Ernst: Complex workers compensation rules mean many overpay

Workers compensation is more complex than you might imagine. 

Due to its complexities, about 70 percent of businesses overpay on their workers compensation premiums.

The Orthopedic Journal states: “The modern system of workers compensation is so complex and arcane it produces considerable grief to those who must deal with it on a daily basis.”

So, why the complexities? In most states, there are more than 700 approved classifications, and the interpretation of the classifications vary from state to state. In addition, insurance company underwriters, premium auditors and technicians handle multi-state territories. It is virtually impossible to know all the rules and regulations of multiple jurisdictions. Incorrect classifications are a common mistake that can cost businesses money.

Companies tell me all the time that “My broker just performed an internal audit, so we’re good.” Those internal audits only verify payrolls. They do not scrub through documents looking for misclassifications or rule violations.

When a company buys workers’ compensation insurance, the premium is calculated according to a certain format or algorithm. This algorithm can vary from state to state.

The experience modifier, or experience rating, is an adjustment to the manual premium calculated by the rating bureau, such as the National Council on Compensation Insurance, and is based on the company’s historic loss and payroll data. The experience rating is calculated by the rating bureau annually based on payroll and loss data provided by the company’s previous insurance companies.  Adjustments to the premium calculation are determined by the insurance company.

Workers’ compensation insurance premiums are initially calculated on an estimated premium basis, since it is impossible to determine ahead of time exactly how much payroll and premium will be generated by a company over the course of the policy.

Furthermore, there is not one entity that oversees the entire process from start to finish. The insurance company does only as much as it has to according to the state insurance laws. It does not calculate the experience modification factor or develop classification codes. This is done by the rating bureaus. The insurance agency or broker is paid by the insurance companies and are subject to contracts with them. 

Another problem is there is no universal method in correcting errors. Most insurance companies, even after they have learned of a mistaken procedure, apply the wrong procedure to other policyholders. The insurance company will correct the mistake, but only for the policyholder that brings the error to the insurance company’s attention. All the other policyholders continue to be overcharged. 

In general, the classification system attempts to classify the overall business of a company, not the particular work performed by specific employees. The NCCI and other state rating bureaus make an exception to this approach for construction type classifications. 

For these companies, multiple classifications may be assigned to employees depending on the actual work performed. Proper payroll records must indicate specific hours at the various tasks to be allocated among the appropriate classifications. If proper payroll records are not kept, the insurance company will include the employee’s entire payroll into the highest rated classification of work performed.

Many businesses have been misclassified into a more expensive classification for years.

• Jeff Ernst is managing director of Ernst Consulting Group, an independent broker, specializing in expense recovery programs. He can be reached at or 877-221-8811.

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