Fraud Prevention Blog

Beware of Return Fraud - Especially during the Post-Holiday Season

Posted by Stephanie Cho on Mon, Jan 11, 2016 @ 09:53 AM

For most, the start of a new year is a time to reflect on goals and positive changes. It is when people take the time to plan out what should and needs to get done for the next 365 days – or for the next 366 days on leap years, just like this year. Unfortunately, for retailers, as desirable as it is to set aside sufficient time to forecast and plan for the next 52 weeks, they often do not have this luxury. Because in the retail world, the beginning of each year simply means that they are in the midst of the holiday returns season.

If dealing with the onslaught of returns – the time and manpower it takes to perform quality control and restock returned merchandise – isn’t enough, the increasing frequency of return fraud continues to add to this chaos.

Return fraud, especially during the post-holiday season, is a rather large problem that can easily impact a business’s financial well-being. Compounding return fraud's affect on a business's financial well-being is the impact of return fraud on innocent customers:

“Retailers have the difficult task of providing superior customer service by always giving the benefit of the doubt to their shoppers when it comes to returns, while simultaneously working to make sure they protect their business assets”
Robert Moraca, Vice President of Loss Prevention at the National Retail Federation

In other words, retailers recognize that customer convenience oriented return policies help keep their honest, loyal customers who have legitimate returns happy, but also recognize that there are those who would take advantage of leniencies in return policies.

There is also an inherent problem with certain types of return fraud - such as the "brick-in-box" return fraud scheme as discussed below - in that these return fraud schemes cause retailers lose twice:

  1. Retailers first lose when merchandise is shoplifted, has prices switched, etc.
  2. Retailers lose again when this merchandise is returned for a refund

What is Return Fraud?

Return fraud, just as the term implies, is the act of defrauding a retailer via their return process. M.L. Nestel, a senior writer for the Daily Beast, describes return fraud as “the invisible heist – or ‘de-shopping’ . . . the increasing number of fraudsters bringing back wares to stores to make an illicit killing has become impossible to ignore.”

"Return fraud" is the umbrella term to describe the many different types of fraud that can occur within the return process. The different types of return fraud are discussed in the next section.

In the same vein as return fraud, any activity known as ‘return abuse’ can impact retailers just as much as return fraud. In short, return abuse is the excessive violation of a retailer’s return policies. Those who are guilty of return abuse do not defraud retailers in the traditional sense, but rather, are guilty of unreasonably taking advantage of return conveniences given by retailers for customers with legitimate returns.

The problem with return abuse:“No one wants to deter a good shopper, but at some point a person’s returns overwhelm the value of his/her purchases and send that customer into a negative margin situation.”
Tom Rittman, Vice President of Marketing at The Retail Equation

Return abuse tends to cause the same types of problems as return fraud – so much so that return fraud and return abuse have been merged into one term: return fraud and abuse, aka RFA. In the retail world, it is common to consider return abuse as analogous to return fraud.


The Different Types of Return Fraud

Wardrobing/Renting: Purchasing merchandise with the intent of returning it after a short-term use; wardrobing/renting is an example of return abuse, rather than return fraud
• Examples: video cameras for weddings/graduations, big screen TVs for the Super Bowl, an expensive dress for a special occasion

“Most frequently, wardrobing involves female customers returning special occasion dresses. In this scheme, a woman will wear the dress, tuck away the sales tag, and then return the dress to the store for a full refund.”
Michelle Singletary, Personal Finance Advisor

Returning Stolen Merchandise: Shoplifting merchandise and returning it for a refund
• A variation of the returning stolen merchandise scheme results with a fraudster netting merchandise, but not a profit upon return: A fraudster legitimately purchases merchandise and makes sure to obtain the receipt → places the merchandise in his/her car → immediately returns to store with the receipt → gets the same merchandise from the shelves → takes this merchandise to the return counter to get a refund

Return Fraud Fact:The return of stolen merchandise is the most popular form of return fraud.

Gift Card/Store Credit Fraud: Shoplifting merchandise and returning it for store credit in the form of gift cards in order to sell the gift card online; gift card/store credit fraud is an extension of returning stolen merchandise fraud since stores typically will issue store credit, not a refund, for returned merchandise without a receipt

Gift Card/Store Credit Fraud is Why Returning Stolen Merchandise Fraud is so Popular:“By selling the gift card online, [criminals] can receive up to 80 percent of the retail value.”
Joseph LaRocca, Vice President of Loss Prevention at Retail Partners

Tender Liquidation: Purchasing merchandise with counterfeit/stolen payment cards to return them for store credit in the form of gift cards in order to sell them online; tender liquidation is a slight variation of the gift card/store credit fraud scheme

Shoplisting/Receipt Fraud: using found, stolen or falsified receipts to return shoplifted merchandise
• Because retailers are putting more and more restrictions on returns that are not accompanied by receipts, shoplisting/receipt fraud is becoming more and more frequent:

“[I’ve] found people combing parking lots outside major stores hoping to luck out on rogue receipts to tender inside for a score”
Bill Hedrick, Chief of Staff for the City Attorney’s Office of Columbus, Ohio

Employee Fraud: Occurs when employees facilitate the return of stolen goods for a refund or store credit
Employee fraud also describes incidences in which an employee singlehandedly perpetrates return fraud by returning merchandise he/she shoplifted using a valid receipt obtained from the POS system

Price Switching: placing lower priced labels on merchandise before purchasing them in order to later return them for their original price
• A real example of Price Switching: A fraudster took $0.88 price stickers from a bin of discount videos, placed them on an $88 The Sopranos box set along with two other box sets, and attempted to purchase approximately $300 worth of merchandise for $3. Thankfully, in this situation, the cashier noticed the fraudulent attempt right away.

Price Arbitrage/Switch Fraud: purchasing a new, working item, replacing it with an old, broken item, and returning the old, broken item disguised as the new, working item
• In other words, this type of fraud is used by fraudsters to keep their personal items “up-to-date” at the retailer’s cost
• A real example of price arbitrage/switch fraud: An organized crime ring would purchase broken electronics off online auction sites, buy the same electronic items that are new and in working-condition in a store, and repackage the broken electronics with the new electronics’ packaging and return them to the store for a refund. They were able to profit over $2 million before being caught.

“Brick-in-box”: purchasing merchandise, placing random, cheap objects in the merchandise’s packaging, and returning packaged ‘merchandise’ for a refund
• Examples of discovered “brick-in-box” fraud: a deck of cards where a digital media player’s mainframe should be, a can of sardines inside a gutted Gameboy, a printer box stuffed with a candy-filled piñata
• A real example of the “brick-in-box” fraud scheme: A group of fraudsters would stand outside a Wal-Mart and convince customers with paint cans to donate the cans for money collection by school sports teams. They then would fill those paint cans with water and return them for a refund. They were able to do this more than a dozen times before getting caught.”
• Although not as rampant as returning stolen merchandise fraud, “brick-in-box” fraud is quite common:

“Even the retailers themselves don’t realize how extensive this is”
Dustin Ares, loss prevention specialist

Cross-Retailer Return: Returning items purchased from another store at a lower price to profit on the difference

E-Receipt Fraud: duplicating or forging an e-Receipt to return stolen merchandise for a refund/store credit

Goodwill Refunds: purchasing an expensive item with an extended service plan in order to call the service plan provider with false claims of a defective item – which typically requires little to no need to prove the item was truly defective – and pocket the profits when a refund from the service plan is given
• A real example of the goodwill refund scheme: a fraudster was able to defraud a service plan provider more than 200 times in 2 weeks before being caught


Return Fraud by the Numbers

% of retailers who have experienced...
91.9% merchandise return fraud
77.4% employee return fraud/collusion with external forces
75.8% tender liquidation/the return of merchandise purchased using fraudulent tender
72.6% wardorbing
71% return fraud perpetrated by organized retail crime (ORC) groups
• Example of an ORC return fraud scheme: On Day 1, the first person would buy expensive items, with a card that seemed fraudulent, but went through nonetheless. On Day 2, a second person would repeat the process. On Day 3, a third person would return all the (fraudulently) purchased items and collect a refund in the form of a gift card that could be resold online.
60.7% an increase in gift card/store credit return fraud
33.9% e-Receipt fraud
30% an increase in fraudulent purchases made with cash
25.8% receipt fraud

Data from NRF

According to the National Retail Federation (NRF), a total of $260.5 billion in merchandise was returned in 2015 – and $9.1 billion of that total was due to fraudulent returns. If return abuse is factored in, $9.1 billion becomes $15.9 billion that is lost to RFA. Each year, the amount lost to RFA continues to grow. According to Robert Moraca, the Vice President of Loss Prevention for the NRF, there has been more than a $1 billion increase in RFA losses compared to last year.

To see just how much RFA can impact a company, consider, for example, a company with $1 billion in revenue. With one billion in revenue, it can be expected that there will be around $80 million in merchandise returns and a loss of $2.8 million from return fraud (factoring in return abuse means that there will be a loss of $4.8 million). In other words, for every $100 in profit, $3.50 will be lost to return fraud, which jumps to $6.10 when return abuse is added to the figure.

“Return fraud is always an issue. In many instances, a particular store could be out a significant amount of money”
John North, president and CEO of the Miami Valley Better Business Bureau

As mentioned in the opening section, retailers lose twice when it comes to certain types of return fraud: once, when merchandise is returned, and second, when it is discovered that the returned merchandise is damaged, other items are returned instead within the merchandise's packaging, and so on. In addition, retailers actually continue to lose past the point of a merchandise's return for all types of return fraud. Consider the time and manpower it takes to make sure returns have not lost their quality, check that the packaging is still presentable, and place the item back into the inventory count and on the shelves – and this is just for legitimate returns!

"Return fraud and abuse is detrimental to sales, gross margins, inventory management, and profitability. Consider, for instance, the time and money spent on simply processing the return shelf, restocking returned merchandise, reevaluating its worth, or determining where, how, or even if it can be resold. Returned merchandise unfit for resale is doubly impactful, as the retailer loses both profit from the original sale as well as dollars spent on acquiring and merchandising the item itself."
Caroline Cardone and Read Hayes, Ph.D.

Other so-called "soft costs" are also incurred when return fraud has been discovered. Store management needs to prepare paperwork, accountants need to book the loses, and store investigators and loss prevention personnel must review video tapes, meet with the cashiers and returns clerk, prepare police reports, and potentially investigate internal collusion. Then, if an eventual arrest is made, statements and potential court appearances may be required.


Return Fraud after the Holidays

Not surprisingly, returns hit a yearly high after the holidays are over. As a percentage of sales, consumers will return 2% more merchandise from holiday season purchases than any other time of year. 10% of holiday sales will be returned, compared to the 8% of sales that are returned during the rest of the year.

More than $63 billion in holiday merchandise is expected to be returned in the post-Christmas weeks
Rachel Murray, Dayton Daily News

Last year, about 3% of holiday returns were fraudulent – this year 3.5% of holiday returns are expected to be fraudulent. According to the NRF’s latest Return Fraud Survey, holiday RFA is expected to cost retailers $2.2 billion this year. Last year, RFA during the holidays totaled approximately $1.9 billion.

Return fraud is so problematic during the holidays that 25% of retailers change their return policies just for the holiday season, such as “no receipt, no return” to try to reduce return fraud.

It’s not hard to see why return fraud and abuse, as well as returns in general, increase during the holiday season. In 2014, 38% of consumers returned at least one item received during the holidays. Enterprising fraudsters take advantage of rise in returns during the holidays – in the midst of the holiday retail chaos, it’s easier to get fraudulent returns to bypass stores’ return protocols. Compounding the chaos of an increased amount of returns during the holidays is the fact that 31.9% of consumers do not include a gift/original receipt when giving a gift, which causes problems during returns, even if the return is legitimate.

“The holiday season is often considered the most wonderful time of year, but as retail sales soar, so do returns. And don’t be fooled by a seemingly valid receipt. Savvy fraudsters know how to prey on holiday cheer costing retailers thousands to dollars in fraudulent returns and exchanges.”
Tom Rittman, Vice President of Marketing at The Retail Equation

Return Fraud Pits Customer Service Against The Bottom Line

"For many retailers, flexible returns have become synonymous with quality customer service . . . an attractive quality for customers who fear the burden of an unhappy purchase. However, as flexible return policies became commonplace, so did return fraud and abuse."
Caroline Cardone and Read Hayes, Ph.D.

Returns are a necessary part of the retail process. There are a multitude of legitimate reasons why a customer would need to return merchandise: an electronic item doesn’t work, a packaged toy is missing pieces, food has gone bad before the expiration date, and so on. If there was no return policy in place, retailers would have a hard time nurturing customer loyalty – which is why completely doing away with a return policy to stop return fraud is not the answer. The answer involves finding the balance between customer service and protecting the bottom line.

“Unfortunately, due to an increase in return fraud, retailers are being forced to strike a delicate balance between servicing loyal shoppers and discouraging opportunistic criminals.”
Joseph LaRocca, Vice President of Loss Prevention for Retail Partners

Combating return fraud necessitates that retailers keep in mind that their return policies should not hinder or punish those with legitimate returns. Protecting your business from return fraud while keeping honest customers happy is a fine and difficult line to walk, but the prevalence of return fraud requires that retailers thoroughly evaluate their return policies and protocols to see whether there are any gaps or inefficiencies that need to be addressed to protect their bottom line.

As the population grows, and thus, sales, the amount of return fraud can be expected to grow with it. As Foster Finley, managing partner at AlixPartners remarked, “It’s a big issue, and getting bigger. As the volume of returns increases, people are going to be clever about figuring out ways to maximize money.” While criminals will continue to think of new ways to circumvent retailers’ return policies, there are steps that retailers can take to defend their businesses against the types of fraudulent and illegitimate returns of which the retail industry is aware.


How to Protect Your Business from Return Fraud

Before planning out a return fraud prevention system, make sure to be aware and educated about the different types of return fraud that exist. How can you design a return fraud prevention system that protects against fraud of which you are not aware? Don’t feel discouraged if you were not aware of the many different types of return fraud listed above. Many retailers, in fact, seem to be unaware of the types of fraud their return systems need to be designed to protect against: Fewer than half of retailers rated their return policies as “effective” in deterring fraud.

As a rule of thumb, it is highly recommended that you revise/update your return policy if:

  • Your return rate has increased in the past 3 years
  • Average markdown rates following a return are increasing
  • The percentage of returned merchandise you are able to resell has declined

When designing your return policy, you should:

  • Use hard data about returns, including sales and markdown rates of returned items
    • Using objective, verifiable data to help determine whether or not a return is legitimate reduces the time and errors made when relying solely on subjective observations and guesswork by sales clerks
  • Make sure all staff is trained on your return policy and it is uniformly enforced at all locations at all times
  • Have manual store-level authorizations for handling return authorizations and for verifying that returned merchandise is legitimate for restocking
  • Make sure the policy for accepting returns without a receipt is strict and clear
    • For non-receipt returns, require management-level approval
    • Require that identification be presented for non-receipt returns: 85.2% of retailers require identification when returns are made without a receipt
  • Consider requiring identification for all returns, even if there is a receipt
    • 18% of retailers require identification when returns are made even with a receipt
  • Not accept returns beyond the quantity of returns allowed by an individual customer
    • Requiring identification for all returns will allow you to track the returns made by each customer so that it will be flagged if a customer attempts to return more than what is considered a reasonable amount
  • Tie in your point-of-sale system to your return policy in order to:
    • Track the frequency of purchases vs. returns for a particular customer, whether or not any of those were flagged as fraudulent
    • Track the type of merchandise a particular customer purchased
    • Track the dollar amount of each purchase per customer
    • Track the employees involved at each transaction: at purchase and at return
    • Track the store location (if there is more than one store location)
  • Have store-specific stock-keeping units or SKU codes if there is more than one store location, in order to prevent cross-retailer return fraud
  • Consider investing in RFID (radio frequency identification) tags for more expensive merchandise; RFID tags help keep track of a merchandise’s history, which can be retrieved even after purchase
  • Not accept returns after the allowable return period5
  • Not accept a return on non-returnable item5
  • Keep customer loyalty in mind by allowing special considerations on returns from loyal/regular customers
  • Have a dedicated return specialist, if possible, in order to:
    • Free up the cashier from delaying purchases
    • Make returnees have to go to the same person for returns
    • Streamline and secure the return process, since all a return specialist would do is process returns and quickly move up the learning curve of fraud detection
  • Block gift card resale companies from checking the value of gift cards online to combat gift card fraud, although this may come at a cost to customer convenience

The most important aspect of modern return fraud protection is to incorporate identity verification in return policies. According to the IRS, a good chunk of return fraud stems from identity theft – whether it is through the use of counterfeit/stolen identities at the point of purchase or through the use of counterfeit/stolen identities at the point of return.

The use of identity theft in return fraud is becoming so increasingly common that Robert Moraca, Vice President of Loss Prevention at the National Retail Federation urges “retailers to continue their tried-and-true ways of combating fraud through the increased usage of identification verification”. To verify identities at both the point of sale and the point of return, invest in identity verification products such as an ID-150 Identity Document Reader.

Ultimately, a solid return policy should stop more return fraud than the costs needed to stop it:

“At the most basic level, the benefits of RFA prevention should exceed the costs involved in preventing it. The goal is simple – target the types of fraud that undermine profit the most and develop high-impact methods to address those types . . . [D]evelop a system that accurately identifies ‘bad’ or high impact returners first by pinpointing the specific behavioral patterns characteristic of fraud and abuse.”
Caroline Cardone and Read Hayes, Ph.D.

Short of re-vamping your return policy, you could always follow in Best Buy’s footsteps and devote floor space to selling refurbished, damaged, and open-box merchandise at discounted prices in order to balance out losses to return fraud.

Topics: retail fraud, organized retail crime, fraud, return fraud

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