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Journal Entry for Insurance Claims: A Quick & Easy Guide

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Unexpected events can impact the financial stability of the business. However, companies can protect themselves from potential losses and risks with insurance. Insurance claims help businesses recover from losses and, through proper accounting entries, reduce the impact of a loss-generating event in the financial statements

More often than not, insurance may cover only a portion of the total loss. But in some instances, insurance proceeds can be more than the loss incurred, which would result in a gain. In this article, we’ll talk about insurance claims, their accounting treatment, and the important journal entries.

Understanding Accounting for Insurance Claims   

When recording insurance claims, we should ensure the insurance company approves the claim. If yet to be approved, there must be high certainty that the claim will be approved. The keyword here is probable, which is equivalent to 75% probability.

Only when we are confident that an insurance claim will be approved, and it is probable, we can account for it in the book. Generally speaking, the recording of insurance claims is meant to offset the loss/expense incurred earlier due to the incident. See below for some real-world examples of how to record this accounting treatment.

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Journal Entries Examples for Insurance Claims

As mentioned above, you should first revisit the insurance policy and ensure it is probable that there is enough coverage and that the insurance will cover the circumstances surrounding the loss-generating event.

Example: On February 1, a small explosion in one of Collin Company’s storage facilities damaged the inventory stored in the facility. After investigating the explosion’s aftermath, the company determined that all inventory was destroyed and could not be sold even for scraps. The company determined that the value of the damaged inventory was $10,000. It filed an insurance claim on February 6. 

Journal Entry To Record the Loss

The first journal entry is to recognize the loss. It should look like this:

Journal Entry for Insurance Claims - reporting the loss

Notes on the entry:

  • The Loss on Damaged Inventory account is a P&L account reported on the Income Statement. A debit of $10,000 established the fact that Collin Company had incurred a $10,000 loss due to the accident.
  • The Inventory account has been credited with $10,000, indicating a reduction of $10,000 in inventory following the accident.

Journal Entry To Record the Approved Insurance Claim

Assuming the insurance company approves the claim, we can either debit Cash or Insurance Receivable. But more likely than not, it will take several business days before the insurance company sends the check. In the meantime, we may record the receivable.

Scenario 1: The insurance proceeds are less than the loss

Let’s assume that the proceeds from the policy are only $8,000. The entry should be:

Journal Entry for Insurance Claims - claim approved scenario 1

Notes on the entry:

  • The credit to Loss on Damaged Inventory for $8,000 will reduce the loss initially recorded. The remaining $2,000 of loss will stay on the income statement.
  • The debit of $8,000 to Insurance Receivable establishes the expectation of the insurance proceeds. 

Once we receive the insurance check, we record the journal entry below:

Journal Entry for Insurance Claims - claim received scenario 1

  • Once the bank clears the $8,000 check, the accounting team at Collin Company will debit the Cash account to record the cash receipt and credit the insurance receivable to eliminate the balance.
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Scenario 2: The insurance proceeds are greater than the loss

For this scenario, let’s assume the insurance proceeds are $12,000. The entry should be:

Journal Entry for Insurance Claims - claim approved scenario 2

Notes on the entry:

  • The debit of $12,000 Insurance Receivable establishes the anticipation of the insurance proceeds.
  • The Loss on Damaged Inventory account is credited for $10,000 because the insurance proceeds fully cover or reverse the loss recorded in an earlier entry.
  • The excess proceeds should be recorded as a gain, which is a credit of $2,000 ($12,000 proceeds – $10,000 loss)

Similar to the previous scenario, the entry below will be recorded once the cash is received.

Journal Entry for Insurance Claims - claim received scenario 2

  • Once the bank clears the $12,000 check, the accounting team at Collin Company will debit the Cash account to record the cash receipt and credit the insurance receivable to eliminate the balance.
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Notes on Insurance Proceeds that Result in a Gain

Following the principle of conservatism, both US GAAP and IFRS generally discourage the recognition of gain or income unless there is a high degree of certainty. Notably, ASC 450 pointed out that a gain should not be recognized unless it’s realized or realizable. 

Simply put, it means there should not be an entry to record gain unless cash is on its way to the company’s bank account or the business is one hundred percent confident that it will receive the proceeds. Loss, on the other hand, can be recorded as long as there is a 75% probability.

There are other scenarios where a gain or income can be recorded even if there is no loss to be recognized (such as business interruption). Those scenarios are uncommon, and it’s always recommended to follow the conservatism principle, in which income is recorded when it’s 100% realizable.

Key Takeaways 

  • We only record insurance claims if and only if the insurance company approves the claim or if it is probable it will be approved (75% probability)
  • In recording a claim, we normally offset it against the previously recorded loss. 
  • If the policy deductible is greater than the loss, the excess should be reported as a gain. However, the gain can only be recognized when the proceeds will absolutely be received (the 75% probability rule does not apply to gains)
  • When offsetting the insurance claim against the loss, it’s always good practice to disclose the details about the net loss or gain arising in the footnotes of the financial statements.

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