When you think about fraud, what comes to mind? Maybe it’s a scam caller from a developing country? Maybe a used-car salesman trying to sell you a piece of junk for double its worth? Well, no matter what comes to mind, fraudsters are everywhere these days, and they aren’t just hurting the common man.
Banks and financial institutions of scale, all fall victim to fraud, and it can be extremely expensive and damaging. How does this happen, and how are banks affected by fraud? Let’s find out.
1. First-Party Fraud
If you haven’t heard of first-party fraud yet, it occurs when someone manipulates or disguises their identity for their gain. These people may lie about important information like their address, income, assets, and more. First-party fraud can affect any organization or company where an individual’s identity plays a big role in the exchange of services.
As you can imagine, banks are a prime target for first-party fraud. Many banking institutions were affected during the COVID-19 pandemic when people abused the Paycheck Protection Program. This would be described as the ‘biggest fraud in a generation’ by NBC News.
About 10% of the $800 billion COVID relief plan was pilfered away by fraudsters. A lack of proper verification meant that entire companies and non-existent employees were created out of thin air to avail of PPP loans. As with most of the frauds we are talking about in this article, it could have been prevented with proper verification. Of course, that’s easier said than done.
2. Check for Fraud
A second type of fraud that also affects banks is check fraud. Here, people forge or alter the amount of money on a check. They might write checks on closed accounts despite knowing that they can’t be honored. Some people also take advantage of the processing lag with online banking to cash a check at a second bank.
Regardless of the method used to commit check fraud, the impact it has is clear. Banks bear the immediate financial loss when they honor fraudulent checks. This includes covering the amount of the fraudulent check and any associated fees. Investigating check fraud requires a lot of effort.
If the fraud is not detected in time, banks may need to reimburse the affected account holders, adding to their burden. We talked about how banks care about their reputation above, and it holds even here.
Banks known for high rates of check fraud may suffer damage to their public image. In the long run, this can affect their ability to attract new customers and retain existing ones.
3. Friendly Fraud
Friendly fraud happens when a customer decides to dispute a purchase, which forces the bank to initiate a chargeback. They may claim that they were hacked or that a child purchased it by accident. That sounds…believable. Those situations happen from time to time, but not all such incidents are legitimate.
Banks see this happening all the time, and it is understandable to think that this isn’t a serious type of fraud. However, when thousands upon thousands of friendly fraud incidents happen, it starts to become a serious problem. We already know that friendly fraud affects merchants, but it’s important to note that even banks are affected.
They lose revenue through processing chargebacks, the need to refund the amount to the cardholder before settling things with the merchant, etc. All these factors and more add to the workload of banking employees. Remember, banks can’t just be careless and approve every single chargeback. They have to spend time assessing the case because the reputation of the bank is on the line.
As Ethoca states, no one wins with friendly fraud. If banks take too long to resolve the conflict, they risk losing customers who had a genuine incident. It’s very hard to spot which chargebacks are fraudulent in the short time frame that banks have.
4. Wire Transfer Fraud
This is one of the most common types of fraud that banks see. In the U.S., it is a federal crime that can get you twenty years in prison and up to half a million in fines.
Wire transfer fraud is pretty old, and the ‘Nigerian Prince’ scam should be something that most people remember. Wire transfer fraud has sustained till today, and has also gotten more advanced.
As with other frauds, this type also causes financial losses, reputational damage, and expenses related to litigation. Some reports suggest that 35% of banks have seen increasing amounts of wire fraud. Interestingly, AI appears to be helpful and can detect patterns that help flag suspicious behavior.
In conclusion, while consumers often have little sympathy for banks, we do need to pay attention to how fraud affects them. The consequences of fraud eventually come back to be faced by the consumer.
The fact is that banks are in a constant game of catching up with fraudsters who keep refining their techniques. With AI becoming an important part of our world, we can be sure that both banks and fraudsters will be using it in some capacity.
