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The Top 10 Fraud Risk Factors Inherent in Dealerships

There are a variety of fraud risk factors inherent in auto dealerships. To say they’re “inherent” means they exist as permanent and inseparable elements — the nature of the beast, so to speak. That doesn’t mean there aren’t ways to control for them; however, the best defense is a good offense. Knowing what risks are out there better positions dealerships to guard against them.

  1. A dealership consists of multiple businesses within one. New vehicles, used vehicles, service, parts, body shop — each of these run as independent businesses under one roof. This makes things extremely complicated, as each department has its own fraud risk factors, making it more difficult to monitor and manage.
  2. Dealership capitalization is typically in the millions. It takes significant funds to capitalize a dealership; this means there are significant funds available to take.
  3. Most assets are highly marketable. This transcends dealership assets such as cars and parts (although both can be vulnerable to fraud). From names and phone numbers to social security numbers, customer information is vulnerable as well.
  4. Dealerships have a high volume of financial transactions, big and small. There are a tremendous amount of financial transactions inherent in dealerships: customers going to the service department, vehicles being sold new and used, customers buying parts over the counter, buying from and selling parts to other dealerships, etc. All of these increase the potential for fraud.
  5. It can be difficult to find the suspected fraud needle in the dealership accounting system haystack. If fraud is occurring, it may be a challenge to find a particular transaction, even if the books are in immaculate condition. If records aren’t in the best condition (books are typically intentionally kept in bad condition if fraud is occurring), finding an individual transaction can become the proverbial needle in a haystack.
  6. There tend to be a high volume of electronic fund transfers (EFTs). With EFTs, fund transfers — often large amounts of money — are conducted instantly, and they’re typically irreversible. At any given time, dealerships may have millions at risk. It’s crucial to establish appropriate security procedures within the dealership and with your bank to protect against this potential nightmare waiting to happen.
  7. Poor segregation of duties is common. Dealerships tend to be family-owned, and even in the best of times, segregation of duties can be a problem. Failure to implement these controls exposes a dealership to tremendous vulnerability.
  8. Dealerships typically allocate inadequate attention and resources to evaluating the cost versus benefit of internal controls. Most auto dealers don’t sit down and say, “Let’s talk about internal controls,” but they should. Internal controls should be evaluated at least once per year and when anything significant occurs at the dealership (staff departures, new hires, etc.).
  9. Employee time is highly leveraged for duties other than internal control-related matters. Many dealerships don’t feel they have the time to implement appropriate checks and balances. For example, it’s vital that someone other than the cashier fill out the bank slip and review bank reconciliations. Failure to do so opens up a dealership to lapping schemes.
  10. Poor economic conditions can have a serious impact. Experts say that three factors must be present for a fraud to occur: pressure, opportunity, and rationalization. Pressure is oftentimes economic — maybe the economy is slow and the dealership isn’t doing as well as it typically does. The previous factors all offer opportunity; it’s only a matter of time before some individuals will begin rationalizing (“They can afford it”; “They won’t miss it”; “Everybody else is doing it”) and exploit those opportunities.

Once these risks have been identified, the next step is to begin making changes to better control them. I apologize if the picture we’ve painted is grim, but you know what they say: “He who does not worry may soon have nothing to worry about.”

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Jim Eagan

877.622.2257, x33257