Insure against sticky fingers

Fidelity insurance : the who, what and why.

Fidelity insurance is a class of insurance that is designed to protect your client against losses incurred as a direct result of fraud or theft on behalf of an employee.

In essence, fidelity insurance protects the client against the potential infidelity of his or her employees.

The perceived complexity

Corruption and fraud are common issues in South Africa, not only in the public sector but also among privately owned and listed businesses.

According to Transparency International’s 2015 Corruption Perception Index, South Africa was given a rating of 44 out of 100 – a poor score, illustrating how deeply corruption is entrenched in our culture.

It is puzzling therefore that so few business owners are aware of fidelity insurance. One reason for this might be the perceived complexity of this type of cover. However, the risks of not having this cover can make ignorance very costly indeed.

Consider the risk of arson, which is an insurable event. The incidence of arson in South Africa is higher than in many other countries as a side effect of our heightened crime rates. This risk is dwarfed, however, when compared to the even higher risk of fraud.

In South Africa, businesses are particularly susceptible to fraud. Why, then, would business owners prioritise insurance cover for arson and other crimes, but not fraud?

What is covered?

There are a few technicalities with fidelity insurance. For instance, it is a requirement that the employee that has committed fraud must have gained something, be it financially or, for example, using stolen goods for personal purposes. Another minor, yet important detail is time restriction. If the fraud is discovered to have been going on for years, the preceding two years will only be covered.

Much like liability insurance, deciding how much fidelity insurance is suitable for your client can be a challenge.

The estimate will be based on the client’s risk profile and other relevant variables, such as the number of staff, stock flow and possible incentives to commit fraud. If the client’s business deals in selling luxury items to the general public for instance, the value of stock is high and also susceptible to crime, as it is physical stock that can be stolen. In comparison, services-oriented businesses might need less fidelity insurance since there is no physical product that can be stolen.

By its nature, fraud within a business is hard to detect and can in some cases carry on for years, resulting in millions in financial losses for your client. Fidelity insurance should cover losses sustained as an indirect result of inadequate controls within the client’s business, but only initially.

If the business is the target of fraud by an employee a second time, insurers will want to know that necessary controls were in place after the initial claim before paying out. If these controls are lacking, the claim may be repudiated.

An unfortunate reality

Your clients’ businesses should have some kind of protection against losses as a result of employee fraud. Corporate conglomerates, for example, have thousands of employees, many of which are paid by different departments within the organisation. This means there are a lot of holes to plug.

Clients with small businesses should also consider fidelity insurance, as stock theft or even low-level financial fraud could be financially crippling without cover. To illustrate, if a business lacks certain basic defences against fraud, a cashier could potentially steal hundreds of thousands of Rands simply by voiding purchases and pocketing customers’ money.

Crime is unfortunately a reality, and the financial loss involved can drastically affect your client’s business. It is therefore essential to mitigate these risks with proper insurance coverage.