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California workers' comp reform: A one-year checkup

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It now has been over a year since Gov. Arnold Schwarzenegger signed into law the workers' compensation reform proposed under SB 899.

The primary reason for this radical shift in the California workers' compensation market was to take control of spiraling claim costs and the resulting increases in insurance premiums paid by employers.

The cornerstones of this law were to control medical treatment with the advent of the Medical Provider Network (MPN), tie treatment to a standardized guideline (American College of Occupational and Environmental Medicine), take out subjectivity as it relates to the determination of a permanent disability for injured employees (American Medical Association rating schedule) and to allow for apportionment regardless if the employee had a prior award for a previous injury.

Many believed that these changes, along with others included in SB 899, would result in reduced premiums.

Probably the most significant change under SB 899 was the creation of the MPN. The intent of the MPN was to provide timely treatment for employees while at the same time controlling medical treatment costs.

In 2004, medical costs accounted for 49 percent of every dollar spent on total loss payments, according to a Workers' Compensation Insurance Rating Bureau bulletin, and continues to be the major cost driver of the overall value of a work comp claim.

The question often asked is if treatment is still a major factor, how will an MPN provide any benefit? When one considers that virtually every dollar paid on a work comp claim is based on a medical determination, then it stands to reason that costs can be controlled through the implementation of a managed medical system that is tied to strict treatment guidelines, the MPN.

The MPN is created by the employer and/or its insurance carrier and approved by the administrative director of the Division of Workers' Compensation.

By participating in a carrier's MPN (insured employer) or developing its own (permissibly self-insured employer) the employer will have the right to medical control for the life of each work comp claim, assuming the employer completed the employee notification process and an employee has not already predesignated his or her own physician.

An employee can attempt to opt out of the MPN but the process to do so is challenging and ultimately reverts back to ACOEM treatment guidelines and whether or not the MPN physician was following those guidelines, according to Labor Code section 4616.3.

The MPN section of SB 899 became effective as of Jan. 1, 2005, so it is a bit early to determine its overall effectiveness; however, the assumption is that since an MPN is tied to the ACOEM treatment guidelines, then there will be certain cost savings associated with this.

The ACOEM treatment guidelines came into effect on April 19, 2004, and applied to all injuries regardless of the date the injury occurred. These guidelines were adopted by Administrative Director Andrea Hoch, a move supported by both employers and insurers.

By adopting these guidelines, ACOEM is now presumptively correct on all aspects of medical treatment. There are some that would argue the scope of ACOEM is too limited and would potentially prohibit required treatment; however, a study completed by the California Workers' Compensation Institute states there is no evidence that medical treatment above and beyond that recommended by ACOEM results in improvement for the injured worker, according to a June WC Executive Flash Report.

With regard to the costs associated with medical treatment, it would appear that utilization review and ACOEM are having a positive effect. Medical costs have declined from 54.4 percent of the overall claim cost in 2002 down to 49 percent in the early stages of 2004.

Another significant declining cost factor is that of permanent disability. As of Jan. 1, 2005, all claims where the permanent disability decision is made in 2005 and later, will now be subject to the new permanent disability rating schedule utilizing the American Medical Association guidelines.

These guidelines are designed to take the subjective factor out of the final rating process and base an impairment rating on the "whole person" as opposed to the specific injury. The California Applicant Attorney's Association and members of organized labor have made several attempts to block or alter the new rating schedule but thus far, all have failed.

In June of 2005, the Supreme Court threw out organized labor's challenge to the rating schedule, and in July they did the same with the motion filed by the Voters Injured at Work, a group that works closely with the California Applicant Attorney's Association.

These groups argue that the new rating schedule will cut disability awards by 50 percent or more and this is not consistent with the intent of SB 899. The Office of Administrative Law did not agree with this position and approved the new rating schedule.

A study conducted by Frank Neuhauser of the University of California, Berkley, and presented to the Commission on Health and Safety and Workers' Compensation, indicates that permanent disability ratings are down nearly 40 percent as compared with the old rating schedule, according to an August WC Executive Flash Report.

In addition to the new AMA rating guidelines, the changes to apportionment presented under SB 899 are further reducing the overall permanent impairment being awarded to injured workers.

Apportionment was and is another heavily contested section of SB 899. The first ruling that came from the Workers' Compensation Appeals Board determined that an employer is only responsible for the permanent disability caused by the industrial injury.

The decision (Escobedo v. Marshalls and CNA Insurance Co.) was unanimous and supported the intent of SB 899 in that an employee's previous injuries and/or disabilities can now be considered when making a final determination as to the overall level of disability specifically related to the industrial accident.

This is significant in that the law was applied retroactively for all dates of injury pre- and post- April 19, 2004, the date SB 899 was signed into law.

In another significant ruling (Nabors v. Lumber and Mill Company and State Compensation Insurance Fund), the WCAB ruled that when determining the final rating for permanent disability, apportionment is to be applied as a percentage of the prior disability or pre-existing condition and not as a dollar value associated with a particular level of permanent disability.

In most instances, subtracting the percentage of a prior award or pre-existing disability from the current permanent disability will result in a lower overall monetary value and therefore, a lower settlement value. The end result of both these cases is lower permanent disability on a larger number of claims.

Increased medical controls for the employer and insurer, declining medical costs, reduced permanent disability awards and increased apportionment have all led to declining premiums.

In its first annual report of progress, the Division of Workers' Compensation reports that the WCIRB reported a peak level of $6.35 per $100 of payroll in the last quarter of 2003.

By the end of the third quarter of 2004, the rate was $5.34 per $100, which is a reduction of 16 percent.

It is important to note that this reduction does not take into consideration reduced permanent disability as that did not take effect until January of 2005. Since January of 2005, additional rate reductions were recommended and most were adopted.

If the insurers pass the changes, the projected average rate would be $5.22 per $100 of payroll or a 26.3 percent reduction as compared to peak rates charged in 2003.

The WCIRB first quarter report for 2005 provides a clear picture of the effects of AB 227, SB 228 and SB 899 in the March WCIRB Summary and the August Insurer Experience.

According to the report, the California written premium reported for the first quarter of 2005 was $5.9 billion which is approximately 8 percent less that that written for the first quarter in 2004. The average insurer rate was $5.21 per $100 of payroll for policies written in the first quarter of 2005 and this is approximately 18 percent below the average rate charged for the second six months of 2003.

These same legislative changes are also having a dramatic impact on employer-loss ratios. The loss ratio reported for the first quarter of 2005 is 61 percent and this is the lowest first quarter ratio reported since 1997.

It is important to note that the MPN and new permanent disability-rating schedule did not become effective until Jan. 1, 2005. It is expected that the numbers noted above will continue to decline once the full effects of the MPN and AMA rating schedule are further realized.

Some industry analysts believe that true savings from SB 899 will not occur for several years; however, the initial indications are that the savings are occurring already and this is reflected in the decline in insurance premiums. It is clear from recent litigation and initial industry data: SB 899 is having the desired effect on the California Workers' Compensation market.

Premiums continue to decline and more control is being afforded insurers and employers in the management of work comp claims. Gov. Schwarzenegger's goal for SB 899 was to make " . . . [California] once again a powerful job-creating machine."

With declining rates and better control over claims, California once again can become an attractive state for doing business.

Cruz is the assistant director of Barney & Barney's Risk & Loss Advisors Division. For more information call (858) 587-7577 or e-mail jeffc@barneyandbarney.com.>

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