How to Account for a Self-Insured Balance

With self-insurance, you pay for a cost such as a medical procedure, water damage, theft, or a fender bender out of your own pocket rather than filing a claim under your policy with an insurance company. The standard setters made limited changes to the accounting and financial reporting guidance in 2020, so industry participants have focused mainly on adopting or preparing to adopt the major standards issued previously by the FASB. Changing third-party claims administrators (TPAs), regardless of the reason, frequently leads to a biased estimation process if not appropriately considered in the actuarial analysis. As a result, historical development patterns, a key assumption in many common actuarial methodologies, may no longer be reflective of future claim emergence patterns. The methodology and/or assumptions used in the projections must reflect any changes in claims administration to help minimize unintended bias.

Learn how BDO worked with an insurance broker to provide a more streamlined, targeted approach to their audit using custom risk assessment procedures. BDO is the brand name for the BDO network and for each of the BDO Member Firms. BDO USA, P.C., a Virginia professional corporation, is the U.S. member of BDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network of independent member firms. Finally, there is a subsection of entities that is forced to retain risk because coverage is not available in the traditional insurance market for a variety of reasons including capital restraints or poor historical performance. If you have lots of workers with prior or ongoing health problems, they may suggest higher premiums to better balance your risk. On the flip side, if your workers are generally healthy, you may be able to charge lower premiums.

To help avoid this stress and build a strong control environment, companies should establish processes to estimate these liabilities. This article is the second in a three-part series that provides insight from our actuaries into how companies can design such an estimation process to account for the self-insured balance and utilize tools to gauge how well it is working. Read on for more about common pitfalls in the estimation process and how a robust self-insured accrual is determined. Additionally, self-insurance provides cash flow advantages when payments are made over the life of the claim instead of paying premium costs up front. The company can invest the difference in the growth of the business or in its investment portfolio.

1. If the total actual property damages for the stores never exceeded $40,000 in a year, the company may decide that self-insurance is a good business risk.
2. Katrina Ávila Munichiello is an experienced editor, writer, fact-checker, and proofreader with more than fourteen years of experience working with print and online publications.
3. In part 2 of our series, we will expand on accounting for self-insured balances and related pitfalls.
4. Very small businesses find it difficult to get affordable health insurance for their employees and look to self-insurance as an option.

For the past 52 years, Harold Averkamp (CPA, MBA) has worked as an accounting supervisor, manager, consultant, university instructor, and innovator in teaching accounting online. These materials were downloaded from PwC’s Viewpoint (viewpoint.pwc.com) under license. The fintech landscape is rapidly evolving, presenting challenges and opportunities in equal measure. Read BDO’s 2024 Fintech Predictions to learn more about what to expect, from asset tokenization to distressed dealmaking and more. Although technically more narrowly defined, the term “self-insurance” is commonly used to capture a wide variety of retained risk mechanisms. To that point, the colloquial use of “self-insurance” is generally used throughout this article unless specifically stated.

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Without a TPA, your internal HR team or a dedicated staff member will process healthcare claims for their colleagues. While the individual may be trustworthy and keep all medical information confidential, other employees may feel uncomfortable and not participate in the plan. If the individual processing claims isn’t trustworthy, that could lead to employee lawsuits if the individual breaches confidentiality or shares medical information. You are generally not involved in the administration of your self-insured healthcare plan.

The smaller your business, the more likely it is that you’re at least considering self-insurance. Very small businesses find it difficult to get affordable health insurance for their employees and look to self-insurance as an option. For small businesses finding it challenging to get affordable health insurance for their employees (which can especially be the case if they’re not using an HR or payroll service), let’s take a look at how self-insurance works. Although you may avoid regularly increasing premiums with this option, we do not recommend that small businesses self-insure. The financial risk is simply too great, and for most businesses, the cons vastly outweigh the pros.

As an alternative, if the risk is too high, you might consider maintaining insurance but with a very high deductible. Self-insurance may be feasible if a company owns a large number of buildings and each building is in a different city. For example, a retailer with 100 small stores finds that the annual cost for property insurance to cover all 100 stores is $100,000.

The TPA, in addition to a claims administration, may also take responsibility for complying with administrative, legal, and regulatory requirements related to the self-insurance plan. Self-insurance can reduce your overhead costs while maintaining some of your benefits; however, it is rarely the answer. Most small businesses are better off going a traditional insurance plan route, which is a much less risky option. You’re not required to use a TPA, but if you don’t, you open your company to additional liability.

You must also estimate the costs for their medical care and set aside an equal sum of money to tap into should any employee need to cover healthcare costs. On top of that, you will have to navigate the complexities of health, age, and disability https://www.quick-bookkeeping.net/expanded-accounting-equation-definition-formula/ discrimination, as mistakes in handling these will lead to costly legal battles. An actuarial report is often the primary evidence supporting a company’s unpaid claim estimate; however, not all actuarial reports are created equal.

This timing difference is often substantial as many claims take years before reaching a settlement. Another often unrealized benefit ― self-insurance can make businesses more aware of risks and increase incentives for stronger risk control when it directly affects profit. In self-funded health care, the employer ultimately retains the full risk of paying claims, whereas when using insurance, all risk is transferred to the insurer. Accounting for self-insured liabilities is a complex process, so having an actuary who understands the requirements and standards is key. It is worth investing time and resources into the actuarial process, including estimating liabilities, as a solid analysis generally decreases a company’s chance of incurring additional time and audit costs down the road.

This article is the first in a three-part series designed to help interpret self-insurance liabilities and to challenge how well the estimation process is working. Read on to understand why companies self-insure and what this balance represents. If your company operates in an industry where employees may suffer frequent injuries, like construction or demolition, you may also consider self-insurance as a way to help reduce high premiums.

Model Risk Management: Current Advancements, Challenges, and Future Trends

If the total actual property damages for the stores never exceeded $40,000 in a year, the company may decide that self-insurance is a good business risk. Whether your business requires a traditional audit or accounting and reporting advisory services, Deloitte & Touche LLP’s Audit & Assurance practice works to deliver more than a static snapshot of the past. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors. The benefits broker will also help you find a third-party administrator (TPA), which manages your healthcare plan, ensures compliance, and deals with all claims.

To calculate your self-insured premiums, you’ll need to work with your benefits broker and TPA. They’ll take your company census and look at any existing health problems your employees may have. Essentially, they’re assessing the risk you’re taking on by insuring your employees.

Other Changes that May Introduce Volatility

In other words, the retailer will be on its own and will not be able to turn to an insurance company to take care of the problem. In times of uncertainty and financial stress, it seems increasingly important for the insurance sector and broader financial services industry to maintain connections and be well-positioned introduction to accounting information systems to serve clients. Under US GAAP and GASB, management should record its best estimate of claim liabilities without a margin for the risk of adverse deviation. In practice, management generally records its specialist’s actuarial central estimate or an amount within a reasonable range of that estimate.

Management’s Estimate: Discounting and Margin

Since February 2020, there has been a dramatic shift in the operating environment of financial markets as a result of the increased volatility caused by the COVID-19 pandemic. While insurance companies have been facing abounding uncertainty, regulators have been continuing to focus on improving the transparency of insurance companies’ operations to help stakeholders make informed investment choices. Mistakes such as plan misadministration and breached confidentiality can also lead to employee lawsuits. Budgeting, costs, administration, and legal compliance are all issues you’ll need to deal with, on top of running your business. Given the specialized knowledge required, companies often engage a third-party actuary to estimate this accrual. Katrina Ávila Munichiello is an experienced editor, writer, fact-checker, and proofreader with more than fourteen years of experience working with print and online publications.