Best Practices for Captive Insurance Audit Preparation

We all know that death and taxes are inevitable, but for captive insurance company owners, there's an additional certainty: the annual audit. Regulators require captive insurers in their domiciles to undergo an annual generally accepted accounting principles (GAAP) audit, making it a critical compliance obligation.

Auditors play a crucial role in ensuring that the captive meets its minimum capital requirements and maintains robust internal controls. Beyond general oversight and financial performance reviews, auditors conduct claims testing to verify that claims handling and amounts adhere to the approved plan. They also confirm that the captive has all necessary regulatory documentation in place, including executed contracts, agreements, and statements addressing conflicts of interest and codes of ethics.

During a captive's audit, the captive manager serves as a liaison between the captive, its owner, and the certified public accountant (CPA) firm conducting the audit. Once the audit is complete, the captive manager, in collaboration with the CPA firm, is responsible for presenting the findings and any recommendations to the company's board of directors.

The ideal audit process should incorporate best practices gained from working with various captive types and domiciles. By implementing these practices, captives can ensure timely compliance with regulatory requirements, facilitating a smooth and efficient audit process year after year.

Proper preparation is key to ensuring that all necessary information is provided to the audit team early enough to allow for timely completion before the due date. This is especially important if the captive's audit must be finalized before the parent company's overall audit can proceed, making effective scheduling critical.

The optimal approach is to begin planning during the last quarter of the current fiscal year. The prior year's audit serves as a guide for the information that needs to be gathered and submitted. Once all necessary documents and data have been identified, the captive management team should collaborate with the client to allocate resources to handle the additional workload. This proactive approach helps monitor the audit preparation process and address any potential issues before they jeopardize timely completion.

Since the audit team will likely interview directors and key stakeholders to verify the effectiveness of oversight—particularly regarding processes and procedures in place to prevent fraud—a diligent captive manager will brief them in advance. This includes preparing them for the types of questions to expect and ensuring they provide accurate, informed responses.

Ensure that all executed agreements, engagement documents, and conflict of interest or code of ethics attestations from directors, officers, and managers are properly filed, and that committee duties and responsibilities are clearly defined and documented. Likewise, verify that final drafts of meeting minutes for the current year are completed, and that any prior meeting minutes needed for reference have been properly executed.

The captive management team should also confirm that all bank reconciliations related to the captive have been accurately completed and signed off, along with any required checklists. If the previous audit identified any misstatements or exceptions, those areas should be thoroughly reviewed and corrected, ensuring they are properly documented so the auditor can approve them without further exceptions.

Internal controls are always a central element in audits. Before submitting materials to the audit team, review these controls to ensure they align with the company's policies and procedures. Additionally, confirm that these policies, procedures, and any relevant operations manuals are thoroughly documented. For companies required to perform SOC 1 (System and Organization Controls) reporting to meet legal or contractual obligations, use the report as a framework for management to follow, ensuring that actual activities align with the report's presentation.

Key deadlines for these items, along with others, should be compiled into a comprehensive calendar to guide the audit timeline and ensure each task is completed on time.

Executives accustomed to their company's annual audit process are often surprised by the additional scrutiny, checks, and balances involved in a captive audit. Insurance company audits typically require more extensive testing and take significantly more time than standard corporate audits.

The thorough captive audit process offers significant value, as it confirms the captive is properly structured, adequately funded, and managed in alignment with the parent company's objectives. Over time, as companies become more familiar with the audit process, this preparation becomes a routine business practice. The client's team can organize information more efficiently, reducing potential complications. Ultimately, this process helps ensure that the captive operates smoothly and meets compliance standards year after year, audit after audit.