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Wider use of stock options as compensation increases comp premiums

Wider use of stock options as compensation increases comp premiums

For years companies have paid senior executives a large portion of their total annual compensation in performance bonuses, stock grants and options for future shares.

Now many companies are adding bonuses and incentive pay such as stock options to the compensation packages of middle managers, and in some industries lower- level employees. Although this compensation trend helps attract and retain skilled workers, it can have the unintended effect of increasing firms' workers compensation premiums, experts say.

To provide clarity, the National Council on Compensation Insurance Inc. is reviewing how bonuses, stock options and other types of rewards should be factored into workers comp premium calculations as more employers offer such compensation to their workers. Premium is generally determined by worker job classifications, employee wages and a company's experience modification factor.

NCCI helps 38 states set their workers comp rates. The Boca Raton, Florida-based rating and review agency expects to make recommendations by the end of this year if its underwriting committee determines that states should change how bonus pay factors into workers comp premiums, said Peter Burton, Wayne, Pennsylvania-based senior division executive for state relations at NCCI.

“I have heard that it is a rather rude awakening when they find out that they're going to be charged for workers comp premium based on either those bonuses or stock options,” said Charles Darrigrand, St. Louis-based area senior vice president and managing director of the casualty practice group at broker Arthur J. Gallagher & Co.

As more companies provide such reward pay to nonexecutive employees, experts recommend employers talk with their workers comp insurers ahead of granting bonuses in order to budget for or possibly prevent higher-than-expected premium bills.

The issue of how bonus pay affects workers comp premiums affects companies of all sizes. It is particularly difficult for mid-market employers that buy guaranteed-cost workers comp policies, which are more susceptible to premium fluctuations, or that don't calculate employee bonuses as increased payroll for workers comp, experts say.

Workers comp insurers can issue audit bills at the end of a policy term charging additional premium based on a higher payroll amount.

Sources say factoring payments such as bonuses, stock grants and stock options into workers comp premiums stems in part from such payments being common for senior executive compensation.

“If you're the CEO and you made $5 million last year and you're headquartered and work in the state of New York, New York's going to say only $100,000 of that goes into the work comp model for payroll purposes,” said Stephen Hackenburg, chief broking officer with Aon Risk Solutions' national casualty practice in New York.

However, while executive officers have limits on how much salary can be calculated in workers comp premiums, compensation for nonexecutive employees can increase significantly because of bonus pay, driving up comp costs.

“In the technology industry out in California, for example, giving stock options to those employees is the norm,” said Mark Walls, St. Louis-based senior vice president and workers compensation market research leader at Marsh L.L.C. “That's how you attract and retain workers in that industry is stock options, because that stock is worth a tremendous amount of money.”

NCCI began reviewing how bonus pay can be factored into workers comp premium when it revived its underwriting committee in 2012.

“We're looking to see if things need to be updated, deleted modified, explained better ... as to what constitutes payroll for the purposes of premium calculations in workers comp,” Mr. Burton said. “An endeavor like this, which is very broad in scope, has not really been accomplished for many years.”

Meanwhile, employers are “frustrated that (paying bonuses) didn't really change their workers compensation risk profile,” Aon's Mr. Hackenburg said of companies hit with unexpected work comp premium increases. “It just was a tool to help them motivate people, so they often try to find a way around that, and sometimes they are successful and sometimes they're not.”

Experts say companies that receive large premium audit bills after paying bonuses or giving stocks to workers often have a difficult time trying to challenge such bills with their workers comp insurers.

Companies should discuss any future employee bonuses with their workers comp insurer to see whether such payments can be made without causing a spike in comp premiums, said Pam Ferrandino, executive vice president and casualty practice leader for Willis North America Inc. in New York.

“If you know that most likely you're going to pay larger-than-average bonuses to your employees during the course of that year, I would suggest that you talk to the carrier ahead of time,” Ms. Ferrandino said. “Because why would you be paying a risk premium to the carrier when there's really not additional risk to them” in terms of potential injuries?