Understanding the Experience Modification Factor

Workers’ compensation insurance is a crucial component of protecting employees in the event of work-related injuries or illnesses. It provides medical benefits, wage replacement, and other necessary resources to injured workers while also safeguarding employers from costly lawsuits. One important aspect that plays a significant role in determining the cost of workers’ compensation insurance is the experience modification factor (EMF). This blog delves into the concept of EMF, its calculation and its implications for employers.

What Is the EMF?

The EMF, also known as the experience mod or e-mod, is a numerical representation of an employer’s past workers’ compensation claims experience in comparison to other employers of similar size in the same industry. It is essentially a measure of an employer’s safety record and risk profile in reference to their workers’ compensation insurance coverage.

An employer’s workers’ compensation insurance premium is partly based on the EMF. An employer must meet a minimum workers’ compensation threshold to have an experience modification rating. This minimum threshold varies depending on the state in which the employer is located. If the employer meets the threshold, then the rating is mandatory for their premium calculation. The EMF is calculated based on a formula developed by the National Council on Compensation Insurance (NCCI) or state-specific rating bureaus, depending on the jurisdiction.

Understanding the Calculation

The calculation of the EMF involves comparing the actual losses (incurred claims) of an employer to the expected losses for businesses of similar size and industry. The equation, when written out, looks like:

(Actual losses/Expected Losses) = EMF

This formula determines the ratio between the expected losses in an industry and the actual losses an organization incurred. It also considers the frequency and severity of those losses. A company with numerous small losses is penalized more severely than if it had a single large loss. This is because a higher frequency of claims suggests a higher likelihood of future losses.

Actual losses refer to the total incurred losses or claims paid by the insurance company on behalf of the employer. They include both the medical expenses and indemnity benefits (wage replacement) provided to injured employees. Actual losses represent the real financial impact of work-related injuries and illnesses on the employer.

Expected losses represent the average losses anticipated for a company of similar size and industry classification. These losses are determined based on historical data and statistical analysis provided by rating bureaus, such as the NCCI or state-specific bureaus. The expected losses act as a benchmark against which an employer’s actual losses are compared.

The resulting value provides insight into the employer’s claims experience in relation to its peers. A value of 1.0 is considered the industry average, meaning that an employer has an average claims experience compared to its peers. If the EMF is greater than 1.0, it indicates a higher-than-average claims experience, resulting in higher insurance premiums. Conversely, an EMF that is less than 1.0 signifies a lower-than-average claims experience and may lead to reduced insurance premiums.

Factors Affecting the EMF

Several factors influence an employer’s EMF, including the number and cost of previous claims, industry classification, payroll and the size of the employer’s operations. Here are some key considerations:

• Claims history—The EMF heavily relies on an employer’s past claims history. A single severe claim can have a more substantial impact on the EMF than several smaller claims. Implementing effective safety and risk management practices can help prevent injuries and reduce claims, positively influencing the EMF.
• Payroll—The size of an employer’s payroll is a significant factor in EMF calculation. A larger payroll typically indicates a higher exposure to potential claims. Consequently, employers with larger payrolls tend to have higher EMFs.
• Industry classification—Different industries have varying levels of risk and exposure to work-related injuries. The EMF considers the employer’s industry classification to ensure fair comparisons within the same sector.
• Comparisons to peers—The EMF is calculated by comparing an employer’s claims experience to that of similar-sized businesses in the same industry. It allows for a more accurate assessment of risk and provides a fair basis for determining premiums.

Implications for Employers

Understanding the EMF is essential for employers as it directly affects the cost of workers’ compensation insurance premiums. A higher EMF translates to higher insurance premiums, which can significantly impact an employer’s bottom line, whereas a lower EMF can result in cost savings on insurance premiums. This also plays a role in the employer’s financial impact. The higher the workers’ compensation premium from a higher EMF, the more strain on an employer’s financial resources. On the other hand, the lower the EMF, the employer can save money, allocate funds more effectively and invest in other areas of their business.

The EMF allows employers to have better control over their workers’ compensation costs. By implementing effective risk management strategies, such as safety programs, claims management practices, and return-to-work initiatives, employers can improve their claims experience, resulting in a lower EMF and potential cost savings on insurance premiums.

A lower EMF can give employers a competitive edge. When bidding for contracts or competing in the marketplace, a better claims experience reflected in a lower EMF can demonstrate a commitment to workplace safety and risk management. It can enhance an employer’s reputation, improve relationships with clients, and potentially lead to more favorable business opportunities.

Moreover, an employer’s EMF can affect its risk perception. Insurers evaluate an employer’s EMF when assessing risk. A higher EMF may be interpreted as a higher risk profile, potentially impacting an employer’s ability to secure favorable insurance coverage or negotiate competitive premiums. A lower EMF indicates a lower risk perception, which can strengthen an employer’s position when working with insurers.

When Does the EMF Change?

The EMF can change annually or over a specific time period, depending on the jurisdiction and the policies of the rating bureaus or insurance companies involved. A change in an EMF does not happen right away. The calculations are based on a three-year rolling average, excluding the most recently completed year. Consequently, each incident impacts insurance premiums for a duration of three years before it no longer influences the EMF.

Throughout this three-year period, the claim amount may be updated to reflect the current expenses related to insurance. As a result, prices tied to an earlier accident can potentially rise during the three years that the incident contributes to EMF calculations.

The following are reasons that may cause an EMF to change:

• Annual review—In many jurisdictions, the EMF is reviewed and recalculated on an annual basis. Typically, the EMF is updated using the most recent three years of claims data, with more weight given to the most recent year. As each year’s data becomes available, the EMF can change accordingly.
• Claims experience—The EMF is heavily influenced by an employer’s claims experience. If an employer has a significant increase or decrease in the frequency or severity of claims, it can lead to a change in the EMF. For example, a sudden surge in claims in a particular year may result in a higher EMF, while effectively managing and reducing claims can lead to a lower EMF in subsequent years.
• Industry changes—Changes in industry classification or reclassification can impact the EMF. If an employer’s industry classification changes, it may be assessed against different peers, which can alter the expected losses used in the EMF calculation. This reclassification can result in a change in the EMF.
• Payroll changes—The size of an employer’s payroll can affect the EMF. If there are significant changes in payroll from one year to another, it can impact the EMF calculation. A larger payroll generally indicates a higher exposure to potential claims, which can influence the EMF.
• Mergers or acquisitions—In cases where an employer undergoes a merger or acquisition, there may be changes in the EMF. The claims experience and data of the merged or acquired company are combined with that of the acquiring company, which can result in adjustments to the EMF.

Controlling an EMF

Employers can positively influence their EMF by:

• Implementing robust safety programs
• Promoting a culture of workplace safety
• Actively managing claims
• Reviewing loss and payroll data to ensure it is accurate
• Managing outstanding reserves and focusing on efficiently resolving open claims
• Reporting claims to the carrier immediately
• Providing light-duty options for injured employees
• Implementing proper training programs
• Maintaining a safe work environment
• Promoting early return-to-work initiatives

By implementing these risk management strategies and continuously monitoring and evaluating their effectiveness, employers can improve their safety records, reduce the frequency and severity of claims, and ultimately lower their EMF. A lower EMF translates into reduced workers’ compensation insurance premiums, leading to significant cost savings for the organization.

Conclusion

Understanding the factors influencing EMF calculations and implementing effective risk management strategies are key to improving an employer’s safety record and reducing claims. By prioritizing safety, actively managing claims and engaging employees, employers can positively impact their EMF and create a safer and more cost-effective work environment.