Tuesday, September 20, 2016

Risk Avoidance and Exemptions

There is a tendency to avoid risk. We do it personally, and we commend it to our children. Slow down on rainy roads, be aware of erratic vehicles, check the oil in your car. Through our own care, we hope to avoid issues and problems. We look out for dangers and risks and seek to minimize their potential impacts on us. 

Insurance companies similarly perceive risk. They are in the risk business. No one can eliminate risk completely. Life is a risky business. Both natural and human events can lead to danger and damages. We have seen the human side all to often recently with dramatic events such as terrorist bombings, and the perhaps more mundane motor vehicle accidents. The natural world is no less threatening, as Hurricane Hermine recently reminded us. Some of these events are perhaps more newsworthy than others. Some are perhaps more likely for us personally. But, they are all risks. 

Insurance at its core is about managing individual risk through spreading the potential effects across a large population. The fact is that someone somewhere will suffer a motor vehicle accident this morning. Not everyone today will have such an event, but someone will. That person will experience some level of property damage, perhaps some degree of injury, likely some delay in the otherwise normal progression of her or his day. Events result in at least inconvenience and in the worst outcomes damage. 

The concept behind insurance is simple enough. A large population that "could" suffer an event each pays a premium for insurance against such an event. I had an insurance professor years ago who explained that insurance is in some ways like gambling. Except in this instance you put your money on the table with every hope and wish that you do not "win" the bet. In other words, in buying insurance one certainly hopes that it never pays off. 

When one buys life insurance, the best outcome is still that you live rather than die. When one buys automobile insurance, you still hope that no accident or injury occurs. When one buys flood insurance, the hope is still that your house does not flood. And the examples continue. 

There is a natural tendency for people to buy insurance only if they perceive a risk of loss. If one lived on the side of a mountain in Colorado, miles from the nearest stream, then the tendency might be to fore go purchasing flood insurance. Flood insurance does not cover damage from falling water (rain) but only for rising water (which may nonetheless be caused by volumes of rain). If you live on the banks of the Mississippi river, that may be more of a concern than if you live on that Colorado mountain.

Likewise, when we perceive ourselves as healthy there may be less inclination to purchase health or life insurance. So, there may be very few Floridians who have insurance for earthquake, while more Californians do. The concept of insurance cannot function if the only people who purchase coverage are the people who will ultimately certainly need it. The concept is only viable when a population of people who might need it purchase it fully hoping that it will never be needed. Many of us buy life insurance in hopes we will live, and as we win that bet each day our premiums are used to pay the survivors of those policy owners who are not so lucky.

Insurance companies are generally adept at predicting risk. They study the potential for having to pay a loss. Before selling wind insurance, a company will study the probability that wind damage will occur in that area. The same is true for sinkholes, earthquakes, flood, and more. Certainly, Floridians could buy earthquake insurance, but the likelihood is it would never be useful. Conversely, coastal Floridians could elect not to buy wind or flood insurance despite the probabilities of hurricanes and the storm surges they bring. 

These are broad concerns, applicable to the insurance decision because of location. Insurance companies make similar decisions based upon classifications. Women are likely to live longer, young men are more likely to be involved in motor vehicle accidents, a particular car may be expensive to repair following a collision, another car may demonstrate a history of less severe personal injury in collisions. It is an industry that measures and predicts risk associated with various aspects of life. Those predictions are based upon available information.

In some forms, people decide whether and how much insurance coverage to purchase. Whether to have life insurance or not is a personal decision. And yet, the purchasing decision is also potentially influenced by others. 

Sometimes, the government steps into the equation and requires certain coverages. Most states require vehicle owners to purchase liability insurance (to pay for damages to others that result from an accident), but may not require the purchase of comprehensive insurance (to pay for damage to the vehicle owner/insurance purchaser's own car). Likewise, government has mandated that every American purchase health insurance coverage. Curiously, I am assured repeatedly that despite that mandate a notable population of Americans remain without such coverage. 

Workers' compensation is similarly required by government in most states. Unlike the automobile example above, however, in many states workers' compensation is required only for certain employers, depending upon sometimes complex variables including the type of business or the number of employees. With the auto it is simple: if you own a car, you have to have liability insurance. Without proof of that purchase, you cannot get a license plate. When stopped while driving, the police can confirm proof of insurance and penalize the driver in the event such proof is elusive. 

It is obviously beneficial to everyone that every car on the roads has some level of insurance. Motor vehicles can cause damages and injury, and there is logic in assuring that some degree of financial responsibility is assured. But is it as logical that some degree of financial responsibility is assured for every employment situation? And thus, there is a fair amount of debate regarding whether "exemptions" from workers' compensation are logical or appropriate. 

For example consider two workers are doing identical work. Their job is to drive a vehicle loaded with cupcakes from a bakery to a reception. Each drives an identical vehicle, loaded with identical products, to an identical destination in the same city. Each delivery vehicle is struck by an identical vehicle resulting in identical injury to the delivery drivers. Each delivery driver misses a month of work recovering from the injury. Driver one is provided medical care and her lost earnings are paid by workers' compensation. Driver two has to pay her own medical bills and receives no immediate compensation for lost wages. 

The difference in their treatment is simple, driver one worked for a large bakery that was required to provide workers' compensation and driver two worked for a small bakery that was "exempt" from the requirement. Over time, each driver may receive payment from other sources, such as the auto insurance on either the delivery vehicle or the one that struck it. But those may be less timely, less extensive, and subject to a variety of debates regarding fault.

We expect there to be automobile insurance on the delivery vehicle (for medical bills). There should be auto insurance on the vehicles that struck them. Despite the mandate for auto liability insurance, however, there are a fair number of vehicle owners that do not maintain that coverage. And, there is the persistent potential that such coverage may not be sufficient, even if it is appropriately owned and maintained. 

Those who do not have insurance are retaining risk. The small bakery owner that is not required to purchase workers' compensation could still do so voluntarily, and avoid risk. The vehicle owner that is required to purchase certain liability coverage could nonetheless elect to purchase more. In those decisions of purchasing insurance, we are each making decisions as to how much risk we should retain, and how much risk we avoid by paying a premium today that limits our exposure later. 

In a world that makes no exception for vehicles or health insurance, some question why there are complex and various distinctions regarding who must purchase workers' compensation insurance. Does this business have the requisite number of employees? What is an employee in this state? Are some of the people that work at this business not employees because they are "officers" or "directors" or "owners?" Are some of the people working at this business not employees because they are "independent contractors?" Are some workers not employees of this business because they work for (are paid by) some other company despite the fact that they perform work at this business? Are some of the people working here not employees because of definitions and exclusions in the law itself?

There may be an incentive for those engaged in some businesses to avoid purchasing workers' compensation insurance. Perhaps this inclination to avoid cost, and thus maximize profit, is natural. Employers who avoid this expense are perhaps advantaged in their competition with other employers. It is perhaps possible for these non-workers' compensation employers to perform work at a lower cost, while maintaining similar profits. The business owner is retaining risk in the same way that an individual may retain risk by not purchasing other forms of insurance. 

When this occurs within the confines of the law, two very similar people like the delivery drivers described may receive very different treatment because of the size of their respective employer. And despite the possible conclusion that this is "not fair," it is an outcome that the law allows in various forms in most states. Recently, there have been determinations that the exclusion of certain workers, in certain contexts, is a denial of constitutional rights. New Mexico has recently concluded that the statutory exclusion of farm laborers is such a denial

But, it is also possible that the distinctive treatment can result from inappropriate manipulation of the law. Where employees are mischaracterized as "contractors," for the purpose of avoiding the requirements of the law, risk is retained. That retained risk affects the employer that is taking the risk knowingly. Unfortunately, the retained risk also affects the employees who only learn of the risk after an injury, when there is no care or benefits. The employee may be profoundly impacted by the absence of workers' compensation coverage. 

There are those who posit that workers' compensation would be better without such exclusions and exceptions. If every working person were required to have workers' compensation coverage, just as every vehicle is required to have liability insurance, they see less opportunity for inappropriate behavior. They see less potential for two very similar workers to receive very different care, treatment and benefits. They argue that through such mandatory coverage, the risk pool (all those paying in, in hopes of winning through suffering no accidents) is larger and overall the costs to all would be minimized. They see little justification for the distinctions in a world in which mandatory coverage for health is seen as an appropriate governmental goal. 

As the debate regarding the future of workers' compensation continues, it will include "exemptions" and "misclassification" and coverage. It will be interesting to see what conclusions policy-makers reach in addressing the implications and effects of these legal definitions. Some will argue that tightening definitions and eliminating exemptions would not solve all the issues. But is the elimination of all issues the test? Or, is the goal to make things better? 

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