10 Agency Accounting Tips to Keep in Mind
Accounting practices for independent insurance agencies differ greatly from those traditionally used by other small businesses. Below are 10 tips for your agency’s accounting department.
1. Don’t Use QuickBooks
QuickBooks is a great system for most businesses but not insurance agencies. Never use QuickBooks unless you have a high degree in accounting and possess significant insurance agency specific accounting knowledge so you can address agency bill business correctly.
Insurance agency accounting is quite unique because agencies are responsible for managing fiduciary funds. Few businesses must manage money on a fiduciary basis. This is not to say an adequately talented person couldn’t set up QuickBooks to work, but almost no people in agencies are that talented/educated in accounting. I suggest sticking to an industry standard accounting system.
2. Fiduciary Funds
No matter what you might think, agencies are responsible for fiduciary funds. The responsibility is memorialized in your carrier contracts and all 50 states, plus the federal government, require agencies to treat these fiduciary funds appropriately. All states are “trust” states. There are states that allow comingling and states that don’t, but 100 percent of all states require agencies remain “in trust” every hour of every day of every month of every year. A general formula (and some states have minutely specific formulas) is (Unencumbered Cash + Premiums Receivable) / (Premiums Payable + Binder Bill). The resulting ratio must be at least 1.0.
3. Premiums
No matter what your accountant/CPA says, premiums received are not income, and premiums paid are not expenses. Those agency premiums are fiduciary funds. This means they go on the balance sheet and not the income statement. Any accountant that says otherwise does not know agency accounting.
4. Cash Versus Accrual
Agencies are not 100 percent cash, and they are not 100 percent accrual. For example, contingency income is effectively accrued, but because so many carrier contracts and behaviors make adequately accurate and certain assessment of the bonuses as of 12-31 difficult if not impossible, contingencies are generally treated on a cash basis without regard to how an agency does its accounting.
Another example involves bad debt. The reason agencies can have bad debt even on a cash basis, is because the bad debt usually involves the fiduciary money. Because the agency is responsible for someone else’s money, it incurs bad debt even though it is on a cash basis. If the bad debt was its own money, and the agency was on a cash basis, the loss might not be deductible.
Many other examples exist. Agencies should likely be on an earned basis. Earned income is more applicable than cash or accrual, but because almost no CPA has heard of earned income and accounting for it within tax forms and other standardized accounting software is not practical, no point exists in discussing it.
5. Agency Management Systems
Your agency man-agement system’s settings matter, a lot. Unfortunately, some trainers forget to discuss the options in detail with agencies, or because when instituting a new system agency personnel are overwhelmed with so much information they don’t hear the trainer’s message. It’s possible the agency people do not have enough knowledge to understand the implications and complications of choosing the right or wrong settings, or maybe what happens is some combination of these factors.
Regardless, choosing the right settings and matching those settings to your procedures will generate better reports, better data, and possibly materially reduce staff workloads. One reason the settings are so important is staff sometimes create workarounds because of the mismatch between settings and procedures. My firm has discovered that alignment can eliminate as much as 10 percent of some CSRs’ workloads.
6. Ask Your CPA to Explain
It is important to trust your CPA, and it is important to not just take his/her word as gospel. If something does not sound right to you, inquire until you get a satisfactory answer.
Good accounting will make your life easier.
7. CPA Errors & Omissions
If your CPA encourages taking chances on your tax returns, make sure you get a certificate of E&O insurance from him/her. If their reasoning is, “I think we can win if the IRS catches this.” Weigh the tax savings versus the extra cost to defend a “win” the case.
8. Accountants’ Review, Compilation and Audit
If your CPA encourages you to purchase an Accountants’ Review or Compilation, understand the difference between an Accountants’ Review, a Compilation, and an Audit. Learn what you will really get for your money. Understand the difference in these reports between one accounting firm and another. When I read these reports, especially the Accountants’ Reviews, some are quite insightful and some are worthless. Given the expense and lack of insight of the worthless ones, the agency just wastes their money. The really good CPAs will prescribe the right report for your situation and the quality of their reports will be worth the money spent.
9. Balance Sheets Matter
Quite often balance sheets do not matter until they matter. Somewhere between 100 and 1,000 times, agency owners have, upon me questioning issues related to their balance sheets, said that no one ever previously cared about their balance sheet. That may be, and often an agency can continue to run just fine while their balance sheet is a mess or the agency is upside down per their balance sheet. But when an agency is sold, goes to secure a loan, a gift/estate event occurs, or other usually unusual situations happen, the balance sheet becomes extremely important. Make life easier on yourself by always managing your balance sheet correctly because sooner or later, someone important is going to question you about your balance sheet.
10. Reconcile Key Data
Key data includes your carrier commission/contingency reports with your internal data, your aged accounts receivable with accounts receivable on your balance sheet, your tax returns versus your internal financials, and so forth.
A key report to reconcile is producer compensation. More than 50 percent of agencies my company analyzes show their producers are being paid more than their contracts suggest. Many reasons exist why this might happen. Most reasons though are not good including poor accounting, fraud, mistakes at the CSR level entering the right commission amounts, coding renewals incorrectly, and paying producers extra because someone feels sorry for them.
Good accounting will make your life easier. Maybe not immediately but definitely eventually.