NCCI.ExperienceRating

Reading: National Council on Compensation Insurance, Experience Rating Plan Manual for Workers Compensation and Employers Liability Insurance.

Synopsis: In this article we give a detailed overview of the NCCI Experience Rating Plan. Your focus should be on understanding the pieces used to calculate the experience rating modification so you can quickly and accurately address any calculation on this topic for quick points on the exam.

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Study Tips

2021.Fall Syllabus Update: The latest version of this article in the syllabus has the following changes: Changes: Clarified exceptions to losses used in experience rating. Subject premium eligibility table now varies by state and rating effective date. Formula for the Maximum Debit Modification has been updated. Deletions: Rule 5B: Ex-Medical Experience has been removed from the manual and syllabus. Omissions: Alice: "The version of the 2021 Exam 8 Fall Study Kit I received did not include the tables previously found on pages E1 — E5. BattleActs is checking to see if the CAS intended this. But don't worry, we make sure you have everything you need to crush this article without having to purchase the study kit."

While this looks like a long article it's actually fairly straightforward as most of it is building up the pieces for the experience modification calculation. Make sure you know how to calculate the experience modification from scratch, including memorizing the formula, then if you have time worry about some of the more fringe material such as disease losses or separate state rating.

Estimated study time: 2 days (not including subsequent review time)

BattleTable

Based on past exams, the main things you need to know (in rough order of importance) are:

• Know how to calculate the experience modification factor.
• Understand the purpose of split rating and how this impacts the modification for both small and large risks.

Questions are held out from Fall 2019 exam. (Use these to have a fresh exam to practice on later. For links to these questions see Exam Summaries.)

reference	part (a)	part (b)	part (c)	part (d)
E (2016.Fall #10)	Experience Modification - calculate
E (2014.Fall #10)	Experience Concepts - evaluate proposed change	Experience Concepts - apply to scenario
E (2014.Fall #11)	Ballast & Weight - explain assumptions	Ballast & Weight - critique assumptions	Evaluate Plan - discuss method	Competitive Markets - evaluate in context
E (2012.Fall #13)	Stability Processes - evaluate in scenario	Stability Processes - critique
E (2011.Fall #12)	NCCI Plan Changes - discuss impacts

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In Plain English!

Overview

Alice: "The National Council on Compensation Insurance (NCCI) has a strict copyright policy on the materials they provide in the CAS study kit. What follows here is our interpretation of these materials for the purposes of helping you learn the content of the NCCI Experience Rating Plan to get you through the CAS exam. As such, we'll provide any figures you require but they may not match those available in the latest study kit or NCCI manual. Nor is there any guarantee this material exhaustively covers the manual. Lastly, please remember this material is for exam purposes only — you shouldn't use this wiki article for work purposes!"

The NCCI Experience Rating Plan ("the plan") uses a risk's historical payroll and losses to estimate future losses. The resulting experience modification reflects the difference between an individual risk and the average risk within the risk class to which the individual belongs. In general, the plan applies the experience modification for at least 3-months but no more than 15-months.

Only one experience modification applies to any risk at any point in time. Further, that experience modification applies to all operations under that risk.

Experience Used

The plan assumes policies are effective for at most one year. Policies effective for at most one year and 16 days are considered a one-year policy. If a policy is effective for more than one year and 16 days then it is broken into consecutive blocks of 12-months, each of which is treated as its own separate one-year policy. Any partial period of less than 12-months is a short-term policy.

The experience period used in the plan is based on the policy effective dates. Only prior policies which had an effective date between 21 and 57 months prior to the prospective policy effective date are considered. Further, at most 45 months of data may be used. In practice, this means for annual policies we use the three previous years lagged by one assuming this data is available. That is, for an annual policy effective 1/1/21 we use the data for the policies which were effective January 1st 2019, 2018 and 2017.

If there are multiple prior policies with effective dates between 21 and 57 months prior to the prospective effective date and the associated experience is more than 45 months then you should start by including the most recent experience and working backwards until adding an older policy would cause the 45-month limit to be exceeded.

Losses within the Experience Period

In general, if a loss occurred within the experience period and was reported within the statistical plan, then it is used for experience rating unless it fits one of the following exception criteria:

1. Claims attributable to the COVID-19 (coronavirus) pandemic (Catastrophe #12), where the accident date is later than 12/01/2019. This applies to experience rating modifications with rating effective dates of August 16, 2020 or later.
2. Losses associated with Catastrophe Numbers #87 and #48 which are related to the September 11, 2001 attacks.
3. Claims reported as noncompensable according to the statistical plan.
4. Claims reported as fraudulent.
5. Coal mine disease (Black Lung) claims.

Eligibility

To determine eligibility the plan provides a table with two columns of thresholds which vary by state and rating effective date (Alice: "More on that below"). Column A contains the minimum total subject premium for the most recent two years, while column B contains the minimum average premium for the experience period. A risk qualifies for experience rating under the plan if it meets at least one of the following two conditions.

1. The sum of the subject premium for the two most recent years in the experience period is at least the threshold in column A. Or,
2. The average subject premium over the entire experience period meets or exceeds the threshold in column B.

The subject premium is also known as the manual premium. It is the premium for the risk prior to any experience or schedule modification being applied.

Question: An Alabama (AL) risk has subject premiums of $6,550, $3,000, and $6,650 for annual policies effective January 1st 2016, 2017 and 2018. The table below is the AL excerpt from the State Table of Subject Premium Eligibility Amounts: State Rating Effective Date Column A ($) Column B ($) AL 9/1/21 and after 11,000 5,500 9/1/20—8/31/21 11,000 5,500 9/1/19—8/31/20 10,500 5,250 Does the risk qualify for experience rating under the NCCI plan for a policy effective 1/1/2020?

Solution

Based on the 1/1/20 effective date the sum of the latest two years of subject premiums is $9,650 which is less than $10,500 so the first condition is not met. However, the average of the three years in the experience period is $5,400 which is greater than the column B amount of $5,250. Since at least one of the conditions is met the risk qualifies for experience rating.

Alice: "We'll often use Alabama risks as our example because the tables included in the study kit are for AL only. You'll need to pay close attention though because currently the study kit contains two sets of tables for AL and they only differ by the effective dates. You'll want to make sure you use the tables with the later effective date unless told otherwise."

Useful Definitions

The average annual subject premium is the sum of the subject premium for the experience period, divided by the number of months in the period (excluding any gaps) and then multiplied by 12.

Intrastate rating occurs when a risk operates in a single state and qualifies for experience rating under the eligibility requirements for that state.

Interstate rating occurs when a risk operates (has experience) in more than one state. To qualify for interstate rating a risk must have experience in more than one state and meet the intrastate eligibility requirement for at least one of those states.

An experience modification developed for an interstate risk applies to all operations/states.

The Rating Effective Date (RED) is the earliest date a specific experience modification factor may be applied to a policy. It is generally the effective date of the policy unless there a conditions such as gaps in coverage, cancellations, changes in ownership, multiple policy effective dates, or interstate operations for example.

When a multiple policy risk has different effective dates on the policies, you should use the effective date of the most recent full-term (12-month) policy with the largest amount of estimated standard premium if it is an intrastate risk. For interstate risks, use the effective date for the most recent full-term policy in the state with the largest estimated standard premium.

The Expected Loss Rate (ELR) is a factor we'll look up in the tables provided based on the risk's class code. It applies per $100 of payroll.

The NCCI experience rating plan is an example of a split-plan as losses are split into primary or excess. The primary/excess split point used to occur at $5,000 but now varies by state. We'll use a subscript _p to denote primary losses and a subscript _e to indicate excess losses.

Alice: "In what follows you need to pay close attention to the rounding specified."

Expected Losses

The Expected Losses is calculated as the ELR multiplied by the payroll divided by 100 and rounded to the nearest integer. Total expected losses are denoted by E

The expected losses are split into expected primary and excess losses which are denoted by E_p and E_e. The expected primary losses are the expected losses multiplied by the discount ratio and rounded to the nearest integer. The Discount ratio is looked up in the tables provided based on the risk's class code. The discount ratio may also be referred to as the D-ratio.

The expected excess losses is the difference between the expected losses and the expected primary losses. It is the expected amount of losses over the split point for the risk class.

The risk's actual loss experience will be benchmarked against its expected risk class experience to determine the experience modification.

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Actual Losses

The actual losses used are the incurred losses reported in the statistical plan for the state in question. There are some modifications which have to be made to the actual losses before inclusion. We cover these in detail later in the section on Loss Limitations.

The actual losses, A, are split into primary and excess losses denoted by A_p and A_e. The actual primary loss is the portion of the actual incurred loss which is fully used in the experience rating. It is capped at the primary/excess split point. If a claim is a medical-only loss then the actual primary loss is reduced by 70%. For example, a $4,500 medical only claim has an actual primary loss of [math](1-0.7)\cdot\$4,500 = \$1,350[/math].

The actual excess loss is the difference between the actual loss and the actual primary loss. If it is a medical-only claim then the actual loss is also reduced by 70% prior to calculating the actual excess loss.

In the experience modification calculation the actual excess losses are given weight based on the size of the risk being priced. The larger the risk, the more weight given to their excess losses. This is because larger risks should have more stable loss experience and the actual excess loss reflects the severity of the actual loss experience.

Weighting Value

The weighting value, W, determines how much of the actual and expected excess losses are used. The weighting value is looked up in the second table provided (for the effective date in question) based on the expected losses. When you apply the weighting value, the result must be rounded to the nearest whole number.

If you are rating an interstate risk then the weighting value is the average determined below.

1. Multiply each state's weighting value by the state's expected losses and sum.
2. Divide the result by the total expected losses across all states and round to two decimal places.

The weighting value gets larger as the size of the risk increases.

It is applied to both the actual and expected excess losses in the experience modification.

Ballast Value

The ballast value, B, limits the impact of any loss on the experience modification. It is added to both the actual and expected losses. The ballast value is looked up in the third table provided (for the effective date in question) based on the expected losses. It is already an integer.

If you are rating an interstate risk then the ballast value is the average determined below.

1. Multiply each state's ballast value by the state's expected losses and sum.
2. Divide the result by the total expected losses across all states and round to the nearest integer.

The ballast value gets larger as the expected losses increase.

It is added to both the actual and expected experience in the experience modification.

Stabilizing Value

The stabilizing value is calculated as [math]E_e\cdot (1-W)+B[/math] and is rounded to the nearest integer.

The stabilizing value reduces the likelihood of material variations in the both the actual and expected experience used in the experience modification. It has the most impact for small risks as their loss experience is less stable; without the stabilizing value their experience modifications could vary substantially from year to year.

Expected Ratable Excess Losses

The expected ratable excess loss is the product of the weighting value and the expected excess loss. It is rounded to the nearest integer.

Actual Ratable Excess Losses

The actual ratable excess loss is the product of the weighting value and the actual excess loss. It is rounded to the nearest integer.

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Alice: "We now have all of the definitions needed for the experience modification. All that remains is to consider any loss limitations."

Loss Limitations

A loss limitation that always applies is the reduction to medical-only losses. A medical-only loss is a claim which only involves medical expenses. These claims have their actual loss, actual primary loss and actual excess loss each reduced by 70%.

There are other loss limitations to also consider though. In particular, when evaluating actual losses it's important to determine the number of claims involved within each accident (an occurrence could be one accident that hurts say 3 workers, resulting in up to 3 claims). The loss limitations differ based on whether an accident involves one claim or multiple claims.

For each state, at the bottom of the table of weighting values are some loss limitations. The two commonly tested on are the State Per Claim Accident Limit and the State Multiple Claim Accident Limit which must be applied to the losses prior to determining the primary and excess components.

Alice: "The table includes a few other loss limitations for situations such as Employers Liability-Only claims — you just have to carefully read what you're given in the exam and know where to find the loss limits if you need them."

If the accident involves only 1 claim then apply the State Per Claim Accident Limit first before determining the primary and excess components.

If the accident involves two or more claims then the situation is more involved.

1. If the accident's losses exceed the State Multiple Claim Accident Limit then:
   • Actual losses are capped at the state multiple accident limit and actual primary losses are capped at 2x the primary/excess split point for the state.
2. If the accident's losses don't exceed the State multiple accident limit and no individual loss exceeds the per claim limit then:
   • Use the individual losses at face value but cap the total actual primary losses at 2x the primary/excess split point for the state.
3. If the accident's losses don't exceed the state multiple accident limit but an individual loss does exceed the per claim limit then:
   • Limit the individual loss to the State Per Claim Limit, and
   • If the remaining loss (i.e. total loss less the individual loss above) exceeds the primary/excess split point then:
     1. Use the remaining loss in full and cap the actual primary losses for the accident at 2x the primary/excess split point.
   • If the remaining loss doesn't exceed the primary/excess split point then:
     1. Use the remaining loss in full, cap the above individual primary loss at the primary/excess split point and add on the actual primary loss for the remaining losses.

Disease Losses

Disease losses receive further treatment prior to use in the experience modification calculation. Disease losses are losses related to occupational exposures, such as illness due to exposure to asbestos. The exam should make it clear if you are expected to consider a loss as a disease loss.

With the occurrence of a disease loss we first apply the individual claims limits (State per-claim Accident Limit and Multiple Claim Accident Limit) before applying a policy level cap to the sum of all occurrences of disease loss over the experience period. The disease losses are capped at 3*(State per-claim Accident Limit) + 120% * (Expected Loss for the experience period). If the disease losses required capping then the actual primary disease losses are capped at (2x primary/excess split point) + 40% * (Expected Primary Loss for the experience period) rounded to the nearest integer.

Experience Modification

You now have all of the pieces needed to calculate the experience modification. We'll present the formula in a couple of different ways to help you memorize it.

[math]\mbox{Experience Mod} =\displaystyle\frac{A_p + (1-W)\cdot E_e + B + W\cdot A_e}{E_p + (1-W)\cdot E_e+B + W\cdot E_e}[/math]

The experience modification is the ratio of the actual to excess of the following components:

Primary Losses: Ap (numerator) or Ep (denominator)

Stabilizing Value: (1 - W)*Ee + B

Ratable Excess: W*Ae (numerator) or W*Ee (denominator)

The components are summed by type (actual or expected) prior to forming the ratio.

Important! The experience modification must be rounded to two decimal places.

You should compare this formula to the general split-rating experience modification factor presented in the Fisher text here. Make sure you can derive expressions for Z_p and Z_e in terms of E, W, and B.

Maximum Debit Modification

Once you've calculated the experience modification there is one final check to do. Namely, there is a maximum debit modification which is given by the following formula: [math]\mbox{max. debit mod.} = 1.10 + \left(0.0004\cdot\displaystyle\frac{\mbox{Expected Losses}}{G}\right)[/math].

Here, G is a factor found underneath the table of ballast values provided. On the exam, if you have a credit mod you should state the maximum debit modification doesn't apply, and if you have a debit mod then you must calculate the maximum debit mod and correctly apply it.

The G factor is the state's average cost per claim divided by 1,000 for all experience rating claims.

Alice: "Phew you made it this far. Let's put this on firm ground now with an example."

NCCI Experience Rating Example

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Other Rules

To round out this article we discuss some of the remaining NCCI rules which could possibly occur on the exam.

Alice: "These are likely fringe materials. If you're tight for time read them once and then focus back on higher weight topics such as the GLM or Fisher readings."

Rule 3 (Ownership Changes and Combination of Entities)

• Any change in ownership and/or combinability status must be reported by the employer to its insurance carrier within 90 days.
• The carrier may alter the current and up to two preceding experience modifications as a result of a change in ownership or combination status.
• The combination of two or more entities requires common majority ownership. This is satisfied through either
  1. The same company owning more than 50% of each entity, or
  2. An entity owns a majority interest in another entity, which in turn owns a majority interest in another entity.

It's important to remember a majority is more than 50%.

Example: Company A owns 75% of Company B, and Company B owns 60% of Company C. From this you can calculate Company A owns 45% of Company C, so Company A doesn't own a majority in Company C. However, Companies A, B, and C can be combined using the second rule because Company A has a majority interest in B, and B has a majority interest in C.

Rule 5 (Special Rating Conditions)

Separate State Experience

An interstate risk can request a separate experience rating factor for a single state within the risk provided it has sufficient experience in that state and separately at least one other state to qualify for intrastate rating. The separate state experience mod applies to all of the risk's operations within that state, while the interstate experience mod applies to all operations outside of the state.

Determining the Experience Modification

1. Calculate the experience modification for the entire risk on an interstate basis.
2. Identify the state which qualifies for separate rating and calculate its experience modification on an intrastate basis.
3. For all states in the risk except for the separate state, calculate the experience modification on an interstate basis.
4. Calculate the separate state factor as [math]\displaystyle\frac{\mbox{(Step A)}\cdot\mbox{All States Expected Loss}}{\mbox{(Step B)}\cdot\mbox{Separate State Expected Loss} + \mbox{(Step C)}\cdot\mbox{All Other States Expected Loss}}[/math]
5. [math]\mbox{Separate State Experience Mod} = \mbox{(Step B)}\cdot \mbox{(Separate State Factor)}[/math]
6. [math]\mbox{All Other States Experience Mod} = \mbox{(Step C)}\cdot \mbox{(Separate State Factor)}[/math]

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