A cost multiplier, or loss cost multiplier, is a simple factor used by insurance companies and workman's compensation providers to set the price of their premiums. It is calculated with minimal effort and can be done even with simple projections of company costs.
Calculate, if necessary, the loss cost modifier. This is a number in decimal form (i.e. 1.00), and is set differently from an even 1.00 only if your business has experienced profit loss from claims that differ from that of the traditional rates of the industry. The advisory organization that a business belongs to provides historical loss ratio (losses from claims divided by revenue from premiums) and sets that ratio to a modifier of 1.00. A company can use a different modifier if it shows data that has deviated from the industry standard.
Sum the total expense data from commission and brokerage expenses; acquisition expenses; general expenses; taxes, licensing & fees; underwriting profit and contingencies; investment income offset and any additional notable expenses. Add these totals in percentage form (i.e. 27 percent) of total expected losses.
Subtract the total percentage of losses from the company's expense information from 100 to find the expected loss ratio (ERL).
For instance, if a company's expense percent is 27, subtract 27 from 100 to find an ERL of 73.
Divide the loss cost modifier by the ERL (in decimal form) to find the loss cost multiplier.
For a modifier of 1.00, this would be 1.00/.73, using our example, giving us an LCM of 1.37. This is the number a company would use to adjust advisory rates to find their company premiums.
Changes in the loss cost modifier must be accompanied with data that justifies using a higher or lower modifier. General business expenses common to most businesses such as rent, salaries or utilities should not be included in the expenses relevant to expected losses.
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