A Methodology for Pricing and Reserving for Claim Expenses in Workers Compensation

This paper describes a new methodology for determining a reserve for unallocated claim expenses. While the discussion will focus on workers compensation claims, the methodology is equally applicable to other lines of business. This paper will describe both a methodology to determine the reserve for all claims (including IBNR claims) as well as a procedure to determine the reserve for claims reported to date (excluding IBNR claims). This is an important issue for workers compensation because the length of time for which workers compensation claims remain open, i.e. the duration, has been increasing over the last several years. As duration increases, so does the expense of handling the claim for the remainder of the claim’s life. Self-insurance and large deductible plans have become a commonplace means of financing risk. However, few self-insureds handle their own claims. As insurance companies and third party administrators are under tremendous pressure to cut expenses, the need to know the total cost for handling claims becomes increasingly important. This paper presents an alternative way to estimate unallocated loss adjustment expense reserves beyond using paid to paid ratios. In this methodology, an automated work measurement system in the claim department is used to estimate the expense of handling various types of claims. It reflects differing levels of work effort necessary for claims in the first 30 days than on claims that have been open for, say, five years. Building upon the techniques presented in this paper, a methodology for pricing claims-handling services which is applicable to third party administrators or insurance companies will be discussed. Finally, the paper will discuss a methodology for tracking the duration so that the rate of claim closing can be monitored. Keywords: ULAE