Schedule Rating

Study guide: Exam 5

Schedule Rating applies underwriter-assigned debits and credits to the manual premium for characteristics of the individual risk that the classification system does not capture — the physical condition of premises, management quality, safety programmes, employee selection and training, loss-control practices.

\text{Schedule-Rated Premium} = \text{Manual Premium} \times \left(1 + \sum_k s_k\right)

• Where experience rating looks at what happened, schedule rating looks at characteristics expected to have a material effect on future losses that are not reflected in the manual rate — or, if experience rating applies, not adequately reflected in the past experience. A newly implemented loss control programme is Werner's example. When both apply, the underwriter must avoid double-counting: the new programme will eventually show up in the loss experience too.
• The filed schedule lists eligible categories with maximum credits and debits, and credits and debits are typically subject to an overall maximum modification — 25\% in Werner's illustrative workers compensation plan. State laws and regulations generally require the filed guidelines to be applied consistently, and documentation is often required to support each credit and debit.
• Order of application: schedule rating alters the manual rate, or — where experience rating applies — the manual rate as modified by experience rating, as the filed rating algorithm sets out.
• The weakness is judgment. Characteristics can be objective (years a physician has been licensed) or subjective (quality of management); objective ones are easier to quantify and validate, but schedule rating often requires significant underwriting judgment — which is why consistent application and documentation are required.
• Because credits are judgmental, they are also a source of rate level leakage: the filed manual rate can be adequate while the achieved rate is not. Subjective debits and credits complicate putting premium on-level, and the actuary may measure how credit and debit practices have changed by reviewing their distributions over recent years.

Applying a Schedule Modification A commercial general liability risk has a manual premium of \$20{,}000. The underwriter assigns a -10\% credit for an excellent safety programme and a +5\% debit for the age and condition of the building. The risk also carries an experience modification of 0.90.

Compute the standard premium.

Answer

\begin{align*}
\text{Net schedule modification} &= -10\% + 5\% = -5\% \\[4pt]
\text{Schedule-rated} &= \$20{,}000 \times 0.95 = \$19{,}000 \\[4pt]
\text{Standard premium} &= \$19{,}000 \times 0.90 = \$17{,}100
\end{align*}

The two modifications together deliver a 14.5\% reduction from manual. Note that the discount rests on two different kinds of evidence: the 0.90 is what this risk's losses actually were, while the -5\% is what an underwriter expects them to be — and only the first is auditable after the fact.

Schedule Credits Eroding Rate Adequacy An insurer files a +8\% manual rate increase. Over the same period the average schedule credit on its book moves from -6\% to -13\%.

What is the achieved rate change, and what should the actuary do?

Answer

\begin{align*}
\text{Achieved factor} &= 1.08 \times \frac{1 - 0.13}{1 - 0.06} \\
&= 1.08 \times \frac{0.87}{0.94} \\
&= 1.08 \times 0.9255 \\
&= 0.9995
\end{align*}

The achieved rate change is essentially zero. The filed increase was given back entirely through underwriting discretion, and the book's rate adequacy is unchanged while the filing suggests it improved by 8\%.

Three consequences follow:

1. The on-level factors used in the next indication are wrong. They reflect the filed +8\%, not the achieved 0\%, so historical premium is being over-adjusted and the next indication will understate the rate need. Schedule credits must be tracked and reflected in the rate level history.
2. The next indication will therefore ask for less than the book needs — an error that compounds each cycle it goes unnoticed.
3. The pattern itself is the finding worth escalating: a seven-point swing in average credit across a book is a pricing decision being made outside the pricing process.