Understanding Insurance Audits – Business Insurance Audits

Why Audits Are Necessary

Insurance audits are familiar with general liability, workers’ compensation, marine, and other policies. When these policies are issued, the level of protection to cover a business for potential claims and the corresponding premium are based on rating factors that may not be known with certainty at the beginning of the policy term.

A general liability policy may be based partly on a company’s gross revenues. A workers’ compensation policy is based on payroll amounts and job classification codes of workers. Using such factors, the best estimate of claim exposures during the policy term is established based on historical information or predictions. However, a company’s actual numbers for these factors can change dramatically within a year.

The insurance company commits to cover the business risks during the policy term even though it can’t determine the exact level of risk. In exchange, the business agrees that the insurance company can verify (audit) the actual revenues, payroll, etc., and retroactively adjust the premium. Generally, if an audit identifies that actuals exceed the initial estimate, a bill is issued for the additional premium owed. Likewise, if the actuals are lower, the business typically receives a premium refund, usually a credit on your current policy.

It’s similar to a contractor hired to repaint the interior walls and trim of a house. He estimates the work and supplies, sets a price of $3,000 to do the job, and is hired. During the job, the owner also decided to have the ceilings painted. Given the expanded scope, the contractor has to adjust his pricing and add $1,000 to the job for the extra work provided. When the specs change, so does the price.

Benefits

Audits ensure that a business isn’t over- or underpaying for the protection it receives. They also help prevent coverage deficiencies that can expose the organization financially if faced with a lawsuit and high settlement costs.

Preparing for an Audit

Audits are typically a simple process of having businesses provide evidence of sales or payroll. Companies can make the audit process run smoothly by having their insurance documentation ready before an auditor arrives. Some insurance companies ask the insured business to complete a self-audit by submitting documentation in advance, which may be followed up by an auditor if there are questions. Keeping accurate records throughout the year can make gathering the needed documentation easier at audit time.

For a workers comp audit, a company’s federal tax return payroll information and job descriptions typically allow the auditor to compare if the amount and classifications of work match the exposures outlined when the policy was first issued. If a company uses subcontractors, it should have available documentation showing that the subcontractors purchased their workers’ comp coverage. For a general liability audit, the documentation varies by company and metric basis used to set the premium. The insurance company will indicate what documentation it needs, such as a general ledger, income statement, or tax forms. When payroll is the metric, it includes records for any subcontractors.