Experience Modifiers - Workers' Compensation Policy
What is an experience modifier, how is it computed and how does it affect my premium?
The experience rating modifier is the one area where an employer’s efforts can significantly reduce premium cost.
Experience rating is the interaction of claims management and insurance pricing. An organization that controls its losses also controls its experience modifier and ultimately is responsible for higher or lower premiums. Although the formula is quite complicated, an understanding of the basic components will assist you in minimizing the impact of losses.
The experience modification formula considers losses for a three-year period, excluding the current policy period. The “losses” are more than just the amount that has been actually paid out on a claim. They are the “incurred” losses, which also include the reserves that an insurance company adjuster has estimated the loss will pay out in the future, either in direct medical treatment or as indemnity payments to the injured worker while he or she is unable to return to work.
As an example, let’s consider that an experience modifier for a risk is being calculated during 2006 for a policy that will be written effective Jan. 1, 2007. Since the 2006 policy is not yet closed (expired), the loss data is not available. This one-year lag period allows the insurance company the time to close most claims and more accurately estimate the cost of the open claims that will continue for more than one year. The three years that the experience modification calculation is based on are the years that began in January 2003, January 2004 and January 2005.
In its simplest form, the experience rating calculation compares the actual losses for the individual employer with the expected losses for the average employer in the same industry and same state with the same amount of payroll.
An experience modifier of 1.00 represents an employer whose actual losses closely matched the expected losses for their business. If the actual losses were greater than the expected losses, the experience modifier would be greater than 1.00; conversely a modifier less than 1.00 means that actual losses were less than expected.
Since no two employers in the same industry will have the same claims histories, the experience modifier calculation is designed so that the employer with the greater claims pays more for workers’ compensation. Through this system, employers have a financial incentive to improve the safety of the workplace. The chart below shows the significant impact that the experience modifier has on the actual