Nobody likes to be audited
Most people think of the IRS when they hear about audits, but did you know that your insurance policy can be audited as well? An insurance audit ensures the method used to calculate your premium accurately reflects the actual risk. Like an IRS audit, an insurance audit can be an unpleasant experience and could significantly cost your company, especially if it is unexpected.
What is an insurance audit?
Different insurance policies use different methods to determine the insurance premium. Many commercial insurance polices use estimated gross sales or payroll to calculate the risk exposure. They then multiply that figure by a rating factor to determine an insurance premium.
For example, if you have $100,000 in gross sales and the rate is $5 per $100 of payroll, your premium will be $5,000 ($100,000/$100 = $1,000 x $5 = $5,000.)
Some insurance policies are auditable at the end of the policy period. This means if at the end of the policy period the actual gross sales or payroll is different than the estimated figure used to calculate the premium, the insured will receive a premium credit (if the actual figure is lower than the estimated) or will be required to pay additional premium (if the actual figure is higher than estimated.
Using the same example above, if your audited gross sales turns out to be $150,000, you will owe an additional premium of $2,500 (actual gross sales of $150,000 minus estimated gross sales of $100,000 = $50,000/$100 = $500 x $5 = $2,500.)
What types of policies are auditable?
Most business owners with employees are familiar with Worker’s Compensation audits, but many are unaware that other insurance policies can also be subject to a premium audit: General Liability, Liquor Liability, Umbrella/Excess polices are the most common policies, but there are others as well. It is very important that you ask your agent if your policy is subject to a premium audit, especially if you have flections in your payroll and/or sales year over year.
Failure to accurately estimate your payroll or sales with an auditable policy can be very costly. Additional premium from an audit is typically due to the insurance company within 30 days of the completed audit. Additionally, renewal policies will often be endorsed to the using the audited figures from the most recent audit.
Let’s say you doubled your workforce from two employees to four employees and as a result doubled your payroll from $100,000 to $200,000. Even at $2 per $100 in payroll, you are going to face a big insurance bill when your policy renews: estimated premium would be $100,000/$100 = $1,000 x $2 = $2,000. Audited premium would be $200,000/$100 =$2,000 x $2 = $4,000.
In this example, you would have already paid your first 25% installment for your renewal ($500) you would now also be responsible for the additional audited premium of $2,000 ($4,000 audited premium minus estimated premium of $2,000) and your next installment would be endorsed to reflect the new $4,000 audited premium. In the course of 2-3 months, you will need to come-up with more than twice the Worker’s Compensation premium compared to what you paid the year before.
Beware of subcontractors
Many construction related risks consider the cost of your subcontractors in your premium audit. If you hire subcontractors, it is very important that you obtain certificates of insurance with your business named as a certificate holder to avoid unexpected insurance expense. Failure to obtain certificates from your subcontractors may result in your insurance carrier applying the cost of your subcontractors into your payroll. So, if your contractor’s General Liability policy is rated on $100,000 in payroll and during the course of the year you hire subcontractors and pay them $50,000, if you don’t have certificates of insurance proving your subcontractors had their own coverage in place, your company will treat your audit as if you had $150,000 in payroll. This could result in a hefty audit and a lot of headaches chasing your subcontractors for certificates long after the work has been completed.
How to avoid a large audit?
The best way to avoid a large audit id to use the most accurate figures when estimating your gross sales or payroll at the beginning of the policy period. If you are shopping for new coverage or putting your policies out to bid with multiple agents, make sure they are all using the same figures. An attractive premium figure in a quote can turn out to be much more expensive if your policy was quoted using a low sales or payroll figure.
Another best practice is to contact your insurance agent any time there are significant changes in your payroll or sales during the year. If your agent is aware of a significant increase in your payroll or sales midway through your policy period, they can request that the policy be endorsed to match that increase. Spreading out the additional premium over your remaining installments is much better than having to pay the additional premium all at once at the end of your policy period.
Finally, some Worker’s Compensation and General Liability carriers will offer “pay as you go” options to avoid audits and to help you with your cash flow. Depending on the type of policy, you will log into your carrier’s website and report your sales or payroll. For example, if you do weekly payroll, you could log into the carrier’s portal every week and report the payroll for that given week. You would then only have to pay the premium associated with that weekly payroll and as a result at the end of the policy period you will have already reported your exact payroll for the year.
Contact Shove Insurance today and we can explain all your options. With the proper guidance you can ensure that your business is not hit with an unexpected expense.