California Business Owners Trying to Avoid Workers Compensation Insurance

California has the most expensive workers’ compensation rates in the United States.  California Workers Compensation premiums can be so expensive that business owners try to find creative ways to avoid paying workers compensation insurance for their employee labor.  The common practice is turning employees into 1099 contractors with the thought that since they are no longer employees the business owner is no longer responsible for workers comp.  Business owners have to be very careful when doing this.  State Compensation Fund sends a document with all of their quotes defining a true Independent Contractor vs a 1099 that is technically an employee.  Some of the determining factors laid out by SCIF to determine if the 1099 is an employee or an Independent Contractor:

  • Does the business have the right to direct and control? If yes, 100% Employee.
  • If the trade requires a license, Independent Contractor must have their own license. Employees use the business owner’s license to complete the work.
  • Who provides the instruments/tools to perform the work?
  • Has the Independent Contractor chosen the burdens/benefits of self-employment?

Another commonly used band aid business owners try to implement to avoid paying california workers compensation insurance premiums for employees is to give the employees a percentage of ownership then exclude them from coverage by having them sign the appropriate exclusion form.  California business owners commonly give employees 1% ownership then exclude them from coverage to avoid paying workers compensation insurance.  The state of CA has passed a new law effective 01/01/2017 that now requires a minimum ownership percentage before a CA business owner can qualify to be excluded from workers’ compensation insurance.  Effective 01/01/2017 California business owners must own at least 15% of Corporate stock to qualify to be excluded.  If a business owner meets the 15% minimum, they must sign the appropriate workers’ compensation exclusion form and file it with the insurance company.

All existing Corporations with a workers’ compensation policy must sign a new exclusion form with their insurance company by 01/01/2017.  Otherwise the insurance carrier must INCLUDE the business owner from 01/01/2017 until a new exclusion form is signed and filed with the insurance provider.  It’s best to circle back to your insurance agent to gather the updated exclusion form.  If your insurance agent is not aware of this rule change or how to solve the problem, look for another agent such as myself.  Workers Compensation Insurance is typically your biggest insurance expense, you deserve an agent that understands this type of insurance.

Additional Insured or Waiver of Subrogation

My Customer Service Representative (CSR) and I see a ton of requests for a Certificate of Insurance. Many of our clients do not understand what a Certificate Holder is or what being an additional insured means. I want to describe the differences between additional insured and a certificate holder. I want to explain this because, many clients don’t understand why an Additional Insured cannot be named on a workers comp policy. These same clients do not understand why the same person can be named on Liability Policies. Well I am going to shed some light on this situation. Here are four common terms that will help a business owner through the process.

Certified, additional insured, waiver of subrogation.

Certificate of Insurance:

A certificate of insurance is a document issued by an insurance company to verify insurance coverage to another person. The document tells what coverage is secured and under what specific conditions grated to the listed individuals. The document lists the effective date of the policy and the type of insurance coverage secured. Also, a certificate of insurance includes the limits of liability and the dollar amount of coverage. It is important to understand the holder of the certificate is not covered under the policy. The certificate serves as proof the holder made sure the person they are interacting with secured coverage.

Additional Insured:

When an insurance professional refers to an additional insured, they are referring to a type of status associated with General Liability Insurance Policies. Those policies provide coverage to other individuals or a group of individuals who were not initially named on the policy. After endorsement, the additional insured will be protected under the named insurer’s policy. They can file a claim in the event they are sued. Additional Insured is available on General Liability, Auto Liability and Umbrella Liability.

Certificate Holder:

A certificate holder is an individual or entity that is named on the certificate of insurance. When named on the certificate, they are notified when coverage is cancelled prior to the renewal date. This is needed in the event a business is partnering with a contractor or another business and that business does not hold the necessary coverage for the business interaction. No coverage protection under the contractor’s policies is provided to a Certificate Holder.

Waiver of Subrogation:

A Waiver of Subrogation means the insurance carrier agrees to relinquish any right to recover damages if it is determined in the course of investigating the claim that the client or one of the client’s employees was responsible for the loss. An insurance carrier may reserve the “right of subrogation” in the event of a loss. This means the company may choose to take action to recover the amount of a claim paid to a covered insured, if the loss was caused by a third party.

Waiver of Subrogation is available on General Liability, Auto Liability, Umbrella Liability and Workers Compensation. A Waiver of Subrogation provision prevents an insurance company (who steps into the shoes of the insured after it pays a loss) from suing the other party to the contract. This is likely the party who caused the loss.  Moreover, Waiver of Subrogation provisions found in contracts are generally upheld by Courts.

When a contractor works another person’s property, there are risks involved. Contractors can damage personal property or be injured while performing work. Companies and individuals that hire contractors want to be certain they will not be held liable for injuries, damages or substandard work. For this reason, they will frequently request to see a certificate of insurance from those contractors.

In my experience, most client’s call and request an additional insured to be added to a work comp policy.  An Additional Insured cannot be added to a Workers Compensation Policy. As stated above, an Additional Insured is naming someone else on a policy and a Work Comp Policy is written to cover injured employees. Workers Comp does not cover another company.  The alternative to this issue would be requesting a Waiver of Subrogation.  If you are a sub contractor and you are working with a larger company requesting a Waiver of Subrogation, it is important to make sure you the contractor understand what you are being asked to waive.

If your company hires subcontractors, it’s important to get a certificate of insurance from every subcontractor. Even if you trust your subcontractors. For example, if you have worked with these contractors in the past you need to get updated certificates. Even if you knew the to have insurance in the past they may not have it now. A business owner should submit a request for a certificate each time they hire a contractor. This insures they have proper insurance. Proper insurance at the time you hired them. Doing this can prevent a scenario where you inadvertently take on the risks associated with the work your subcontractors perform.

Work Comp 101

Work Comp Insurance 101 – A Complicated Insurance Explained Clearly

Find out everything you need to know about work comp insurance here at my insurance question.com

I regularly speak to business owners that are purchasing workers compensation coverage for the first time. Most insurance agents do not take the time to explain how the basic process works.  When this happens, business owners are purchasing a coverage they don’t clearly understand. It can lead to frustration on the part of the business owner and the insurance agent when something changes with the policy.  Especially when the change demands more money. Work Comp Insurance is my niche. I make sure to take the time to explain the basic process of how premiums are developed at the beginning of the policy period and after the policy period ends. I feel it’s important to explain this coverage properly. By doing this I find that business owners understand why changes happen and what changes are important to pay attention to.  I also make sure they know to notify their agent or insurance company throughout the policy period if any of these changes occur.

Work Comp Insurance and Employers Liability Coverage

The Basic Process:

Workers compensation rates are first dictated by the workers compensation classification code. Every industry does not have a specific code. A lot of times the process of how the work is completed is assigned to a work comp insurance code where the process is similar. For example, a business that puts waterproof coatings on parking lots would be classified the same as a painter because the process is similar.

After the workers compensation classification code is determined, in nearly every state the insurance company is able to file their rates depending on how competitive they want to be in an industry. The state typically sets the minimum and maximum rates, insurance companies file their rates within the range.

Work comp insurance policies require that business owners declare an estimated payroll for all covered persons for the annual policy period, 12 months from the date the policy begins. Business owners are tricky because states require that business owners are covered using a minimum annual payroll up to a maximum. If a business owner is included in coverage and takes less compensation than the state minimum, the additional payroll is added after the audit. If a business owner takes more than the maximum set by the state, then wage calculations stop at the maximum.

The total policy premium is determined by several factors. First the rate per $100 of payroll established by the insurance company per work comp insurance code. That rate is a percentage of the gross wages paid to employees in each workers compensation code. Second, different states can charge different taxes that are added to the bottom line. The insurance company typically charges an expense constant factor that is a flat fee. Then, the insurance company can apply credit or debits (discounts or increased pricing). All of these factors determine the final pricing when you activate coverage.

After the Workers Compensation Policy is finished a payroll audit must take place. The purpose of this audit is to determine the actual gross wages paid to covered persons throughout the policy period. Also, the auditor will double-check the work comp insurance classification codes for accuracy. If the agent used the incorrect workers compensation code OR something changed throughout the policy period, the auditor will adjust the workers compensation code. It’s very important to verify the workers compensation code for your business before purchasing a workers compensation policy. Your agent should be able to provide a detailed description of your workers compensation code to verify accuracy.

During the audit process, most insurance companies do not have the ability to staff auditors across the U.S. so they use 3rd Party companies to handle their audits. These 3rd Party auditors typically specialize in workers compensation audits for multiple insurance companies. Typically the auditor will make contact with the business point of contact within 60 days after the policy period has expired.   It’s very important to set-up the audit as soon as you can coordinate schedules, make this a priority. The auditor will inform of the payroll documents needed, have all of them prepared. These auditors are required to complete the audit process within a small timeframe otherwise they return as non-productive. When an audit is returned as non-productive, the insurance company will process and mail to the business owner an “estimated audit” with a balance due and a cancellation notice. The business owner must contact the insurance company to re-open and process the audit. This is typically a headache, it’s a lot easier to make it a priority and take the necessary time to complete it.

After the audit is processed you will receive the results and either a balance due or a credit being returned. At this point the business owner should review and file a dispute with the insurance company IF the results are incorrect. The auditor’s duties are to capture the gross wages for covered persons and verify job duties. Auditor’s make mistakes, don’t ask the appropriate questions and sometimes they are new to the industry therefore, do not know all of the rules. I know these to be the truth, I speak with the auditor’s for clients frequently. Before filing the dispute the business owner should request the auditor’s notes from the insurance company to understand how they arrived at the results. Then, the business owner can file the dispute with the insurance company if there is an argument.

There are several rules within the workers compensation industry that surprise owners after audits are complete. The audit’s purpose is to accurately charge the owner based on what happened during the policy period. Workers Compensation audits are determined by the 4 bullets below:

  1. Gross Wages for Employees of the business (no surprise here).
  1. Gross Wages for Uninsured 1099 sub-contractors. This is the most common surprise. 1099’s is discussed further below.
  1. Proper Classification Codes per employee job duties.
  1. INCLUDED Business owners. In most situations, business owners are allowed to choose whether they want to be Included or Excluded in the workers compensation coverage. When a business owner chooses to be included, the State typically determines a minimum and maximum wage threshold.   Rules for whether or not a business owner can be included/excluded and wage thresholds are determined by Entity Status (Individual, Partner, LLC, Corporation). If a business owner changes entity status during a policy period, it’s important to notify your workers compensation agent to determine if different rules apply. Otherwise, all adjustments are made at audit.

Uninsured 1099’s

This is one of the most common surprises for business owners after the audit is completed, especially in the construction industry. Uninsured 1099’s are added to the workers compensation policy based on the classification of work the 1099 is performing. Even if the state doesn’t require the 1099 to purchase workers compensation coverage, the only way for a business owner to exclude 1099’s from their policy audit is to collect a certificate of workers compensation coverage OR a “state approved exemption”.

It’s important to understand when a business owner can treat a 1099 like a true independent contractor and request a work comp insurance certificate.

1099 must use their own tools/equipment

1099 must drive their own vehicle

Contractor cannot determine when and where the 1099 is working. Must assign a project and let the 1099 execute on their own time.

1099 must also perform work for their own customers

1099 must carry appropriate licenses with state when required

Underwriting and What It Means to You

I have taken many calls from business owners in search of Work Comp. I would like to say that I have always been able to help. One common exception is when a business can only purchase coverage through the assigned risk pool and the truth is there are many businesses who have no other option.  Assigned risk is outside the volunteer insurance market.  Underwriting these industries is risky for the carrier and that makes it extremely difficult for an agent to find a carrier willing to quote the business.

Insurance agents typically interact with a minimum of 20 workers comp clients per day.

What ultimately puts a business into the assigned risk pool is what is called, underwriting guidelines. What can sometimes be a hurdle is explaining to potential clients that I am not the underwriter. I ultimately do not have the say on if a carrier will take on a particular business (risk).  What makes a business a “risk”, whether it be a high risk or a low risk, is determined by the underwriter with the insurance carrier. There are many factors that determine if an insurance carrier will take on the risk of you and your business.

Insurance Underwriters research and assess the risk each prospect presents. Get all of your questions about underwriting answered at myinsurancequestion.com

Underwriters also research and assess the risk each prospect presents.  This helps to create the market for securities by accurately pricing risk and setting fair premium rates that adequately cover the true cost of insuring policyholders. If a specific applicant’s risk is deemed to be too high, underwriters frequently refuse to cover it.

The most common reason a business is declined coverage on the open market is due to the business not having enough payroll for the exposure. Most construction businesses are going to need between $20 and $30k in payroll to be offered coverage by a carrier on the open market.  Many of my potential clients ask me to just quote with $25k in payroll so they can get the policy they need.  However, the policy will most likely be cancelled in a year due to not enough payroll or premium too small for risk.

The next reason for a business to be declined is because of 1099 or sub exposure. I should say that the amount of sub exposure to w2 employees makes a difference.  Most carriers want no more than 20% of sub or 1099 employees.   Just because a business has chosen to issue 1099 rather than W2’s does not automatically mean the employee is an independent contractor and should not have rights to work comp coverage. Many business owners assume that they do not have to provide coverage for the subs however if the sub or 1099 is not providing a Certificate of Insurance to the contractor or business owner, than the payroll will be picked up at audit. because of this the policy owner will owe in to the carrier for that employee.  Ultimately what carriers worry about most with the subs is if there was a lapse of coverage the contractor would be on the hook for any claims that were to happen.

If I had to pick one other reason for a business to be declined coverage it is because of travel exposure.  By travel exposure I mean using a vehicle to do work related to the business. Carriers deem this a larger risk because when the employees are driving there is a higher rate of claims and the claims tend to be more severe.  It seems these days’ contractors need to go where the work is.  If there is multi-state exposure where employees are traveling out of state or live near the border of two states, that is something that many carriers are not interested in writing.  For instance, if a contractor sends 5 or 6 employees more than 50 miles away to do a job and they all ride together that is 5 or 6 claims that would have to be paid if they were all riding together and were injured in a car accident.  Many employers think that while their employees are driving to work they are not covered under an employer’s work comp policy.  That is accurate if you drive the same route to work every day and generally go to the same place every day.  However, if you as a business owner send your employees on jobs that in tails driving exposure. The driving exposure is anything that would not normally be a part of everyday work. If the employee is solely driving for the reason of doing a job then the insurance carrier would indeed need to pay for the claims that arise out of a car accident.

Insurance is the most common example of underwriting that most people encounter. In order for insurance to work well, risk has to be spread out among as many people as possible. Underwriting helps insurance companies manage the risk that too many policyholders will file claims at once by spreading out the risk among outside investors. Once an underwriter has been found for a given policy, the capital the underwriter puts up at the time of investment acts as a guarantee that the claim can be paid.  This allows the company to issue more insurance to other customers.  In exchange for taking on this risk, the underwriter is entitled to payments drawn from the policyholder’s premiums.

Long story short the 3 reasons for businesses being declined by an underwriter are not enough payroll, too much 1099 or sub exposure and too much travel exposure. These risks are just a few that could result in your business being placed in the Assigned Risk Pool.

Workers Compensation Insurance Expert

Personally, I have written workers compensation insurance across the U.S. for 10 years. I have partnered with multiple industries and multiple insurance providers. While doing this I have realized the difficulty and importance of finding an insurance agent that specializes in this line of insurance.  Especially finding an expert who has a positive relationship with the underwriters they work with. For most business owners, Workers Compensation Insurance is one of their biggest insurance expenses. It can be a nightmare to find if the business experiences’ a substantial change in payroll, or if the business has claims or a bad audit experience.   Most insurance agents do not specialize in workers compensation insurance and because this they do not fully understand how it operates.  Therefore, these agents do not want to jeopardize their relationship with their client and potentially lose the other lines of insurance such as general liability or auto by giving bad advice.

While speaking with business owners about workers compensation insurance I feel it’s important to explain the process of how the policy works. I attempt to explain what a classification code is, what the rate per $100 means and how uninsured and insured 1099’s are handled by the audit process.  I do this in an attempt to help the business owner understand how the policy can change throughout the policy term. After the audit is completed, most workers compensation policies change in total pricing after the policy period expires. Since the policy is audited following each policy term it’s important for the business owner to understand the potential changes that could have a significant financial impact on their pocketbook. Do you want to work with an agent that doesn’t take the time to explain these potential changes to you?

When working with a workers compensation expert, the agent will be able to determine or research the correct workers compensation classification code. The correct workers compensation code determines the businesses pricing for workers comp insurance, it’s the most important first step in the process. After the classification code is determined the agent should explain the importance of estimating your employee wages correctly at the beginning of the policy due to the audit. If a business uses 1099 labor, it’s important for the agent to explain how that 1099 is either added or excluded from the business owners audit. After the policy period expires and the audit takes place, it’s important for the agency to be able to explain why the audit resulted in the way it did OR be able to help with disputing the audit.   Business owners can typically accomplish this with the insurance company directly, however, I feel it’s important for your insurance agent to be able to review, educate and assist with correcting after an audit is finished.

One component that most business owners do not understand about insurance quotes is the relationship between the agent and the insurance company is very important. If the agents relationship with the insurance company is untrustworthy, it could cause the insurance underwriter to decline instead of quoting because they don’t trust the information given by the agent. If the agent doesn’t specialize in workers compensation insurance, it’s possible the agent is not providing the relevant information to the underwriter. It’s important to make the underwriter feel comfortable with the business they are reviewing before they are willing to quote, especially when it’s a more difficult or unfamiliar industry. Loss ratio of the clients that agent has insured with an insurance provider is extremely important. If an agency continues to insure bad businesses with an insurance company, suffering bad losses or them finding dishonest information at audit, that insurance underwriter will be less likely to quote for that agent and will not be as aggressive with pricing.

Work with an expert when trying to find optimal pricing for workers compensation insurance. Not only will an expert know how to explain and assist but they will have the relationships established with insurance providers that will give you the most competitive pricing.

What is the process for a Workers’ Compensation Payroll Audit?

The premium for most Workers Compensation Insurance Policies are based on a payroll “estimate” for the upcoming 12 month period from the effective date of the policy.  This is made as accurate as possible during the workers compensation payroll audit.  In addition, each business type is assigned one or more workers’ compensation classification codes. Each of the workers comp class codes are assigned a percentage rate factor. Payroll is than multiplied by the percentage rate factor for each class code. This is what determines the amount of the premium. After the policy period is complete, EVERY standard workers compensation carrier will perform a payroll audit for the previous 12 months of coverage.

During this payroll audit process the auditor can require either a physical or mail audit. Mail audits are fairly simple. They require completing a worksheet and submitting the requested payroll verification documents. Physical audits require the auditor to meet with the business owner, collect and verify payroll documentation and inspect the business to determine proper classification. Payroll documents usually include year-end tax reports, payroll ledgers and 1099 payroll information.

The purpose of an audit is to determine the “actual” wages paid to employees and to make sure the employees are classified correctly. After the payroll audit process is complete, the auditor reserves the right to change the workers compensation class code however they interpret the business based on their inspection. The auditor will report to the insurance carrier, the “actual” wages paid to employees and uninsured 1099’s per class code. The insurance carrier will than adjust the payroll figures and class codes. IF need be the auditor will than send the business owner a refund or an invoice for the additional amount due. If the business owner fails to complete the audit as requested it will cause difficulty purchasing a workers compensation policy in the future.

After the business owner receives the audit results, the business owner has the right to dispute the results if they feel something is incorrect. Business owners can go directly to the audit department to capture the auditor’s report/notes or business owners can involve their agent to assist with this process. If a classification code is changed and the business owner doesn’t agree the business owner must request an inspection by the appropriate state workers compensation bureau. Typically this request costs the business owner a few hundred dollars. The bureau inspection and classification code determination is final.

OH NO! AUDITS!?!

This past week I went to a training seminar on workers’ compensation insurance. I showed up to this event expecting to learn about claims,  class codes, and all the new products coming out. When I got to the seminar I first sat down at the table I was assigned to. While I introduced myself to all the other insurance agents, I asked them, “What do you expect to learn this week?” To my surprise, everyone wanted to learn about audits. Everyone wanted to learn about things like how an audit works, who does the audit and why do we need to do them? I really was shocked that so many agents didn’t know much about an audit.

What is an audit?:

Workers’ compensation policies are issued with estimated payroll figures for the policy period. An audit is completed at the end of the policy period in order to determine the final policy premium. It can be completed either by phone, mail, or physical visit.

How to prepare for an Audit:

Assemble all financial documents that you have accumulated throughout the year. You should really start at the beginning of each policy year. Things that will be helpful/needed: payroll books, 941s, SUTAs, 1099s, checkbook (which is best if you have a separate checkbook for personal and business), general ledger, or tax records and lastly all Certificates of Insurance. It is very important to know that all grossed wages are used, for example wages for all payroll, commissions, bonuses and lodging allowance.

Who does the audit?:

Typically it is the actual carrier that will do the audit. Your agent will be able to assist you, but it will be the carrier that will proceed with the actual audit. There are times where the carrier can use a third party as the auditors.

When do audits take place?:

Audits typically take place at the end of the policy year. Your agent can request a quarterly, monthly or semi-annual audit for your company. The reason they might suggest that you do one mid-term, is to check on your payroll. It is always best to get the most accurate payroll, but sometimes we might have to actually estimate what an employee will make in a year. When we estimate the payroll, it is always nice to check to see if you are close or going over the estimated payroll. It is a lot easier to adjust payroll during the policy term, than to do it after. It is also a lot nicer to not have to pay any additional premium at the end of the term.

I understand that audits can be stressful and just a pain in the butt, but they are necessary. But if you are prepared for the audit, then you will be okay. The auditor isn’t after you or after your business. They just want to make sure you are paying the correct premium. They also want to make sure that you are classified correctly. So don’t think that audits have to be the end of the world, just breathe and relax. With this advise you will be all set for the audit. You can always call your insurance agent and they will gladly assist you with any additional information you might need.