Why contractors get a surprise bill after an insurance audit

Contractors get a bill at audit when the year’s actual numbers come in higher than the estimates the policy was priced on. The usual causes are payroll or sales that grew, subcontractors who couldn’t show a certificate, and payroll the auditor placed in a higher-rated class. All three can be handled mid-year.

How does a premium audit work?

Your general liability and workers’ comp premiums start as deposits. When the policy begins, you estimate the year’s payroll, sales or both, and the carrier applies its rates to those estimates. After the policy ends, an auditor collects your actual figures and runs the same math again. Higher actual numbers mean an additional bill. Lower ones mean a return.

Workers’ comp is rated on payroll. Each class code describes a kind of work and carries its own rate per $100 of payroll, so a framer’s wages and an office manager’s wages are priced very differently. General liability is rated on payroll or gross sales, depending on your class, and some policies also charge for the cost of work you subcontract. Our contractor pages cover how each trade is usually rated.

The audit itself can be a form you fill out, a phone or video call, or an auditor at your office. Don’t ignore it. When a contractor doesn’t respond, carriers often bill an estimated figure that can run well above the real numbers, and the policy can be cancelled.

Why do uninsured subs show up on your bill?

When you pay a subcontractor who doesn’t carry their own insurance, many states make you responsible for that sub’s injured workers, and your comp carrier charges you for that exposure. The auditor counts what you paid the sub, or the labor part of it, as if it were your own payroll in the class that fits the work. General liability often works the same way. An uninsured sub’s cost is added to your exposure base, frequently at your own rate.

Say you estimated $300,000 of framing payroll and listed no subcontracted work. During the year you paid three subs a total of $150,000. Two sent certificates covering the whole time they worked for you. The third never did. At audit, the $45,000 you paid that sub can be added to your payroll for comp and to your liability exposure, and your bill reflects it even though that crew never appeared on your payroll.

A 1099 doesn’t settle it. What matters at audit is whether the sub had its own coverage in force while doing your work. Whether someone is an employee or an independent contractor for tax purposes is a separate question, and one for a tax professional.

Collect a certificate from every sub, every time

The certificate has to cover the dates the sub worked for you. Timing matters. A certificate issued in March doesn’t help for work done in January, and last year’s certificate doesn’t cover anything done this year. Collect it before the sub starts, and collect a fresh one when their policy renews.

On each certificate, check for:

• General liability and workers’ comp, with dates that cover the work
• The sub’s name, matching the name on your checks and your subcontract
• Comp limits filled in, or an exemption document if the sub has no employees and the rules where you work allow one
• Your company as the certificate holder

A sub whose policy cancels halfway through the year is uninsured for the second half, and an auditor can find that gap even if you never noticed it. If you use the same subs all year, check their coverage again before each new job. General contractors feel this most.

How are owners counted?

It varies. It depends on your entity type, your state’s rules and the elections you made. In many states, sole proprietors and partners are left off workers’ comp unless they choose coverage, while corporate officers are included unless they file to exclude themselves. When an owner is included, the state often sets a minimum and maximum payroll figure for them, no matter what they actually drew. General liability has its own rules for working owners on payroll-rated policies, and some count each one at a fixed amount.

This matters at audit because an owner who works in the field and was never excluded can land in the payroll at a figure you didn’t expect. Look at how each owner is listed on your policy now, and confirm any exclusion was filed the way your state requires.

Payroll in the wrong class

Auditors classify payroll by what people actually do, not by their titles. If one employee frames some weeks and does finish carpentry in others, which is usually a different class with a different rate, the auditor needs time records to split the wages. Without records that show the split, the rules in many states put all of it in the highest-rated class that applies. The clerical class is narrow, too. An office employee who also runs materials to the job usually isn’t clerical at all.

Overtime is another one. In many states, the extra half of time-and-a-half is left out of comp payroll, but only if your payroll records show it separately.

Update your estimates mid-year

Growth is the easiest cause to fix. Call your agent when it happens. If you land a large contract in April and expect payroll to rise by 40 percent, the carrier can raise the estimate on the policy now and spread the extra deposit across your remaining installments, instead of billing it all after the year ends. The same works in reverse if work slows, though many policies carry a minimum premium.

Some carriers also offer pay-as-you-go workers’ comp, billed from your actual payroll each pay period. It doesn’t make the audit go away, but it keeps the difference small.

An audit-prep folder list

Keep one folder, paper or digital, for each policy year and add to it as the year goes. When the audit notice arrives, it should already hold:

• Payroll registers by employee, with gross wages, bonuses and overtime shown separately
• Quarterly federal payroll filings (Form 941) and your state wage and unemployment reports
• Year-end W-2 and W-3 totals
• A list of every subcontractor, what you paid each one, and their 1099s
• A certificate for each sub that covers the dates they worked for you
• Your subcontract agreements
• Time or job-cost records showing hours by type of work, for anyone who works in more than one class
• Owner and officer inclusion or exclusion paperwork
• Your profit and loss statement and gross sales figures, if your liability policy is rated on sales
• Last year’s audit worksheet, so you can compare how the auditor classified things

What if the audit looks wrong?

Ask for the auditor’s worksheet. It shows every class, every payroll figure and every sub the auditor treated as uninsured. Check each line against your folder: a sub whose certificate you had but never sent, an owner who was excluded, an office employee placed in a field class. Send the documents that show the correct figures, and ask your agent to request a review. Carriers can revise an audit when the paperwork supports it.

If you’d like a second read on your classes and estimates before the next audit, send your declarations pages through our gap report.