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Is your organization classifying First-Party Fraud correctly?

Post by:
Fitzwilliam Anderson
April 6, 2023
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April 6, 2023
Is your organization classifying First-Party Fraud correctly?

What is First-Party Fraud? 

First-party fraud is when a consumer deliberately uses their own identity to commit fraudulent activities. In other words, the individual is committing the fraud, rather than an outside party using stolen information from a victim. 

Let’s face it - we’ve all experienced buyer’s remorse. You know, that feeling you get when you realize you probably shouldn’t have made that impulsive purchase. While most of us just move on with our lives, some bad actors will call up their credit card companies to dispute the charges even though they were legitimate. This is just one example of first-party fraud, a category of fraud that costs merchants, card issuers, banks, and companies big time. 

First-party fraud has some pretty unique characteristics that make it especially difficult to flag, which is why it’s one of the fastest-growing fraud vectors today. In this article, we’ll review the definition of first-party fraud, analyze the impact of first-party fraud across industries, and give you real-world tools you can employ to protect against first-party fraud.

Are there different categories within first-party fraud?

Yes, two of the largest categories of first-party fraud are sleeper fraud and bust-out fraud

  • Sleeper fraud: when a fraudster acquires a form of credit and, for a while, exhibits the typical behavior of a customer. After the customer builds trust with the service provider over time, they ask for more credit and then cash in, taking the maximum amount of cash, never to be seen again.
  • Bust-out fraud (aka hit-and-run): a type of financial fraud in which an individual or group of individuals establish credit accounts with various lenders or financial institutions and then use these accounts to purchase goods and services. However, instead of paying off the balances owed, the fraudsters max out the credit lines and disappear without making any further payments. This type of fraud is called "bust-out" because the fraudsters intentionally "bust out" the credit limits of the accounts they have opened, leaving the lenders with significant losses.

What are some common examples of first-party fraud?

First-party fraud is a broad category of fraud. Here are some common examples:

  • An individual takes out a loan from the bank with no intention of repaying it.
  • An individual purchases an expensive television from Best Buy on their credit card. The next day, they call their credit card issuer and claim the purchase was fraudulent. The fraudster is reimbursed. 
  • An individual makes a purchase online at a retailer known for their generous return policy. When the package is delivered, the individual claims it is broken. The manufacturer reimburses them but doesn’t require them to return the item.

How sophisticated is first-party fraud?

In general, first-party fraud can be characterized as either opportunistic which means it is perpetrated on a small scale by a single person or an informal group, or it can be highly organized and carried out at scale by a larger group of people (e.g., a criminal gang or fraud ring). Both sleeper and bust-out fraud can be perpetrated in an opportunistic or organized fashion.

Someone may commit first-party fraud on a whim and never commit it again, while someone else may commit it over and over again and again with the help of a gang. Either way, first-party fraud has profoundly negative impacts on companies.

What are the negative impacts of first-party fraud?

Some of the potential costs associated with first-party fraud include:

  1. Financial losses: The most direct cost of first-party fraud is the actual financial loss incurred by a business. This can include unpaid loans, chargebacks, and other forms of financial fraud.
  2. Operational costs: Detecting and investigating instances of first-party fraud can be time-consuming and resource-intensive. This can result in additional operational costs for businesses and financial institutions.
  3. Compliance costs: In some cases, businesses and financial organizations may be required to report instances of first-party fraud to regulatory authorities. This can result in additional compliance costs related to reporting and other regulatory requirements.
  4. Reputation damage: First-party fraud can also damage a business's reputation, potentially leading to decreased customer trust and loyalty.

Overall, the costs associated with first-party fraud can be significant and can have long-term impacts on an organization's financial health and reputation. As a result, businesses and financial institutions must implement effective fraud prevention and detection measures to prevent, detect, and mitigate the risks associated with this type of fraud.

How much does first-party fraud cost annually?

According to Mercator Advisory Group, first-party fraud costs merchants roughly $50 billion annually. 

Are companies misclassifying first-party fraud?

First-party fraud is notoriously difficult to classify. Without a sufficient identity-proofing system, you will have multiple types of fraud on your books that commingle. Commingling fraud vectors lead to inaccurate reports and inefficient fraud-prevention plans. After all, if you can’t even accurately identify first-party fraud, how can you expect to prevent it?

How can you better identify first-party fraud?

By leveraging Prove Identity™ during the onboarding process, you can confirm the identity of your customer from day one. During every subsequent log-in or high-risk transaction, you can choose to verify the user with the help of a powerful source of truth. If a customer successfully passes Prove Identity’s three-step PRO check during onboarding but later claims that they never created an account, for example, you can positively classify this as first-party fraud.  

Establishing a user’s identity with confidence is also key if an account “goes bad" and enters collections. If you have confirmed the identity of the account and the account goes into collection, you can reach out to the user with more confidence that they created the account and are not victims of identity theft as they might claim. 

Using Prove Identity™, you can confidently verify a consumer’s identity without adding unnecessary friction to the consumer experience. Prove Identity™ can better identify first-party fraud during the collecting, dispute, and fraud classification processes.  

Conclusion

First-party fraud is a growing problem that costs businesses and financial institutions billions of dollars every year. Given that it is a type of fraud where the perpetrator uses their own identity to carry out fraudulent activities, it creates difficulty in detection, and most importantly, prevention. Sleeper fraud and bust-out fraud are two of the largest categories of first-party fraud. First-party fraud, whether committed by a lone individual or by organized criminal gangs, the costs associated with it include financial losses, operational costs, compliance costs, and reputation damage. To avoid these losses, businesses, and financial institutions must implement effective fraud prevention and detection controls, such as secure, next-generation identity verification solutions, to mitigate the risks associated with first-party fraud.

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