Believing that it is more economical to manage its risks internally, a county elects not to purchase commercial insurance. Instead, it sets aside resources for potential claims in an internal service ''self-insurance'' fund. In a recent year, the fund recognized $1.5 million for claims filed during the year. Of these it paid $1.3 million. Based on the calculations of an independent actuary, the insurance fund billed, and collected, $2.0 million in premiums from the other county departments insured by the fund. Of this amount $1.2 million was billed to departments accounted for in the general fund and $0.8 million was billed to the county utility fund. The total charge for premiums was based on historical experience and included a reasonable provision for future catastrophe losses.
1. Prepare the journal entries in the internal service fund to record:
a. The claims recognized and paid.
b. The premiums billed and collected.
2. Suppose instead that the county accounted for self-insurance within its general fund. As in part 1, of the $2.0 million in premiums charged, $1.2million were billed to the other departments accounted for in the general fund and $0.8 million were billed to the utility department.
a. Prepare the general fund journal entry to record the claims recognized and paid.
b. Prepare the general fund entry to record the premiums billed and collected from the utility fund. (Those billed and collected from the other general fund departments would ''net out'' against their premium expenditures for purposes of external reporting.)
3. What would be the net expenses (i.e., expenditures less premium revenues) reported by the general fund if the self-insurance were accounted for: (1) in the internal service fund, and (2) in the general fund? What would be the total expenses charged by the utility fund if the self-insurance were accounted for: (1) in the internal service fund, and (2) in the general fund? Comment on the rationale for standards that permit such differences.