What is 'Experience Rating (Insurance)'

Experience rating (insurance) is the amount of loss that an insured party experiences compared to the amount of loss that similar insureds experience. Experience rating is most commonly associated with workers’ compensation insurance. It is used to calculate the experience modification factor.

BREAKING DOWN 'Experience Rating (Insurance)'

Experience rating (insurance) is the amount of loss that an insured party experiences compared to the amount of loss that similar insureds experience. Insurance companies closely monitor the claims and losses that come from the policies that they underwrite. This evaluation includes determining whether certain classes of policyholders are more prone to claims, and are thus more risky to insure.

The experience rating helps an insurance company determine the likelihood that a particular policyholder will file a claim. In this sense, the past loss experience of a policyholder is used to determine future changes to the premium charged for the policy. In general, it is easier for an insurance company to determine the risk associated with an entire class of policyholders, but harder to determine how risky an individual policyholder is.

For example, an insurance company will look at whether a large-sized construction services company has produced more workers’ compensation claims than similar-sized companies. If the claims occur more often than expected, the insurance company may increase premiums in order to cover the increased expectation of payouts.

By charging higher premiums for more risky policyholders, an insurance company incentivizes a policyholder to improve their risk management practices. For example, a business that is considered a high risk for a workers’ compensation claim will have to pay more than a low-risk policyholder. But the high-risk policyholder can improve its safety procedures and workplace conditions to lower its premium. Experience rating is typically based on the three years prior to your most recent expired policy period.

The Experience Modifier for Experience Ratings

An experience modifier is the adjustment of annual premium based on previous loss experience. For instance, usually three years of loss experience are used to determine the experience modifier for a workers' compensation policy. An experience modifier is calculated every year. A modifier may be less than, greater than, or equal to "1." A modifier of 1 means that your loss experience is average for your industry group. That is, your loss history is no better or worse than other businesses similar to yours. In such a case, your premium will likely remain unchanged. If your modifier is greater than 1, your loss experience is worse than average for your industry group. A modifier that is greater than 1 represents a debit as it will increase your premium. Likewise, a modifier of less than 1 signifies a loss history that is better than average. A modifier of less than 1 will achieve a premium reduction.

RELATED TERMS
  1. Developed Premium

    A developed premium is an initial quote from an insurer based ...
  2. Calendar Year Experience

    Calendar year experience is the difference between the premiums ...
  3. Assessable Policy

    Assessable Policy is a type of insurance policy that may require ...
  4. Insurance Premium

    An insurance premium is the amount of money that an individual ...
  5. Advance Premium

    An advance premium is an initial premium paid to bind an insurance ...
  6. Losses Incurred

    Losses incurred refers to benefits paid to policyholders during ...
Related Articles
  1. Insurance

    How To Invest In Insurance Companies

    Knowing the special circumstances that insurance companies operate under helps in evaluating whether or not a listed insurance company is a good investment and whether the economic environment ...
  2. Insurance

    For Life Insurers, Making Money Is A Numbers Game

    Life insurance is a data-driven industry that relies on complex financial models to predict future expenses and income from premiums and investments.
  3. Insurance

    What If Your Long-term Care Insurance Carrier Goes Bust

    When a long-term care insurance carrier goes bust, what happens to policyholders?
  4. Insurance

    How Much Life Insurance Should You Carry?

    Before purchasing life insurance it is important to decide if you really need it, what type of policy is best, and how much coverage you should get.
  5. Insurance

    What To Do When Your Insurance Company Won't Pay

    Struggling to get a claim honoured? Find out what you can do.
  6. Insurance

    12 Insurance Questions for High Net Worth Families

    High net worth families should ask themselves these 12 questions regarding comprehensive insurance.
  7. Insurance

    How an Insurance Company Determines Your Premiums

    Find out how insurers use credit history to build an insurance score and how it could affect your bottom line.
RELATED FAQS
  1. Can an Insurance Company Deny Coverage?

    Insurance isn't always as straightforward as other products, and insurers can deny coverage in many different instances. ... Read Answer >>
  2. How much do changes in interest rates affect the profitability of the insurance sector?

    Learn about the relationship between interest rates and insurance company profitability, and how interest rates can affect ... Read Answer >>
  3. How do I choose which insurance company to use?

    Picking an insurance company to use is not an easy task, but considering these factors will help you make this important ... Read Answer >>
  4. How does the insurance sector work?

    Learn more about the insurance sector, a historically safe place for equity investors and the home of some of the largest ... Read Answer >>
Trading Center