The National Council on Compensation Insurance (NCCI) recently announced its plan to make a change in the experience rating formula. The primary-excess split point will be increased over a three-year transition period. The first stage of the transition will take effect with each state's approved rate and loss cost filing on or after Jan. 1, 2013.
In the experience rating process, each loss is divided into a primary and excess portion. Currently, the first $5,000 of every loss is allocated as a primary loss, with everything over and above considered an excess loss. For example, a $3,000 loss has no excess value. On the other hand, a loss of $15,000 would have $5,000 in primary losses as well as $10,000 in excess losses. Primary losses are used as an indicator of frequency, and are counted in full as part of the mod calculation. Conversely, excess losses receive partial weight in the mod calculation. This means that primary losses affect the mod more than excess losses do. The rationale behind assessing primary and excess loss amounts is that "severity follows frequency," or in other words, an organization that displays a continual pattern of loss has an increased chance of a severe loss in the future. Thus, a company with a large number of primary losses will have a higher mod than a company with the same amount of losses split between primary and excess.
NCCI has announced a proposal to raise the split point from $5,000 to $15,000 over a three year period to better correlate with claim inflation, which affects the experience rating plan. Many states have already approved this change to take effect with their annual rate and loss cost filing in 2013; other states are still pending. The split point will also be indexed for claim inflation in the third and subsequent years of this transition. These changes will directly affect the 34 states and the District of Columbia currently using the NCCI's rating system, and may cause the independent rating bureaus of Indiana, Massachusetts, Michigan, Minnesota, New York, Texas and Wisconsin to re-evaluate their split points as well. North Carolina, which has an independent rating bureau, will be enacting the changes. The rating methods used by California, Delaware, New Jersey and Pennsylvania differ widely from NCCI's approach, so similar changes in those states may not occur.
Whether your mod increases or decreases will depend on whether you have an above or below average number of losses under the split point. If most of your losses are under $5,000, you are likely to see a decrease in your mod. If many of your losses exceed $5,000, you should prepare for an increase in your mod.
Analysts expect the split point change to result in a wider range of mods across each industry. Debit mods (those over 1.0) will tend to gain points; credit mods (those under 1.0) will more than likely see a decrease in points. Furthermore, many employers will see their minimum mod decrease.
It's important to remember that NCCI's goal is to have the industry-wide average modification factor be 1.00. Along with the split point change, NCCI will adjust other factors affecting the formula so that the average mod across all employers does not change.
Although no one knows exactly what a future mod will be until all payroll, losses and rates are available, we can work with you to project how your organization's mod-and premium- may be affected by these rule changes. Preparing for the shift will be especially important for companies that are required to maintain a certain mod in order to bid on jobs or contracts. It is essential to address and control losses and become familiar with your loss profile so your organization will be prepared when the NCCI experience rating change takes effect.
The following states use NCCI or very similar rating methodology and therefore may approve the split point change; if noted, the following states have announced a firm date to enact changes (as of Oct. 7, 2011):
(1) State has independent bureau but interstate-rates under NCCI rules
(2) State has independent bureau