If you are an employer who has received an experience modification rating, it is imperative that you understand how it affects your workers’ compensation premium calculations to make your rating work in your favor.
Workers’ compensation coverage is known as a class rated insurance program. That means that an insurance company gives all employers within a state who fall into a given industry or class the same rate. This is an average rate which doesn’t take into consideration any individual characteristics of the employer. Since policy premiums are affected by the individual factors surrounding the business, carriers need a statistical method of differentiating one business in a given class from another. This is what an experience rating offers.
The experience modification rating is calculated individually for each employer who qualifies. In order to qualify, you would need to pay a premium in excess of $10,000 or a 3-year average premium of $5,000, depending on the state. The modification rating is a value that compares the claim profile of the employer to the claim profile that would be expected of an employer of similar payroll size in the same industry or class code. In this system, 1.00 is average, meaning the frequency and severity of the actual employer’s losses is equal to what the carrier would expect the employer to lose. A rating greater than 1.00 means the employer has experienced worse than expected losses during the rating period, and a rating of less than 1.00 indicates the employer experienced better than expected losses for the rating period.
An employer’s experience modification rating is calculated using claims data from the three most recently completed years. The current calendar year would be excluded because it would not give a full picture of the year’s losses.
Each claim’s paid and reserved value is listed. Then the frequency of claims is evaluated. An organization with only one large claim will be looked on more favorably than a second one with numerous smaller claims even if both companies’ losses are of equal dollar value. Since the second company is more prone to claims, for any claim over the highest dollar value claim, only a fraction of the amount in excess of that dollar value is used in the calculation. Also, in some states only a percent of the medical only claims are used in the formula. These adjusted claims are compared to the expected losses for the industry class and payroll size of the organization, and an experience modification rating is given to the individual employer. A rating that is less than 1.00 will reduce the company’s premium, while a rating that is greater than 1.00 will increase it.
Obviously, a company will want to find ways to lower their rating. One method a company shouldn’t try is to manipulate class codes when they are obtaining a policy in an effort to get the most payroll into the lowest rated class. This may actually raise the experience modification rating in the long run.
Because the rating is calculated from a comparison of actual losses versus expected losses, allocating payroll to less risky classifications will also put you in line for expected losses that are far lower than what you realistically experience. This increases the likelihood that your actual losses will be greater than expected for the classification, leading to a higher rating in the future. The best way to decrease your rating is to make safety a priority, which will eliminate losses and save you money in the long run.