Illinois reform expected to result in 8.5%-12.75% decrease in workers' compensation costs

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By Michael Paczolt | 03 August 2011

After significant negotiations between Democrats and Republicans, including at one point a proposal to abolish the workers' compensation system, HB 1698 was signed into law by Illinois Governor Pat Quinn on June 28, 2011, to be effective September 1, 2011. It represents the most significant workers' compensation reform in the state in decades.

The new law enacts many changes to the workers' compensation system. The four most significant in terms of reducing costs are:

  • Employers allowed to establish preferred provider organizations (PPOs) approved by the Illinois Department of Insurance
  • Wage differential payments for permanent partial disability claims limited to age 67, or five years, whichever is later, rather than lifetime
  • Replacement of all arbitrators for workers' compensation cases
  • Reduction in the medical fee schedule of 30%

PPOs

The intent in introducing the PPOs is to provide medical care at a reduced cost, similar to what would be provided by an employer's health insurance. In the case of workers' compensation, the employer is the "insured" and the employee is the "beneficiary." Membership in a PPO results in medical care offered at a discounted rate.

The act also limits the ability of employees to see out-of-network physicians in order to incent employers to adopt a PPO. If an employer does not have a PPO network, the employee has the right to choose two physicians. If an employer has a PPO and notifies the worker of its existence at the time of the injury, the employee can choose to see an out-of-network physician, but in doing so forfeits one of the two physician choices. If the employee uses up both physician choices in the network, the employee can choose a physician outside the network by submitting a written request to the Illinois Workers' Compensation Commission (IWCC).

The PPO network may only be used on accidents occurring after September 1, 2011; thus the effect on workers' compensation costs will be gradual and could take three to six years until a significant decrease in annual claim payments is realized. Payments on accidents occurring prior to September 1, 2011, will not be affected. A self-insured entity or insurer who maintains unpaid claim liabilities for claims occurring prior to September 1, 2011, will not experience a reduction in payments on those claims due to the introduction of PPO networks. Employers and insurers, though, should experience an immediate decrease in premium for policies written through September 1, 2011.

In the case of PPO networks, it may take additional time after September 1, 2011, for employers to establish PPO networks and have them approved by the state, delaying the potential cost reduction further.

Wage differential payments

Prior to the reform, a permanent partial disability injury would be compensated at two-thirds of the difference between the average wages in the occupation before the injury and the average wages in the occupation after the injury for the employee's lifetime. This led to rather large settlement amounts for permanent partial disability claims.

In an effort to reduce costs, the new reforms have eliminated the lifetime benefit for wage differential. The award may now only be paid until age 67, or five years from the date at which the award becomes final.

According to the National Council on Compensation Insurance (NCCI), permanent partial disability claims represent approximately 70% of indemnity costs in Illinois. Because indemnity costs are 50% of total workers' compensation costs, we would expect 35% of overall costs (50% x 70%) to be related to indemnity payments for permanent partial disability claims. We would expect the age limit on the wage differential to reduce permanent partial disability indemnity claims by 10%-15%, for an overall decrease of 3.5%-5.25% in workers' compensation costs.

This change becomes effective for any accident occurring on or after September 1, 2011. Claims that occurred prior to September 1, 2011, will not be affected, and thus, similar to the PPO, the reduction in annual payments will be gradual over three to six years. The reduction in premium for employers and insurers should be immediate for policies written through September 1, 2011.

Arbitrators

Arbitrators act as judges in workers' compensation cases. As a result, they can have a significant impact on the amount awarded to claimants. In an attempt to reduce these awards and improve the efficacy of the arbitration, the reform removed all current arbitrators and requires new arbitrators to be appointed by a workers' compensation advisory board. The governor recently named 12 people to this board, which has yet to appoint the new arbitrators.

In addition, the act also sets new training requirements, ethical standards, and fraud provisions for arbitrators. These changes are most likely the result of nearly $10 million of claims to 400 employees at the Menard Correctional Center awarded by a single arbitrator.

The impact of introducing new arbitrators is not clear. Any potential cost savings depends on how liberal the new arbitrators will be toward workers.

Medical fee schedule

The medical fee schedule, which was created in 2006, defines the maximum amount of medical fees paid to hospitals and doctors for workers' compensation claims. Prior to the reform, the fee schedule was set at 90% of the 80th percentile of billed charges within a given geographical area, adjusted yearly based on the Consumer Price Index (CPI). The fee schedule is to be reduced by 30% in the reform.

We estimate the impact of the reduction in the medical fee schedule to be a decrease of 5%-7.5% in workers' compensation costs. The 30% reduction is a reduction in the maximum amount payable to the physician. It is not a 30% reduction in medical payments. If a medical claim was below the new medical fee schedule cap of 63% (90% x 70%) of the 80th percentile of charges, the amount paid for the same claim under the new act would not change. The only impact will be for claims above 63% of the 80th percentile or about 75% of average billed charges. This is comparable to an amount that well more than 75% of physicians would typically accept for their non-workers' compensation services provided to patients covered by commercially insured PPO plans. We estimate the impact of the 30% reduction in the medical fee schedule will reduce medical costs 10%-15% based on typical distribution of billed charges.

In Illinois, the current split between medical and indemnity costs is roughly 50/50 (based on NCCI data). The 10%-15% reduction will affect 50% of workers’ compensation claim costs, or an overall reduction of 5%-7.5%. The medical fee reform in the act applies not only to new cases, but also existing cases, which means the effect of the reduction should be felt immediately within the next year.

Impact of the reform

Directionally, the legislature has made a step in the direction of reducing pure loss costs in Illinois, which far exceed the rest of the country. In Illinois, according to the NCCI, the average pure loss cost per $100 of payroll is $1.82, whereas the average for rest of the country is $1.13. It is not yet clear if the recent reform will close the approximately 60% difference in costs, but we expect a decrease in premium rates of 8.5%-12.75% (ignoring inflation and other loss trends) , which is due to the elimination of the lifetime wage differential payments and the medical fee schedule change. The annual workers’ compensation costs for insurers and employers in the state, will not experience the full decrease immediately, as some of the reforms only impact claims occurring after September 1, 2011.

The 8.5%-12.75% estimated reduction in costs can be summarized as follows:

  • 5%-7.5% reduction in medical costs
  • 3.5%-5.25% reduction in indemnity costs
  • No anticipated reduction in legal costs

Self-insured employers will have the advantage of experiencing claim reduction on old claims occurring prior to September 1, 2011, due to the Medical Fee Schedule revision. Employers who had purchased a fully insured plan with an insurer would not benefit from these reductions, as the premium for these claims has already been paid to the insurer.

It may take three to six years before employers and insurers experience an 8.5%-12.75% reduction in annual workers. compensation payments.

The 8.5%-12.75% reduction to an approximately $3 billion annual cost equates to an annual reduction in workers' compensation costs in Illinois of between $255 million and $380 million. Costs could be further reduced depending on the effectiveness and efficiency of PPOs and the new arbitrators.