WC Plans Vary, But Loss Control Rules

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Whether self-insuring or transferring all risk, buyers mustlower claims costs

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Second Of Two Parts

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Since claims drive the ultimate cost of any workers'compensation program, preventing injuries and managing those thatoccur is the best game plan for risk managers at all companies,regardless of size, complexity or type of coverage.

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Buyers have numerous coverage options to choose from. The choicecan be tricky--plans that seem attractive at the beginning of apolicy term may turn into nightmares for companies that are unableto really manage claims frequency and severity.

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Workers' comp is a statutory requirement, which means thatinsurance covering this exposure mirrors a state's legalrequirements for employers falling within the law, as stated in thefirst part of this article last month. (See NU, Sept. 5, page33.)

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Self-insured programs follow the same course. They providemedical and wage-loss benefits to employees covered by the workers'comp law of the state in which they work.

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The beauty of a guaranteed cost program is its predictabilityand ease of implementation--a risk manager simply pays a setpremium. However, incentives to keep claims from occurring and toactively manage those that do occur diminish in a guaranteed costprogram.

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Ultimately, a business relying on guaranteed cost coverage mayexperience more employee injuries because there is no incentive towork to actively prevent them. This can lead to a highermodification factor and thus fewer insurers willing to offerguaranteed cost coverage.

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Dividend plans basically are guaranteed cost plans that offerthe potential for a dividend reward if the business hasbetter-than-expected claims experience. Dividend plans typicallybase claim experience on the losses of a particular group to whichthe insured belongs or to the individual insured business.

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Since they have an upside in the potential for a dividend but nodownside in the form of the buyer having to pay in additional fundsif claims are higher than expected, dividend plans typically arereserved for those businesses that have better-than-average claimexperience.

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Thus, a company that is written on a guaranteed cost plan thatactively manages its loss prevention and claims may eventuallyqualify for a dividend plan. Dividends are not guaranteed and arepaid only if declared by the carrier's board of directors, buttypically they will be paid to companies that have good claimsexperience.

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Incurred loss retrospective rating plans are one step furthertoward self-insurance. They reward companies that havebetter-than-expected loss experience and penalize those withworse-than-expected loss experience during the retrospectiveterm.

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Under a retro, the insured business pays the policy premium tothe insurance company at the beginning of the term. As timeelapses, the premium is adjusted upward or downward as claimsdevelop and mature. This continues until all claims are closed--atime frame that may stretch for years into the future.

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Typically, the premium is adjusted based on the financialmeasure of incurred losses, which include claims that have beenpaid as well as the amounts set aside or reserved to pay futureclaims.

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Large deductible plans are similar to retro plans except theybill the insured as claims are paid. Claim reserves typically areused to establish the amount of collateral that is required tosecure the program. The initial amount that a business with alarge-deductible plan pays in typically is substantially less thanthe full estimated standard premium, which is collected under anincurred loss retro program.

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However, the business that's insured on a large deductible planmust post collateral--typically an irrevocable letter of creditand/or surety bond--for the difference between the amount depositedup front and the standard premium. The company also sets up anaccount out of which claims are paid.

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The business must replenish the claims account as claims arepaid so that it is maintained at a certain pre-determined level.Collateral is based on estimated losses and the insured's financialcondition--a safeguard against a company walking away from payingclaims that may exist years into the future.

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Some companies may find the collateral requirements burdensome,especially since collateral is required year after year, withletters of credit frequently stacking atop each other.

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Self-insurers also must post collateral and bonds to guaranteethe payment of future claims. Frequently cited upsides to thesetypes of plan are the enhanced cash flow and decreased fixedcosts.

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There are many variations on each type of financial plan,depending on market conditions, business conditions andclaims-management expertise.

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Regardless of what a financial plan is called, however, riskmanagers should take time to compare the various options (seesidebar) to better determine the best type for theiroperations.

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Diana Reitz, CPCU, is managing editor of FC&S Online, theNational Underwriter Company's online source for coverageinterpretation and analysis.

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Flag: Checklist

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Head: What Should Buyers Look For?

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When reviewing financial plans to cover workers' compensationrisks, risk managers should concentrate on five basic areas:

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o Amount of insurance purchased.

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o Cash-flow arrangements.

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o Fixed costs.

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o Amount of risk transferred to the insurance company.

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o Amount and form of collateral required to guarantee thatclaims will be paid.

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With this list, a buyer can determine, for example, that aguaranteed cost program provides 100 percent insurance coverage, nocash-flow opportunity (unless installment billings are offered),the highest fixed costs, 100 percent of the risk transferred to theinsurer, and no required collateral.

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Such plans are typically offered to smaller businesses that haveaverage or above-average past claim experience, or to types ofbusinesses that statistically have fewer worker injuries, such asoffice exposures.

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Quotebox, with mug:

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"Plans that seem attractive at the beginning of a policy termmay turn into nightmares for companies that are unable to reallymanage claims frequency and severity."

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Diana Reitz

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