Workers' Compensation Premium Audits Explained - Associated Insurance Administrators, Inc.

Premium audits are an essential part of workers’ compensation insurance and allow an employer and their insurance carrier to account for actual payroll of employees and costs for uninsured sub-contractors according to the type of work they do.

When a policy is written, payrolls are estimated for the policy term.

Once the policy has ended, whether at normal expiration or sooner, an audit is needed to establish the actual payroll/cost for the period and to verify the proper classifications and rates.

Payroll is identified for all employees and uninsured sub-contractors (persons or companies providing services normal to operations who do not have their own workers’ compensation insurance).

The audit procedure is customary for all workers’ compensation policies regardless of the insurance carrier providing coverage.

When an employer purchases workers’ compensation insurance they agree to the terms and conditions of the policy (the contract).

Part Five of a standard Workers’ Compensation and Employers Liability Insurance Policy dictates that the insured employer must maintain records needed to compute premium.

Part Five also includes the audit provisions for allowing the carrier to examine and audit all records related to the policy.

Therefore, an audit and the records required to complete it are contractual obligations.

Workers’ Compensation & Employers Liability Insurance Policy

Part 5 – Premium

F. Records

You will keep records of information needed to compute premium. You will provide us with copies of those records when we ask for them

G. Audit

You will let us examine and audit all of your records that relate to this policy. These records included ledgers, journals, registers, vouchers, contracts, tax reports, payroll and disbursement records, and programs for storing and retrieving date. We may conduct the audits during regular business hours during the policy period and within three years after the policy period ends.

Workers’ Compensation Rates, Rules, and Regulations

With some jurisdictional exceptions, insurance carriers depend on third-party organizations to provide workers’ compensation rules based on regulations set forth by state insurance departments.

In most states and for most insurance carriers, the National Council on Compensation Insurance (NCCI) is the source for:

• recommended rates,
• classification codes unique to specific work being conducted,
• regulations governing what payroll is included and excluded,
• rules for who is considered an employee,
• coverage forms, and
• many other aspects.

Workers’ Compensation Audit Process

In advance of the audit, an insured employer should expect to hear from the insurance company or a third-party representative (audit company) shortly before or after the policy has expired.

Initial contact may be by letter, phone, fax, or email and will be when the method, time, and/or place of the audit will be determined.

If the insured employer renewed coverage with the same insurance company, contact will still be made to complete the audit for the previous policy term.

The first contact by an auditor will typically include a list of documents needed to complete the audit and calculate the actual (final) premium, normally referred to as the Final Audit.  

In addition to records, the auditor will need to know about the business and employees, including a detailed description of operations and duties of employees.  

If an employee performs multiple duties, his/her payroll may be separated into different classification codes with different rates so it’s important to convey this to the auditor.

Records separating payroll (actual dollars paid, not percentages) for individual employees based on the jobs performed will be needed to properly classify and charge for the employees.

Without adequate records, all payroll for an employee performing multiple duties will be placed in the highest rated classification.

Customarily Requested And Required Records

• Payroll ledgers/journals/registers
• Payroll tax documents (such as Federal 941s or State Unemployment Compensation reports)
• 1099s and/or cash payment records for subcontracted labor
• Certificates of Insurance for subcontractors

Workers’ Compensation Payroll Calcuation

Payroll for workers’ compensation purposes includes:

• Wages/salaries, including retroactive wages/salaries
• Commissions and draws against commissions
• Bonuses including stock bonus plans
• Extra pay for overtime
• Holiday, vacation, and sick pay
• Payment by the employer that would have been withheld from employee’s pay to meet statutory obligations for insurance/pension plans such as Social Security or Medicare
• Payment to employees based on any other time worked such as piecework, profit-sharing, or incentive plans
• The rental value of an apartment/house provided to an employee based on comparable accommodations
• The value of lodging, other than an apartment or house, received by an employee as part of their pay to the extent shown in the employer’s records
• The value of meals received by employees as part of their pay to the extent shown in the employer’s records
• The value of store certificates/credits, merchandise, or any other substitute for money received by employees as part of their pay
• Payments for salary reduction, employee savings plans, retirement or cafeteria plans, health savings accounts, and flexible spending accounts made through employee-authorized salary reductions from the employee’s gross pay
• Davis-Bacon or similar prevailing wage law wages
• Annuity plans                                                                 
• Expense reimbursements to employees that are not if valid business expenses
• Payment for filming of commercials excluding subsequent residuals earned by the commercial’s participant(s) each time the commercial appears in any media
• Adjustments made by the employer to raise employees’ wages to federal, state, or local minimum wage, whichever is applicable

What’s Not Included As Payroll?

• Tips or other gratuities received by employees
• Payments by the employer to group insurance and/or (most) group pension plans
• Employer payments to third-party trusts for the Davis-Bacon Act or similar wage law—trust must qualify under IRC Sections 401(a) and 501(a)
• Value of special rewards for individual inventions or discoveries
• Severance pay except for time worked or accrued vacation paid at dismissal/separation
• Active military duty pay
• Employee discounts for goods purchased from the employer
• Expense reimbursements to employees—must maintain records supporting reimbursements were valid business expenses
• Meal money for late work
• Work uniform allowances
• Third-party sick pay to an employee like disability income paid to an employee through the employer’s group insurance
• Certain employer provided perks
• Employer contributions to certain employee benefit plans
• Payments to paid furloughed employees as a result of governmental orders/laws/ regulations issued due to COVID-19 (March 1, 2020-December 31, 2020)

Failure To Comply With A Workers’ Compensation Audit

Failure to comply with the audit is a violation of the terms and conditions of the workers’ compensation policy—a violation/breach of the contract.

If an audit cannot be completed due to the employer’s actions or inactions (the employer does not cooperate in the audit process) the employer will be considered noncompliant and the carrier may apply an Audit Noncompliance Charge (ANC) of up to two times the estimated annual premium.

Noncompliance may also jeopardize an employer’s current workers’ compensation coverage.

Final Audits

Once the carrier has obtained the proper records and processes them according to industry rules and regulations, a final audit is established, and results sent to the insured employer.

If the result is an audited premium less than originally estimated, the carrier will refund the difference to the insured employer.

An invoice to the insured employer will be provided with audit findings if the final premium is more than originally estimated.

Workers’ Compensation Audit Disputes

Insured employers will be provided instructions by the carrier allowing the review and challenge (dispute) of both return premium (refunded) or additional premium (invoiced) audits. If the insured employer disputes the audit the carrier will typically require:

1. The dispute be presented in writing;
2. A clear, concise explanation of what is being disputed; and
3. Additional information and/or documentation supporting the dispute.

Often when a carrier receives a formal dispute, any pending adverse actions against the insured employer (such as late notices or potential cancellations of current policies due to non-payment) will be halted.

Workers’ Compensation Dispute Resolution Process

In most cases the insured employer and carrier can amicably settle audit disputes.

If, however, the insured employer is not fully satisfied with the audit results, they may invoke a formal Dispute Resolution Process to assist in resolving differences with the carriers.

NCCI serves as the Administrator in states where NCCI serves as the licensed rating and statistical organization. The Board is determined on a state-by-state basis.

3-Step Workers’ Compensation Dispute Resolution Process

1. Insured employers must first attempt to resolve the dispute directly with the carrier and must calculate and pay all undisputed premium that is due. The insured employer must also provide the carrier an estimate of the premium in dispute with a written explanation of the premium calculation.
2. If the insured employer is unable to resolve the dispute directly with the carrier, then it may ask the Administrator for assistance. If the dispute is not a bonafide dispute, the Administrator will attempt to assist the insured employer and the carrier in reaching a resolution.
3. If the insured employer, with the Administrator’s assistance, is unable to resolve the dispute, then the insured employer may ask the Administrator to refer the bona fide dispute to the Board.

Understanding the process and having the appropriate records will help you and the carrier complete the audit timely and accurately.

If you have questions at any time during the audit process, contact an AIA professional. We’re ready and willing to help you find the answers.