Workers' comp experience modification--the best will get better, the worst will get worse and the fairly good may get fairly bad.
The theory underlying experience rating holds that multiple claims are more indicative of future probable losses than a single large loss and that's what experience rating is all about. It's not intended to punish the insured for having claims or to enrich insurers at the expense of insureds. Experience rating plans are revenue neutral for insurance companies. The amount received from those with poor experience is offset by the reduction in premium to those with good experience.
All experience rating plans reduce the impact of large losses and increase the impact of small, frequent claims. Liability experience rating plans usually handle this by capping the losses used for experience rating purposes at a low amount, such as $50,000 per loss. Workers' compensation employs a more sophisticated system. Only that portion of each loss below the split point, called the primary loss, is used in full to calculate an insured's experience modification. The amount in excess of the split point is recalculated in part based on the insured's actual experience and in part on losses that a typical insured is expected to incur. The sum of the actual primary losses and the calculated excess loss is compared to the total expected primary and excess losses to derive an experience modification. Thus, an insured will be charged with losses in its experience rating calculation even if it has had no claims at all. The weight given to the insured's own excess loss experience increases with the size of the premium.
For all but the largest insureds, reducing the reserve for a loss from $5,000 to $10,000 can produce a noticeable improvement in an insured's experience modification because the entire $5,000 will be removed from the experience calculation. Reducing the reserve for a $100,000 loss to $95,000 will not have the same effect. That's good news for producers because it can often be simpler to find errors in small reserves.
About eight months before a client's experience modification date, request a loss run. Look first for claims with open medical reserves where no payment has been made in the last six months. Some of those losses may be ready to close for the amount paid to date.
Next, review the remaining open claims. Ask the insured for information about the current status of claims with open reserves. That may give you information that supports your argument that the reserve should be reduced. It will also alert the insured to your efforts to improve its experience modification.
Ask the claims handler for current status of open claims and whether any claims with open reserves can be closed for the amounts paid to date. Check with the insured to see if they have anything to add. For larger accounts once you've picked the low-hanging fruit, you might suggest one of the contingent fee services that review experience modifications.
Something else you'll want to do is alert your clients to the change. The change will be revenue neutral for insurers; it's designed so that increases in experience modifications will be offset by the ones that decrease. However, it won't be revenue neutral for insureds.
Here's an example that will baffle your insured: Unlucky Inc. has incurred three claims in the experience modification period of $15,000 each. Under the $10,000 split point in effect when the modification for its current policy renewed on 1/1/15, its experience modification was 1.20, that's a 20% increase over standard premium. If there are no changes in exposure or claims, the rating on 1/1/16 will be 1.38--a 38% increase over standard premium.
That's caused by an increase in the insured's primary losses from $30,000 to $45,000 due to the change in split point, even though the total amount of the losses didn't change. (Because all the losses were $15,000, the excess losses dropped from $15,000 to zero, but excess losses have much less effect on experience modifications.) The actuarial rationale for this is that groups of insureds with higher primary losses, and therefore higher claim frequency, will have worse claim experience in the future than groups of insureds with lower primary losses. That may make actuarial sense, but it's a hard sell to an irate insured.
Another apparent anomaly: Suppose our hypothetical Unlucky Inc. had only one $15,000 claim producing an experience rating of.97 under the $10,000 split point. If there are no changes in exposure or losses, its rating will be 1.01 under the $15,000 split point. Again, that's because the primary loss increase will more than offset the reduction in excess losses. (5)
I'm sure that it works actuarially and I'm also sure that no insured will ever accept your explanation. Admittedly there will be many insureds with little change and others whose ratings improve, but there will definitely be pain for some. If Unlucky were lucky and had had no claims at all in either rating period, its rating would have improved from.89 to.87 with the change to the $15,000 split point.
A plain-language explanation of experience modification is available on the National Council on Compensation Insurance (NCCI) website. https://www. ncci.com/documents/abc Exp Rating.pdf. It's worth looking at, even though New York is not part of NCCI. New York's workers compensation experience modification plan is similar in most ways, but not all.
NCCI prepares filings for almost 40 of the states, but the filings do not become effective until they are filed with and approved by the individual states. One of the ways that NCCI experience modification calculations differ from New York is that NCCI adjusts the split point annually based on inflation. The NY Compensation Insurance Rating Board is considering changing to annual adjustments in the split point, but hasn't made a decision yet. Applying small increases to the split point each year avoids the shock to some insureds than can result from a one-time $5,000 change in the split point.
Anticipate the problems you'll face. Review your clients' claims and let them know you're doing it. Let them know that the change in experience rating calculations may increase the experience rating modifier for some insureds, generally due to claim frequency. Offer to have a tentative mod calculated for those insureds for whom workers' compensation is a major cost item, e.g. contractors who bid jobs with large payrolls and high workers' compensation rates.
Also point out that insureds with low frequency may see their experience modification go down, thereby reducing their premiums. Although you won't have done anything to bring about that change, you may get credit for it. You will certainly be blamed for any increase, for which you are equally blameless.
(4) I wrote about the workers compensation experience modification split in the October 15, 2012 issue of the Insurance Advocate.
(5) These rating calculations are based on a client's actual exposure. Marilyn Wedel, Senior Workers' Compensation Analyst with The Flanders Group, calculated ratings using the three $15,000 claims that I hypothesized. I did other calculations, so any errors are undoubtedly mine.
Jerome "Jerry" Trupin, CPCU, is a partner in Trupin Insurance Services located in Briarcliff Manor, NY. He provides property/casualty insurance consulting advice to commercial, nonprofit and governmental entities. He is, in effect, an outsourced risk manager.
Jerry has been an expert witness in numerous cases involving insurance policy coverage disputes and has taught many CPCU and IIA courses. Jerry has spoken across the country on insurance topics and is the coauthor of over ten insurance texts used in CPCU and IIA programs including Commercial Property Risk Management and Insurance and Commercial Liability Management and Insurance. He regularly contributes articles to CPCU Society publications, the Insurance Advocate, and others. He can be reached at firstname.lastname@example.org. Thanks to Jerry Trupin for this article and to the CPCU Society for letting us reprint it.
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|Title Annotation:||EXPOSURES AND COVERAGES|
|Date:||Sep 28, 2015|
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