Workers Compensation Insurance

A Workers' Compensation Insurance Primer

Every day of our lives we face risks. There is the danger of injury or loss of life from accidents, medical issues, fire, or natural disasters. We also have to deal with potential property loss from such things as well as crime, and sometimes it can be something as simple as avoiding getting soaked in a sudden thundershower.

To deal with all of these risks we may choose to insure ourselves and our loved ones by means of automobile insurance, health insurance, homeowners insurance, flood insurance, renters insurance, etc. We also do simple things like checking the weather forecast, maintaining our automobiles, installing smoke alarms, and so forth.

However, there is one place that we normally don't have to carry the risk, and that is in the workplace. Beginning in 1911 states began adopting workers' compensation laws, and by 1963 all 50 states had some form of workers' compensation law in place. So today employers may be required to provide workers' compensation insurance (WCI) to cover injuries, illnesses or death that may occur on the job.

Unlike many of the labor laws that employers have to deal with, there are no federal requirements for WCI. Since WCI requirements are covered by state law, we can only discuss WCI in general terms. Employers have to find out what their state law requires and contact the state's workers' compensation official.

Who or What Is Covered by Workers' Compensation Insurance?

Generally speaking, employers are required to cover employees. That means that sole proprietors, partners, and members of an LLC are usually not covered by WCI. Shareholders who work for an S-Corporation are normally classed as employees, but in many states employee-shareholders as a group may opt out of coverage.

Independent contractors are not employees, so they are usually not covered by an employer's WCI, but there are exceptions. In many states an independent contractor who does not have any workers' compensation coverage of his own, and who works on the premises or job site of an employer, may have to be covered by the employer's WCI.

Must every business with employees have WCI? No. Whether or not an employer has WCI may depend on the number of employees. The majority of states require coverage for all employees, but several states have a minimum requirement of 3 or more employees, South Carolina has a minimum of 4 employees, and two states (Missouri and Tennessee) only require coverage for 5 or more employees. Some states exempt coverage for agricultural workers, and a couple of states require coverage only if the annual payroll exceeds a certain limit. (See the National Federal of Independent Businesses chart for more information.)

Workers' compensation benefits are provided to employees whose injuries or illness arise out of his employment. In addition, an employee's beneficiaries may also receive benefits if death results from an on-the-job activity.

There are two categories of benefits: indemnity benefits and medical benefits. If a worker suffers from a work-related injury, indemnity benefits compensate the worker for loss of income or earning capacity. Medical benefits are paid to either cure the injury or to relieve its effects if it is incurable. Unlike health insurance policies, there are no limits to reasonable medical benefits under workers compensation.

What Is the Basis of Workers' Compensation Insurance Premiums?

Basic premiums may be based on a number of different factors such as the type of industry, an employer's experience, administrative costs, etc., but there is one factor that is relevant in all states: total payroll within specific classes of employees. Each employee is assigned to a class based on the type of work performed and the degree of risk, and the estimated payroll for a year in each class is multiplied by the rate for the class.

For instance, suppose an engineering firm has three classes of employees (engineers, clerical, and outside sales). The employer's base premium could be calculated as follows:

Class of Employee - Engineer

Rate per $100 - 2.13

Estimated Payroll - $56,585.00

Premium - $12,05.26

Class of Employee - Clerical

Rate per $100 - 0.30

Estimated Payroll - $28,440.00

Premium - $853.20

Class of Employee - Outside Sales

Rate per $100 - 0.70

Estimated Payroll - $32,500.00

Premium - $2,275.00

Adding the premiums for all 3 classes of employees, the base premium would be $4,333.46. Insurance companies will then apply additional factors, such as experience factors, to determine the actual premium.

In some states premiums for officers, key employees, or highly compensated employees may be based on a maximum salary rather than the employee's actual compensation.

Premiums are based on the employer's estimated payroll for the upcoming plan year. Every year the insurance company will perform an audit of the employer's payroll for the prior plan year. If the actual payroll is greater than the estimated payroll for the plan year, an additional premium will be due. If the actual payroll is less than the estimated payroll, then the employer will receive either a credit or a refund.

Is all employee compensation included in a company's payroll for WCI? With the exception of four states (Pennsylvania, Delaware, Utah, and Nevada ) overtime pay is not included in the calculations for workers compensation insurance. It is the 50% overtime premium that is excluded. How overtime is reported in the audit can be a critical factor in how premiums are calculated, especially if workers are paid differing hourly rates or are paid shift differentials. Many insurance companies define overtime pay as the wages paid at one-and-a-half times the employee's hourly rate for overtime hours.

For instance, suppose an employee is paid $10 per hour and works 600 hours of overtime during the year. The workers' compensation insurance company will expect the overtime pay to be reported as $9,000 ($10/hr x 1.5 x 600 hr). The insurance company will then assume the overtime pay which is to be excluded from premium calculations as one-third of the reported amount, or $3,000. The article What Is Overtime Pay? showed that the correct method is to pay all hours at the employee's regular rate and add the 50% premium separately. So if the employee is paid at different hourly rates, the 50% overtime premium would be calculated by the employer separately, and it is then critical that the employer inform the insurance company that the reported overtime pay is the amount that should be excluded from premium calculations.

The above discussion is only a general consideration of some of the factors that affect an employer's workers' compensation insurance. This is one area in which homework is absolutely essential, especially if a business has employees working in more than one state. Justworks can help to guarantee that you are meeting the legal requirements, as well as helping you find the right coverage.