September Risk Management Tip of the Month

Beware of adjuster pay schemes that link contingent income to attaining certain financial benchmarks. These might be savings on an individual claim or claims. It might be linked to lowering a loss ratio, lowering reserves or reducing claim payments from one year to the next.

The job of the claims department is to pay claims.

Period.

Adjusters should pay claims frugally. They should pay only meritorious claims. They should fight bogus claims. But their job is to pay claims per the insurance contract language.

The adjuster’s job is not to turn a profit, to advance a company’s A.M. Best rating or to max out on the incentive compensation plan. Once these factors start seeping into the adjuster’s consciousness at the file-handling level, mischief creeps in. Dysfunctional incentives drive suspect claim practices.

Hmm, low-ball those settlement offers to “save something” off the reserve. Ignore a policyholder’s demand to settle that potential excess claim within policy limits because you want to “save something off” those limits by rolling the dice at trial. Drag out payments to defense law firms to minimize payouts and maximize company cash flow. Delay issuing claim payments in order to boost the financials that will be reported to the Board of Directors or to shareholders.

We hope that savvy claims handling will result in the insurer turning a profit, retaining a pristine A.M. Best rating and producing a sweet payout in incentive compensation. Those are byproducts, though, of astute and good faith claim practices. They cannot be the guiding principle. The pernicious effect of financial incentives can create dysfunctional behavior on the part of claims people who now see their job - not as acting in good faith toward insureds and claimants - but somehow turning the claims department into a profit center.

If you don’t tie incentive income to financial goals, what are the alternatives? Well, companies can tie such contingent comp to metrics like:

• adjuster productivity (caseload size, turnover, efficiency)
• customer satisfaction, as measured by client surveys or anecdotal feedback (complimentary or complaint letters)
• professional development (taking continuing education courses, seminar attendance)
• qualitative assessment (thoroughness of investigation, analysis of coverage and damages, negotiating skill, etc.)

During discovery, attorneys for former nursing home cook Alice Torres discovered an incentive program at Travelers Insurance Co. Under this plan, the carrier allegedly offered adjusters up to 100% of their salaries in bonuses for reducing the overall payout of claims from one year to the next. (Travelers denied the existence of any such program, as did its related co-defendants Constitution State Services and Insurance Co. of the State of Pennsylvania.) The insurers insisted that the underlying claim was bogus, and that the carpal tunnel syndrome was not work-related. Still, Travelers was hit with $8.5 million of the punitives. Torres v. Travelers Insurance Company, No. 01-5056 (D.S.D.). Despite that, the focus of the litigation morphed from the underlying claim’s legitimacy to the propriety of the insurers’ adjuster compensation plan. Doubtlessly when it launched the plan, the insurer’s top financial management applauded themselves for their results-oriented thinking in linking adjuster pay to the corporation’s financial goals. Right on - It’s about time we held those claims people accountable for financial results!

Right on, indeed.

Right on . . . into the bad faith cesspool.

What does this have to do with risk management? Plenty! One big risk that insurers manage is the risk of bad faith. If contingent income schemes tempt adjusters to cut corners in order to boost financial results, bad faith exposures accentuate. Further, such pay plans may invite scrutiny from state insurance commissions, any of which can initiate a market conduct survey. Adjuster pay plans that heighten that risk become corporate liabilities, meriting reassessment on risk management grounds. Most insurance companies have a risk manager or at least someone - perhaps without that exact title - who fulfills this role. A well-managed insurance company (or TPA) risk management program must assess the risk of bad faith or market conduct woes due to adjuster compensation plans. Pay schemes that increase bad faith and market conduct risks should flunk on risk management grounds.

Kevin M. Quinley CPCU is Senior Vice President, Medmarc Insurance Group, Chantilly, VA. You can reach him at kquinley@medmarc.com or at his website, www.kevinquinley.com. His newest book, Adjusting Adversity: How Claim Pro’s Handle Worst-Case Scenarios, is published by The National Underwriter Company, www.nuco.com.