An insurance agency sells other companies' products. Premiums pass through its bank accounts, but only the commission belongs to the agency. That one fact shapes the whole audit: revenue is the commission, not the premium, and the cash the agency holds for carriers and clients is a fiduciary balance the agency cannot spend.
This guide covers the revenue accounting, the fiduciary funds, and the tests that tie them together.
How the money moves
Two billing models drive the records.
- Direct bill. The carrier bills the policyholder and pays the agency a commission, usually through a monthly statement. The agency never touches the premium.
- Agency bill. The agency bills the policyholder, collects the premium, deducts its commission and remits the net amount to the carrier. Between collection and remittance, the agency holds premium cash and owes the carrier an equal amount.
Agency-bill premiums collected and owed to carriers are not revenue or expense of the agency. They sit on the balance sheet as cash held for others (often called fiduciary cash) with an offsetting payable to carriers, and receivables from customers on the other side.
Revenue under ASC 606
Insurance agency and brokerage arrangements are not scoped out of ASC 606. Baker Tilly's analysis of the standard for insurers and intermediaries makes three points that frame the audit:
- A single commission may pay for several services, such as placement, claims handling, policy endorsements, collections and risk management. Each service is assessed as a potential performance obligation, with the transaction price allocated among them, and revenue is recognized as each is satisfied.
- Profit commissions and performance bonuses depend on future outcomes such as profitability, persistency or claims costs. They are variable consideration.
- Variable amounts enter the transaction price only to the extent it is probable that a significant reversal will not occur. In Baker Tilly's words, the transaction price should include the estimated amount that is probable will be realized. Under the guidance before ASC 606, many insurers recognized these amounts when the contingency resolved, often at the end of the contract, which differs from how ASC 606 reads.
For the auditor, three questions follow. What does the commission pay for? When is each obligation complete? How much of the contingent commission is constrained at year end? Also assess whether the agency acts as agent for the carrier. Most do, which is why they report net commission rather than gross premium. Where an agency has other duties, such as servicing a policy and bearing responsibility to the carrier, the principal-versus-agent analysis in ASC 606-10-55 needs to be written down, not assumed. Commissions paid to producers can be costs to obtain a contract under ASC 340-40.
Fiduciary funds and premium trust accounts
State law treats premium money as fiduciary, and New York's statute covers all funds collected as agent or broker. New York is a clear example: Insurance Law section 2120 makes insurance agents and brokers responsible in a fiduciary capacity for all funds they receive or collect as agent or broker. Without the principal's express consent, they may not mingle those funds with their own money or with funds held in another capacity. A separate bank account for each principal is not required as long as each principal's funds are reasonably ascertainable from the books of account and records.
Other states have their own statutes, and the details vary by state. The audit consequence is the same in each state:
- The agency's bank reconciliation should separate fiduciary cash from operating cash.
- Fiduciary cash should cover the payables to carriers and unearned amounts owed to clients.
- Commissions should move to the operating account on the schedule the law and the carrier agreements permit.
- Transfers from the trust account to pay operating expenses are a red flag.
Our glossary entry on fiduciary funds gives the general concept. A shortfall in the trust account is both an accounting misstatement and, for the agency, a licensing and legal exposure that requires evaluation for disclosure.
Risk areas
- Revenue timing. Commissions recorded on cash receipt rather than when the performance obligation is satisfied.
- Contingent commissions. Estimated too low until paid, or too high without a basis.
- Commingling. Operating cash mixed with premium trust cash, or borrowing from the trust account at month end.
- Carrier statements. Unreconciled differences between carrier statements and the agency management system.
- Chargebacks and cancellations. Returned commissions on cancelled policies.
- Producer compensation. Commissions paid to producers and any related contract cost deferral.
- Acquisitions. Purchased books of business and intangibles.
Typical audit procedures
- Understand the agency management system and how it feeds the ledger. Test report completeness before relying on reports (IPE testing).
- Reconcile commission revenue to carrier statements for a sample of carriers and months, and recompute commission rates against agency agreements.
- Test cutoff. Policies effective just before and after year end, and carrier statements received after year end that relate to the year.
- Test contingent commissions. Read the contract, obtain the carrier's year-end projection or prior-year results, evaluate the estimate and constraint, and compare to cash received after year end.
- Test fiduciary cash. Confirm bank balances, reconcile the trust account, and compare it to premiums payable to carriers and client credits. Look at transfers out of the trust account.
- Confirm balances with carriers on a sample of significant relationships (AU-C 505). Confirm customer receivables for agency-bill clients.
- Test chargebacks and cancellation reserves using subsequent activity.
- Test producer commissions against compensation plans and, where the agency capitalizes them, against the contract cost policy.
- Review journal entries for unusual postings between trust and operating accounts.
Worked example
An agency books $2,400,000 of base commissions for the year and expects a contingent commission from one carrier tied to a loss-ratio target (illustrative numbers). The prior year's contingent commission was $150,000. Management accrues nothing because it is paid in March, after year end.
- The auditor reads the carrier agreement and obtains the year-end loss ratio from the carrier's report. The target is met with room to spare, and the agency has received contingent payments from this carrier in each prior year.
- The auditor evaluates whether it is probable that a significant reversal would not occur. On this evidence, management should accrue an estimate. If the evidence supports $120,000, that amount is accrued, and the agency books revenue of $120,000 and a contract asset (or receivable, once the right is unconditional).
- Subsequent receipt of $140,000 in March confirms the estimate was conservative, and the difference of $20,000 is recorded in the following period as a change in estimate.
Recognizing the amount on cash receipt would have understated the current year by $120,000, a misstatement, and the cutoff test is what catches it.
PBC items
- Agency management system commission reports and carrier statements.
- Agency agreements and contingent commission contracts, with carrier year-end reports.
- Premium trust and operating bank statements, with reconciliations.
- Listing of premiums payable to carriers and client credits.
- Producer compensation plans and commission payables.
- Revenue policy memo under ASC 606.
- Licensing and regulatory correspondence on trust accounts.
Red flags
- Trust account balance below premiums owed.
- Commissions taken before premium collection when the carrier agreement does not allow it.
- Contingent commissions that appear only when cash arrives.
- Large unexplained reconciling items on carrier statements.
- Bank transfers from the trust account to payroll or rent.
Frequently asked questions
Is premium revenue for an agency?
No. For an agency acting as agent, revenue is the commission. Agency-bill premiums collected on behalf of carriers are held as fiduciary cash with an offsetting payable.
Are contingent commissions variable consideration?
Yes. They depend on future outcomes and enter the transaction price only to the extent a significant reversal is not probable.
Why does the trust account matter to the audit?
State statutes treat premium money as fiduciary. A shortfall or commingling is a misstatement and a compliance exposure for the agency.
Sources
- New York Insurance Law section 2120, Fiduciary responsibility for funds received as agent or broker: https://www.nysenate.gov/legislation/laws/ISC/2120
- Baker Tilly, Attention! ASC 606 will affect insurers. Are you ready? (October 31, 2016): https://www.bakertilly.com/insights/attention-asc-606-will-affect-insurers-are-you-ready
- AICPA, AU-C Section 505, External Confirmations
CORAA prepares ready-to-review audit files for US CPA firms; see /us.
Part of CORAA University · Specialized engagements: related guides, calculators and templates.
AU-C references are to AICPA Professional Standards, paraphrased here; read the standard itself before relying on a requirement. This page is guidance, not professional advice. Report an error