Reconciling the Surplus Lines Premium Tax Return
Cordell Commercial Risk Services, a Missouri surplus lines broker, writes six surplus lines policies during the calendar year with total gross premiums of $412,000. It retains 15% commission, or $61,800. One policy was cancelled midterm in October, and $9,000 of unearned premium was returned to the insured. One declarations page shows a $2,000 inspection fee charged by the insurer and identified as part of the policy premium. On the annual return, Cordell reports taxable premium of $341,200 ($412,000 minus commissions minus the returned premium) and remits $10,236 at the 3% rate. The Department's examiner questions the return, and the principal's response is: "We only ever received the net; the insured should be responsible for its own tax."
1. Compute the correct tax and identify each reporting error with its dollar effect.
Read the worked answer
Correct taxable premium: $412,000 gross less $9,000 of unearned premium actually returned = $403,000. Correct tax: 3% × $403,000 = $12,090.
Error by error:
- Commission deduction (−$1,854 effect). The tax is computed on gross premium paid by the insured, with no deduction for the broker's commission. Cordell's $61,800 deduction removed $1,854 of tax that was owed.
- Returned premium (legitimate, if documented). Removing $9,000 is proper because the coverage was never provided for that period, but the credit depends on proof that the unearned premium actually went back to the insured. If Cordell kept it as a credit on a replacement policy, the credit is not available on this return.
- Inspection fee (no adjustment). The $2,000 is a charge by the insurer that forms part of the policy premium, so it belongs in the taxable base. It would come out only if it were a separately stated fee for a service genuinely unrelated to the insurance.
Shortfall: $12,090 − $10,236 = $1,854, plus penalty and interest.
2. The principal argues the insured should bear the tax. Evaluate that position.
Read the worked answer
It is wrong as a matter of who owes the obligation, and it is wrong as a matter of what "net" means.
The surplus lines premium tax is imposed on the broker who procures the coverage. Cordell collected the full $412,000 from insureds, held those funds in a fiduciary capacity, remitted the premium to insurers net of commission, and was obligated to remit the tax from what it collected. Retaining commission does not reduce the taxable base; the commission is Cordell's compensation, not a reduction in the premium paid for insurance.
The suggestion that the insured should pay is also self-defeating. An insured cannot be billed retroactively for a tax the broker was required to collect at inception, and attempting to do so after an examination invites its own complaint. If Cordell wants to recover from anyone, that is an errors and omissions question, not a tax argument.
Practical consequence: the Department can assess Cordell personally, pursue the shortfall with penalty and interest, and treat a pattern of under-remittance as grounds for license discipline.
3. What should Cordell do now, and what documentation must support the corrected return?
Read the worked answer
File an amended return promptly, pay the $1,854 with penalty and interest rather than waiting for the assessment, and correct the process so the same error does not recur next year. Voluntary correction before an assessment is treated far better than correction after one.
Support the amended return with, for each of the six policies: the declarations page and any endorsements, the insurer's invoice showing gross premium and any fees, the insured's payment record, proof of the $9,000 unearned premium refund (cancellation endorsement, check or credit memo, and the date), the broker's commission statement, and the documentation behind each placement - declinations from authorized insurers, the signed nonadmitted-insurer disclosure, and evidence of the insurer's eligibility at the time of binding. The return should show the computation in a form an examiner can follow line by line.
Going forward, compute the tax on gross premium at binding, deposit it immediately in the fiduciary account, and reconcile quarterly against the policy register so that commissions and returned premiums are handled as separate adjustments to the premium ledger rather than as deductions from the tax base. Note the Department's current retention period for placement records and confirm it before purging any file.