Surf's Up With Workers' Comp Premiums
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Riding Out the WaveDuring a hard market, it's important to look at different financial arrangements to pay for WC policies. Guaranteed cost is a standard WC policy. With this policy, the overall rates remain fixed and costs only change based on overall payroll making it easy to plan financially.
Other policies include loss response or loss sensitive programs which are more formally known as retrospective rate programs, large deductible programs, self-insurance, etc... The overall costs of these policies are calculated in the future and based on your actual WC losses. As such, it's more difficult to predict actual costs.
Loss responsive policies require a higher level of understanding than a guaranteed cost policy. There are two main things you must do to finance these policies:
1) Predict your incurred losses. This process is called creating your loss pick. You're making an educated assumption of future losses based on your past losses. Most companies look at their historic loss experience and payroll. An average ratio between the two variables is created called a loss rate (the amount of losses per $100 of payroll). For example, your historic loss experience indicated you have approximately $2 of WC claims for every $100 of payroll and your current payroll is $10 million. Your loss pick would then be $200,000 ($2 * $10,000,000/$100). It's always better to be conservative when creating your loss pick.
2) Funding the losses. Once you've established your loss pick, many insurance companies will create programs where you set aside funds to pay for losses. At some point, they'll either return the funds (if you performed better than your loss pick) or ask for more (if you performed worse than your loss pick). On the surface, they're lucrative from a cash flow standpoint since you only need a small amount of cash the first year as compared to a traditional guaranteed cost plan. With these plans, however, you must create an additional monthly escrow amount and set it aside to pay future losses. You can estimate the monthly amount by using your loss pick, and then rigorously set the funds aside each month until you have enough to cover your loss pick.
The programs weve outlined can be very cost effective provided you can reduce WC claims. Having some understanding and foresight for managing and funding your WC risk will put you in a much better position during this hard market cycle.
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