Financial R&R: Navigating Coverage and Trends in Workers' Compensation for Financial Institutions

Intro (00:01):
Welcome to Financial R&R, a show dedicated to financial insurance and risk management solutions and trends shaping the market today. Here are your hosts, Ron Borys and Ryan Farnsworth.

Ron Borys (00:13):
Welcome everyone. I'm Ron Borys, I'm here with Ryan Farnsworth, and this is the Financial R&R. Today's topic is workers' compensation insurance for commercial banks. We have with us one of our P&C product leaders, Jim Biernat, as we've been navigating the first five months coming into the first half of the year and thinking about information that we can share with our listeners, clients and others. Certainly, the crisis, for lack of a better term, that has plagued the community banking space over the first five months of the year with several bank failures and certainly the potential for more to come. There's a lot of insurance things that we're learning as a result of this. We've been directly involved in some of these situations and thought it was really important to highlight some of the key considerations and observations. I'm really looking forward to this, Jimmy. I think this is your first time joining Ryan and I, so welcome.

Jim Biernat (01:05):
Thank you. Glad to be here.

Ryan Farnsworth (01:07):
It's hard to believe you referenced that the banking industry has gone through a tough five months. It's really only been the last three that we've really been focused on the regional banks and the many impacts that we're experiencing because of the high-interest rate environment that these banks are operating in. Especially as we think about workers' compensation, which are real business risks for these companies., we wanted to highlight it because it helps speak to the depth and the expertise that we have within our Financial Institutions practice, that we're not just a one trick pony for D&O or for cyber, but our team is experienced and has the expertise across all lines to help financial institutions, including banks. And we appreciate your and your team's specialism on workers' compensation, in particular. So for those of us who may know nothing about workers' compensation, let's lead off with helping us understand why it's an important expense for banks in particular and why it's relevant, especially in this crisis.

Jim Biernat (02:08):
Yeah, absolutely. Thank you, Ryan. So, workers' compensation is a compulsory coverage, right? Everyone has to purchase it. You're required by law to obtain and maintain the coverage, but it is an important coverage grant. First, it covers injuries to employees, so coverage would apply to medical insurance as well as lost wages of the injured employees. In addition to that, by having workers' compensation coverage, you do have somewhat immunity to claims from employees alleging negligence to work injuries. So, it's a crucial coverage grant, and it really protects a bank.

Ryan Farnsworth (02:43):
So that speaks to how important it is now when it comes to insurance and the purchase of workers' compensation. What have the rates looked like recently and have the events of the last few months impacted rates for this compulsory coverage?

Jim Biernat (03:02):
Yeah, so if you look back five years, rates for workers' compensation coverage were almost double what they are now. What we've learned from the banking exposure is that it's a really good risk, highly compensated employees, meaning fewer claims, and because of that, insurers got bullish on this exposure. So much so that they dropped rates dramatically each and every year for the past five years. So right now is somewhat of a tough time for insurers. There are two items that insurers are somewhat concerned with now in the banking industry. One is bank failures whereby an insurance carrier will be stuck paying claims in the future even though they're not receiving renewal premiums or deductible payments. The other one is to the mortgage banking industry, which is really being affected now by high interest rates, increased interest rates with the interest rate pressure on their business. They're writing less new business, which is affecting their payroll. Fewer bonuses are being paid out as well as reduction in staff.

Ron Borys (04:04):
So, Jimmy, that's a great point, and for those who don't fully understand workers' compensation and the concept of a deductible, right? We also know that in some cases, companies could be required to post some level of collateral. Obviously with the situations we're going on right now with the receiverships and now the banks essentially handing the keys over to the FDIC to now determine how assets of the bank are going to be used to make depositors whole. I guess the other thing is letters of credit, right? Which sometimes carriers require. So, let's talk about that. Because I think that's the piece that if you're an executive right now and you're focusing on a variety of different things, as Ryan and I both know, D&O tends to be the leading product that everybody worries about, right? Because we certainly know these situations have led to litigation, but some of these other coverages are also important, but sometimes not as heavily focused on. So why don't you walk us through kind of what you're seeing there.

Jim Biernat (04:57):
Yeah, so there are two types of workers' compensation programs. First one is what we call guaranteed cost. Guaranteed cost basically means a bank will pay a premium to the carrier and then the carrier will cover every claim, first dollar. What most banks prefer is a deductible workers' compensation program. In a deductible program, the bank will retain some part of the risk and that can vary from $150,000, $250,000 or $550,000 of each and every claim. And when a bank uses a deductible program, the insurer requires some type of collateral and usually it's in the form of two items. One of them is a letter of credit, which makes sure that in the event of any financial issue a bank has, they can go to a third party and draw on that to cover any future deductible requirements. The other form of collateral is what was referred to as a working fund.

And the working fund is an amount of cash an insurer requires to have on hand to pay the monthly deductible amounts. And after those amounts are paid, the insurer will invoice them to make sure that working fund is replenished on a month-to-month basis. With the banking crisis, insurers are getting a little bit concerned about both types of collateral. We believe we're going to see an uptick in both of those items. A letter of credit we think is going to increase substantially, maybe 15% to 20% more so than it has been required in the past. As well as a working fund, insurers usually want to have at least one month of capital on hand to pay their average claims that they see. We might see that increase from one month to maybe three months and some instances maybe six months to make sure that capital is there.

Ryan Farnsworth (06:45):
As we've found across other coverage lines, D&O, E&O, even cyber to a certain extent, all these markets are being impacted by not just the macro events such as what these banks are dealing with in terms of interest rate risk, but we're also dealing with a very competitive insurance market. All this being said, what type of dynamic does a competitive insurance market bring to chasing workers' compensation or specifically property and casualty coverages for financial institutions?

Jim Biernat (07:16):
Yeah, the insurance industry loves financial institutions. The claims are so little and the exposure is pretty great, so they can charge a fair amount of premium. But the rates are so much lower in the financial institution sector than you'll see in in other industries, manufacturing, hospitality, etc.

Ron Borys (07:36):
Jim, let's just be clear, when you say the exposure is higher, you don't necessarily mean that these individuals are more susceptible to injury. You mean that the exposure is higher because generally speaking, financial institution employees are paid higher than other industries?

Jim Biernat (07:50):
That is correct, yes. The salaries as well as aggregation of employees, it's in a single location such as Manhattan as opposed to a spread of risk throughout the country. They'll have a high concentration of wage earners in a single location.

Ron Borys (08:06):
And because worker compensation payouts are capped, I guess to some degree, there's a financial incentive for certain higher wage earners to want to get back to work versus sitting out for an extended period of time on workers' compensation, right?

Jim Biernat (08:19):
That's a hundred percent correct. Lost wages for workers' compensation insurance, while it varies per state, the rule of thumb is 60% of your wages will be paid by workers' compensation, but that's capped typically at a thousand dollars a week. So, if you have a high wage earner, it's very difficult to survive on a thousand dollars a week.

Ryan Farnsworth (08:39):
Are insurance companies, as they are being aggressive to win business, are they doing anything creative other than reducing rates and being aggressive on that side? Or is there anything structurally that they can offer to differentiate themselves and provide our clients with the best possible program structure?

Jim Biernat (08:55):
We're seeing a lot of creativity in the workers' compensation place. Again, we talked about these two types of programs, guaranteed costs or a large deductible type program. Insurers are trying to get away from the large deductible type program just because of the collateral requirements that could be in place for a long period of time, right? If you move coverage from one carrier to another, that collateral will be there with the expiring carrier for a couple years. So, a lot of insurers, what they're trying to do is create alternative workers' compensation programs that are more cost effective than a straight guaranteed cost program. That would be a dividend program where if you have a very successful or low loss ratio, the insurer will return a portion of your premium. There's also a min-max insurance program, which is becoming much more invoked these days. And that has evolved over the years.

A min-max retrospective workers' compensation program essentially said your premium will fluctuate on a month to month or year to year basis, depending on your losses. But now they're capping that, saying, we are going to do a zero-month retrospective program where we're going to charge you a premium based on having no losses. Day one, while it might be a little bit more expensive than a deductible program, there'll be no fluctuation in that premium over the course of the year. But if you look back at deductible programs and why a lot of banks preferred that type of program, it starts at a 50% premium reduction from a guaranteed cost program, and that's upfront. You will have to pay for losses, but if you look at your historical trends and the losses are quite favorable, when you can say 50% premium and still pay a portion of your losses, you usually have a reduced insurance cost.

Ron Borys (10:41):
Yeah, and I know from my experience, clients tend to prefer saving the money on the front end than getting a potential refund or rebate check back as a result of good loss history. Just because again, it's expected that the loss history is going to be good, so they'd rather just save the money on the front end and not have to put the money out of pocket.

Jim Biernat (11:02):
Absolutely, and a lot of buyers, as you mentioned, prefer that. Pay less upfront, and because of that, the insurance industry is moving away from dividend programs and more into these min-max zero-month retro programs where the client will pay much less upfront. So, we do believe the insurance industry is going to move towards that type of insurance policy as opposed to dividend and as well as large deductible.

Ron Borys (11:29):
Yeah, it's interesting, because some may look at this and say, well, workers' compensation, why would we need to spend a podcast talking about this? In many cases, Jimmy, most companies, it's one of their larger insurance spends and unfortunately there's no getting around it. Companies, as you mentioned earlier, are required by law to maintain this coverage. So, I think what happens is there's not enough people who really focus the time, effort and energy, and specialize in it the way you do to be able to help people understand that there are options, there are all alternatives. You don't necessarily need to do it the same way you've always been doing it. And I can tell you, having sat in on those meetings with you, it's eye opening for these clients to say, wow, I didn't realize that.

Jim Biernat (12:06):
You're spot on. The comment we get, typically from the CFOs is, this is a tax on our business. We don't utilize this coverage, we don't have employee injury, and if we do, that's something we can pay out of pocket. Why are we paying these insane premiums for this exposure that we feel isn't there? That's the first question we get asked. How do we reduce our workers' compensation premiums? And if you're a bank or a financial institution out there and you haven't seen at least a 20% drop in your workers' compensation premium over the last five years, your broker's not working for you.

Ron Borys (12:42):
Yeah, I know a lot of times people like to say, well, it is what it is, it's based on payroll, there's nothing we can do. And I think you've debunked that myth for sure.

Jim Biernat (12:51):
There's another product I think we should talk about too, which is more relevant in the past year or two, particularly after coming out of a very successful 2021, 2020 for the financial institution space. And that's instead of rating workers' compensation coverage on payroll, you can do it on headcount now and you can have a fixed expense on a per employee basis. So at the end of the year, instead of saying, we had a phenomenal year, we paid out a tremendous amount of bonuses, our payroll increased 20%, which historically would relate to a 20% increase workers' compensation expense, you can cap that and say, okay, we had a great year, but what did our headcount do? Are we up one or two employees, are we down one or two employees, are we up 50? You can have an expense per employee basis now. So, the audit is so much easier saying, okay, we know what our expense is going to be. Over this past year we hired five more employees, and we know at our expense per employee from a work comp basis is $300, instead of saying our payroll went up 20%. So, I have a feeling a lot more clients are going to try to move into that space so they have a set amount that they can budget for by the end of the year.

Ryan Farnsworth (14:04):
I appreciate that insight, Jimmy. We all do and having you as a resource to our clients and prospective clients is one that we value. We view you as a bit of a unicorn in this industry and we appreciate the fact that you're imparting your knowledge to our team and our listeners alike, and we look forward to keeping this discussion going as the market continues to have changed because this product and workers' compensation, as you said, is not going away. It's compulsory and this probably more than any other insurance product that we utilize for our clients is one that we need to continue to pay attention to and find continuing ways to evolve and add value for our clients in this changing market.

Ron Borys (14:44):
Well, yeah, thanks Ryan and thanks again Jim, for joining us. My takeaway was people out there who think workers' comp is a fixed expense should not just be taking that for granted, right? We're in an environment where performance has been down across most interest sectors. People are looking to reduce expenses, and there's certainly opportunities to do that with this particular coverage. So, for those of you listening and want to learn more about what we're doing in financial institutions and would be interested in talking more about this topic, you can visit our website at www.alliant.com. But again, Jim, thanks for joining us. Great to have you on for the first time and look forward to many more conversations like this in the future.