Going out for HR? Due diligence is key in selecting a professional employer organization.

While overseas service providers have transformed the meaning of "outsourcing" in our lexicon, for decades businesses have outsourced various job functions to increase efficiency and reduce costs.

Though businesses have outsourced to third-party payroll providers for years, some smaller companies are outsourcing services--such as group benefits purchasing and administration, workers' compensation compliance and administration, COBRA and HIPAA compliance--to compete with larger employers and offer better benefit packages at lower prices.

DO YOUR DUE DILIGENCE 

Following are some tips on what to look for in a professional employer organization or human resources outsourcer:

Privacy is king. Use professional literature and state and federal laws to ensure that any outsourcer is providing appropriate security measures to safeguard against theft or improper sharing of personal employee data, such as Social Security numbers, banking information and dates of birth. Likewise, compliance with HIPAA requirements guarantees that health-care histories remain protected.

Check client and professional references. Don't just skim the surface, but dig deep:

* Check with the PEO's essential vendors. For example, confirm insurance coverage and ask if the policy is new or has been renewed. Ask the PEO for references from inside their carriers.

* Find out how the PEO's insurance carriers are rated by A.M. Best or other insurance rating organizations.

* Ask for customer references, both from current customers and those who terminated their service. Find out why former customers terminated their service.

* Do a Google search on the PEO and see if anything negative (past fines, pending litigation, etc.) pops up.

Voluntary membership can mean a lot. Check to see if the provider is a member of the National Association of Professional Employer Organizations and is accredited by the Employer Services Assurance Corporation. NAPEO membership suggests a company's dedication to high standards and professionalism. ESAC, in addition to providing financial stability assurance, offers accreditation for risk management, payroll and benefits administration.

Never overestimate a provider's financial standing. Reminding CPAs to check on a prospective partner or vendor's bank and credit references may seem like preaching to the choir, but no business can afford to overlook this step.

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Are employee benefits well funded and fully insured? You don't want to find out later that the PEO you're about to engage is not what it appears to be. If a workers' comp or other benefit plan is under-funded or not fully insured, the entire cost of a claim may become your burden or your client's, not the PEO's. Be skeptical; get a guarantee of the various plans' funding in writing and ask for back up documentation.

Does the employee risk pool match your client's profile? A PEO with a homogeneous customer base won't put your client at risk by grouping it with other businesses with higher benefits usage or medical claims costs, sending your rates skyrocketing later. Compare the PEO's average salary base and overall occupational makeup to that of your client's. Are they close? Putting a low-risk customer into a largely high-risk PEO environment may mean they won't get the kind of benefits or services that they expect.

Do qualified employees receive first-day coverage? The good ones offer this. A waiting period for employee benefits is not the best recruiting carrot to dangle during competitive hiring cycles. Also, make sure there is no exclusionary language pertaining to pre-existing conditions or any need for individual underwriting. Otherwise your client may be caught in an embarrasing--and potentially costly--situation if assumed coverage is not provided. Remember these two phrases: "guaranteed issue" and "you get what you pay for."

Does the provider assume compliance liabilities through its contract? A careful reading of the PEO's contract is mandatory. Understand which risks are--and are not--transferred or shared. Some risks can be completely transferred over to the PEO, including payroll timeliness and accuracy; employment taxes, filings and compliance; health plan compliance and filings; health plan remittances; HIPAA compliance; and COBRA compliance. For those, the PEO can and should hold the customer harmless.

Other risks, such as human resources and employment litigation risks, only can be shared--and the contract should make this clear. Be wary of PEO contracts that promise the moon; the reality is that the courts and administrative agencies have established some clear guidelines about risk transfer.

Do the contractual promises have substance? What HR staff does the PEO employ? How are they deployed? What resources are available to the customer? Is there an internal legal department to handle the thorny issues? Are there insurance policies--such as Employment Practices Liability Insurance, Errors and Omissions Insurance and Directors and Officers Insurance--to back up the promises? Does the PEO cater to your client's service expectations?

A little due diligence now will save you and you client many headaches later.

BY LYLE DEWITT, CPA 

Lyle DeWitt, CPA, is vice president of finance at The TriNet Group, a San Leandro-based, nationwide human resources service provider. He can be reached at [e-mail].