With the help of a recent NCCI presentation, “NCCI Experience Rating Plan Review,” at the Casualty Actuarial Society 2011 Spring Meeting, we’re now able to tell you a little more about what to expect regarding the split point increase and some other changes that NCCI is recommending. I want to note, however, that we do not consider the NCCI presentation an official announcement – we’re still anticipating that this fall.  Update: NCCI Publishes FAQs on Split Point and Maximum Debit Mod Changes. The analysis below is still accurate in light of this additional information.

The Split Point Increase

As we’ve noted before, the primary-excess split point is changing over a three-year transition period from its current value of $5,000. The NCCI presentation suggests that the specific change levels may be approximately:

• 10,000 for the first year (2013),
• 13,500 for the second year,
• 15,000 for the third year, and
•  the split point will be automatically indexed for claim cost inflation in the third year and future years.

The presentation shows that average claims costs have increased almost 250% since the last split point change in 1993. Then, the average work comp claim was over $3,400; in 2011, the average claim is estimated to be almost $8,800. It’s easy to see how total excess losses – the amount of each claim over the current split point value of $5,000 – would have become a greater and greater portion of total actual losses. “If the split point is not indexed for claim cost inflation,” the presentation says, “a greater proportion of losses fall into the excess category as time goes on.” But what does that mean in terms of the formula going forward?

Jeff Adcock, FCAS, MAAA, says the spread of mods will increase under the new rules.

I talked with Jeff Adcock, a Consulting Actuary with SIGMA Actuarial Consulting Group, about this. Jeff pointed out page 14, “Experience Rating Plan Split Point Review,” of the presentation and said:

The results [on page 14] are not surprising. As the split point is increased from $5,000 up to higher amounts, claim dollars shift from the excess layer to the primary layer. Because primary losses receive more weight (higher credibility) in the experience rating formula than excess losses, the plan becomes more responsive.

‘More responsive,’ Jeff explained, means that the company’s experience will be given more weight. Referring again to page 14, he pointed out:

The spread of the modification factors increases with each increase in the split point. Companies with credit mod factors – factors less than 1.00 – should expect to see even lower mod factors at higher split points. Likewise, companies with debit mod factors should expect to see even higher mod factors at higher split points. Again, the larger the current mod factor, the larger the expected increase under the new plan as well.

A Change to the Maximum Mod Formula 

NCCI is also suggesting a change to the maximum mod formula. The purpose of this formula is to cap, or limit, any debit mod (a mod over 1.0) that exceeds a specific amount. The capped mod typically applies when expected losses are quite low in comparison to actual losses. Because the cap is determined by a formula related to expected losses and average claim cost (a number adjusted each year by NCCI), it is risk-specific. The presentation explains that NCCI is recommending a change because the current formula can produce a very low cap for small risks (generally 1,000 to 10,000 in expected losses, according to the NCCI graphs). This means:

• employers who are small risks and currently have a limited mod may see their mod increase
• other employers who are relatively larger risks and currently have a limited mod may see their mod decrease

How These Two Changes Will Affect the Mod

The mod change reflects the first year change to a $10,000 split point, an associated 50% increase in D-ratios (which are used to determine expected primary losses), and the new maximum mod formula.

Your client demographics may differ from this risk profile, but on average this graph suggests that:

• Nearly half of your clients will see a mod decrease of 2 points or more.
• Over a third of your clients will experience a small mod change of -2 to +2 points. While that doesn’t sound like bad news, you want to be extremely careful about clients in contracting, roofing, and other professions who may have to have a mod of a certain value (like 1.0) to bid on a job.
• If your clients are average, 1 in 7 will experience a mod increase of 5 points or more.
• Don’t forget, as I mentioned in our first article on this topic, that minimum mods should drop as a result of the split point change.

All of these changes are a great opportunity to be conversing with your clients and prospects about the minimum mod, the controllable mod, the maximum mod (when it applies to them) and the possibility of a mod change.

The NCCI presentation also mentions some other possible forthcoming changes, but it appears that only the split point and maximum mod formula changes will be filed for approval by the states this year, in anticipation of a roll-out in 2013. Future changes, which NCCI indicates they may further discuss late in 2011, include:

• an increase to the eligibility threshold
• replacing weighting and ballast factors with primary and excess credibility factors (Zp and Ze)
• other minor changes to make the language of experience rating more accessible

For those of you who use ModMaster and other Zywave products: If you’d like to go deeper into this topic, including learning how to analyze the impact of the first year split point change on a specific risk, I talk about how to do that in this Tips and Trends in WC webinar on Zywave’s AgencyFuel site. If you’re a former Specific Software customer who doesn’t yet have an AgencyFuel logon, please let us know at support@zywave.com.

As always, feel free to comment here or to email me at kory.wells@zywave.com.

- Kory Wells, WorkCompEdge Blog Editor

Updates to this article since its first publication are noted in dark red.