Merchants Need a Fraud Risk Management Strategy — Here’s What That Entails
Picture this: you’re a merchant, having a record-breaking sales month. New customers seemingly appear out of nowhere, making large, profitable purchases. You’re even getting orders from new markets that you’ve never managed to penetrate before.
It’s a fantastic feeling… right up to the point where you discover just how many of those orders were fraudulent.
If that hasn’t happened to you yet, consider yourself lucky. According to a report by Juniper Research, the value of eCommerce fraud will rise from $44.3 billion in 2024 to $107 billion in 2029; an increase of over 140%.
It seems it’s not a matter of if you’ll be a victim; it’s when. And, at that point, you’d better already have a fraud risk management plan in place.
In this post, we’re looking at some basic fraud risk management principles. We’ll see how it works, talk about some strategies, and help you design a long-term strategy customized to your business.
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- Fraud Management Explained: Top 10 Service Providers of 2026
What is Fraud Risk Management?
- Fraud Risk Management
Fraud risk management is the process of assessing the potential for fraudulent activity, then developing and implementing strategies to detect and block fraud from both internal and external sources.
[noun]/frôd • risk • man • ij • mǝnt/
Ignoring fraud won’t make it go away, and it’s not an easily solved issue. Fraud is a moving target, and there are almost unlimited potential sources. Revenue-stealing tactics are restricted only by the fraudster’s imagination.
If you’re looking for longer-term success, you need to be proactively detecting and blocking suspicious transactions. Fraud risk management strategies are exactly that: blueprints for recognizing and tackling fraud vulnerabilities before the fact.
It’s not enough to simply react to fraud; you need to minimize it up front. That means developing a checklist for safeguarding your revenue against inside and outside threats.
So what does that entail? I’m glad you asked.
Creating a Framework for Fraud Risk Assessment
Risk management should be built on a framework of actual fraud losses, potential fraud losses, and a calculated risk tolerance.
For a risk management plan to be effective, you first need a comprehensive assessment of your situation. That requires three things: a realistic understanding of how much fraud you’re actually dealing with, a firm idea of where that fraud originates, and a goal that balances cost vs. value, or how much risk you can afford to accept.
How Much are You Losing to Fraud?
First, look at some gross numbers, like the number of invalid chargebacks and returns you’re receiving. From there, you can calculate the amount of money you’re losing.
Bear in mind, though, that fraud impacts far more than revenue alone. To get a full picture of your exposure, you’ll also need to account for:
- Overhead costs like lost merchandise, shipping, interchange, etc.
- Chargeback fees
- The cost of internal resources used for fraud management
- Lost future sales and reputational damage from fraudulent activity
We’ve included this handy calculator to help you tally up a rough projection of your monthly fraud costs:
What are Chargebacks REALLY Costing You?
Annual Revenue Lost:
+ Chargeback Fees:
+ Admin Fees:
+ Cost of Goods & Shipping:
Total Annual Chargeback Cost:
What are Your Points of Vulnerability?
If you’re like most merchants, the total of your fraud losses probably surprised you… and maybe even scared you a little. So, your next step is uncovering where and how you’re being impacted by fraud.
There’s a wide range of factors to consider here, from criminal fraud to chargeback misuse. Even your own policies and procedures could be creating vulnerabilities.
To help you narrow the possibilities, we’ve created a list of questions for isolating possible risk factors:
- What tools do I use to detect fraud?
- Are employees adequately trained to detect common fraud red flags?
- Am I keeping all software up-to-date?
- Do I operate in a “high-risk” product vertical?
- Are my customers located in a region or country more prone to fraud?
- Am I flagging suspicious transactions?
- What does my average ticket cost?
- What payment methods do I accept?
- Do I employ a sales model known to be more conducive to fraud?
- Am I reliant on manual review, or is this process automated?
- Are we compliant with all PCI data security standards?
- Am I linking into a more extensive data network to identify fraud warning signs?
- Do I perform periodic reviews to optimize and update procedures?
Identifying fraud vulnerabilities will help you pick out root causes. That’s extremely important, because it can change your fraud totals. Chargebacks coming from an error in your return policy, for example, aren’t really fraud. Those shouldn’t be included in your totals, especially since they represent a hole you could patch yourself.
What is Your Risk Tolerance & Appetite?
While you’re ideally hoping for zero fraud, that’s really not possible to guarantee. That’s why you’ll need to establish some clear and quantifiable thresholds for “acceptable” fraud losses.
This is based on two factors: risk tolerance and risk appetite. Both of these similar-sounding elements are necessary for an effective fraud risk management system.
Risk appetite refers to the level of risk you’re willing to take on to achieve your business objectives. Risk tolerance, on the other hand, refers to how far you’re willing to deviate from that number. You may have a fairly low appetite for risk, but be ok with exceeding that point on occasion, because technically, you can tolerate a bit more risk than you’d usually like to allow.
Risk-Based Decision Making
To streamline customer transactions, create a system that increases scrutiny based on perceived risk.
You have your framework in place. Now, it’s decision time. More accurately, it’s time to start pinning down how those decisions will be made.
Risk-based decisioning is arguably the best way to make smart and informed decisions in real-time. Treating transactions differently based on their perceived threat helps ensure that legitimate customers don’t become victims of your fraud prevention.
Here’s how this could work: start by “bucketing” transactions into three risk levels — low, medium, or high — based on quantitative factors, contextual clues, and your risk appetite/tolerance. Next, create different workflows that correspond to each risk level, with higher risks requiring more scrutiny. That might look something like this:
Low-Risk
Transactions
“Green light” transactions that should proceed with minimal friction.
The Approach: Approve transactions automatically without manual intervention streamline the customer’s journey.
Medium-Risk
Transactions
“Yellow light” transactions that aren’t necessarily fraudulent, but have some characteristics that raise a red flag.
The Approach: Proceed with caution and employ extra scrutiny without creating too much of a roadblock.
High-Risk
Transactions
“Red light” transactions that are likely fraudulent.
Subject these purchases to extensive manual review, or block the transaction and blacklist the buyer altogether.
This kind of system lets you respond to genuine threats without inconveniencing low-risk buyers. It becomes the cornerstone of your fraud risk management program.
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Fraud Risk Management Strategies & Controls: An Overview
A fraud risk management strategy should consist of preventative, detective, corrective, and compensative controls.
Now that you have an idea of what you’re up against, your fraud risk management strategy can be broken down into four categories of risk control: prevention, detection, correction, and compensation.
Preventative Controls
Detective Controls
Corrective Controls
Compensative Controls
Evaluating Operational Risk Management
Regular fraud awareness training for staff, robust vendor due diligence, and a business continuity and incident response plan all help mitigate operational risks.
Your fraud risk management controls are only as strong as the people behind them. It’s critical to shift your focus beyond the technology and towards the human staff and external partners at the heart of your anti-fraud initiatives. Here are a few action steps you can take to mitigate your operational risk:
Investing in Fraud Awareness Programs
In the fight against fraud, your employees can be your greatest asset or your weakest link. Regularly scheduled fraud awareness training helps staff stay current on fraud trends. Better yet, you can tailor fraud prevention awareness to individual departments: customer service, accounting, and so on.
Evaluating Vendor Risks
While vendors and suppliers are crucial to your business, every third-party relationship is also a potential entry point for fraud. Before you onboard a vendor, make sure to ask about their security protocols, their history of data breaches, and their data protection practices.
Creating Third-Party Protocols
Mitigate the risk of impersonation fraud via backchannels to verify wire instructions and payment information. Be concrete about when and how invoices will be paid, and what supporting documentation must be provided (purchase orders, proof of delivery, etc.).
Developing an Incident Response Plan
Even with the best defenses, a fraud attack can still disrupt your operations. A business continuity plan is the best way to contain the damage and get back on your feet quickly. It should establish the chain of command and outline how you’ll maintain essential functions during and after a crisis.
Risk Monitoring & Continuous Assessment
We’ve touched on this already, but it’s worth repeating: your fraud management strategy can’t stay static. To remain ahead of evolving threats, you’ll need to monitor your systems and continuously assess the risk landscape:
Identify & Refine Key Risk Indicators (KRIs)
Key risk indicators (KRIs) are quantitative data points pointing to potential vulnerabilities or fraud patterns. For example, sudden spikes in chargebacks from particular regions or involving a specific type of product suggest situations that require additional attention.
Perform Risk Trend Analysis
Established KRIs lets you analyze the effectiveness of your efforts. Using the above example, you could monitor whether your changes have raised or lowered chargebacks involving a particular region or product. This data can then be compared against your stated risk appetite.
Leave Audit Trails
Extensive documentation and a clear audit trail are vital parts of your risk management plan. Fraud prevention policies and procedures, including lists of any actions taken in response to suspicious activity, should be carefully recorded. This is measurable data you can use for future audits.
Reevaluate
The fraud landscape is always shifting, and what worked yesterday is unlikely to work as well tomorrow. Your strategy must be regularly reevaluated and updated to reflect new fraud tactics, mitigation tactics, or operational changes.
Emerging Risk Management Challenges
Cross-border transactions, AI fraud detection/techniques, and new payment methods like cryptocurrencies and digital wallets all potentially pose new fraud risks.
So far, we’ve focused on addressing known risks. That’s a good start… but it’s not enough. New technologies, new markets, and new payment methods present new business opportunities, but they also bring novel risks. Some of these emerging challenges include:
None of these challenges are insurmountable… but they can feel overwhelming at times.
That’s why it helps to have a powerful fraud and chargeback management partner like Chargebacks911®. We can help you develop a fraud risk management policy customized to your needs. To put our seasoned professionals and decades of experience to work for you, contact us today.
FAQs
How can you mitigate the risk of fraud?
Tools to mitigate fraud risks include multi-factor authentication, device fingerprinting, behavioral analytics, and velocity checks. Clear billing descriptors, proactive communication, and excellent customer service are also effective.
How to audit fraud risk management?
To audit fraud risk management efforts, test your existing fraud controls for effectiveness, gaps, and potential triggers. Review confirmed fraud reports and evaluate the success of your efforts. Document findings in an audit report, then implement any necessary changes.
What are the two main types of fraud audit?
Internal and external. With internal audits, you review your own fraud controls and processes. External audits are conducted by independent outside parties.
Who is responsible for fraud risk?
Merchants are ultimately responsible for fraud risk. Auditors can uncover and identify risks, but merchants bear the cost of losses and implementing changes.
How do auditors identify fraud?
Auditors can identify fraud through a combination of sophisticated data analysis tools and unbiased interviewing of accounting and risk management staff.
