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What is a workers comp audit, and how do I prepare for it?

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    There is always a paper trail. I recently applied for a car loan, and part of the bank’s automated security questions to verify my identity was to ask about my past. They brought up addresses I had been associated with, properties my family members had owned, and even a camp I went to. It was alarming! I hadn’t realized how easy it would be for a random bank to find the paper trail I didn’t know I was leaving behind. The story of my life was neatly recorded in every tax document filed, every hospital record, and every purchase I had made. As a business owner, the paper trail that your company leaves is vital to the business’s success, and an audit is the act of using that paper trail to tell your business’ story. 

    That is the kindest way I can think of to describe an audit, and it is only partially true. An audit is used to verify that the story you told matches the story your paper trail tells, and to make sure that they both align with what should have happened. A worker’s comp audit is something that your insurance provider will conduct every single year. To get a full understanding of the process, we will first look at what Worker’s Comp is, why the audit needs to take place, how to prepare for the audit, and how you can avoid the audit from happening. 

    What is workers comp? 

    Workers Comp, also called Workers’ Compensation and Workman’s Comp(ensation), is an insurance that most States in the US require businesses to have. The insurance covers workers injured on the job or at work-related events, and it pays for medical expenses and provides money for any missed wages due to the injury.

    Workers comp also protects the employer because in many cases, employees that receive worker’s comp benefits can not pursue legal action against an employer. This is good for both parties because the employee does not have to prove that the injury was caused by the employer’s negligence in order to receive benefits, and the employer does not have to deal with expensive litigation costs or pay out-of-pocket for medical treatments.  

    That said, the employer still needs to pay the insurance company for the coverage. And it must be the employer who is paying that bill. It is unlawful for employers to push the cost of this insurance onto their employees. This is what prohibits employees from being able to pursue further legal action in many cases. Another reason the employer must pay the premium in full is that it incentivizes the employer to provide safe work environments. The safer your work environment, the lower your rate will be, making the premiums cheaper overall. A lot goes into calculating the rate and the premiums, but for our purposes, the general idea behind calculating workers’ comp premiums is the rate multiplied by the total payroll dollars.  

    Why is there a need for a workers comp audit? 

    The employer needs to pay workers comp premiums at the beginning of the plan year, but the premiums are based on the total payroll dollars of the plan year. The insurance company asks the employer how much their total payroll will be. The employer must take their best guess based on market research, business theory, and the strongest AI-driven simulations available. Even if the employer used all those tools extensively, their guess would likely still be inaccurate at the plan year’s end. To find out the exact amount that your total payroll ended up being, the insurance company conducts a worker’s comp audit.  

    The audit looks at all of the wages that you paid your employees and calculates what the premium should have been all along. If your guess was under, they will give you a chance to make up the difference. If your guess was over, they will give you a refund which regularly shows as credit towards the next plan year. This can create cash flow issues in companies with seasonal influxes of business. If a construction company had an unexpectedly great summer, they may end up owing a good deal of money come the end of the plan year, which often coincides with slower, winter months. It may not be the most ideal solution, but the audit is how an insurance company knows they’re getting paid what they’re due.  

    How to prepare for a workers comp audit

    The first thing to note is that each auditor may ask to see different information. Sometimes they are happy with less, and sometimes they will ask to see more, but in general, there are a few things you should have ready to hand the auditor when they come. If you remember from the beginning of this article, an audit looks at the story you told, the paper trail you have left, and what should have happened. The insurance company will determine what should have happened based on the information that you provide. That means it’s up to the business owner to provide the story and the paper trail. 

    The story is typically told in two parts.

    1. The first part is told by the reports that you pull from whatever software you use to run payroll. Regardless of your software, there should be a way to see the total wages paid during the plan year. Most of the time the auditor will want to see a “by employee number” and overall total. It is possible that you will have to pull multiple reports to get that data, but the final result should be an accurate picture of every dollar that you paid your employees.
    2. The second part is told through your quarterly tax returns, or 941s. You should have four 941s for the four quarters during your plan year. Sometimes these two things matching will satisfy the auditor, but more often than not, they will want to see the comprehensive paper trail. 

    The paper trail is captured by your bank statements. Your payroll bank account should have withdraws that correspond to the amounts that your payroll software and 941s have said that you paid out. If the total you shared matches the way you filed, and both of those match the money that has left your bank account,  the insurance company can be assured the total you have reported is the total they can use to calculate the premium. There may be more information the auditor requests, but preparing the total wage report, the 941s, and the bank statements for the plan year covers most of what any auditor will need to see. 

    Can I avoid a workers comp audit? 

    There is a new way to pay the premiums that avoids the need for a yearly workers comp audit. Instead of guessing what your yearly payroll total will be, you can opt for a pay-as-you-go plan. Each time you process payroll, you pay the insurance company a portion of the premium based on the current payroll. With this system, your worker’s comp is calculated live, and you only pay for what you are currently using. Not only will this avoid the yearly audit, but it also solves the cash flow issue created by the traditional premium payment system.  Interested in learning more? Read our article: What is Pay-As-You-Go-Worker’s Compensation Insurance?

    Here at Whirks, we love the pay-as-you-go option because it simplifies and improves on an outdated method that created problems for business owners. If you’d like to learn more about our insurance offerings, including a pay-as-you-go worker’s comp option, check out our insurance page.