Unraveling embezzlement can be as complicated as an episode of Law & Order. Remodeler Joe Christ says the trade background of most remodelers leaves them at a disadvantage. “We don't know business, so we are vulnerable and naïve about the consequences.”

“[Remodelers] so badly want to delegate something. The first thing they delegate is money, when it should be the last,” says accounting consultant and author Karen Mitchell of Online Accounting (www.onlineaccounting.com). “What leads people to steal is they don't think the owner is paying attention.”

Wendell Harmer, general manager and owner of The Wills Co., says his company was victimized twice. “The first time it was an entitlement mentality. The employee thought he was working hard and deserved it. The second employee I don't believe was a criminal at heart, but she had a weak moment.” In addition to theft, Harmer says sloppy bookkeepers also damage finances. This takes an emotional — as well as monetary —toll. “It's the worst feeling. We go through all these efforts to provide a good place to work, be loyal, and share profits. To be betrayed over a few thousand dollars is frustrating,” Harmer says.

The following six remodelers dealt with embezzlement and survived. Here are their stories.

Linda Gridley
Gridley Co.
Campbell, Calif.
When: 1994
Employee's title: Bookkeeper
Tenure: 1 year

Method: The bookkeeper was responsible for paying bills. She had access to the checks and would bring them to Gridley to sign. “I did not review sequential numbering because checks would trickle in,” Gridley recalls. The bookkeeper began writing checks to herself from the petty cash account and forging Gridley's signature.

Discovery: Gridley says the employee was an “earth-mother type” with a teenage daughter, and “is the last person you would think would do something dishonest.” Gridley had been distracted by a fire in the company's showroom. She was just settling back into a routine when she found some forged checks in her statement. She, her partner, and senior staff went through past statements. “We pulled out just the obvious stuff — there was probably much more,” Gridley says. The employee had stolen $5,000 in about three months. “She was getting bolder and bolder. She could have wiped me out if she had gone for six to eight months,” she says.

Follow-up: Gridley's mentor said she had to have the bookkeeper arrested or find a way to get the money back, but she had to move quickly. She filed a report with the police. Gridley hated to send the mother to jail, but she also did not want her to do the same thing to another company. Ultimately, the remodeler chose not to press charges. “She borrowed money from family members to pay us back,” Gridley says.

Gridley called an all-staff meeting. She explained that although the $5,000 theft hurt the company, the employee had significantly damaged her life and reputation.

Policy changes: In Gridley's new check-processing system, two people review everything. “The person reconciling the bank account is not the same person writing the checks,” she says. Bank statements come to her unopened, and she regularly reviews all checks and invoices.

Joe and Susan Johnson (not their real names)
Western U.S.
When: 2005
Employee's title: Bookkeeper
Tenure: 1 year

Method: The bookkeeper began stealing within three weeks of starting work at the company. She used several methods.

  • She processed extra paychecks for herself. If an employee was on vacation, she would put his name on the draw, but would put her bank account number on the direct deposit. She would deposit some client payments into the payroll account so she could write these extra paychecks to herself. She also paid personal debt using the payroll direct deposit.
  • She regularly put company money into the petty cash account so she would have access to this money. She overpaid vendors and deposited the refunds into petty cash. She wrote checks from this account to herself.
  • She stalked the mail so she could hide the signs of theft. She also answered calls from vendors about late payments. The owners would sign vendor payment checks, but she would not mail them because she knew there was not enough money in the account.
  • She used the company credit card issued to other employees to purchase toys, clothes, and shoes.
  • She used the “convenience” checks that are attached to credit card statements and deposited them into the operating account to cover the theft.
  • She installed a program on the office computer that would provide her with access to the accounting system from her home computer.

Discovery: The owners received a late-night call from a credit card company asking why they were not paying their bills. They called the bookkeeper to ask her about the issue, and she said she did not have an answer. They told her not to come to the office after hours until they resolved the issue. The owners believed this was just one of many errors she had made during her employment. This soft approach was a mistake. The bookkeeper took the opportunity to delete the files on the accounting system, take the paperwork from the office, and then quit. It was not until later that week the owners discovered the extent of the theft.

Follow-up: The owners are pursuing charges against the bookkeeper. They hired forensic accountants and computer specialists to collect evidence to present to the police. “She is looking at 5 to 15 years — six felonies with what she did at our company,” Susan Johnson says. “The police added a separate felony charge for lying to a probation officer, which could triple that sentence.” The bookkeeper had a past conviction and was on probation with the caveat that she not work as a bookkeeper. Though the Johnsons routinely do employee background checks, the report on the bookkeeper was clean. “The state reviews do not work. You have to find out every county this person lived in and do checks at the county level. You also have to check adjacent counties,” Susan advises.

Besides collecting evidence, the accountants and computer specialists are trying to re-create payroll systems and accounting records. “We're entering all past checks by hand into a spreadsheet,” Susan says.

Two things helped the company survive. First, the owners added fraud coverage to their business insurance a month before the employee started at the firm. “We had a $100,000 policy. The insurance company paid $25,000 toward costs to rebuild our books,” Susan says. The owners mortgaged their office building to keep the company in business.

The second lifesaver was the company's designer and cabinet shop manager. He did not involve himself in unraveling the embezzlement so he could concentrate on selling projects. Having that money coming is helping them recover.

“One thing that hurt us as much as the theft was that she was hiding the truth of where we were financially. We proceeded with things we should not have done if we had different financial data presented to us,” Susan says.

The company has finally reached a point where it has stopped trying to find all the money the bookkeeper stole. “At some point you have to let it go. Just find the big stuff and get your company back on an even footing,” Susan says.

Policy changes: The Johnsons gathered information from accountants, books, and their own experience to create a three-page document of what companies should do to protect themselves against employee theft. “You may think the security protocol is time-consuming, but we spent 80 hours a week for months trying to fix our company. It's not worth that,” Susan says. (See “Protecting Yourself” for a list of security details.)

John Smith (not his real name)
East Coast
When: 1990
Employee's title: Partner Tenure: 2 years

Method: Smith and his partner had known each other for about eight months when they decided to make career changes and purchase an existing remodeling company. They were 50/50 stockholders in the corporation. Smith operated the deck building division, and his partner operated the remodeling side.

The corporation had an official name, but was “doing business as” (dba) XYZ Construction. The partner formed a separate company by incorporating the dba of XYZ Construction. He began signing contracts under XYZ Construction and depositing the down payments into an account for that company. Smith had no idea that the account existed. The partner had told Smith that the remodeling side of the business was really struggling, but he was actually diverting the profits into this account. He also purchased materials for those jobs on the primary company's charge accounts.

Smith says he seemed to be readying himself to break from the partnership, but to still have a company with an established name. “For him it was a seamless break. From my side, he was stealing,” Smith says. “Stealing money, the company name, and the goodwill that we had built.”

Discovery: The company's post office box was closer to the partner's house, so Smith rarely checked the mail. When he finally did, he discovered statements from a bank where the company did not have an account.

Follow-up: The bank where the partner opened the account would not share any information about the tax identification number on the account. “I had to get outside assistance. I was not going to confront him unless I had all the facts,” Smith says.

He hired an attorney who contacted the state corporation commission and discovered that the partner was the principal for the company. Armed with this information, Smith confronted the partner, who admitted that he wanted to start his own company using the dba of the original company. Smith's goal at that point was to retain the company name and the license. He reached his goals and settled the case. “It cost a lot of money in legal fees. I had to initiate everything,” Smith says. He says he felt the effects for two years. He diverted his salary to pay for the attorney fees, but eventually paid himself back.

Policy changes: The most obvious change Smith made was to never partner with anyone. “When owners are involved in swindling, it is tough to set up internal controls,” he says.

He now has a dual check log procedure for customer payments. The office manager logs in checks in one place; the bookkeeper then logs them into the accounting system. “This is for several reasons. First, we can make sure that when the field generates an invoice and collects, we know money is due. Second, I can see the office manager has endorsed it. Then I can see that the bookkeeper has entered it in the system. Those three things need to match,” Smith says.

Smith, his wife, and the bookkeeper are authorized to sign checks. Bank statements are sent to Smith's house, and he opens and reviews them at home before bringing them to the office.

He also checks statements to see if anyone has used the bank's counter checks for cash. In addition, Smith switched to a smaller bank where the officers know him personally. “They will call about checks that don't look right,” Smith says.

He has also informed his vendors that charges to the company's accounts are not valid unless attributed to a purchase order. “This prevents an employee from ordering a load of lumber that gets delivered to their house,” Smith says.

Ray Wiese
The Wiese Co.
Natick, Mass.
When: 2000
Employee's title: Bookkeeper
Tenure: 4 months

Method: The bookkeeper was purchasing items through the company's vendors, such as The Home Depot, for her home. “Everyone in America can use products from that store,” Wiese says.

Discovery: Wiese fired the bookkeeper because she was taking sick days without good excuses. “She was performing really poorly — almost as if she wanted to be fired,” he says. Wiese had noticed a significant dip in gross profit on jobs. When Wiese and his wife reclaimed the books, they noticed that the products on the vendor invoices did not correlate with their projects. She had taken $8,000 worth of materials.

Follow-up: Wiese did not pursue legal action against the employee because it would have been too expensive and would have shifted his focus from the company. “It was a cost/time issue,” he says.

Policy changes: Wiese says remodelers should change their attitude about small monies.

“It's not always the big hit that will get you. It's those incremental amounts,” he says.

Wiese's wife, Terry, has since joined the company. They hired a new bookkeeper, and also put some checks and balances in place to “keep an honest person honest.” Their new bookkeeper does not have control of the checks. She prepares checks for Wiese or his wife to sign. Wiese keeps the blank checks in a locked drawer. The production manager has a checkbook, but at the end of every week is required to direct each check to a specific job. Wiese's wife reconciles all the bank statements.

Joe Christ
Crist Construction
Cheektowaga, N.Y.
When: 1989
Employee's title: Office manager
Tenure: 2 years

Method: Christ's office manager prepared checks for him to sign. He assumed that she mailed them to the appropriate vendors and the government. What she actually did was throw away the payroll tax checks, write checks for the same dollar amount to herself, and forge Christ's signature. When Christ reconciled the checks, he did not notice the name change because the amount was correct. The office manager also intercepted the tax notices that arrived by mail.

Discovery: Christ was going through a divorce and was distracted. One weekend when he was reviewing the checking journals, he noticed the nonconsecutive check numbers. When he received copies of the checks from the bank, he saw they were made out to his office manager. She was arrested and received a sentence of two years. During the trial Christ found out that the employee had served a year in jail for stealing from a previous small business where she was employed. Christ also sued the bank for accepting 60 forged checks.

Follow-up: Christ said he was able to recover a good portion of the money from the bank, but it took a long time to recover from the IRS. The government agency added interest and penalties to the payroll taxes, which doubled what he owed.

Policy changes: Bank statements are now mailed to Christ's home, and he reconciles them regularly. He switched to a payroll service that automatically withdraws and pays payroll taxes. “I will never have trouble with that again,” he says.

Protecting Yourself

Here are some tips from Susan Johnson of Johnson Construction (not her real name) on how to avoid embezzlement.

  • Owners should check mail.
  • Have bank statements mailed to the owner's home address or a post office box, or placed in a locked mailbox.
  • Mail all vendor payments and client bills to ensure they are actually paid and verify that the amount on the invoice matches the check.
  • Instruct clients to give payments to the owner. Do not allow them to hand-deliver payments to your office or give them to employees. Send a SASE with client statements.
  • Ask creditors to call the owner's home number with late-payment issues.

Bank Accounts

  • Owners should make all deposits.This will prevent fraud from overpayments that are then refunded and deposited into the wrong account.
  • The owner should not take bank statements to the office until he/she has scrutinized signatures and vendors for authenticity. Alternatively, keep the originals and give the bookkeeper a copy of the statements.
  • Do not give a bookkeeper signature authority on any accounts.
  • If the owner is not willing to critically review bank reconciliations prepared by others, he or she must reconcile accounts themselves. Or have a third party reconcile statements once a month.
  • Maintain as few bank accounts as possible. If the company needs a petty cash account, the owner should maintain control of the checks or have someone other than the bookkeeper track them with a check log. The log should include the check numbers, the date signed, and the date mailed.

Credit Cards

  • Write to all credit card companies requesting that they not send “convenience checks” with the statements.
  • Keep a list of all employees with company credit cards in a secure place and make a note to reclaim the cards when they leave the company.
  • Do not allow personal purchases on a company credit card — it makes it more difficult to identify fraud.

Vendor Lists

  • The owner should periodically review the vendor list for any unusual patterns, such as names similar to the names of approved vendors or vendors with multiple addresses.
  • Inspect files of unpaid invoices and vendor statements to look for invoices that appear different from the norm, have consecutive vendor invoice numbers, or are pre-printed or are not customized forms, have different delivery addresses, different telephone numbers, or current activity on an outdated vendor.

Payroll Risk

  • Consider hiring an outside payroll service. That company is responsible for tax payments and reports, both state and federal.

  • Computers

  • An employee can easily install a connection to your computer system using the Internet. Hire an expert to regularly sweep the system for bugs and/or install software to monitor computer use.
  • Set up an off-site backup system that does not involve the bookkeeper.

Insurance

  • Most insurance companies that write company general liability insurance also offer policy riders for employee theft, also known as employee fidelity insurance. Add a benefit for “reconstruction of records”.
  • The amount of insurance isn't as important as the coverage. Owners should carefully review the fine print to understand exactly what is covered.

Background Checks

  • Obtain comprehensive criminal, credit, and driving background reports.
  • The most accurate report is at the county court level. Check on the counties of residence as well as adjacent counties.

Make Vacations Mandatory

  • Embezzlers don't take vacations because they can't risk the owner being tipped off by a bill, letter, or phone call while they're away.
  • Some companies require their bookkeepers to be out of the office one day every month or two, while someone else audits the paperwork.

QuickBooks Tips


from consultant Karen Mitchell

Make sure the Audit Trail feature is turned on. The Audit Trail tracks what all users are doing in the system. In the 2006 version, it is always on, but check it as well as older versions of the program. If someone does delete a check, the program tells you which user deleted it, the day and time, and the check number.

Set up a password that allows only the company owners to have full control. Give bookkeepers limited control — do not allow them to modify the system or to delete from it.

Karen Mitchell is owner of Online Accounting, in San Mateo, Calif., a company specializing in construction accounting.