Workers Comp Self Insureds Common Misconceptions
I have heard from many self insureds that I do not post often enough about the trials and tribulations of handling a Workers Comp Self Insured Program. They are/were correct. I am going to post a few blogs on self insurance over the next few days.
I will begin with the misconceptions that some self insureds or anyone else may have about being self insured for Workers Comp.
- My company will easily qualify for Self Insurance.
- Self insurance will always save us $$$ when compared to a regular Workers Comp policy.
- We are in a risk pool with other insureds, but that still makes us self insured.
- We receive the same claims service from our TPA as an insured with a regular insurance policy.
- Captives are self insurance.
- PEOs are self insurance.
- We are in a large deductible program with a high retention level. That makes us the same as a self insured.
- If our company falters, a state-sponsored fund will pick up all of our claims and pay them.
- We will have more control over our Workers Comp claims.
Self Insureds Think It Takes Them out of the Workers Comp system.
We often hear at conferences and from clients that a self insured employer is out of the Workers Comp system. Nothing could be further from the truth.
Being self insured actually only makes the method that you pay your Workers Comp premiums change for the most part. Instead of paying insurance company premiums, you are actually paying the premiums directly out of your budget as a direct cost item. Paying premiums actually takes the chance of a string of claims wrecking your insurance budget. Your company will actually have to monitor the TPA that you use more closely than an insurance company. As I just mentioned, your TPA is paying directly out of your budget.
Just because you are self insured does not mean you have eliminated your company from having an E-Mod or X-Mod. Your company will now have the same thing, it is just called a Loss Development Factor, or LDF. We have calculated many of them for self insureds. LDFs can forecast your Workers Comp expenditures for up to 10 years. LDFs can affect your:
- Choice of TPA’s
- Letters of credit
- Financial standing with your lender
- Ability to stay self insured
- Self insurance bond
- Reinsurance
- The required budget allocated to Workers Comp expenses
Do these look familiar? These are the same things that are affected by an E-Mod/X-Mod.
An outside party has to handle your claims the same as a regular insured. Your TPA will usually be the same insurance company that uses the same adjusters to handle premium-based insureds. Your claims have to be handled in the same method regardless of your insurance status.
We only have to worry about what is paid, not the Total Incurred (Paid + Reserves).
One of the largest errors that self insureds seem to make is to only focus on paid and not enough on the future of a claim. A regular insurance policy for Workers Compensation builds itself around Total Incurred, which is so important.
The Workers Compensation basic claim formula is Total Incurred = Paid + Outstanding Reserves. Self Insureds seem to use past paid figures to adjust their budgets. The TPA will also not be as concerned with reserving as with regular insureds. Paid is important, but the reserves are even more important.
We often calculate Loss Development Factors (LDFs) for self insureds. A basic LDF should forecast the claim payouts for 10 years. Trying to forecast that far in the future is very complicated. This is the reason the reserves or Total Incurred should be very accurate for each claim. Setting the reserves on a file is more of an art than statistics.
Being self insured involves budgeting a pool of money for losses, no matter how repetitive or severe. You are basically your own insurance carrier as the money is spent directly out of your company funds. Just as you cannot just turn over the reins to your TPA, your company cannot just assume that the TPA has set your claim reserves as accurately as possible.
The best tool is to ask questions on any file where the reserves look odd. This also includes under-reserved files, not just over-reserved files. Some adjusters will increase the reserves up to the very edge of their authority, even though more reserves should have been added to the file. This enables the adjuster to handle the file without having a laundry list of questions asked about the file by their supervisor.
The riskiest part of not having the Total Incurred figured correctly on a file is if the file is a large file and requires reporting the claim to the reinsurance carrier. If the file has too low reserves and the reinsurer has not been notified, and then the file inflates dramatically overnight, the reinsurer may refuse to pay for the file as the TPA and your company did not inform them in a timely manner.
If your company has to put up a bond in case of default, the bond may increase dramatically if unfunded claims show up on the books and the LDF jumps quickly.
This may put the TPA in a Catch-22 situation as if the files are over-reserved, too much money may be allocated to pay claims and the LDF may be too high. If the TPA under-reserves the file, the LDF may be too low which can cause the claims budget to have to borrow from other budgets to stay afloat.
How do you review the reserves and know the claims have the proper Total Incurred? The first step is to ask questions, but only ask questions on the right files, not all of them.
My company will easily qualify with the Department(s) of Insurance
We often hear this remark or estimation as companies are looking to self insure. In a few cases, this may be true. Most of the time qualifying can be a daunting task.
There are usually four minimum requirements by a state’s Insurance Commissioner to become self insured. Sometimes a state may require more than these four.
- Minimum asset amount – for instance – $500,000 in liquid assets
- Self Insurance Bond – in case the company defaults, many alternatives to putting up large amounts of collateral
- A qualified/licensed TPA to handle the claims
- Reinsurance at a certain amount, usually for claim retention and an overall group of claims retention (aggregate)
The insurance commission may require even more stringent rules than the previous four examples. There have been so many different self insured employers defaulting on claims-paying that I think the states will become even more difficult to self insure for Workers Comp claims.
The most famous case that I have read about over the last two months is Mervyns going under quickly and not being able to pay their Workers Comp claims. The state of California has a guaranty association/fund that allows the claims to be paid by the fund.
The one from above that sometimes confuses employers is #1. The states want to make sure that there are enough hard assets to avoid a small company such as a temporary employer from defaulting.
Employers that have already qualified for Self Insurance and employers that are trying to qualify for the self insurance the first time both face heavier scrutiny than ever due to the economy that we are experiencing.
May not save $$$ when compared to a regular Workers Comp policy.
Most of the time, I would agree that self insurance will save money for any employer that can qualify for self insurance. However, there are times when self insurance might cause an employer to actually pay more $ than a regular insurance policy.
A very low E-Mod/X-Mod may cause an employer to pay less premium than self insurance payouts and expenses. If a company has an E-Mod of .8 or less, there may be no reason to convert to a self insured. This situation would have to be examined very closely. With the additional TPA expenses for a self insured, it may be beneficial to stay as a self insured.
A very bad market for reinsurance will cause a big increase in a self insurance program. This is one of the expenses that can rise very quickly. The reinsurance was provided as part of the premiums in a regular Workers Comp policy.
Your Loss Development Factor (LDF) forecasting a very high claims payout over the next ten years may indicate that self insurance is not the correct route for your company.
If your company is in an alternative insurance program such as a large deductible, carve out, or PEO – the numbers that are used to compare these programs, self insurance, and a regular Workers Comp policy may be skewed. Trying to compare numbers in different alternative insurance programs may be risky as the numbers may have to be altered for comparison (apples to apples instead of oranges).
If your company is a large company with many locations, it may be wise to self insure in some states, and use regular Workers Comp policies in other states. When certain large companies are split up state-by-state, the companies may not be large enough to absorb many large claims.
I have added to this list a few times as there are many reasons to not self insure or at least look at the numbers more closely before self insuring. Self insurance can be a great alternative if the correct analysis is performed before taking the plunge.
We are in a Self Insureds Group.
This is one of the scary assumptions that exist in the Workers Comp market today. Please note that I am not talking about the Assigned Risk Pool. We receive many calls and emails from employers that have been assessed huge premium bills from a risk pool that they were in, be it a privately funded or a government-based Workers Comp risk pool.
These are not as popular as they once were in the 1990s, but risk pools are starting to make a comeback of sorts. This usually happens in a hard market situation. Who can blame companies for trying to stay afloat by searching for every insurance option that is available?
Homogeneous risk pools originate when a private insurer starts a risk pool (with the State Department of Insurance approval). Companies that are similar in nature (i.e. trucking companies) are pooled together to share in the risk of Workers Compensation accidents. Sometimes, state governments will create a risk pool to usually function as an insurer of last resort. The risk pool will produce each member’s E-mod and will assess each of the members in the pool. This sounds like a good arrangement.
There are many unexpected problems or concerns with Workers Comp risk pools:
- There are not enough employers to satisfy the Law of Large numbers – the risk cannot be spread evenly.
- Some safer members may be subsidizing the unsafe members of the risk pool
StockUnlimited - If the risk pool does not spread the risk evenly, there may be huge assessments for the risk pool to survive (KIMI in Kentucky is a great example). Sometimes these assessments are made after the pool has failed.
- There is no control of how the claims are handled.
- If the risk pool fails, the employer may be directly responsible for the future handling of the Workers Comp claims.
- If the risk pool incorrectly reports your claims to the State Rating Bureau or NCCI, your E-Mod may be inaccurate for many years.
- The Departments of Insurance may not have as much authority over your policy or claims. If you have a complaint or concern, they may not be able to assist you.
Your company is not self insured when you are in a risk pool. Your company’s Workers Comp program is much more like an alternative type of program. Risk pools are a great way to insure your Workers Comp risks, but self insureds please check them out very closely before joining as a member.
Alternative Risk Programs Not The Same For Self Insureds
Three alternative risk programs that employers and sometimes agents mistake for self insurance are:
- PEOs are self insurance.
- We are in a large deductible program with a high retention level. That makes us the same as a self insured.
- Captives are self insurance.
PEO’s (Professional Employment Organizations) are not self insurance in any way, shape, or form. An employer’s employees are actually employed by the PEO. The employees are rented back to the employer. The employer pays a group-discounted rate as the PEO conglomerates many employers. PEOs are more of a modified temp-to-perm agency. PEOs are much more like a regular Workers Compensation insurance arrangement than self insurance.
Large deductible programs may look like self insurance, but they are not in a few areas. Your company will still receive a published E-Mod. This is very surprising to some Workers Comp large-deductible employers that think they are out of Workers Comp premium system. If your company’s reserves on a certain claim or an aggregate of all your claims exceed a certain figure, you will pay premiums the same as if you were not self insured.
Captives may or may not be self insurance. The recent IRS rulings on captives make them more similar to a self insurance program than the previous rulings. I will likely add to this one as the IRS rulings are made on captives. The insurance reserves and payments being tax deductible are a very attractive inducement to use captives. The one area that is not similar to self insurance is the employer has no control over the TPA that the captive uses for claims. We have sometimes seen very deficient claims service with the TPA that the captive chooses to use to handle their claims.
If our company falters, a state-sponsored fund will pick up all of our Workers Comp claims and pay them.
This may or may not be true. Almost all states have some type of Insurance Guaranty Fund that will assume the handling of the claims. The claims are paid from a special fund that comes from fees charged by the state to all self insured companies.
There are a few states that do not have a fund for self insureds if they go out of business. One of the main states where this may happen is Texas. The Texas Department of Insurance has an opt-out program that allow a company to opt-out of being covered by Workers Comp insurance. This may be high stakes as there are some very small companies that have opted out. This type of self insurance allows for unlimited liability for Workers Compensation claims. A small company could not afford to be hit with very many claims before they bust their insurance budget. Some insurance carriers have provided Workers Comp reinsurance for opted-out employers.
Self Insureds Claims Handling by TPA
Unless your company handles the claims in-house (good idea), the TPA handling your claims still reserves the right to settle claims as they see fit. Wow! How do they have that authority? Well, look in your TPA agreement. The agreement will usually have a clause such as:
We reserve the right to pay and/or settle claims to comply with the prevailing State Workers Compensation laws.
Look at your agreement. I cannot guarantee the existence of the clause. The clause has been in almost any TPA agreement that I have ever seen or reviewed over the past 30 years.
Yes, as a self insured, you may have more input into the TPA’s decision to pay, reserve, or settle a claim. The TPA, though, usually has the last say in the matter.
The Potential Savings Exist – If Your Company Should Be A Self Insured
I have covered some of the misconceptions about Self Insurance for Workers Compensation. Self insurance can save a large amount of insurance premiums if there is a proper plan in place. Well over 95% of the clients we have aided in becoming self insured have experienced great reductions in their insurance budgets for Workers Compensation.
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