A funny thing happened to many employers on the way to self-insurance. They discovered they might get big savings with less hassle by buying a large deductible policy.
Since 1990, the amount of workers' compensation losses retained through large deductibles has grown at a fast pace.
Under a deductible policy, the employer is contractually obligated to fund losses up to a specified limit per claim. According to the 2013 RIMS Benchmark Survey, almost all large deductible limits are at least $100,000, with $250,000 to $500,000 being the most popular range.
To learn how employers buy large deductible plans, I asked Tim Coomer of SIGMA Actuarial Consulting to create a scenario.
Under his scenario, an employer's chief financial officer approves in principle the risk manager's large deductible strategy. The CFO knows the company has put up collateral to satisfy the insurer's demand for assurance of reimbursement for losses covered by the deductible, even if the company goes bankrupt.
The risk manager hires actuaries to estimate the entire, unlimited loss, and calculate the net cost to the company assuming $100,000, $250,000 and $500,000 deductibles on each claim. Three insurers bid.
The risk manager studies how the bids differ by the premium to be charged for each deductible scenario.By adding the premium to the actuaries' estimate of retained losses, she makes an initial, simple estimate of the total cost of risk.
She first selects her desired deductible, which is $500,000 per claim. Her actuary tells her there is a 75 percent probability that total retained losses will be at or below $1.41 million.
Insurer A quotes for that deductible a premium of $700,000; Insurer B, $600,000; and Insurer C, $550,000. The lowest cost route appears to be with Insurer C, for a total cost of risk of $550,000 plus $1.41 million, for a total of $1.96 million.
Pointing to his spreadsheet, the CFO votes for Insurer C. The risk manager disagrees. Her risk manager friends tell her that Insurer C's claims adjusters are inferior. Further, Insurer C is known to charge high loss allocation expenses such as bill review, and lowball its estimate of claims management charges.
The risk manager turns to the collateral provisions of the bidders. Insurer C demands freedom to adjust upward the collateral requirement without limit in out years, based on its own actuarial analysis. It also demands a mandatory arbitration provision. Insurers A and B are somewhat equivocal on these issues.
The insurers, especially C, are more anxious about the company's ability to reimburse them for the retained obligations than they are about the losses they will directly incur above the deductibles.
As the renewal date approaches, the risk manager begins to negotiate with Insurer B. She asks for her discretion to select a TPA to handle claims while they stay under the deductible. She is confident her favorite TPA will keep losses down and not aggressively charge for expenses. The protocol for cash payments to the insurer looks right. And she likes the defense attorneys the TPA uses. Moreover, the collateral terms are more agreeable.
Done deal with Insurer B? Nope. The CFO alerts the risk manager that the company has entered rough financial waters. The size of the collateral must be reduced, as must be the loss exposure, and cash payments need to be stretched out.
The risk manager reworks, under a renewal deadline, the comparative analysis using a $100,000 deductible. Insurer A noses out its competitors.
PETER ROUSMANIERE is an expert on the workers' compensation industry.
September 15, 2013
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