Workers’ comp audits take a retroactive look at a business’ payroll and employee job classifications to ensure the company is properly covered and paying correct premiums. Audit reports also determine any overpayments that are credited or underpayments to be billed. Audits are standard policy for every insurance company and determine premiums for the next year.
Small business owners who want to simplify their audit process should consider working with providers who integrate payroll adjustments as you go. AP Intego is an online broker that integrates payroll and offers pay-as-you-go workers comp to reduce any discrepancies that arise in annual audits.
ADD Small business owners preparing for an audit will find it useful to have a list of the most common things they need to walk through the process. This checklist is considered to be a starting point since carriers’ protocol and state regulations for workers’ compensation vary. For more specific guidance, talk to your insurance agent when you first receive the audit letter.
Here are the six steps on how to prepare for a workers’ compensation audit:
1. Understand Workers’ Compensation Audit Rules
Workers’ compensation audit rules require collecting the company’s actual payroll over the policy period and re-evaluating the premium paid. Any adjustments in premium that result from an audit are based on the actual payroll costs and employee job classifications, with credits or bills generated based on the results. Failure to complete with credits or bills generated workers’ comp policy.
What a Workers’ Comp Audit Is
Workers’ comp audits reconcile the estimated payroll of the company with the actual payroll based on the type of work performed. When workers’ compensation insurance is issued, the employer and carrier have no way to know the exact payroll. Extended hours and hiring can increase payroll while layoffs and reduced hours decrease it. Employers can get a bill for the difference or a check for premium overpayment.
During audits, workers’ compensation insurance companies confirm actual payroll and each employee’s job duties over the course of the preceding year. Not only is audit used to review the actual payroll for the policy term, but it’s also used as a snapshot to estimate the renewal premium moving forward. This snapshot, combined with the company’s loss history for the year, will be used to define the premium for the next 12 months.
Which Workers’ Compensation Insurance Provider is Right for You?
What to Expect in a Workers’ Comp Payroll Audit
An audit notice and premium renewal letter are usually sent out six to eight weeks prior to policy renewal. It should clearly state what the auditor needs and the deadline for submitting information. You can work with your auditor to address any questions or schedule a time to do the audit if there is a phone or in-person meeting required.
Workers’ comp payroll audits are completed either by submitting payroll paperwork to the insurance company or by having a physical audit where the insurance company sends representatives to do an in-person review. While most workers’ compensation insurance audits are conducted remotely, every small business owner should expect to gather and provide the required documentation in a timely fashion.
Types of Workers’ Comp Audits
There are three ways a payroll audit is conducted:
- Voluntary audit: No one comes to the office. Instead, the insurance company requests all pertinent payroll data from the company with a questionnaire asking about employee job duties, excluded subcontractors or owners, and overall business safety practices.
- Physical audit: Businesses in riskier industries may find the insurance company wants to perform a physical audit, meaning they come to a company’s place of business to review records, observe, and interview employees
- Payroll integration: Some payroll services offer payroll integration with workers’ compensation policies, paying and adjusting the premium as needed each pay period, which reduces a lot of unexpected adjustments at the end of the policy period
Keeping things simple whenever possible is the goal of any small business owner, especially in the realm of administrative duties. Payroll integration is a revolutionary new tool that reduces the administrative work and potential for a large retroactive bill resulting from an audit. AP Intego is a leader in payroll integration technology, allowing business owners to take a breath during audit periods.
2. Define the Right Categories in Payroll
The workers’ comp audit is a good time for an employer to review his employees’ statuses and duties for accuracy. Take the time to properly identify what costs are included in workers’ comp premiums and what activities are excluded. Review what each employee does as their primary job description, and confirm the NAICS Code to identify the right class to use for the premium calculation.
Calculating Workers’ Compensation Premiums
Commercial insurance companies use three primary components to determine your workers’ comp premium rate. The first component is payroll costs based on every $100 of payroll. Insurance carriers multiply that value by the work classification of each employee based on their job duties. Any claims history (or lack of claims) is used to assign an Experience Modification Rate (EMR, or E-Mods).
The workers’ compensation rate formula is:
Premium = Payroll / $100 X Work Class X EMR
Every insurance company uses this formula but still sets rates based on its own risk standards. Every worker’s job is defined by a rate class established by the NAICS codes. Most businesses have employees in different class codes. For example, a solar installation company might have an office clerk, an outside sales rep, and the actual installation team.
Workers’ Compensation Class Code Examples
*Variations are based on Colorado average rates.
3. Ask Your Insurance Provider What Is Needed
An audit notification letter comes with a list of information needed, a business questionnaire, and the auditor’s contact information. Remember, this is done for every business with a workers’ compensation policy, and is not a red flag that you did anything wrong. If you are unsure what is being asked of you, email or call the auditor with questions.
What Is Included in Payroll for Your Workers’ Comp Audit
The makeup of employee payroll, also referred to as remuneration, is the starting point for the workers’ comp premium. As such, it’s important to make sure you include the right values paid to employees. Every state is different contingent on what the state defines as payroll and remuneration. When you submit information to your insurer, be sure to include payroll records, tax returns, bank records, and state unemployment records.
Most states require the following payroll information as part of your premium audit:
- Gross wages and salaries
- Total commissions (and draws against commissions)
- Employee benefits plan pay (sick, holiday, and vacation pay)
- Overtime pay
- Incentive plans and profit sharing programs
- Employer payment of fringe costs such as Social Security and Medicare, which would otherwise be paid by the employee
- Lodging and meals as part of the payment agreement
- Subcontractor costs for subcontractors without their own workers’ comp insurance
What Is Excluded From Payroll for Your Workers’ Comp Audit
There are some items that may be included in employee paychecks but are actually excluded from workers’ comp premium calculations. Make sure to identify these to the auditor so they are not inadvertently included. This information still needs to be disclosed but with notations that it should be excluded from premium calculations.
The following items are excluded from the workers’ comp payroll audit:
- Tips and gratuities
- Employer payments to group plans and pension programs
- Severance pay
- Reimbursed business expenses
- Active military duty pay
- Uniform allowances
- Employee discounts on goods and services
Talk to you insurance agent regarding the best way to structure workers’ compensation insurance with other small business insurance policies to avoid gaps in coverage.
Employee Classification for Audit Confirmation
Once you have the payroll information completed, go through each employee’s job duties and confirm they are classified correctly. Misclassifying your telephone support staff as repair technicians can lead to significant changes in premium. If you are unsure how to classify an employee, take their job description and add it to the documentation submitted to the auditor.
Job descriptions should clearly state what the employee does regularly. Clerical staff generally file paperwork, work on computers, and answer phones. Someone in retail might have to be able to lift boxes in the storage room up to 30 pounds. A welder works with certain tools and materials. Accurately describing employee duties helps categorize them correctly for premium calculation purposes.
Workers’ Comp Audit Special Circumstances
Subcontractors and companies with no employees may encounter special circumstances when it comes to the workers’ compensation audit. For example, some business owners purchase a ghost policy, which covers workers not yet hired, or a self-employed workers’ compensation policy to cover themselves. There are also some subcontractors who are not covered by workers’ compensation on their own because their state’s laws requires the contracting employer’s policy to cover them.
4. Participate in the Audit Process
As a small business owner, it’s important to participate actively in the workers’ comp audit process to ensure things aren’t getting overlooked. Auditors may not understand the data you supply them or interpret it incorrectly. The audit is a process and communication is critical.
Workers’ Comp Audit Questions
It’s not uncommon for auditors to have a lot of questions about your business. That doesn’t necessarily mean the auditor fully understands your business, but asking questions of your own may help you determine how much they understand about your industry. Of course, you want to be friendly and cooperative, but you have every right to fully understand the process.
Some questions you can ask the auditor include:
- Do you specialize in this industry or work across many?
- How are subcontractors classified for my business?
- Do you need a copy of our safety manual or employee handbook?
By asking questions, you are assessing how well the auditor understands your business and its operations. The auditor may be busy with a lot of work to do in a short period of time, but his goal is the same as yours: to get the right information to properly classify your business. By engaging in a simple conversation upfront, you can speed things up for the rest of your audit.
Confirm Insurance Company Data
Look at the class codes the auditor sets for your employees. If they have changed from the original classification, ask why. If you have gone through the NAICS codes yourself, it can help to have printouts of the class codes you determined for your own employees. Open a dialogue with the auditor about discrepancies.
For example, you may list an employee as an outside sales representative, but his job duties could include loading and unloading the truck as well. If lifting and loading are a large portion of his daily activity and job responsibility, he may no longer be classified as the outside sales representative, even though that is his official title.
5. Review Audit Results
Most voluntary audits will be completed at the insurance carriers’ offices and the results sent to you. There will be a summary of the audit results along with either a check for overpayment of premiums or a bill for the underpayment. The results will also generate the new renewal premium rate based on the audit findings.
Workers’ Comp Retroactive Billing
Retroactive billing is how insurers adjust premiums for your policy for the past year if an audit shows that you paid inadequate premium over the life of the policy. If you overpaid, you will get a check and your renewal will reflect the changes in expected payroll and job classification. If you underpaid, you will receive a bill that must be paid before you can renew your policy with the carrier.
If your workers’ comp audit results in a bill that is more than you can pay all at once, contact your carrier—they may be able to arrange a payment plan so you can pay over time. However, this bill is for the previous policy year and you still need to make your regular payments on the renewal policy moving forward.
Workers’ Comp Audit Dispute
If you disagree with the final results of your workers’ comp audit, you can dispute it. Every insurance carrier has their own rules and process for a dispute. Call the insurance carrier to get deadlines and any forms required to file a dispute. To win the dispute, you must prove errors.
Common dispute items in a workers’ comp audit are:
- Payroll discrepancies
- Incorrect employee classification
- Inappropriate job classifications from an auditor
- Significant audit bill
- Self-insured or exempt contractors are included
- Owners are included
You should always receive copies of the auditor’s worksheets. If you don’t, be sure to request those immediately along with the loss-run history. Remember that claims affect renewals, but if you feel the Experience Modification Rate is higher than it should be, your loss-run history has the information necessary to correct any errors.
6. Shop Workers’ Compensation Insurance Rates
Shopping for workers’ compensation insurance is easier with real data rather than estimates, so only look for a new policy once you’ve received the detailed report and renewal offer back from your existing insurance company. Otherwise, the quoting insurance company is only offering you estimates. After they have the payroll, classifications, and experience rating, they can provide accurate quotes.
Insurance providers use the same information to calculate workers’ compensation rates, but some carriers prefer to work with certain types of companies or industries. This is called an insurance carrier’s appetite and is reflected in the individual rates they offer. This makes comparing multiple offers essential, so don’t hesitate to look at several carriers in your state. One way to do this is to work with a small business insurance broker because brokers have access to multiple insurers and can help you pick the best one for your business.
Workers’ Comp Audit Tips
A workers’ comp audit is something you will need to do every year. The more organized you are, the easier the audit will be and the more consistent your results become. Here are some tips to help make sure your workers’ comp audit goes smoothly.
Review Your Original Workers’ Comp Policy
Look at the original workers’ compensation policy written for your company and note how employees were classified and the total estimated premium you were expected to pay. Based on the starting point for your policy, you’ll be able to anticipate any premium adjustments resulting from work class codes or payroll changes.
Get Certificates of Insurance From Contractors
Ask all contractors and subcontractors for a certificate of insurance (COI) demonstrating they are covered by their own workers’ compensation policies. A COI is a document a business owner gets from his insurance company stating his insurance coverage limits. The COI clearly tells an auditor who is insured outside of the company and thus excluded from your policy.
Create Clear Employee Job Descriptions With Duties
Listing employee job descriptions isn’t just a smart employer practice to make sure employees know what is expected of them—it is also helpful with annual audits. Job descriptions and duties show the insurance carrier the regular activities of employees of the business. While there may be crossover, it’s important to note the regular activities of each individual employee.
Worker’s Comp Audit Frequently Asked Questions (FAQs)
The workers’ comp premium audit can be stressful, especially if you have never been involved in one. Our mission is to provide you with the best answers to your questions.
1. What happens if you ignore a workers’ comp audit?
Ignoring the workers’ comp audit will likely result in policy cancellation. Even a new insurance carrier will require your existing loss-run history and demand your past twelve months of payroll. Without it, you will likely not be insurable, get premium credits, or favorable pricing without the data from the audit.
2. What if I can’t afford the retroactive premium audit bill?
Premium audit bills result from unanticipated payroll during the course of a year and are generally due upon receipt or within 30 days. If the bill is substantial, contact your insurance carrier’s billing department. Most carriers will set up a payment plan, often splitting the bill over three payments. Ask the billing department for your options.
3. Does a 1099 employee need workers’ comp?
A 1099 employee is considered an independent contractor and doesn’t usually have to be included in a business’ workers’ comp policy. They should, however, maintain their own workers’ comp plans. Some companies misclassify employees as independent contractors to save money on taxes and benefits, but this is illegal and the business owner risks fines and penalties.
Understanding the workers’ compensation audit rules when preparing for your annual review will make the process easier and produce more accurate results. By having well-organized company files and payroll data, a small business helps the auditor get a clear picture of the company’s operations. Wait until you have the complete data before shopping rates among carriers.
When you know the exact payroll, work classifications, and experience ratings, you are able to take that information to multiple carriers to get accurate quotes. The top insurance brokers, such as AP Intego, will not only shop rates with one simple application, but they can integrate payroll solutions with carriers to take the guesswork out of audits.