3 Myths About Internal Controls Every Business Owner and Investor Needs to Know

Asset protection is almost always at the top of the list of questions I get from investors and business owners. One of the most effective (and perhaps most overlooked) asset protection tool an investor or business owner can have is internal controls. What exactly are internal controls?

Internal controls are systematic measures designed to protect against negative actions in your business or investing activities. The systematic measures may include checks and balances, reviews or procedures. A negative action could include theft, stealing, cheating, fraud, embezzlement, fiscal misconduct, or the misrepresentation of an identity. Negative actions also include careless mistakes and errors. Consider this: A check is cut in the amount of $5,000 to pay a $500 invoice. This is definitely a negative action. It may or may not be intentional. It could simply be a typo. Or, it could be that the person cutting the check is hoping to pocket the difference. In either case, internal controls can help detect or prevent this type of error.

The Top 3 Myths I Hear About Internal Controls

I find that most business owners and investors don't have proper internal controls because they think internal controls don't apply to them. I believe all business and investment activities benefit from having proper internal controls. Let's look at each myth.

Myth #1 My Business and Investing Activities Are Too Small for Internal Controls

Even if you are the only employee in your business and investing activities, internal controls can still be an effective asset protection tool. Internal controls help prevent or detect unintentional negative actions. This applies even if you are the only one in your business and investing activities.Using the above example of cutting a check for the wrong amount, having a procedure in place to compare a cut check to the original invoice before signing a check will help detect and prevent this type of error. This type of internal control is effective if you are the one doing it all, or if you have someone else cut the checks and you sign them.

Myth #2 Internal Controls Are Too Complicated

Internal controls do not have to be complicated. They just need to be effective at detecting or preventing negative actions.The internal control example shared in Myth #1 is not complicated, but it is effective. Other examples include:- Doing a background check before hiring a new employee or outside vendor. This can help determine the history or character of an individual and prevent negative actions.- Having a policy to review bids for repairs on your rental property prior to approval. This can help prevent excess or inappropriate expenditures.- Setting up a confirmation system of all transactions within your stock trading with your investment advisor or broker regarding each stock trade. This can help detect or prevent errors by verifying trades are made at the time and in the quantity you desire.- The simple act of reconciling your bank statement each month is an effective internal control. The above are not complicated, but each are effective at preventing or detecting errors.

Myth #3 I Don't Need Internal Controls Because I Trust My Employees

As much as you may trust your employees, you still need internal controls. First, in the majority of embezzlement cases I've seen, the person embezzling was a trusted employee (and often a long time family friend). Second, internal controls protect and help your employees by giving them specific direction, or instruction or guidelines to do their job.Third, internal controls detect or prevent unintentional errors so while you may trust your employees, it is unreasonable to expect they will never make a mistake. Internal controls help prevent and detect these mistakes. Remember! Internal controls are systematic. This means they are most effective when they are regularly followed and are integrated into the daily routine of your business and investing activities.

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