Insurance Journal Forums

If an agency keeps too much money in their trust account they are violating tax code. If they keep too little in the trust account they violate insurance code. How does anyone know how much money and profit they have in their trust account?
How do you know how much to move from trust account to operating account? Is it as needed? Or moved on a paid items report?


-Ray McLure
http://www.paulmargroup.com

Having too much money in a trust account is not violating a tax code. If the agency is a sole-prop, LLC, partnership or Sub-S corp all the cash-flow is accounted for each April. If a C corp the business is allowed substantial cash accumulations as "retained earnings", particularly if they are being accumulated for a specific business purpose. If these retained earnings are too large, the IRS will impose a penalty or force the payment of dividends to the stockholders. However, legitimate retained earnings can be maintained into the 100's of thousands before becoming a problem. Read your codes again.

Wayne Lunday, LUTCF, CLU, ChFC

What method is being used to "account" for all this in April? How do you seperate your "earned commission" from your retained earnings to show each policy written is solvent? Our firm keep $250,000 of personal funds in our trust account to compensate bad checks and other unexpected transactions. Before this money was deposited we paid taxes to the gov't because it was dervied from commission and broker fees. And when you say these retained earnings get too large? Who determines what is too large? And when the IRS forces payment of dividends what process is going to be used to determine how much is to be paid? How much is earned? Don't tell me Applied and AMS does this too! The truth is it can't, and more so retained earnings do not support any solvency of a policy. And that's what this conversatio is about. Retained earnings are a mixture of earned and unearned premiums fees and commissions because all of this is deposited into the trust account. There is no current procedure to account for this as unearned income not being taxable by the IRS. Otherwise we are simply talking about fiduciary funds in our trust account that everyone is allowed to have. Money that belongs to you is earned and taxable by the IRS.

Money that does not belong to you is not taxable.

I will provide a response to Wayne Lunday based on the following:

• While Lunday’s comments on cash-flow and retained earnings are correct, none relates to the trust account issues. They do not respond to Ray’s question: how does an agent know to transfer commission to the operating account without violating his/her fiduciary responsibility?
• Ray’s comment regarding “too much money in the trust account may violate the tax code” becomes relevant only in “cash basis accounting”. Since currently insurance agencies use only “accrual basis accounting” Ray’s question needs context.
• Ray’s question has no answer in the current GL accounting since “cash basis accounting” is not currently practiced by insurance agencies. GL accounting does not address trust account solvency issues.
• Due to insufficient accounting records and use of “accrual basis accounting” insurance agencies determine their tax liability using invoice-based income (collected in the Income Account). The amount of commission an agency transfers out of the trust account (whether too much or too little) has no bearing on the agency tax liability in current practice;
• To analyze the trust account “cash solvency” mandated by the Insurance Code, insurance agencies need “cash basis accounting”. Two records are essential: “earned commission” and “transferred commission”. If these two records were in the ledger, “cash basis accounting” could be also available to insurance agencies;
• The question of how much commission income an agency earns during a given period and how much it can transfer to the operating account is a daily struggle for insurance agents; none wants to violate his/her fiduciary duty. GL accounting in its present form does not provide an answer to Ray’s question. None of the current agency management systems has customized GL accounting to help insurance agents and brokers competently manage their commission income