Experience Modifier

Experience modifier or experience modification is a term used in the American insurance business and more specifically in workers' compensation insurance. It is the adjustment of annual premium based on previous loss experience. Usually three years of loss experience are used to determine the experience modifier for a workers' compensation policy. The three years typically include not the immediate past year, but the three prior. For instance, if a policy expired on January 1, 2007, the data included on the Experience modification would comprise the period from January 1, 2003 to January 1, 2006.

Experience modifiers are normally recalculated for an employer annually. Each year, a newer year's data is added to the three year window of experience used in the calculation, and the oldest year from the prior calculation is dropped off. The other two years worth of data in the rating window are also updated on an annual basis.

Experience modifiers are calculated by organizations known as "rating bureaus" and rely on information reported by insurance companies. The rating bureau used by most states is the NCCI, the National Council on Compensation Insurance. But a number of states have independent rating bureaus: California, Michigan, Delaware, and Pennsylvania have stand-alone rating bureaus that do not integrate data with NCCI. Other states such as Wisconsin, Texas, New York,New Jersey, Indiana, and North Carolina, maintain their own rating bureaus but integrate with NCCI for multi-state employers.

The experience modifier adjusts workers compensation insurance premiums for a particular employer based on a comparison of past losses of that employer to what is calculated to be "average" losses of other employers in that state in the same business, adjusted for size. To do this, experience modifier calculations use loss information reported in by an employer's past insurers. This is compared to a calculation of expected losses for a company in that line of work, in that particular state, and adjusted for the size of the employer. The calculation of expected losses utilizes past audited payroll information for a particular employer, by classification code and state. These payrolls are multiplied by Expected Loss Rates, which are calculated by rating bureaus based on past reported claims costs per classification.

Errors in experience modifiers can occur if inaccurate information is reported to a rating bureau by a past insurer of an employer. Some states (Illinois and Tennessee) prohibit increases in experience modifiers once a workers compensation policy begins, even if the higher modifier has been correctly calculated under the rules. Most states allow increases in experience modifiers if done relatively early in the term of the workers compensation insurance policy, and most states prohibit increases in experience modifier late in the term of the policy.

The detailed rules governing calculation of experience modifiers are developed by the various rating bureaus. Although all states use similar methodology, there can be differences in details in the formulas used by independent rating bureaus and the NCCI.

In many NCCI states, the Experience Rating Adjustment plan is in place, allowing for the 70% reduction in the reportable amount of medical-only claims. That is, for claims where there has been no payment to the worker for lost time, but only for medical expenses. This gives employers an incentive to report all claims to their insurers, rather than trying to pay for medical-only claims out of pocket. Discounting medical-only claims in the experience modifier calculation greatly reduces the impact of medical-only claims on the modifier.