The Evolving Impact of Return Fraud and Abuse

return fraud

The concept of the retail return is a relatively new phenomenon. In the mid- to late-twentieth century, retailers began accepting returned merchandise as an attempt to gain a competitive edge. The concept worked.

For many retailers, flexible returns have become synonymous with quality customer service. Nordstrom, for example, has built a reputation for no-hassle returns—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 return abuse. In 1995, for example, STORES magazine reported return fraud and return abuse had become a serious problem for the retail industry, and warned it was likely to worsen.

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Many years later, this foreboding prediction has been realized in a big way. Abusive return fraud schemes have expanded at an alarming rate, putting merchants in a seemingly “no-win” balancing act—losing money from fraud and abuse versus needing to keep returns flexible.

Indeed, modern shoppers view flexible return policies not as a privilege, but as a right. Many prefer to make the final purchase decision at home. These customers may refuse to shop with retailers that have stringent return policies, turned off by the idea of having to “negotiate” a return. The multitude of alternatives available contributes to the expectation that shopping should be fast, flexible, and fair. If one retailer doesn’t have a compliant return policy, shoppers have plenty of other options, making flexible returns a necessity for any retailer aiming to stay competitive in today’s market.

The Impact of Return Fraud and Abuse

Retailers surveyed by the National Retail Federation in 2015 estimated that $9.1 billion of annual returns are likely fraudulent—a cost inevitably passed on to consumers and shareholders. Although the direct financial losses resulting from return fraud are substantial, the peripheral losses can be just as damaging.

Retail 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 itself, 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.

Adding to this problem is that fact that return policy abusers have become increasingly savvy, developing complex schemes to borrow and/or return multiple items or very expensive items, for convenience, cash, or credit. Offenders with even the most basic knowledge of certain types of software are able to use technology to deceive retail employees and take advantage of return policies.

Kevin Thomas, former manager of corporate loss prevention investigations for Office Depot, reported that many types of return fraud and return abuse are computer-assisted. “Some involve phony or altered receipts,” said Thomas. “Computer-generated UPCs placed on top of the actual UPC to generate more refund dollars and gift card fraud.” Such sophisticated techniques present an ongoing challenge for retailers—how to minimize return fraud and abuse without creating restrictive policies for legitimate consumers.

Types of Return Fraud and Abuse

Unfortunately, in the perpetual battle to minimize retail loss, return fraud and abuse is one of the most insidious threats for retailers to control. While some forms of loss, like shoplifting or employee theft, are defined by a clear act—the illegitimate removal of assets— return fraud and abuse is more complex and thus more difficult to measure, assess, and control.

Return fraud and abuse exists on many planes, with varying levels of “right” and “wrong.” The teenage girl who knowingly returns a once-worn party dress is a return policy abuser, as is the organized retail crime ring member who steals electronics in bulk and then returns them for hundreds of dollars in cash or for a loaded gift card.

However, law-abiding consumers make valid returns every day, and retail merchants would be ill-advised to discourage them from doing so. No retail chain wants the reputation of being strict on returns in today’s competitive retail environment. Such draconian policies could permanently cost a retailer legitimate consumers.

Return Fraud and Abuse Defined

The first step in addressing the issue of return fraud is developing an understanding of its many iterations. David Speights of Appriss Retail (formerly The Retail Equation/Sysrepublic) offered the following three categories as primary return fraud and abuse definitions:

Opportunistic Return Abuse. This type of return fraud and abuse activity takes advantage of consumer service-oriented return policies for personal gain, often on an opportunistic, unplanned basis. One example is price arbitrage.

“Suppose an item is purchased for $80 and the customer loses a receipt,” said Speights. “If they later return the merchandise without a receipt, the customer may receive $100 in store credit for their return if the merchandise was bought on sale. It is likely the customer will not point out this discrepancy.” In this case, the customer has committed fraud by taking advantage of the retailer’s mistake.

Intentional Return Abuse. These schemes take fraud a step farther by using the return policy exclusively for personal gain on a regular and planned basis. A key difference between normal return activity and abuse is intent—a return abuser intends to use and return merchandise and often does so on a repeated basis.

The most common example is retail “renting” or borrowing. This practice is defined by the purchase and short-term use of a non-defective product with the ultimate intent of reclaiming the cost by returning it later as if new. Studies have identified retail renting as the most common form of return fraud and abuse, accounting for up to 52 percent of fraudulent or abusive returns. Offenders apply this practice to a wide array of products, from clothing used for a special event to electronics and tools used for particular one-time or short-term events or jobs.

Renting of clothing and accessories has become so prevalent that smaller retailers have emerged to serve the explicit purpose of renting apparel. Members pay a monthly fee in order to borrow the latest and trendiest in fashion for a set period of time.

Retail renting renders legitimate the practice of renting via explicit procedures, though mass merchants and nationwide chains appear unlikely to adopt the practice in the near term. Instead, larger-scale retailers apply more subtle policies to offset the effects of renting, including setting return time frames, tracking frequent offenders and their affiliates, and applying “restocking fees” that dissuade consumers from buying and returning higher-priced merchandise.

Return Fraud. This most extreme form of return fraud and abuse involves activities that clearly violate the law, from check fraud to return of stolen goods.

  • Check Fraud—This type of fraud involves the purchase of an item with a bad check, and return of the item before the check clears. Gift card fraud can sometimes work in the same manner, though it requires more elaborate, time-sensitive scheming on the part of the fraudster.
  • Price Manipulation—Price tag or container switching, price alteration, or the practice of replacing one item for another before making a return are all iterations of price manipulation. For example, an offender might purchase two similar items with different prices, switch the packaging, and return the cheaper item at the higher cost. The more expensive item can then be sold online or to a fence.

Retail loss prevention managers report even more sophisticated forms of price manipulation are on the rise. “[Offenders will] put a different item’s UPC on the item to buy it for less and then take the UPC off and return it for full price,” said Kristy Schafer, formerly of Shopko.

Such advanced types of fraud require some technical expertise and knowledge of UPC codes and labels to accomplish. Counterfeit UPCs can sometimes be obtained online.

  • Returning Stolen Merchandise—Using stolen merchandise for return fraud has become slightly more difficult, as many retailers now require a receipt for a cash refund. However, serial offenders will seek receipts out in order to facilitate fraudulent returns. For example, if a receipt isn’t available, the returner may accept a store credit, which in today’s connected world is easy to resell online at a discount, or resort to tender fraud, or the practice of converting a non-receipted return into a cash return. Other return fraud offenders search store parking lots and trash for usable receipts.
  • Receipt Fraud—This can take many forms, though the ultimate goal—to produce a receipt with which to validate a fraudulent return—remains the same. This type of abuse developed in retaliation to retailers’ evolving approach to return policy, which has increasingly required a printed receipt for a cash return.

Retailers have adopted this more restrictive stance in response to certain abuses, such as the emboldened fraudsters who enter a store, grab an item from a display, and immediately return it for a cash refund. Today, most retailers require a receipt issued within the past ninety days before issuing a cash or credit refund.

Conversely, non-receipted returns are usually issued a merchandise credit. Return abusers have turned to various tactics in order to acquire the receipts necessary to guarantee a cash or credit refund. These tactics include printing counterfeit receipts, forging receipts, purchasing fake receipts online, or as mentioned, scavenging for discarded receipts in stores, trash bins, or parking lots. Once a receipt is obtained, the offender simply goes through the store, picks up all the items on the receipt, and returns them for cash, a practice referred to as shoplisting.

Organized Retail Crime

Adding to the impact of these return fraud and abuse categories is organized retail crime (ORC). One of the most serious threats facing the retail industry today, organized retail crime costs retailers billions of dollars each year. ORC networks attack retailers with a savvy gained from years of criminal experience, targeting bulk quantities of high-demand goods. Often operating with large pools of cash, ORC groups are able to carry out large-scale return fraud schemes with devastating financial impact.

These gangs employ a multitude of return fraud tactics, ranging from systematically returning stolen items to store service desks for cash refunds or store credit/gift cards to providing cheap counterfeit goods and repackaging them for cash returns.

ORC groups are particularly nefarious in their strategic, pre-planned approach to fraud. They will use retail outlets as ways to launder money, using retail goods for cash conversion, or work in collusion with store employees to obtain multiple cash refunds. ORC field operatives may also be violent to intimidate employees to facilitate their escape, putting shoppers and employees at risk.

Furthermore, the profits gleaned from ORC are frequently funneled into other illicit activities, like drug trafficking, illegal immigration, or even terrorism. It is, therefore, imperative retailers form a targeted approach to identifying and intercepting such abuse schemes using software to detect, track, and address offenders and offending patterns.

Internal Return Fraud and Abuse

Internal return fraud and abuse committed by store employees is doubly harmful to retailers, as it stems from the very individuals in charge of protecting assets. This irony also makes internal fraud particularly difficult to identify and assess since interviewed retailers report offenders are increasingly looking for ways to steal more while covering their tracks.

Loss prevention managers must perform elaborate investigations in order to detect, track, and respond to losses from internal sources. Like organized retail crime, internal fraud can result in serious financial losses. Store managers and employees are intimately familiar with store policy, and when dishonest employees manipulate procedure for personal gain, hundreds of thousands can be lost.

Dishonest employees will credit legitimate as well as false returns to gift cards or credit card accounts for themselves as well as family and friends. Exception-reporting software that detects POS and inventory anomalies, as well as employee hotlines and surveys, can provide both deterrence and detection. Likewise, thorough retail pre-employment assessments using background, interview, and testing data, along with good store leadership execution lower the probability and effects of internal return fraud and abuse.

Identifying and Addressing Return Fraud

At the most basic level, the benefits of return fraud and abuse 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.

It wastes time and money…not to mention a detriment to customer service…to attempt to target all fraudulent returners, especially since some forms of return fraud are defined by intent. A better approach is to develop a system that accurately identifies “bad” or high-impact returners first by pinpointing the specific behavioral patterns characteristic of fraud and abuse.

Retailers and loss prevention experts use a range of different return procedures to minimize the effects of return fraud. Many employ manual store-level authorizations for handling return authorizations, as well as verifying legitimate restocking. This means store personnel are in charge of interpreting and applying return policy to individual returns and identifying fraud. Fighting return fraud using this method of processing returns is dependent on employees’ subjective assessment of both the return and the customer.

Some retailers use POS refund systems, either purchased from an outside vendor or developed in-house, to process returns. Such systems allow retailers to automatically tie receipted returns to the original receipt value, or, in more sophisticated and integrated systems, allow retailers to swipe a driver’s license or other ID in order to obtain customer information, such as name, address, and phone number. If a POS system is unable to perform this function, the information is typically entered manually.

Automated POS systems are helpful in pinpointing “bad” returners—that is, systematically identifying those repeat offenders whose purchase/return profile is consistent with return fraud. Other systems are designed to go even further by looking for individuals with links to high-impact returners via data mining.

Receipted vs. Non-Receipted

Too often a discrepancy exists between how retailers handle receipted versus non-receipted returns. Many current return policies and systems are not effective in the pinpointing of “bad returners” in possession of some form of receipt. In fact, fraudsters with stolen or forged receipts are often able to make returns with few questions asked.

In a survey of return procedures conducted by LP Magazine, the majority of retailers stated their return procedures differ for receipted versus non-receipted items. A customer without a receipt will frequently be asked for personal information, such as name, address, and phone number. Most store procedures also require employees to assess price and timeframe and obtain management approval before accepting a non-receipted return.

However, procedures are often more relaxed for receipted returns, since receipted returns are perceived as legitimate. Because so many forms of return fraud and abuse are based on forged or otherwise illegitimate receipts, there is significant potential for retailers to minimize return fraud and abuse through a more precise system of targeting bad returns—for both receipted and non-receipted.

Anti-Return Fraud Technologies

Systems programmed to identify bad returners and analyze past behavior before authorizing a return can help resolve this situation. Such systems are able to immediately identify the individual and determine whether or not he or she fits the profile of an abusive returner, regardless of whether or not a receipt is involved.

As Speights explained, this type of software “uses the transaction history of the consumer or employee to identify behavior that is associated with return fraud and abuse. By using predictive modeling techniques, it can create hundreds of variables on each consumer and employee. These are combined in sophisticated mathematical models to determine the likelihood of fraud and abuse.”

The key to effectiveness with such a system is the definition of a fraudulent return. The nature of this definition will vary among retailers, but will consist of objective criteria specifically developed to target fraud, such as:

  • The frequency or number of purchases versus returns processed for that customer, whether or not any of these were tagged as fraudulent,
  • The type of products the customer purchased,
  • The employees involved in the transaction,
  • Store locations, and
  • The average dollar value of each purchase.

These systems eliminate the subjectivity inherent in employee-handled returns and may help the retail industry stay ahead of the adaptive criminal. More advanced technologies may employ heuristics and actually learn to evolve to serve changing situations, making the challenge of adaptation that much easier.

The Future of Return Fraud Prevention

As retailers begin to use more comprehensive, high-tech return fraud-prevention systems, offenders will, in turn, devise ways to either avoid or take advantage of them—a fact most retailers understand and accept. “As technology evolves,” Thomas explained, “refund fraudsters will continue to develop ways around the system enhancements.”

Examples of this type of system-avoidance involve making infrequent returns, returning items to different stores, or using other IDs or people to make the return. Before such retaliations become a problem, retailers should work to adopt more comprehensive return fraud-prevention systems.

“Large, shared databases will be essential in the future,” Speights said, “because it is the only way to combat multi-retailer fraud schemes. Retailing is heading toward more data sharing in order to prevent fraud, and sharing will be essential to prevent multi-retailer schemes.”

RFID is yet another technological advance with potential for minimizing the impact of abusive returns. Attached to high-priced, high-loss items, RFID integration at the product level may eliminate the need for paper receipts altogether. Assuming tags are not “killed” at the POS, item-level history retrieved at the return counter can inform retailers of details like the product’s point of purchase, and original form of payment.

Although not cost effective for all products, applying this technology to highly coveted products or integrating it with automated return systems could dramatically reduce fraud. Customer service could also benefit, as legitimate shoppers could enjoy easy, quick returns without having to track down receipts.

The criminal process is ever-changing, continually adapting to the retail environment and the loss prevention strategies within it. Crime is impossible to stop, but it can be curtailed. In the retail industry, this involves staying ahead of the curve, anticipating the offenders’ moves, and developing and implementing proactive solutions before a problem grows too large.

The ever-increasing cost of return fraud positions is one such problem. By developing and implementing procedures that pinpoint fraudulent returns in a systematic, objective manner, retailers can stay one step ahead of offenders and protect the bottom line.

This article was first published in 2006 and updated August 2, 2017.

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