developing a transparent account of how fraud risks are investigated and dealt with
• Evaluating the need for third-party partners to help reduce risk or provide specialized services

3. Preventing fraud risk 

In an ideal world, a fraud management solution stops fraud before it occurs.

One of the most effective ways to do this is by verifying the identity of any person who interacts with the organization or has access to its network, systems, and assets. In the case of employees and contractors, organizations should ensure the Human Resources department is properly vetting all applicants and confirming that they do not pose a significant risk to the organization.

The IT team should also deploy the necessary tools and solutions to monitor for suspicious activity and detect possible cases of digital fraud. This activity should be automated through the use of data analytics and AI or ML-enabled tooling that is capable of processing large amounts of data and identifying anomalous activity for each user or device.  

Finally, the organization should continuously monitor and review internal controls to ensure all risk management policies and procedures are being followed and that the organization is compliant with any relevant regulations.  

4. Detecting fraud risks

Similar to fraud prevention, fraud detection should be automated across the enterprise. This includes the use of data analysis tools, cybersecurity measures, and identity solutions to ensure that only authorized users can access the system and that all assets are being used appropriately. Any activity that falls outside the baseline of normal behavior should be investigated by the IT team or other relevant group to ensure no instances of fraud exist.

Another way to detect fraud is through robust reporting and analysis. Employees should be educated on how to complete detailed and relevant reports, including information about where and when activities took place. Analyzing reports over a significant period can help detect patterns and correlations, potentially uncovering fraudulent activity within the organization.

5. Monitoring fraud risks 

Fraud risk management is an ongoing process. Assessing, governing, preventing, and detecting fraud risks should be a continuous and evolving cycle that is consistently evaluated and updated based on changes within the threat landscape and corporate environment. The process and results should also be made transparent to relevant team members. This way, areas for improvement are quickly identified, ensuring the best possible fraud risk management solution.

Fraud risk management and Inscribe

Fraud risk management is most effective when an organization leverages the right processes, tools, and technologies. At Inscribe, we provide a technologically advanced anti-fraud program, enabling teams to develop and deploy a clear, in-depth, and up-to-date fraud risk management strategy.

Our capabilities include:

Artificial intelligence (AI) powered fraud detection: Fraud risk detection is an essential step in fraud risk management. Machines can enable teams to detect fraud risks by identifying document fraud, which is often invisible to the human eye.

Intelligent document automation: Maintaining regulatory compliance can be a tedious and time-consuming task. Inscribe’s easy-to-use API automates document checks, making compliance far more efficient and effective.

A secure and encrypted portal: Inscribe reduces external fraud risk exposure by providing customers and other external suppliers with a secure and encrypted portal where they can safely upload and share their documents.

Actionable insights and analysis: Inscribe’s credit analysis and reporting can help organizations detect potential risk regarding clients and customers. Our tools analyze transaction data to understand customers’ spending habits and identify sources of risk.

With $80M+ in fraud caught per month, Inscribe can help your organization improve its fraud management capabilities. To learn more, schedule a personalized demo.