Understanding Insurance Gaps in Payrolling and PEO Agreements

By T2 Insurance Solutions on November 26, 2025

As staffing firms scale, many turn to outsourcing models, such as payrolling services and professional employer organizations (PEOs), to simplify their operations. But here’s the question that too few ask upfront: What are the insurance risks associated with PEO agreements?

Whether it’s misinterpreted responsibilities or misplaced trust in a third party’s coverage, staffing companies can unknowingly expose themselves to claims they assumed were handled elsewhere. When it comes to staffing agency insurance coverage, the fine print matters. The consequences of getting it wrong are expensive.

According to the National Association of Professional Employer Organizations (NAPEO), businesses using a PEO grow two times faster, have 12 % lower turnover, and are 50 % less likely to go out of business compared with similar firms not using a PEO. But with those benefits come risks that staffing firms need to manage carefully — especially when it comes to insurance.

What Are PEOs & Payrolling Services Really Responsible For?

PEOs and payrolling firms offer operational relief by handling payroll, HR functions, and, in many cases, workers’ compensation policies. However, their administrative role often masks a critical distinction. They don’t always assume full liability.

In a co-employment model, legal responsibility is shared. While the PEO may serve as the employer of record for tax filings, the staffing agency often remains the “worksite employer.” This means your name may still come up in workers’ comp audits, lawsuits, or OSHA claims. Many staffing firms mistakenly believe the PEO “takes care of everything,” but policy exclusions, state-specific requirements, and misclassified roles can leave dangerous gaps.

The result? Firms are caught off guard when a claim hits, and they’re the ones on the hook.

Common Insurance Gaps That Leave Staffing Agencies Exposed

Even with the operational support PEOs provide, many staffing firms are surprised to find that critical insurance protections are incomplete or misaligned with their actual exposures.

Workers’ Compensation Coverage Limitations

PEOs and payrollers often extend coverage through their own workers’ comp policies, sometimes referred to as “master policies.” These policies do not automatically cover every class code, job type, or state. If your firm is placing temporary labor across state lines or into high-risk roles, you could be left uncovered if those exposures fall outside the PEO’s insured scope.

General Liability Blind Spots

Depending on the contract’s structure, coverage may not extend to third-party bodily injury or property damage caused by temporary staff. This risk escalates in mixed W-2 and 1099 environments, where liability can shift depending on the employment classification and reporting requirements.

Employment Practices & Professional Liability Exclusions

Many PEOs offer limited or optional employment practices liability insurance or errors and omissions coverage. These policies often exclude claims tied to the staffing firm’s own hiring, placement, or disciplinary decisions unless specifically endorsed. That gap leaves agencies dangerously underprotected for the high risks they most often face.

Real-World Consequences of Misunderstanding These Gaps

Picture this: A client-site injury sidelines a temporary worker. The staffing agency submits the claim under the PEO’s workers’ comp policy, assuming coverage applies. However, the placement falls outside the PEO’s approved classification schedule, and the claim is denied. The staffing agency, believing the PEO handled coverage, is left scrambling with little recourse.

Or consider a liability claim. A contractor misrepresents their experience, causing financial harm to a client. Because the agency sourced and presented the candidate, the professional liability claim lands squarely with them, not the PEO.

Here’s the rule of thumb seasoned brokers follow: If it’s unclear who’s responsible for the risk, your client probably is.

How T2 Insurance Solutions Helps Fill the Gaps With Specialized Staffing Coverage

T2 Insurance Solutions works exclusively with staffing firms and their brokers to navigate these gray areas. We understand the nuances of co-employment and contract-driven exposure. Our underwriting process digs deeper, reviewing your placements, multistate exposures, job classifications, and third-party agreements to identify gaps that others may miss.

As a licensed wholesaler in every state, T2 offers flexible, scalable coverage options that go beyond standard PEO setups. Whether you need workers’ comp for high-risk class codes, standalone coverage in monopolistic states, audit support, or excess layers, we help you build a reliable insurance foundation tailored to your business model.

Check Your Policy Before Year-End

PEO and payrolling arrangements may simplify HR, but they don’t eliminate risk. As year-end approaches, now is the time to review your insurance portfolio for gaps before January renewals lock in another year of potential exposure.

Contact us for a quote today, or let our team review your current program. Whether you’re a broker with staffing clients or an agency exploring PEO options, T2 Insurance is your partner in staying protected and competitive.

FAQ About PEO Agreements

What are the insurance risks in PEO agreements?

Staffing firms often assume that their PEO fully handles insurance, but gaps in coverage can exist. These can include workers’ compensation class code exclusions, a limited geographic scope, and inadequate general or professional liability protection.

Do payroll services cover workers’ compensation fully?

Not always. Some payrollers only cover select class codes or states, and many exclude high-risk staffing roles or short-term labor. Agencies should verify that all placements, across all jurisdictions, are included in the policy.

Who is responsible for claims in a co-employment model?

It depends on the contract and the specific policy structure. Even in a co-employment model, the staffing agency may remain legally liable for workers’ comp claims, liability suits, or compliance violations. This is especially true when acting as the worksite employer or failing to meet state-specific insurance requirements.

About T2 Insurance Solutions

T2 Wholesale Insurance Brokers is a reliable expert in workers‘ compensation insurance. With a century of combined experience, T2’s founders bring unparalleled insight and understanding to the table. Specializing in catering to the unique demands of workers‘ compensation insurance, T2 prides itself on its ability to craft comprehensive and competitive insurance solutions that address the diverse requirements and challenges faced by all industries.