Workers’ compensation premiums are based on the employer's estimated risk of loss. The estimated risk of loss is a function of the class of business in which the employer operates and the amount of the employer's payroll. Each class of business is assigned a manual rate for workers’ compensation coverage based on the principle that the more hazardous the employer's nature of business, the more likely its employees will incur a job-related injury. For example, a construction company is charged higher base rates than a florist. The components of premium are further defined as the manual rates by business class are applied per $100 of an employer's total payroll. The higher the employer's payroll, the more exposure there is for the insurer should the employer have to compensate for a loss of wages due to injury. A business with a relatively high payroll will pay higher premiums than one in the same class with a relatively low payroll.
Within each class of business, there is a differing risk of loss among employers depending on the emphasis each places on loss prevention and safety. An employer that consistently incurs injuries is a greater risk than one who is safety conscious and reduces injuries. The differing risk of loss between employers in a particular class code is quantified by a number called an experience modifier. The experience modifier is a factor applied to the manual premium, shifting it up or down, depending on the insured's history of claims over the three years prior to the most recent year. For example, 2005 experience modifiers are based on years 2003, 2002 and 2001. The modifier changes yearly as it accounts for a new three-year period.
An employer's experience modifier represents its expected losses versus the expected losses of an average employer in the same class code. Taking into account a number of factors, the National Council on Compensation Insurance, or NCCI, determines expected loss rates by class code. These class-code benchmarks are applied to the individual employer's payroll and loss history, which, through a complex formula yields the experience modifier. The formula has a component that factors in and limits the effect of any large, single loss on the modifier.
