B.16. WC LDD and XS

Card Set Information

B.16. WC LDD and XS
2015-09-16 10:14:57
Workers Compensation Large Deductible Excess LDD XS Gillam Snader Fisher Teng

TIA Summary for Workers Comp LDD and XS, covering Fisher, Gillam & Snader 3, Teng
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  1. 2 special types of WC policies
    • Large Dollar Deductible (LDD): employer retains per-occurrence ded and/or agg ded; insurer is still responsible for ground-up claims adjustment, legal consultation, inspections, reporting, audit, ...
    • Excess: similar structure except the insurer is only involved with claims exceeding the deductible; employer usually contracts a Third Party Administrator (TPA) to service the plan. Excess policy are more common in states where the law mandates employer to purchase insurance for cats
    • both policies allow employers to self-insure a portion of losses to lower their WC premium
    • both policies are less regulated, so insurers have more flexibility to design tailored programs
  2. Reasons for popularity of LDD & XS
    • trend towards self-insurance since insureds want to save costs (insurer profit & expenses)
    • tax savings: can deduct liability for insurance deductible (but not full claims if fully self-insured)
    • better insurers cash flow: collect premium immediately while many large claims take long to settle
    • insurers benefit from lower residual market assessments if it's based on WP
  3. Reasons for specific LDD popularity
    • medium size employers may qualify for LDD plans even if they don’t qualify for self-insurance
    • LDD plans contain many of the benefits of self-insurance without the administrative efforts, plus a savings on taxes and assessments
    • if converting from full coverage, the insured is already familiar with the insurer's level of services
    • insurer is best qualified than inexperienced TPA / employer to provide policy and claim services
  4. Other characteristics of LDD & XS plans
    • for XS, TPA expense ≠ insurance premium → not subject to premium-based taxes and assessment
    • LDD plans were first rated prospectively, now many are retrospective, providing more stable stream of income for insurers
    • 2 methods of pricing LDD and Excess plans:
    • summing up the components: more justifiable and appealing to customers
    • as a discount from full coverage premium: assumes full coverage premium is adequate
  5. Pricing for LDD vs Excess
    • similarities: may have a per-occurrence deductible, an aggregate deductible, or both
    • differences: under XS, TPA would adjust claims so insurer loads for uncertainty, as it becomes dependent on the prudence of the TPA's claim handling
  6. Use of ELPPFs
    • ELPPFs only vary by deductible, HG and state, so they may not be appropriate for a given insured
    • nature of insured's business: may be different from HG population
    • insured's prior loss history: particularly serious injuries that are likely to exceed the deductible
    • attitude towards safety and managed care
    • overlap between ELPPF and insurance charge: using either Table L, IRCLL or limited loss
    • whether ALAE is rated with loss: use of ELPPF vs ELAEPPF
  7. If E[L] below deductible is too low
    • % error in insurance charges is greatest for large policies with high entry ratios
    • $ error in insurance charges is greatest for large policies with low entry ratios
  8. Charging for expenses
    • LAE will be much higher on LDD plan since insurer handles all claims
    • under and XS plan, ALAE is usually split pro-rata between insurer and insured based on loss split
    • ULAE is rated with excess loss, but rated with unlimited losses under LDD
    • General Overhead Expenses: usually lower for XS plan; for LDD can be higher than ground-up
    • Acquisition Expense: usually commission is charged on net premium
  9. Why General Overhead Expense can be higher for LDD vs ground-up
    • insurer has to seek reimbursement for losses below the deductible
    • data reporting can become more complicated (additional cost for special filing)
    • insurers have to create and issue the LDD endorsement
    • insurers may have to upgrade computer systems to handle processing of deductible policies/claims
  10. Reasons why LDD & XS are riskier
    • XS loss is harder to estimate than ground-up loss
    • LDD and especially XS plans have longer payout period (4-5 / 10 years) →higher interest rate risk
    • note that XS have much longer tail because unlike LDD there's no expense paid before loss hits retention so tail is driven by loss more than expenses
    • exposure to credit risk for LDD; charge varies based on the insured's financial stability and collateral
    • insurer may also want to purchase reinsurance to deal with the possibility of cat losses
  11. Taxes and Assessments
    • usually based on net premium or net losses
    • XS often treated like XS CGL instead of WC by regulators, so premium for XS plans are not subject to residual market assessments (and benefits from a lower tax rate)
  12. Profit & Contingencies
    • for LDD plans, insurers compete on the services and on price
    • for XS plans, little service is involved, so insurers compete heavily on price; often times the UW margin might even be negative, to reflect the higher profits from investment income (longer payout)
  13. 3 Differences between LDD and XS
    • insurer (LDD) vs insured (XS) paying first and then collecting ded/XS losses
    • LDD covers loss services for all claims (XS = above threshold only)
    • LDD is usually issued as an endorsement to a standard WC policy, while XS is a stand alone policy
  14. Formula for LDD Premium
    • LDD Prem = [(EEL + ϕLLM(rG) * EPL) + EL (ULAE + LBA) + SP (GO + CR)] / (1 - A - T - p)
    • rG = Aggregate deductible / EPL
    • Full coverage premium: include full losses and remove credit charge
    • LDD LR: (EEL + ϕLLM(rG) * EPL) / LDD premium, usually < 50%
    • LDD Expense Ratio: [LDD Prem * (A + T) + EL (ULAE + LBA) + SP * GO] / LDD prem; note that we exclude profit and credit charge; typically > 50%
  15. Formula for XS Premium
    • XS Prem = [(EEL + ϕLLM(rG) * EPL) * (1 + ULAE) + SP (GO)] / (1 - A - T - p)
    • compared to LDD: no LBA, ULAE is charged on EEL, no CR, lower GO, T, A, p
    • loss ratio is expected to be much higher than LDD, and expense ratio is lower
  16. Implicit assumptions in pricing LDD & XS as a discount
    • safety factor applies to LER, reflecting that it can not be fully realized (e.g. credit risk)
    • assume same LAE and GO for full coverage and LDD
    • assume that A, T, p are the same for full coverage, LDD, XS
    • assume there is only a per-occurrence deductible, and no aggregate deductible
  17. Calculating the LER
    • straight ded: PLER = [Lr + (N - n)r] / L, r = ded, Lr = loss from claims < r
    • disappearing ded: linear decrease between r and R; claims below r are eliminated, claims above R have no deductible
    • PLER = [Lr + LR - (LR - rNR)(R / (R - r))] / L
    • then multiply the PLER by f, the safety factor
  18. Discount for LDD coverage
    • let P = premium for full coverage premium and P' = LDD premium → D = 1 - P'/P
    • D = [ELR * PLER * f] / [1 - A - T - p]
  19. Discount for XS coverage
    • assuming there are no LBA, and ALAE is rated with losses, consider 2 cases
    • u, i, g, h vary with net premium: D = ELR * PLER * f / (1 - A - T - p - u - i - gh)
    • uE, iE, gE, hE vary with XS L&LAE: D = ELR * PLER * f (1 + iE + uE + gEhE) / (1 - A - T - p)
  20. Pricing Ex-Medical policies as a Discount
    • excludes coverage for medical expenses (typically purchased by hospitals)
    • assume that EMPP = Full Coverage PP - Portion of Medical PP
    • assume that expenses other than taxes and acquisition costs are not reduced for EM vs full coverage
  21. Reasons why the EMPP retains some of the Medical PP
    • insurer will likely face adverse selection
    • payment of some medical costs may still be required (e.g. based on court interpretations)
    • insurer retains an obligation to pay medical losses is the employer is unable to
  22. Calculating EMPP
    • let P = full coverage premium = (E + eP) / (1 - A - T), P' = EMPP = (E - kEM + eP) / (1 - A - T)
    • E = expected tot. PP (no LAE), e = expense, profit, LAE, EM = Med PP, k = % med PP eliminated
    • D = 1 - P’/P = (1 - A - T - e) / (1 - A - T) * (kEM / E)
  23. Adjustments under Retro Rating for EM policy
    • for a retrospectively rated EM policy, if we still want to assume LAE is the same for EM or full coverage, we need to adjust the loss conversion factor
    • assuming ALAE is not rated with losses, LAE portion of retro premium is (C - 1)L, while the LAE portion for an EM policy will be (C’ - 1)LXM
    • if we want the same LAE dollar we need (C’ - 1)LXM = (C - 1)L → C’ = 1 + (C - 1)L / LXM