Large Deductible Workers Comp Not Always A Panacea

I just saw an online blog/press release kind of thing that suggested that large deductible Workers Comp insurance provides "Most Control For Managing Workers Comp".  You can take a look at it here. Myself, I'm not so sure.  Maybe that's because I've been retained as a consultant/expert witness by so many disgruntled employers who have found Large Deductible Workers Comp policies to be something more akin to a money pit than a management tool.

Large Deductible policies make the employer responsible for paying most claims out of pocket, (plus handling charges to the insurer) but leave all power and responsibility for handling and reserving and settling those claims with the insurance company.  That means that the insurance company is now paying claims with someone else's money.  So employers can be subject to some rude surprises when claims costs escalate beyond projections, and they are asked to kick in more money.  And more money.  And yet more money.  So in many cases, employers can't really close the books on the costs of Workers Comp for any given year until three or four or five (sometimes more!) years later.  And estimating what your cost of Workers Comp will be for an upcoming year becomes more of a crapshoot than ever.

Worse, Large Deductible policies are often mind-numbingly complex.  Many of them utilize separate side agreements to spell out the details of what employers will actually owe the insurer, and those side agreements can make the standardized policy language look simple by comparison.  I've been working with Workers Compensation insurance for more than thirty years, and some of the side agreements used by some carriers make my head hurt when I try to read them.

Let me put it this way: one of my hobbies is reading about science and cosmology.  Explaining black hole physics is an easier matter than explaining some of these side agreements.

In some of the legal disputes I've assisted on, the insurers invariably say that the policyholder was a "sophisticated" insurance purchaser.  That always makes me smile to myself, because the complexity of some of these side agreements is far beyond what any normal business person who isn't an insurance professional would likely understand.  But let me assure you, the insurance company underwriters and lawyers who have drafted those side agreements have thought long and hard about the implications of all that dense prose.  Their understanding of what these complicated unilateral contracts contain is normally far in excess of that of even an experienced insurance buyer.

Some side agreements completely negate the effect of experience modification factors in determining final premium.  Others abandon the well established classification system for different workplace exposures that has been used since the earliest days of Workers Compensation insurance.  And these fundamental changes are often poorly understand, if at all, when many employers purchase these policies.

Now, to be fair, not all Large Deductible policies end up badly for the employer.  They can indeed offer genuine cost reductions for certain employers.  But Large Deductible policies also do away with, to a very great extent, the standardization of Workers Comp insurance policies that many employers have come to rely upon.  The details of the side agreements used can vary greatly, and so some Large Deductible policies may be well understood by an employer at the outset, while others can be as confusing as when I try to explain to my wife why you can't really ever see something cross the event horizon of a black hole.  (She's a smart lady, but doesn't share my enthusiasm for general relativity.)

Large Deductible policies certainly have a place in the insurance universe.  They can make sense for some larger employers.  But not always.  And the complexity and non-standardization inherent in these programs just about guarantees that my work as a consultant and expert witness, in cases involving premium disputes for these policies, is not likely to end any time soon.

Now, if you have a few minutes, would you like to hear about how the paradox of a person falling into a black hole may point to the reality of multiple universes?  See, this is because an outside observer will see the unfortunate person falling into the black hole get vaporized, while the person himself will not experience any such vaporization at the event horizon (although later on things get rather unpleasant)...wait.  Why are you gnawing your own arm off to escape?  Would you rather talk about insurance?

The Incredible Shrinking Department of Insurance

Just had an interesting, if depressing, conversation with someone I know at the Illinois Department of Insurance.  It looks like the long-term plan of the insurance industry to effectively dismantle insurance regulation in Illinois is continuing apace.  The department is supposed to have 352 people there when it is fully staffed.  They are now down to 200, and experienced people there are getting out as quickly as possible.

Now, keep in mind that taxpayer dollars aren't involved in the IDOI--the funding all comes from fees and taxes levied on the insurance industry.  So starving the department of personnel doesn't save taxpayers any money.  It just makes sure there won't be any genuinely effective insurance oversight and regulation in the state.

This de facto deregulation was set in motion years ago, when the then-President of the Illinois Senate asked representatives of the insurance industry if they understood the long-term implications of starving the IDOI.  It was made clear by those insurance industry people, so I am told, that they were indeed fine with that.

When employers and their representatives get all upset over the cost of Workers Compensation in Illinois, they tend to focus rather obsessively on the benefits paid to workers.  And while that is certainly a significant driver of WC costs, it isn't the whole story.  What has usually been overlooked in Springfield, when they consider 'reforms' of the Workers Comp system,  is the role of insurance companies.  For most employers,  it is the cost of Workers Compensation insurance that they have to wrestle with.  And without effective and experienced insurance regulators, it is a foregone conclusion (in my mind, at least) that insurance companies will interpret things to their own benefit when computing insurance premiums and writing rules.  And when there are finally no experienced
people in the department of insurance to help employers dispute these abuses,  employers will truly be at the mercy of the insurance industry.  It is not a pleasant future to contemplate, but it is almost upon us.

New NCCI Experience Mod Formula Now in Effect

Now that 2013 has arrived, it's not just the changes in tax rates employers have to keep an eye on- the formula used by the National Council on Compensation Insurance (NCCI) to compute experience modification factors for employers has changed, and that means that employers have more reason than ever to keep a sharp eye on how their experience mods are calculated.

NCCI computes the experience modifiers (also known as X-Mods, mods, and EMRs) used on Workers Compensation insurance policies in a majority of states in the U.S. and these modifiers directly impact the insurance premiums paid by employers.

For example, an experience modifier of 1.25 means an employer is paying a 25% surcharge for Workers Compensation insurance. A modifier of .75 translates to a 25% credit. 

Experience modifiers are calculated using losses and payroll information from past Workers Compensation insurance policies, but NCCI (and other independent rating bureaus) apply a complicated formula to this data. One important aspect of this formula is that it discounts the impact of large individual claims, so that, for example, five claims of $20,000 each would have a greater impact on a modifier than a single claim of $100,000.

But under the new formula, NCCI has changed how much of a single claims gets fully counted in the experience rating formula. The net effect will be that employers with low claims histories will get modifiers lower than would have been the case under the current formula. But employers with some expensive claims in their history will see modifiers higher than would have been the case under the current rating plan.

Under the old formula, only the first $5,000 of each claim was fully counted in computing the modifier.  Everything over this "split point" was discounted.  But the new rating plan by NCCI increases the split point.  In 2013, the split point increases to $10,000.  In 2014, it goes to $13,500.  In 2015, the split point becomes $15,000, and then is subject to annual adjustment for inflation.

The other change in the new formula is to adjust the maximum modifier that can be calculated for an employer.  This maximum will vary by employer, as it is calculated based on past payrolls and classifications codes.  The maximum doesn't affect most employers, but the new formula will act to generally raise that cap on experience modifiers for those employers who qualify.

This will be an issue not just for those employers who see higher modifiers--and thus higher premium charges for Workers Comp insurance. It will be an even greater issue for those in the construction business, as a modifier of 1.00 is required to bid on many projects. With a modifier higher than 1.00, many contractors will find themselves locked out of even bidding on important projects. So employers who were just under that threshold of 1.00 may well find that their new modifier exceeds 1.00, even though no change in the safety of their operations has occurred.

Here's a link to a PowerPoint that goes into more detail about the new experience rating plan from NCCI.

This change in experience rating by NCCI may well create significant problems for many contractors, and likely will make careful review of experience modification factor calculations more important than ever.