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How Is My Workers’ Compensation Premium Calculated

By August 7, 2020 August 11th, 2020 Business Insurance

One of my passions in the insurance business is workers’ compensation insurance. I know this might seem strange to most people, but this area of insurance is one that has had enormous impacts on my client’s long-term savings and the health of their organization. And one of the things I enjoy most about being an insurance agent is saving people money and helping my clients serve their employees and improve their organization.

Workers’ compensation premiums are a mystery to most business owners. How insurance companies arrive at their final premium rates is an arduous process that most people don’t understand. Business owners also don’t realize how much they can affect their final costs while creating a better work environment. With the effort they put into lowering their costs, they get a triple return – lower premiums, safer work environment, and happier employees.

In this article, I want to begin taking some of the mystery away from how your insurance policy is written. To understand how insurance companies calculate your workers’ compensation premium, we are going to look at the 4 things they look at to arrive at your final costs. Let’s consider the following::

  • State minimum rates
  • Insurance company rating tiers
  • Calculating premiums
  • Additional charges and credits

1. State Minimum Rates

In the insurance marketplace, every type of business is placed in a “class.” Your class is determined by the type of work your business conducts. For example, if you are an accounting firm, you will be placed in one class, and if you are a furniture moving or storage business, you will have a different class. 

According to your state, each class is given a base rate that insurance companies use as they begin working on your application for workers’ compensation insurance. We will call this rate your class rate.

How are class rates determined? 

In Pennsylvania, all class rates are determined by the Pennsylvania Compensation Ratings Bureau (PCRB). This non-profit organization gathers and analyzes workers’ compensation data for all industries in PA. Then, using this information, they determine a base rate that insurance companies use for all businesses in the same class or of the same type.

This classification system helps to ensure that businesses with low potential for loss do not pay the same rate as those with high potential for loss. This system helps those businesses with less risk (like an accounting firm) pay less in premiums than a higher risk business (like a construction company).

To find your classification code, you can visit the PCRB website and apply for a login. Once you have a login, the PCRB offers several references regarding this classification system. The website can be a little tricky to navigate. You can also ask your insurance agent to help you identify your class code.

What if your business is outside of Pennsylvania?

If your business is outside of Pennsylvania, your state base rate will either be determined by your state’s rating bureau or by the National Council on Compensation Insurance (NCCI). Just like the PCRB, these organizations gather and analyze data to determine objective base workers’ compensation rates based on trends in various industries.

Your agent should make sure you are identified by the class that will get the most favorable and/or most accurate base rate. It is important that your business is classified by what it actually does. There is a great deal of variation in classification for industries such as construction, manufacturing, HVAC, trucking, etc.

For example, if you own a trucking company that only hauls potable water, being classified as a general trucking company would result in higher premiums. However, if you are only hauling potable water, you should be classified as a “milk hauler.” The premium for a “milk hauler” is considerably less. These types of distinctions are important for getting the best and most accurate rates.

Your state base rate is determined by the type of work your business does. This is not a rate you will ever see on your insurance policy. It is simply the rate that insurance companies use to begin their process of determining their company rate that they will use to calculate your premiums.

2. Insurance Company Mark-Ups or Mark-Downs

So, how does your state base rate play into your insurance premiums?

When your insurance agent fills out your workers’ compensation insurance application, they indicate which class code best represents your company’s work. Then the insurance company uses the state base rate associated with your class code to mark up or, in rare instances, to mark down the rate and create rating tiers that they apply to your premiums.

Insurance companies determine the rating tier they will use for your premiums depending on several factors. What most people don’t know is that for each industry, insurance companies have a range of rates that they use. When you apply, they will primarily look at these factors to determine your rating tier.

They consider the level of hazard for your business 

If your business has employees classified under “Outside Sales,” the actual work they do can vary widely. 

For example, one business could have salespeople that are primarily in the office but occasionally go into local business offices to sell a software product. That is a considerably lower hazard than someone who may be traveling all over the country lugging around a heavy Kirby vacuum cleaner. However, both are considered “Outside Sales” and have the same state base rate. 

So insurance companies will mark up their rates accordingly to adjust for this variation in hazard. 

They examine your company’s claim history

Insurance companies look at your past claim history as an indicator of the likelihood of future claims. 

If your company has little to no past claims, your insurance rates will generally be lower. If your company has many claims or even a few large claims, your rates will be higher. 

Insurance companies need to be prepared to pay out claims that your company may make and look at your past losses to help them to prepare for your future claims.

They review your safety plan

Your business should have policies and plans in place to keep injuries from happening in your workplace. 

For example, if your business has in place a robust driver selection process where you are aggressively vetting employees before they ever get behind the wheel, you will consistently receive much lower rates than your peers without such a process in place. 

Keep in mind that while insurance companies want to support you when you have an injury in the workplace, they also want to make sure that their clients are doing all they can to prevent accidents from occurring.  

They evaluate your claims management plan

What happens when your business does have a claim? How do you handle that process? How do you help your employees get the care and assistance they need while also encouraging them to return to work?

If you are like most businesses, you are not dealing with this daily. This makes it crucial to have a claims management plan in place before an incident occurs. Insurance companies give better rates to businesses that have a claims management plan because they have confidence that any claims will be handled effectively rather than spiraling out of control.

After thorough consideration, the insurance company will determine which rating tier they will use for your policy. Your independent insurance agent should have a plan to help you leverage the factors above to obtain the best possible rating tier.

 

3. Calculating Your Base Premium

Once the insurance company has identified the rating tier they will use for your policy, they will multiply their rate for each class (Office, Sales, Trucking, Excavation, etc.) by your payroll in each specific class. This will generate your base premium. (*Note: technically they multiply their rate by your payroll and divide it by 100 to get your base premium.) 

Confused? 

You are not alone. Let us show you an example of how it works with two hypothetical businesses. 

Ex. 1 Play it Safe HVAC, Inc. with Travelers rating tier #1

Class Code Payroll Carrier Tier Rate per $100 of payroll Base Premium
0664 – Heating, Ventilation or Air Conditioning Contractor $2,000,000 4.50 $90,000
0951 – Sales – Outside $100,000 0.35 $350
0953 – Clerical Office $300,000 0.15 $450
Total $90,800

 

Ex. 2 Super Sloppy HVAC, Inc. with Travelers rating tier #5

Class Code Payroll Carrier Tier Rate per $100 of payroll Base Premium
0664 – Heating, Ventilation or Air Conditioning Contractor $2,000,000 8.50 $170,000
0951 – Sales – Outside $100,000 0.70 $700
0953 – Clerical Office $300,000 0.30 $900
Total $171,600

As you can see, the difference in base premium can be fairly dramatic (the difference between $90,000 and $170,000) and most businesses (and even some agents) have no idea how much their premium can fluctuate even though they have the same insurance company. 

Making sure you are in the best rating tier is crucial for the best rates!

Now that we have arrived at the base premium, are we done? 

Nope! We’re not done yet!

 

4. Other Charges and Credits

Once the insurance company arrives at your base premium, they will make further adjustments to that premium. The amounts are calculated as a percentage of your base premium. Here are items you might find on your insurance policy:

Schedule of Credit or Debit

Insurance companies will adjust your premium -25% to +25% depending on your specific situation. This credit or debit allows insurance companies to fine-tune their charges even more based on the factors listed above as well as the size of your account, their relationship with your agent, etc. 

This is an area where the agent you work with has a great deal of influence! If your agent is doing their job, they will be able to negotiate the best possible pricing on your behalf. It is also a tool that your agent or insurance company can use to slip in a surcharge.

This is an area of conflict for insurance companies and their customers. The customer wants to get the lowest cost possible. At the same time, the insurance company wants to get the highest price possible while still being reasonable. 

Minor Charge for Increased Limits

Another minor charge you will see on your workers’ compensation policy is an increase in limits for employer’s liability. Employer’s liability covers you, the employer, if you are sued by an employee, their spouse, or the estate of the employee because they allege that you have or had an unsafe work environment. 

It is almost always beneficial to opt for higher limits on your Employer’s Liability. The minimal additional premium is typically well worth the additional cost. To increase this limit, the insurance company adds you will have a 1 to 1 ½ % increase based on your premium. By paying this small amount, you will increase your per-incident limit from $100,000 to $1,000,000 (10 times higher limit!).

Experience Modification

Experience modification is one of the factors that you have the greatest influence over. 

This modification is determined by the past three years of your payroll costs by class and the past three years of losses as compared to your peers. When you have systems in place to help you lower your losses (e.g. safety, prevention, and claims management), over time you will lower your experience modification. 

Businesses impact their premium rates by improving their experience modification but will also receive substantial surcharges when they do not. 

State Taxes and Fees

These fees are standardized and determined by your state. Your state will charge a tax on your insurance policy. Most states also charge a terrorism fee. This fee was added in the wake of 9/11. You cannot influence these costs.

Certified Safety Credit

This credit is a 5% decrease if you have taken the steps to have a PCRB approved and certified safety committee. This committee is made up of management and front-line workers who meet monthly to discuss safety topics, claims, etc. 

To be certified, this committee would meet once each year with an individual who is authorized to conduct certified training. 

Premium Discount

Sometimes insurance companies refer to this as a Size of Premium Discount. Each insurance company annually files for this factor. It gets applied as an additional discount depending on how large your premium is. 

Every applicant with a large enough premium automatically qualifies for this discount. The amount will vary depending on the size of your premium. For example, if your company has a $1,000 premium, your premium may not qualify for a discount. However, if your company has a $100,000 premium, you might receive a 10% to 15% discount.

The amount of this discount is pre-determined and particular to each insurance company.

Your Final Premium

Now that we have discussed all of these additional credits or debits, we are ready to calculate the final premium. To arrive at your final premium, your insurance company will add or subtract all of the credits, discounts, debits, charges, taxes, and fees to their insurance company base rate.

Let’s go back to one of our earlier examples and look at the rest of their policy. 

Ex. 1 Play it Safe HVAC, Inc. with Travelers rating tier #1

Class Code Payroll Carrier Tier Rate per $100 of payroll Base Premium
0664 – Heating, Ventilation or Air Conditioning Contractor $2,000,000 4.50 $90,000
0951 – Sales – Outside $100,000 0.35 $350
0953 – Clerical Office $300,000 0.15 $450
Insurance Company Base Premium $90,800
Other Charges and Credits 

(Most of these are calculated as a percentage of the Insurance Company Base Premium)

Employers Liability Increased Limits 0.0140 $1;357
Waiver of Subrogation – Blanket 0.01 $ 970
Experience Modification 1.0340 $3,375
Schedule Modification 0.8000 -$20,531
Certified Safety Credit 0.0500 -$4,106
Premium Discount 0.1070 -$8,348
Expense Constant (State Tax) $ 190
Terrorism 0.0350 $ 865
Catastrophe (Other than certified acts of terrorism) 0.0200 $ 494
Final Premium $71,217

 

Want To Lower Your Workers’ Compensation Costs?

Now that you have a better understanding of how your workers’ compensation costs are calculated, it’s time to get to work creating a long-term plan to lower your workers’ compensation premiums as well as added insurance costs. This area of insurance is one in which it takes time and careful planning to experience savings.

After reading the article, if you still have questions or want to consult with someone who can help you begin implementing those practices, schedule a consultation with our commercial insurance team. 

At Baily Insurance, our commercial insurance team specializes in the workers compensation marketplace. We partner with clients to create a long-term plan for future savings. We have saved our clients thousands of dollars in insurance premiums and have also helped them create a safer work environment.