Chapter 2 | Basis of Premium
Upon completion of this section, you should be able to:
- Define the following bases of premium and how they are calculated for premium determination: admissions, area, each, total cost, units.
- Define Gross Sales as a premium basis and list the items included and excluded when determining the amount to be used for premium calculations.
- Define Payroll as a premium basis and list the items included and excluded when determining the amount to be used for premium calculations.
- Explain what constitutes overtime and how it is applied.
- Be familiar with payments made to employees other than salary or wages to be included in remuneration.
A Basis of Premium is the unit we use to measure our exposure to potential loss. To this basis we apply a rate per unit to the total number of units to determine the premium we charge.
The basis of premium used for determining the premium charge for each classification is indicated in the classification section of the manual.
As can be seen by the Commercial Lines Manual Rule 24, Basis of Premium, there are many different premium bases, including: admissions, area, each, gross sales, payroll, total cost and units.
This premium base is used primarily for theaters, shows and sporting event classifications. It is meant to measure "the total number of persons, other than employees of the named insured, admitted to the event insured or to events conducted on the premises whether on paid admissions, tickets, complimentary tickets or passes."
It should be remembered that the admissions figure should include all persons (other than working employees) admitted. The price of the ticket is not relevant. Complimentary passes presented to the press and others should be included. Employees attending an event on a pass or complimentary ticket should also be included. AREA
Area as a premium basis is restricted primarily to office risks and lessor's risks.
The CLM provides that the area is calculated "by multiplying the product of the horizontal dimension of the outside of the outer building walls by the number of floors, including basements," according to the Commercial Lines Manual. (Length x Width x Number of Stories.) Area Included:
The definition for area in the CLM is intended to include the following:
»back to top Area Excluded:
- Balconies, porches, steps, verandas, entranceways inside the outer building walls.
- Air shafts, elevator shafts, stairways, the area of the mezzanine floors (excluding the are of the mezzanine floor opening. This is explained further in the exclusions listed below.)
- Premises occupied by tenants and concessionaires.
- Premises vacant.
- Basements — except as excluded below.
- Stockrooms and other areas inaccessible to insured's clients.
The manual provides that the area of a building or premise should not include the following:
- Courts and mezzanine types of floor openings.
- Portions of basements or floors on which 50% or more of the area is used for shop or storage in connection with building maintenance, dwelling by building maintenance employees, heating units, power plants, or air-conditioning equipment.
It is important to remember that this applies only to floors where 50% or more of the area is used for such maintenance activities and then only that portion is excludable. For example, if 40% of one floor of a multi storied building is used to house an air conditioning unit, the entire area of that floor must be included in the exposure development since it did not meet the 50% limitation.
If the air conditioning unit takes up 70% of the area of that floor, however, the auditor would exclude 70% of the total area of that floor. The remaining 30% portion of that floor, not used to house the air- conditioning unit, should be included in the area exposure development.
Each as a basis of premium involves units of exposure. The quantity comprising each unit of exposure is indicated in the classification footnotes. For example:
|Animals - saddle - private
|Animals - draft
|Athletic Program - amateur
|Camps - for profit
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The CLM defines gross sales as: The gross amount charged by the named insured, concessionaires of the named insureds or by others trading under the insured's name for:
Inclusions to Gross Sales:
- All goods or products, sold or distributed.
- Operations performed during the policy period.
- Rentals (product rentals, not real property).
- Dues or fees.
The following items are considered to be part of the gross sales and should not be deducted.
Exclusions to Gross Sales:
- Foreign exchange discounts. (A fluctuation in the exchange rate for foreign currencies would not alter the exposure created by the terms of the contract agreed upon by the two parties.
- Freight allowance to customers.
- Total sales of consigned goods and warehouse receipts.
- Trade or cash discounts. (Cash discounts represent the time-value of money; trade discounts represent a price preference for large orders or continued patronage. Neither has a bearing on the exposure created when the parties agreed to the terms of the contract.)
- Bad debts. (The inability of an insured to collect money for an item sold on account does not alter the continued exposure caused by the product remaining in the marketplace. See item f., repossessed goods.)
- Repossession of terms sold on installments (amount actually collected). Once removed, a repossessed item no longer represents an exposure to the public.)
Only the following items may be excluded or deducted from gross sales.
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- Sales or excise taxes which are collected and submitted to a governmental division. (To be excluded, the tax must be collected as a separate item and a record must be available to show where the insured has submitted those taxes to a governmental unit. Gasoline taxes, collected at the pump, do not meet these criteria: (1) they are not collected as a separate item, nor (2) does the service station owner remit them directly to the government. Gasoline taxes are generally paid by the refiner or the distributor.
- Credits for repossessed merchandise and products returned. Allowance for damaged and spoiled goods.
- Finance charges for items sold on installments. (Finance charges reflect the time-value of money and have no bearing on the exposure created by the sale of the product.)
- Freight charges on sales if freight is charged as a separate item on customer's invoice.
- Royalty income from patent rights or copyrights which are not product sales.
- Rental receipts for products liability coverage only.
Payroll is used as a basis of premium on only contracting and servicing related risks and a few miscellaneous risks. Payroll is defined by the Commercial Lines Manual, is defined as remuneration, which is money or substitutes for money.
The definition is further expanded through the use of specific inclusions and exclusions in a manner quite similar to the workers' compensation manual. However, some of the inclusions and exclusions are unique to liability coverage or at least are applied differently than in Workers' Compensation. Payroll Inclusions:
In addition to regular amounts earned, the following items should be included in remuneration:
»back to top Payroll Exclusions
- Extra pay for overtime work (except as provided in Rule 24.E.4.).
- Pay for holidays, vacations or periods of sickness.
- Payment by an employer of amounts otherwise required by law to be paid by employees to statutory insurance or pension plans, such as the Federal Social Security Act.
- Payment to employees on any basis other than time worked, such as piecework, profit sharing or incentive plans.
- Payment or allowance for hand tools or power tools used by hand provided by employees and used in their work or operations for the insured.
- Rental value of an apartment or house provided for an employee based on comparable accommodations.
- Value of lodging, other than apartment or house, received by employees as pay (to the extent shown in the insured's records).
- Value of meals received by employees as part of their pay (to the extent shown in the insured's records).
- Value of store certificates, merchandise, credits or any other substitute for money.
- Payroll of mobile equipment operators and their helpers, whether or not the operators are designated or licensed to operate automobiles.Insured's employees
The payroll of operators of mobile equipment, regardless of whether such operators are designated or licensed to operate automobiles is included. For example, if an employees spends 30% of the time operating mobile equipment and 70% of the time as a truck driver, such employee would be considered an operator of mobile equipment and 100% of his salary should be assigned to the appropriate construction classification.
Equipment rented from others
- Mobile equipment with operators. If mobile equipment is hired with an operator, the payroll of the operator is included and assigned to the appropriate classification. This rule also applies to those employees who move this equipment provided the equipment is moved under its own power. If actual payrolls cannot be obtained, then 1/3 of the total amount paid for the hire of equipment is used as wages.
Whether or not the renting company can provide the insured with a certificate of insurance has no bearing on the premium charge. A premium charge is made because of the liability arising from our insured's direction and control of the equipment and operator.
- Mobile equipment without operators. When our insured hires mobile equipment without an operator, the premium is based on the payroll of the employees, and the classification is determined by the use of the equipment.
- Payroll of executive officers and individual insureds and co-partners. This rule provides that a flat annual amount (or in some states a minimum and maximum per week) should be applied for executive officers, sole proprietors and co-partners wages. The auditor should refer to the state rate pages of the manual for the specific amounts.
Managers of Limited Liability Companies are considered executive officers and members (not acting as managers) of limited liability companies are considered as co-partners for premium remuneration inclusions.
The payroll of these persons is assigned to the appropriate classification(s) the same as for any other employee. If, however, they are engaged principally in clerical operations or as salespersons their payroll would be excluded for premium computation purposes.
For part-time or seasonal businesses, the payroll amounts may be reduced for officers, proprietors and co-partners by 2% for each full calendar week in excess of twelve during, which the risk performs no operations.
- The payroll of leased workers furnished to the named insured by a labor leasing firm. The leased workers are classified as if they are direct employees of the insured. If the actual payroll cannot be determined, 100% of the total cost of the contract for leased workers shall be used for payroll.
- Fees paid to employment agencies for temporary personnel.
According to the Commercial Lines Manual, payroll does not include the following for premium computation purposes:
- Tips and other gratuities received by employees.
- Payments by an employer to group insurance or group pension plans for employees.
- Value of special rewards for invention or discovery.
- Dismissal or severance payments except for time worked or accrued vacation.
- Payroll of clerical office employees.
- Payroll of salesmen, collectors or messengers who work principally away from the insured's premises.
- Payroll of drivers and their helpers.
- Payroll of aircraft pilots or co-pilots.
- Payroll of draftsmen.
If any employee classified as clerical office, salesperson, driver or helper, flying crew member or draftsperson is exposed to an operative hazard of the business, the entire payroll of such an employee would be assigned to the payroll-based operation. Overtime
The presence of overtime pay earned by employees of an insured will have a direct impact upon audit procedures undertaken by the auditor. The existence of overtime pay can first be discovered during the initial interview of the audit contact and later confirmed through examination of the insured's records. Sometime during the audit, the auditor must determine if the "overtime" meets the definition as stated in the ISO Commercial Lines Manual Rule 24.E.4.
Overtime means those hours worked for which there is an increase in the rate of pay:
- For work in any day or week in excess of the number of hours normally worked, or
- For hours in excess of 8 hours in any day or 40 hours in any week, or
- For work on Saturdays, Sundays, or holidays.
The auditor must determine if the insured's books and records conform with the Manual rule that allows for the exclusion of the excess portion of the overtime wages. The CLM requires the insured to show overtime pay separately by employee and in summary by classification. This requirement can be met either by the insured preparing a separate schedule or by summarizing overtime pay in the payroll records. This can be done manually or as a standard function within a computer payroll service.
The next step the auditor will take is to determine what method the insured used to show the overtime pay. The records may provide just the premium portion of overtime pay or show the total overtime pay. Keep in mind that the intent is to exclude only the excess portion of overtime earnings.
Care should be taken in reviewing the amounts included in the overtime column of the insureds records as this column is sometimes used for such items as jury duty pay, shift differential or payments for holidays worked.
If everyone is paid at the rate of 1.5 times the regular rate, one-third of the overtime payment should be excluded. This deduction, in effect, adjusts the overtime wages back to regular wages. Likewise, if overtime is paid at double time, one-half of the overtime is deducted.
If the insured fails to properly maintain the records, the auditor should explain the need to keep these records to allow for the premium overtime deduction and its favorable impact on the insured's premium. If after explaining this procedure the insured refuses to segregate the overtime pay, the auditor should explain that those payments will be included in premium determination.
Also, it should be indicated on the audit worksheet why the deduction was not allowed. Additional information that may be shown on your worksheet as a guide for next year's auditor: indicate the source records used to obtain the overtime pay and whether the schedule is prepared as premium pay or as overtime pay.
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Other Overtime Comments:
- 1) Premium overtime is not deducted in Delaware, Pennsylvania or Utah for Workers' Compensation but is deducted in all states for General Liability.
- 2) An exception to the overtime rule applies to payrolls assigned to any classification under the caption "Stevedoring." Such overtime is not excludable. The stevedoring wage rate structure varies according to the type of cargo. A review of the applicable wage rates or "cargo rates" to determine the exclusion of extra pay for overtime would be both cumbersome and unrealistic. Accordingly, the overtime rules show the above exception.
- 3) So called "premium" pay is not subject to the overtime rule. Premium pay is a higher rate for night work, weekend work, or work under special conditions or work at unusual hours. The premium pay is the normal rate for such work. However, if employees work in excess of the normal period and receive a rate of pay over and above the premium pay rate, the rule does apply.
- 4) Some employers pay their employees for extra time not worked, e.g., paid for eight hours when in fact only seven hours were worked. Such wages for time not worked are not deductible as there was no overtime work involved, i.e., no wages above the normal rate for overtime actually worked.
- 5) When a payroll limitation applies, the premium overtime deduction is performed prior to the limitation calculation.
Total cost means the total cost of all work let or sublet in connection with each specific project, including:
- the cost of all labor, materials and equipment furnished, used or delivered for use in the execution of the work, however, do not include the cost of finished equipment installed but not furnished by the subcontractor if the subcontractor does no other work on or in connection with such equipment; and
- all fees, bonuses or commissions made, paid or due.
Considering a situation involving the construction of a single-family, detached private residence in which the general contractor involved uses only subcontractors. Though many of the subcontractors will provide both labor and material in performing their tasks, the general contractor will also provide the equipment and many of the materials used on the project. The total cost of the residence is not only what is paid to the subcontractors (whether they provide their own materials or not) but also all the materials and equipment provided by the contractor that is used in constructing the house.
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TOTAL OPERATING EXPENDITURES
Total operating expenditure is the premium base for governmental subdivision classifications. It is defined as the "total expenditures (including grants, entitlements and share revenue) without regard to source of revenue during the policy period, including accounts payable." Total Operating Expenditures Inclusions:
Total Operating Expenditures Exclusions:
- Capital Improvements — work performed by the named insured in connection with any purchase or improvement of any individual item of personal or real property which is bonded or financed, including interest thereon, or exceeds 5% of Total Operating Expenditures.
- Expenditures for independent contractors operations when the contractor does not carry adequate insurance.
- Any federal or state funds for the sole purpose of training employees unless a separate policy with adequate coverage and limits have been issued in the name of the governing body of such funds with the governmental entity named as an additional insured or a hold harmless agreement in favor of the governmental subdivision exists.
Items to be separately classified and rated for Governmental Subdivisions:
- Capital Improvements — any purchase or improvement of any individual item of personal or real property which is bonded or financed, including interest thereon, or exceeds 5% of Total Operating Expenditures.
- Expenditures for independent contractors operations where the contractor carries adequate insurance.
- Welfare benefits including expenditures for activities designed to provide public assistance and institutional care.
- Expenditures from the intragovernmental Service Fund if funding is budgeted for and received from other funds.
- Expenditures on those exposures which are separately rated.
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- Amusement parks
- Exhibition or convention buildings (including arenas and auditoriums)
- Dams, levees or dikes — existence hazard
- Golf courses
- Housing projects — e.g., urban development and public housing
- Lakes or reservoirs — existence hazard
- Medical care facilities & services — e.g., hospitals, clinics and sanitariums
- Penal institutions, jails — e.g., correctional institutions
- Schools or colleges
- Ski facilities
- Stadiums, bleachers or grandstands with total seating capacity in excess of 5,000
- Streets, roads, highways or bridges — existence hazard and maintenance hazard
- Street, road, highway or bridge construction
- Transportation systems, facilities and services including airports, bus systems or other mass transit facilities such as subways and aircraft
- Utilities — electric, gas, water, steam
- Wharves, piers, docks, marinas and watercraft
This basis of premium refers to the quantity of exposures involved, normally used with habitational classifications. The manual defines units as a single room or group of rooms intended for occupancy as separate living quarters by a family, by a group of unrelated persons living together, or by a person living alone. Examples of this are the various apartment building classifications.
PREMIUM BASE SYMBOLS
When reviewing a specific classification in the classification table, the appropriate premium base will not be spelled out for you. Instead, a symbol (letter) is used to indicate the premium base.
These symbols, which are defined on page CS-1, are as follows:
a - Area
c - Total Cost
m - Admissions
p - Payroll
s - Gross Sales
t - See classification notes
u - Units
Another symbol that may appear in the premium base column for General Liability is a dagger or plus sign, such as p+. It means that coverage for Products and/or Completed Operations is included in the Premises/Operations coverage at no additional charge. This definition is contained in the CLM on page CS-GR-3. »back to top