Insurance: Accounting

The fundamental tool keeping mark for business activities is accounting. As being “the language of business”, accounting involves the recording, reporting, and evaluation of economic transactions and events which affects the organization. Luca Paciolo, a Franciscan monk, wrote a book way back year 1494, stating three main things a businessman should have in order to be successful: cash/credit, a skilled bookkeeper, and a relevant accounting system. The accounting system serves to track the business’ performance, while the bookkeeper is the one who maneuvers the system.

Financial activities are the central aspects covered in the accounting process. This includes sales, costs, expenses, and the owner’s equity. Inaccurate or incomplete financial data can give rise to a business’ insolvency, while accurate accounting information can cause managers and business owners to create strategic and correct decisions as to the future.

The accounting data administered in the accounting system can communicate significant financial information to users including business owners, managers, investors, creditors, and other stakeholders of the company. Since the information needs differ for each user, accounting is classified into two broad categories: management accounting for accounting data intended for internal users; and financial accounting which takes in information designed for external users.

When it comes to the recording of accounting information, and the reporting of financial data in audited financial reports, the standards, rules, and guidelines are contained in the Generally Accepted Accounting Principles (GAAP). These procedures must be complied by all accounting practitioners.

The information system designed for gathering and processing of financial data to be used for decision-making by users of such information is called an accounting system. This also controls the enterprise’s activities. The five main activities done using the accounting system in processing financial data are: data recording or collection; data classification; data processing, which involves data computation and summarizing; result storage or maintenance; and result reporting. The main instrument in which such financial data are communicated to users is the financial statements.

The five major financial statements are the balance sheet, income statement, cash flow statement, statement of retained earnings, and statement of changes in stockholder’s equity. Assets, comprehensive income, distribution to owners, equity, expenses, gains, liabilities, losses, and revenues are the primary elements of financial statements.

For an insurance company, claims are recorded in current values in line with GAAP and the insurance regulations of the state. Claims are considered as an expense to the insurance company.

Policyholder claims are, to the insurance company, a liability or debt which must be paid. Thus, claims decrease the operating revenues of the insurance firm. For instance, a reimbursement claim of $15,000 was filed by a policyholder who suffered a vehicle accident. The accounting department of the insurance firm records the claim as follows:
(debit) Policyholder Claims Expense $15,000
(credit) Policyholder Claims Payable $15,000

Once the claim is proven authentic by reviewing reports from local authorities, it is then approved and recorded by the accounting department as follows:
(debit) Policyholder Claims Payable $15,000
(credit) Cash $15,000

Therefore, since cash, an asset account, is credited, its balance is then reduced.

Generally, insurance companies hire accounting experts, such as Certified Public Accountants (CPA’s) in reviewing accounting procedures or methods to be followed by their company’s accounting department. This likewise helps assessing whether the internal control applied in the reporting of claims are enough and functional.