An industry colleague of mine posted this on Linkedin recently:
“With very few exceptions, there is no direct relationship between the Workers’ Compensation Experience Modification Factor and premium! If the Mod goes down, that does not mean that the premium will go down. Or, vice versa.
Those who tell you otherwise are either are ill-informed, or it is not in there interest to be informed.”
In response I wrote back as much as I could within the character limitations:
“Great stuff! My original post FAR exceeded my character limit. Could answer this a couple different ways. 1 is in your world you’re absolutely right & in mine absolutely wrong. You’re talking about an underwriter pricing new or renewal business, and they absolutely do “back into” a predetermined price.…
…In my world, as a premium auditor, I am working with clients’ in force & expired policies. When I find EMR errors and reduce a client’s EMR, there absolutely is a direct relationship between experience mod and premium. Carriers must apply revised, lower mods and return corresponding premium or reduce current payment schedules. After the policy inception date there is no mechanism for carriers to go back, change the policy contract, and “re-massage” the premium.”
I agree with my colleague in the sense that he is considering the question. But, there is a lot to unpack, and I did say you could answer this a couple of different ways (there are more than a couple). Below is, in my opinion, the most important way to answer whether or not the Experience Modification Rate is meaningless or not.
If you need to back up to learn what an Experience Modification Rate is go ahead and click on the link.
One of the things you need to know is that the pricing of workers’ compensation insurance is highly regulated. And, there are regulations and statutes on the books in every state to protect consumers (in this case businesses) against discriminatory pricing.
Getting Back To The Experience Modification Rate
So, if you and I are both plumbers in Chicago and we buy our insurance through, say Zurich, the pricing of our insurance should be very similar except for the Experience Modification Rate. The Experience Modification Rate is the approved mechanism to modify individual business’ premiums based on our work comp claims track record.
If you have fewer and less severe workplace injuries, your Experience Modification Rate will be lower than mine and you’ll pay less. As a result, Experience Modification Rates are important.
In fact, Experience Modification Rates are required. Not only that, insurance carriers are not allowed to utilize any other mechanism to modify individual premiums on the basis of historical losses.
Here is the law in Missouri. Every state in the country has an almost identical (if not identical) law on the books:
Title XVIII LABOR AND INDUSTRIAL RELATIONS
Chapter 287 Workers’ Compensation Law
287.957 Experience rating plan, contents.
"The experience rating plan shall…... The uniform experience rating plan shall be the exclusive means of providing prospective premium adjustment based upon measurement of the loss-producing characteristics of an individual insured…"
My colleague who posted that EMRs are now meaningless is saying so because insurance companies are increasingly ignoring the pricing system to which they are supposed to adhere. Is there any ambiguity in the words "shall be the exclusive means?"
They are using their analytics to develop loss projections (either in lieu of or in addition to the Experience Modification Rate) and corresponding pricing. And, they are doing this even though the state-approved Experience Rating Plan is the exclusive means for modifying prices. The insurance carriers then “massage” (some may say contort) the premium formula to "back into" the price they want.
How Do Insurance Companies Get Away With It?
I just posted about what I called the Informational Asymmetry between insurance companies and business. And, that asymmetry is very lopsided in favor of the insurance company.
Workers’ compensation insurance (let alone the rest of the lines you purchase) is a very technical product, and in many cases a consumer/business might know more about pricing than the broker. Not to mention that the brokerage firm has a professional relationship with both parties to the transaction; the insurance company and the client (that’s another subject!).
It’s pretty easy for an expert to tell if there is some monkey business going on with pricing. I, for example, have been auditing workers’ compensation programs for 20 years. But, without that depth of experience I don’t know how the typical business owner, CFO, etc could tell. They take what’s presented to them by their broker at renewal and select what they think is best.
Really, the only way to know if you’re getting a competitive offer is to take your business out to market every few years or so. Keep everyone honest.
Getting Back To The Experience Modification Rate, Again.
Is it meaningless? No. For starters it is a great metric for tracking the the effectiveness of safety practices of your firm. Second, if you have a good Experience Modification Rate you absolutely should see your premiums fall. Remember my colleagues quote from above?
“…there is no direct relationship between the Workers’ Compensation Experience Modification Factor and premium! If the Mod goes down, that does not mean that the premium will go down…”
If your Experience Modification Rate is falling but your premiums are not, something is wrong. That should be a huge red flag to investigate. And, if you find yourself in this situation please call me or another independent auditor who can help you get a fair, properly calculated price for your work comp program.
“Sunlight is said to be the best of disinfectants.” Supreme Court Justice Louis D. Brandeis
You deserve to be rewarded for your dedication to employee safety and your hard work implementing your safety program; not punished.
Stuart Cytron, MBA has been published in trade journals such Construction Forum St. Louis and St. Louis Business Journal among others. You can read more about Stuart and how he developed a passion for helping businesses reduce work comp expenses on his website.