A premium audit is a review process conducted by workers’ compensation insurers to ensure that the premiums an employer pays accurately reflect the company's actual risk exposure during a policy period. These audits typically occur at the end of the policy term and involve a detailed comparison of the estimated payroll and employee classifications with the actual figures. The purpose of the audit is to adjust the final premium—either up or down—based on the business's actual payroll and risk data.

Key Takeaways: 

• Premium audits ensure that the workers' compensation premiums paid by an employer accurately reflect actual payroll and employee classifications at the end of a policy period, leading to possible adjustments in costs.
• Misclassification of employees, payroll fluctuations, and treatment of independent contractors are critical factors that can significantly impact the outcome of a premium audit, potentially leading to overpayment or underpayment of premiums.
• Employers have the right to dispute the results of a premium audit if discrepancies are found, by engaging with the auditor and providing additional supporting documentation, and, if necessary, filing a formal appeal.

How the Premium Audit Process Works

The premium audit process begins when the insurer notifies the employer that an audit will take place, usually at the end of the policy period. Employers are then required to submit documents that provide a clear picture of the company's actual risk exposure. The audit generally follows these steps:

• Notification: The employer receives a notification from the insurer outlining the need for a premium audit. The notice also lists the documents required for the audit, such as payroll reports, employee classifications, and tax filings.
• Document Submission: Employers submit relevant records, including payroll data, job classifications, and any documents related to independent contractors or subcontractors. Accurate submission is key to ensuring that the audit reflects the true nature of the company's operations.
• Classification and Payroll Review: The auditor verifies that employees have been placed in the correct job classifications, which is crucial because workers in higher-risk jobs carry higher premiums. The auditor also compares estimated payroll figures with actual payroll records for the policy period.
• Premium Adjustment: Based on the findings, the insurer recalculates the premium. If the actual payroll is higher than estimated, the employer will owe additional premiums. If the payroll was lower, the employer may receive a refund or credit.

Key Factors that Affect Premium Audit Results

Several factors can influence the outcome of a premium audit and affect whether an employer receives a refund or faces additional charges:

• Employee Misclassification: Employee misclassification is a common issue that can significantly impact audit results. For example, if an administrative employee is incorrectly classified as a higher-risk construction worker, the company could end up overpaying. Conversely, misclassifying high-risk workers into lower-risk categories can lead to underpayment, which will result in a premium increase once corrected during the audit.
• Payroll Fluctuations and Overtime: Changes in payroll during the policy period can also affect the audit results. Businesses with seasonal or fluctuating payrolls may find that their actual payroll exceeds the estimates used when calculating their original premium. Additionally, the treatment of overtime can be a key factor in audits. In some cases, overtime wages are factored into premium calculations differently from regular wages, and employers need to understand these rules to ensure accurate reporting.
• Independent Contractors and Subcontractors: Independent contractors and subcontractors often complicate the audit process. Some states require certain contractors to be included in payroll calculations, while others do not. Employers who mistakenly exclude contractors may see higher premiums after the audit, while those who correctly document independent contractors can avoid unnecessary charges.
• Retrospective Premium Adjustments: In policies with retrospective premium adjustments, the actual losses and claims during the policy period can affect the final premium. Employers with more claims or higher risk exposure than initially estimated may see upward adjustments, while those with fewer claims may receive a credit.

Example: An office-based software company estimated its payroll at $500,000 for the year, resulting in an annual premium of $50,000, based on a 10% premium rate. However, by the end of the policy period, the company’s actual payroll had increased to $600,000 due to unexpected hires. After the premium audit, the company was required to pay an additional $10,000 in premium, bringing the total premium to $60,000. This adjustment reflected the pro-rata increase in payroll, as the 10% rate was applied to the additional $100,000 in wages.

Disputing Premium Audit Results

If an employer disagrees with the audit’s findings, they have the right to dispute the results. Common grounds for disputes include misclassification of employees, inaccurate payroll calculations, and the inclusion of independent contractors. Employers who wish to challenge the results must take the following steps:

• Request a Detailed Audit Report: Employers should begin by requesting a copy of the full audit report from the insurer, which outlines the calculations, classifications, and payroll figures used. This review helps identify areas of discrepancy.
• Submit Supporting Documentation: Employers must gather and submit relevant documentation—such as payroll records, job descriptions, and contractor agreements—to support their claims of misclassification or payroll inaccuracies.
• Engage with the Auditor: In many cases, disputes can be resolved by directly engaging with the auditor to clarify misunderstandings. Presenting additional data or correcting misinterpretations often prevents the need for formal appeals.
• Formal Appeal Process: If a resolution cannot be reached through informal communication, the employer may file a formal appeal with the insurer or regulatory body. This process typically involves a deeper review of the audit findings and may result in further adjustments.