Here at the Insider we realize that we have readers from different areas of the insurance world, some directly related to workers' comp and others indirectly related. Some of our readers are risk managers at large Fortune numbered companies. Other readers are with agencies and brokerages, large and small. Still others work in various roles for insurers. Because in just a couple of weeks the insurance industry's experience rating system will undergo its first significant change since 1990, we've decided, beginning today, to present a 5-part series aimed at those readers for whom this change will have direct and immediate impact.
For some readers, what we'll be presenting will be old news. If you're in this group, this is the time to hit the "delete" key. Also, to be candid, the first, and possibly second, post may appear too basic for some, but we believe we have to prime the pump before we can draw the water. For everyone else, hang around; there might be something to learn. We're talking directly to middle and small market employers and the agents, brokers and consultants who serve them. Essentially, anyone affected by experience rating.
The goal: Reduce the cost of workers comp insurance
Other than reducing payroll, in most cases the only way for an insured employer to reduce its workers compensation premium is by reducing experience modification, which is the end result of the experience rating process. Experience rating is complex, but it contains elements responsive to strategic planning and employer control. That's why understanding experience rating is so important.
First, some basics. Coming up with an employer's workers comp premium is, essentially, a two-step process. The first step multiplies the employer's premium class rate by its payroll in hundred-dollar increments. That is: rate times each hundred dollars of payroll. This is called the "manual premium." In the second step the insurer multiplies the manual premium by the "experience modification factor," which is derived from a mathematical calculation that examines the employer's claim loss history over the most recent three-year period in relation to its industrial peers. The application of the "mod" will either raise or lower the manual premium, resulting in a competitive advantage or disadvantage. This is why keeping the mod low is so vital.
NOTE: For a comprehensive basic primer on experience rating, we recommend going to the source: The National Council on Compensation Insurance (NCCI) website provides a well-written document (PDF) that will walk you through the fundamentals of experience rating.
In the next four posts we offer the following:
- First, a basic review of claim losses, the building blocks of experience rating
- Second, an explanation of the difference between Primary and Excess Loss, as well as a description of the 2013 Split Point change
- Third, a recommendation for dealing with Reserves
- Fourth, a discussion of Expected Losses, Expected Loss Rates and a wrap-up.
Keep in mind that in experience rating, size matters. Large insureds with large premiums are expected to have higher losses than smaller insureds. Indeed, because their margin of error is smaller, companies with premiums in the $10,000 to $100,000 range can easily find themselves in a lot of trouble with just a few injuries.