In the
insurance
Insurance is a means of protection from financial loss in which, in exchange for a fee, a party agrees to compensate another party in the event of a certain loss, damage, or injury. It is a form of risk management, primarily used to hedge ...
industry in the
United States
The United States of America (U.S.A. or USA), commonly known as the United States (U.S. or US) or America, is a country primarily located in North America. It consists of 50 states, a federal district, five major unincorporated territorie ...
, an experience modifier or experience modification is an adjustment of an employer's
premium
Premium may refer to:
Marketing
* Premium (marketing), a promotional item that can be received for a small fee when redeeming proofs of purchase that come with or on retail products
* Premium segment, high-price brands or services in marketing, ...
for
worker's compensation
Workers' compensation or workers' comp is a form of insurance providing wage replacement and medical benefits to employees injured in the course of employment in exchange for mandatory relinquishment of the employee's right to sue his or her emp ...
coverage based on the losses the insurer has experienced from that employer. An experience modifier of 1 would be applied for an employer that had demonstrated the
actuarially expected performance. Poorer loss experience leads to a modifier greater than 1, and better experience to a modifier less than 1. The loss experience used in determining the modifier typically comprises three years but excluding the immediate past year. For instance, if a policy expired on January 1, 2018, the period reflected by the experience modifier would run from January 1, 2014 to January 1, 2017.
Methods of calculation
Experience modifiers are normally recalculated for an employer annually by using experience ratings. The rating is a method used by
insurer
Insurance is a means of protection from financial loss in which, in exchange for a fee, a party agrees to compensate another party in the event of a certain loss, damage, or injury. It is a form of risk management, primarily used to Hedge ( ...
s to determine pricing of
premiums for different groups or individuals based on the group or individual's history of claims. The experience rating approach uses an individual's or group’s historic data as a proxy for
future risk, and insurers adjust and set insurance premiums and plans accordingly. Each year, a newer year's data is added to the three year window of experience used in the calculation, and the oldest year from the prior calculation is dropped off. The other two years worth of data in the rating window are also updated on an annual basis.
Experience modifiers are calculated by organizations known as "rating bureaus" and rely on information reported by insurance companies. The rating bureau used by most states is the NCCI, the
National Council on Compensation Insurance The National Council on Compensation Insurance (NCCI) is a U.S. insurance rating and data collection bureau specializing in workers' compensation. Operating with a not-for-profit philosophy and owned by its member insurers, NCCI annually collects da ...
. But a number of states have independent rating bureaus:
California
California is a U.S. state, state in the Western United States, located along the West Coast of the United States, Pacific Coast. With nearly 39.2million residents across a total area of approximately , it is the List of states and territori ...
,
Michigan
Michigan () is a state in the Great Lakes region of the upper Midwestern United States. With a population of nearly 10.12 million and an area of nearly , Michigan is the 10th-largest state by population, the 11th-largest by area, and the ...
,
Delaware
Delaware ( ) is a state in the Mid-Atlantic region of the United States, bordering Maryland to its south and west; Pennsylvania to its north; and New Jersey and the Atlantic Ocean to its east. The state takes its name from the adjacent Del ...
, and
Pennsylvania
Pennsylvania (; ( Pennsylvania Dutch: )), officially the Commonwealth of Pennsylvania, is a state spanning the Mid-Atlantic, Northeastern, Appalachian, and Great Lakes regions of the United States. It borders Delaware to its southeast, ...
have stand-alone rating bureaus that do not integrate data with NCCI. Other states such as
Wisconsin
Wisconsin () is a state in the upper Midwestern United States. Wisconsin is the 25th-largest state by total area and the 20th-most populous. It is bordered by Minnesota to the west, Iowa to the southwest, Illinois to the south, Lake M ...
,
Texas
Texas (, ; Spanish language, Spanish: ''Texas'', ''Tejas'') is a state in the South Central United States, South Central region of the United States. At 268,596 square miles (695,662 km2), and with more than 29.1 million residents in 2 ...
,
New York
New York most commonly refers to:
* New York City, the most populous city in the United States, located in the state of New York
* New York (state), a state in the northeastern United States
New York may also refer to:
Film and television
* '' ...
,
New Jersey
New Jersey is a state in the Mid-Atlantic and Northeastern regions of the United States. It is bordered on the north and east by the state of New York; on the east, southeast, and south by the Atlantic Ocean; on the west by the Delaware ...
,
Indiana
Indiana () is a U.S. state in the Midwestern United States. It is the 38th-largest by area and the 17th-most populous of the 50 States. Its capital and largest city is Indianapolis. Indiana was admitted to the United States as the 19th s ...
, and
North Carolina
North Carolina () is a state in the Southeastern region of the United States. The state is the 28th largest and 9th-most populous of the United States. It is bordered by Virginia to the north, the Atlantic Ocean to the east, Georgia and So ...
, maintain their own rating bureaus but integrate with NCCI for multi-state employers.
The experience modifier adjusts workers compensation insurance premiums for a particular employer based on a comparison of past losses of that employer to what is calculated to be "average" losses of other employers in that state in the same business, adjusted for size. To do this, experience modifier calculations use loss information reported in by an employer's past insurers. This is compared to a calculation of expected losses for a company in that line of work, in that particular state, and adjusted for the size of the employer. The calculation of expected losses utilizes past audited payroll information for a particular employer, by classification code and state. These payrolls are multiplied by Expected Loss Rates, which are calculated by rating bureaus based on past reported claims costs per classification.
Errors in experience modifiers can occur if inaccurate information is reported to a rating bureau by a past insurer of an employer. Some states (Illinois and Tennessee) prohibit increases in experience modifiers once a workers compensation policy begins, even if the higher modifier has been correctly calculated under the rules. Most states allow increases in experience modifiers if done relatively early in the term of the workers compensation insurance policy, and most states prohibit increases in experience modifier late in the term of the policy.
The detailed rules governing calculation of experience modifiers are developed by the various rating bureaus. Although all states use similar methodology, there can be differences in details in the formulas used by independent rating bureaus and the NCCI.
In many NCCI states, the Experience Rating Adjustment plan is in place, allowing for the 70% reduction in the reportable amount of medical-only claims. That is, for claims where there has been no payment to the worker for lost time, but only for medical expenses. This gives employers an incentive to report all claims to their insurers, rather than trying to pay for medical-only claims out of pocket. Discounting medical-only claims in the experience modifier calculation greatly reduces the impact of medical-only claims on the modifier.
Formula and calculations
The formula primarily used by the NCCI is the following.
A = Weight Factor
G = Ballast
I = Actual Primary Losses
H = Actual Incurred Losses
F = Actual Excess Losses (H-I)
E = Expected Primary Losses
D = Expected Incurred Loses
C = Expected Excess Losses (D-E)
The formula is broken down into 3 main categories or subsections for understanding.
# Primary Losses
#* Primary losses show up as both I and E in the above formula, E is for "Expected" primary losses vs actual. This expected value is determined based on a company's payroll cost with a little actuarial calculations.
#*
#*
# Stabilizing Value
#* This is a calculation based on expected excess losses, a weighting factor, and a Ballast factor.
#* The weighting factor and Ballast factor are determined from proprietary calculations that are not published publicly.
#*
# Ratable Excess
#* Using the weighting factor the Ratable excess is simply the excess losses times this factor.
#*
#*
These 3 categories are summed up, with Actual numbers divided by Expected numbers, notice that the Stabilizing value does not change between the numerator and denominator.
A note about losses
In the EMR calculation there are 4 fundamental losses that are necessary for the calculation, they are:
# D = Expected Incurred Losses
# E = Expected Primary Losses
# H = Actual Incurred Losses
#* Claims under $2,000.
# I = Actual Primary Losses
#* All claims including Actual Incurred Losses
The losses that are not part of this fundamental 4 are,
# C = Expected Excess Losses
#*
# F = Actual Excess Losses
#*
Examples
Unemployment insurance
Unemployment benefits, also called unemployment insurance, unemployment payment, unemployment compensation, or simply unemployment, are payments made by authorized bodies to unemployed people. In the United States, benefits are funded by a comp ...
is experience rated in the United States; companies that have more claims resulting from past workers face higher unemployment insurance rates. The logic of this approach is that these are the companies that are more likely to cause someone to be unemployed, so they should pay more into the pool from which
unemployment compensation
Unemployment benefits, also called unemployment insurance, unemployment payment, unemployment compensation, or simply unemployment, are payments made by authorized bodies to unemployed people. In the United States, benefits are funded by a comp ...
is paid.
Unemployment insurance is financed by a payroll tax paid by employers. Experience rating in unemployment insurance is described as imperfect, due in large part to the fact that there are statutory maximum and minimum rates that an employer can receive without regard to its history of lay-off.
If a worker is laid off, generally the increased costs to the employer due to the higher value of unemployment insurance tax rates are less than the UI benefits received by the worker.
References
{{DEFAULTSORT:Experience Modifier
Insurance in the United States
Actuarial science