Also known as claim reserves, balance sheet reserves are cash reserves that are set aside for the purpose of being able to honor the payout of obligations when and as necessary. The term is most usually associated with insurance companies that must set aside funds that can be drawn upon in order to settle any approved insurance claims submitted by clients of the company. Theses types of funds are usually referred to as balance sheet reserves because the balance that is set aside for fulfilling claims is recorded as a line item on the balance sheet for the provider.
Just about every type of insurance provider will carry some amount of balance sheet reserves as part of the resources on hand. Life insurance companies as well as health insurance providers and even auto and property insurance carriers will make sure there are reserves in place so that claims can be settled in a timely manner. Typically, the amount of those reserves is determined by using governmental regulations as standards for the minimum amount to maintain in the reserves, although it is not unusual for insurance companies to maintain greater reserves based on the type of policies written and the size of the client base.
As part of the accounting process, balance sheet reserves are listed on the balance sheet as a liability. This is because the funds are basically considered to be a form of debt that is owed to the policy holders, with the proceeds drawn on each time that a claim is reviewed and approved. Once claims are settled, those funds can be deducted from the balance in the reserves, with the insurance provider periodically replenishing that figure in order to remain in compliance with governmental standards and regulations.
Since there are regulations that set minimum standards for balance sheet reserves, periodic audits serve to ensure that minimum is maintained at all times. Many companies choose to maintain a larger balance that makes it easier for the insurance provider to manage an unusually high volume of claims, such as after the occurrence of a natural disaster. It is not unusual for a company to adjust the actual amount of claim or balance sheet reserves from one year to the next, based on factors such as changes in the economy, actual figures related to the total value of claims submitted and approved during the past year, and even anticipation of upcoming events that have the potential to trigger another influx of claims.