Insurance Audits – What They Are and Why Your Premium Changes After Policy Expiration
Who in the world enjoys surprises? Especially when it comes to paying more than you expected for your business’s insurance policy. That’s where an audit comes in.
TL;DR
- An insurance audit is a review of your financial records by your insurer to verify the risk they’re insuring.
- It is integral in preventing premium discrepancies and ensuring appropriateness of coverage.
- One common misunderstanding is that audits are to penalize the insured. They’re not—it’s about fairness and accuracy.
- For agencies, grasping the purpose and process of insurance audits can improve customer relationships and trust.
What Is Insurance Audit in Insurance?
Plain-language definition: An insurance audit is a review conducted by insurance companies to verify the accuracy of the information given by the policyholder. It’s like a yearly physical check-up, but for your insurance policy.
Technical definition: Insurance audits are typically performed on general liability, workers compensation, and garage policies. They occur post-policy term, and review classifications, payroll, sales figures, etc., as represented on the declarations page. Depending on the policy and carrier, the audit may be internal or external, performed by a certified auditor.
Key Related Terms to Know
- Final Audit – An audit performed at the end of the policy term to adjust premium based on actual exposures.
- Voluntary Audit – A self-audit where the insured provides the necessary financial records to the insurer.
- Physical Audit – An audit conducted on-site by the insurance carrier or third-party auditing firm.
- Premium Audit – An audit done to determine the final premium for a policy.
- Audit Noncompliance Charge – A penalty for not cooperating with the audit process.
- Audit Period – The time frame covered by the audit, normally the policy term.
Common Questions About Insurance Audit
Why Is an Insurance Audit Necessary?
An insurance audit is necessary for policies where the premium is based on fluctuating variables such as payroll or sales. It ensures fairness in premium charges by aligning the cost represented at the start of the policy with the actual risk during the policy term.
How Is Audit Premium Determined?
The audit premium is determined by examining the actual exposure base (e.g., payroll, sales) during the audit period. If overestimated at inception, the insured may receive a return premium. If underestimated, an additional premium will be due.
What Records Do I Need for The Audit?
To prepare for an audit, gather records such as payroll data, sales invoices, ledgers, tax records, and subcontractor certificates of insurance. The exact documents needed may depend on the nature of your business and the policy being audited.
Can I Dispute Audit Findings?
Yes, you may dispute audit findings by providing supporting documentation or clarification about discrepancies in the audit report. It’s important to understand the audit results and work with your agent for resolution.
Insurance Audit vs. Premium Audit
They may seem synonymous, but there’s a difference. While both relate to policy adjustments, premium audits specifically refer to defining the precise premium based on actual experience during the policy term, while insurance audits have a wider scope, considering overall risk management strategies and compliance to policy conditions.
Comparison Area | Insurance Audit | Premium Audit
|
Primary use case | Verifying policy information, risk management compliance | Adjusting policy premium |
Coverage / concept type | Broad policy examination | Specific to premium determination |
Typical exclusions | Non-auditable policies (e.g. flat-rated policies) | None |
Who is most affected by errors | Policyholders and insurers | Policyholders and insurers |
Common mistakes | Misrepresentation of data, not keeping proper records | Underestimation of exposure bases |
Real Claim Examples Involving Insurance Audit
Scenario 1: A landscaping company was audited at the end of their policy term. The audit revealed higher payroll figures than initially declared. The result was an additional premium of $2,000. Helping the business understand the audit process meant they were prepared—not surprised—and they kept the policy for the next term.
Scenario 2: A retailer neglected to prepare for the audit, resulting in inaccurate sales figures reported. The insurer, during the audit, charged an audit noncompliance charge of $1,000 plus a large supplemental premium. The dispute delayed policy reinstatement and created tension with the retailer.
Scenario 3: A construction company did not adequately track subcontractor certificates of insurance, resulting in liabilities originally covered by subcontractors being included in the company’s own audit. The extra costs negatively impacted their bottom line.
Limitations and Common Mistakes
- Not keeping accurate financial records can make audits laborious and complex.
- Non-compliance with audit requests leads to an estimated (and usually higher) additional premium.
- Not understanding the purpose of an audit leads to avoidable disputes.
How to Explain Insurance Audit to Clients
Personal Lines client: “Think of it as a yearly check-up for your policy. It makes sure you’re paying a fair rate based on the actual exposure—and not an estimate.”
Small Business owner: “It’s a process that ensures you’re not overpaying or underpaying for your insurance. Audits review your records after-the-fact to align your rate with your actual business activity.”
CFO or Risk Manager: “An insurance audit evaluates your business records post-policy term. It not only assures the premium aligns with actual risk but could uncover areas where risk management could be improved.”