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Employee Leasing & PEOs

Discussion on employee leasing, PEOs; laws, rules for classification and experience rating, assigned risk rules.;

Definitions
Professional Employer Organization (PEO): the employee leasing company, labor contractor or lessor; provides the workers to the clients

PEO (as defined NAPEO): "A Professional Employer Organization (PEO) is defined as an organization that provides an integrated and cost effective approach to the management and administration of the human resources and employer risk of its clients, by contractually assuming substantial employer rights, responsibilities, and risk and, through the establishment and maintenance of an employer relationship with the workers assigned to its clients."

Client: the lessee; recipient of workers

More detailed definitions appear in the Basic Manual Rule 4-B, green page AR22.
 

What is it?
Employee leasing is an arrangement, under contract or otherwise, whereby an employer obtains all or a significant number of its employees from a labor contractor. Employee leasing arrangements include, but are not limited to, full service employee leasing, help service supply leasing, payroll transference, long term temporary arrangements, and any other arrangement which involves the allocation of employees among two or more entities. These leasing arrangements are of a long term or permanent nature and distinct from temporary, short term or seasonal workers.
 

Background
During the 1980's, the growth of employee leasing operations became a major concern to the workers compensation insurance industry. In the typical employee leasing arrangement, an employer "fires" the entire staff at the end of a working day and the staff is immediately "rehired" by the employee leasing contractor. From a workplace perspective, nothing has changed in the operations of the business except for a contract that indicates the leasing company is now the "employer" of the staff. The only significant change noticeable to the staff is that paychecks now originate from a different source.

A typical employee leasing contract establishes that the leasing company is the "employer" of the staff that is working at the client's location(s). Also, the contract usually provides that the responsibility for securing workers compensation insurance rests with the leasing company. What became a confusing question with the introduction of employee leasing is, who is the employer?

While the contract indicates that the leasing company is the employer, the employees continue to work on the premises of the client. Since employee leasing was a fairly new concept, laws were not on the books which specifically defined the employer in a leasing arrangement. As such, any questions that arose relating to the determination of which party held the employer-employee relationship had to be established on a case-by-case basis using the state's common law tests.

This ambiguity led to many issues with respect to insuring leased workers. The issues have been addressed to a large extent by updated laws, and rules in classification, experience rating, and assigned risk as summarized below.
 

Indiana Law
The Indiana statute (IC 22-3-6-1) recognizes both the lessee and lessor of employees as the employer. This brings both under the exclusive remedy of the WC Act. It doesn't, however, appear to give us any guidance on how we combine or not combine experience ratings of clients of PEOs.

"A parent or a subsidiary of a corporation or a lessor of employees shall be considered to be the employer of the corporation's, the lessee's, or the lessor's employees for purposes of IC 22-3-2-6."

The Indiana Code is available on the State of Indiana website at this address: http://www.state.in.us/legislative/ic/code/.
 

Classification
For classification purposes, we assign the payroll of the leased employee to the classification that describes the business to which he/she is leased. Reference Basic Manual Rule 1.D.3.f.  For instance, if the PEO provides employees to ABC Machine Shop, Inc. to work in the shop, we classify those employees to code 3632, Machine Shop.
 

Corrections
The Basic Manual rule that outlines changes or corrections in classifications do not apply to employee leasing firms. Reference Basic Manual Rule 1.F.3.b. The exception makes sense because of the nature of the business. A PEO could accept new clients up to the last day of a policy, so, the carrier may need to add additional codes to the policy past the last 90 days of coverage. The exception, therefore, exempts the carrier from being penalized by the 90 day rule which would otherwise not allow it to charge the appropriate rates for the newly added exposure.
 

Policy Set Up
In the voluntary market, our current rules permit a PEO to have one policy covering many clients. This is referred to as a commingled policy. Also, if the carrier and PEO so choose, the PEO can have a separate policy for each client and a policy for the PEO itself.

In the assigned risk market, our rules require a PEO to have a separate policy for each client and a policy for the PEO itself. This arrangement is called the Multiple Coordinated Policy (MCP) rule. Reference Basic Manual Rule 4.B. Professional Employer Organization (PEO) Arrangements. effective 01/01/06. The prior similar rule was in the Indiana special rules pages.
 

Mix and Match
A PEO can mix its clients with some in the voluntary market and some in the assigned risk market. This is a change in ICRB procedure effective July 21, 2006. Even though the PEO as the co-employer could be considered the one employer in Indiana (reference Indiana statute IC 22-3-5-5 that specifies a workers compensation policy is "presumed to cover all the employees and the entire compensation liability of the insured") another section of the statute IC 27-16-7-2 (effective 1/1/06, HEA 1453) allows the agreement to specify whether the PEO or client provides workers compensation coverage:

"(b) A professional employer agreement must specify the following:
(3) The allocation, to either the client or the PEO, of the responsibility to obtain worker's compensation coverage for covered employees from a worker's compensation insurer that is authorized under this title to conduct the business of insurance in Indiana."

An employer that chooses to go with a PEO may pick & choose which employees go with the PEO and which will be direct. The PEO places the client's leased employees in the assigned risk market with a MCP policy and a client policy for each client. The employer then may place his direct employees in the assigned risk market also. Therefore, there could be two policies for one insured and the experience mod would apply to both policies.
 

Experience Rating
Because policies for PEOs may be set up in two ways (commingled or separate) our approach to producing experience ratings will match the policy set up:

  • commingled (one) policy, then one mod
  • separate (many) polices, then separate mods
By its nature, a commingled policy will include many clients. When a new client joins a PEO under a commingled policy, the rating organization (NCCI for interstate rating and ICRB for intrastate rating) must immediately revise the PEO mod to include the experience from the new client. Also, when a client leaves the PEO, we must immediately remove the experience from the PEO mod and create a separate mod for that client. This immediate action should reduce the opportunity for an employer to avoid a debit mod (see section on avoiding a debit mod below).

By immediate, we mean NCCI or ICRB can only act once it is aware of a change. At the time we make a revision to a mod, the effective date of the change is determined by the Experience Rating Plan, Rule 4.E. "Changes in Experience Rating Modifications" page R21. In summary, a decreased mod is effective retroactive to the inception date of the policy. An increased mod is effective at different times. Within the first 90 days of the policy, the changed mod is effective upon policy inception date. After 90 days, we will revise the modification and keep the same effective date, however the carrier will increase the premium charge pro rata as of the date the carrier receives the revised mod.

The Experience Rating Plan Manual Rule 5, page R22 on Employee Leasing is summarized in the table below.

First Policy
Next Policy
Then
If cannot split
insured is PEO or labor contractor (many clients, experience commingled)
insured is now the former client (on his own again)
split client's experience from PEO's policy & client gets its own mod
PEO mod applies to client

Indiana has a state special rule effective August 1, 2001 that is more specific and amends Rule 5 (see Indiana State Rule Exceptions, Rule 5, page 1). Whereas the rule in the manual merely asks that the client experience be separated, if possible, the Indiana rule requires the carrier to maintain separate experience by client and report it when and if needed. This rule tightening allows us to immediately remove the experience from the PEO mod and create a separate mod for that client. Note that the PEO's mod applies to the clients new policy until we produce the client's mod.

Also, the Indiana statute IC 27-16-7-2 requires the PEO to provide loss data to the client upon termination of the agreement:

"(b) A professional employer agreement must specify the following:
(4) If the professional employer agreement allocates the responsibility under subdivision (3) to the PEO, a requirement that the PEO maintain and provide to the client, at the client's request at the termination of the professional employer agreement, records regarding loss experience related to the worker's compensation insurance coverage.
Advice: carrier maintain separate schedule and loss experience for each client that is part of a commingled policy.

For experience rating, the guiding thought is that we always want to use the experience of a business, regardless if employees are leased. So, it makes sense for the PEO and its carrier to keep separate payroll and loss records for each client. (This is similar, perhaps, to how an insured with multiple locations may want to keep separate loss records by location. Most carriers are able to list and track separate operations and locations when requested.)
 

Avoiding a Debit Mod
In the voluntary market, as explained above, a PEO may have a commingled policy (one policy covering many clients). This arrangement could create an opportunity for an employer to avoid its poor experience. Here's a possible scenario:

  1. An employer with a debit mod joins a PEO.
  2. The PEO has a commingled policy and adds this employer as another client on the policy.
  3. The PEO enjoys a credit or unity mod for its own direct staff and its client employees.
  4. NCCI or ICRB is not aware of the change, so mods are not revised. Revision would involve deleting the employer mod and adding the employer experience to PEO mod.
  5. Employer debit mod applies to what is now probably only a minimum premium policy for this employer to cover "if any" exposure.
  6. The debit mod for the employer has been effectively avoided.
Because the experience rating plan uses three years of experience in a rating, it can take three years for the client's experience to fully work its way into the PEO's mod. Also, upon leaving the PEO, it could take another three years for the client's own experience to be fully utilized in its own mod again.

This scenario is eliminated when separate policies for clients are used, which is required under assigned risk rules (see below).
 

Assigned Risk Only
The Basic Manual Rule 4-B "PEO Arrangements (green page AR22) does a good job of defining PEO and leasing arrangements between the client (lessee), and the PEO or labor contractor (lessor).

Assigned risk policies are subject to the "multiple coordinated policies" rule 4-B-4 (green page AR25)which basically requires one carrier to issue a separate policy for each client, all with the same renewal date, with a master invoice sent to the PEO. The PEO will also have its own policy (the master policy) to cover its direct employees.
 
Assigned Risk Policies - Payroll Limitation Rule
 
The payroll limitation rule that applies to executive officers, sole proprietors, partners, and LLC members does not apply to Assigned Risk policies as per  Basic Manual Rule 4 Workers Compensation Insurance Plan Rules B. Professional Employer Organization (PEO) Arrangements:
 
4. Multiple Coordinated Policies (MCP) h. Treatment of Executive Officers, Sole Proprietors, Partners, and LLC Members
        (1)     Executive officers, sole proprietors, partners, and LLC members of a client who are leased workers from a PEO under a PEO arrangement will be:
                (a)     Treated as leased workers of the client for the purposes of classification assignment and premium determination.
                (b)     Charged for payroll under the client policy as an employee and not subject to executive officer, sole proprietor, partner, or LLC member payroll limitations in accordance with Rule 2-E of NCCI's Basic Manual.
        (2)     Executive officers, sole proprietors, partners, and LLC members of a client who are not leased workers from a PEO under a PEO arrangement will be:
                (a)     Treated as non-leased workers of the client for the purposes of classification assignment and premium determination.
                (b)     Charged for payroll under a separate policy that provides coverage for the client's direct workers as permitted under state regulation or law, and subject to the executive officer, sole proprietor, partner, or LLC member payroll limitations in accordance with Rule 2-E of NCCI's Basic Manual, unless the applicable exclusion/inclusion documentation is provided.

 


Endorsements
(available for voluntary market, required for assigned risk)
For a summary of PEO endorsements, please click on the spreadsheet titled "Employee Leasing & PEO Endorsements Summary."
 
(Note: when our system asks you for a user name and password, just click on "cancel" and the spreadsheet should open.)
 
The endorsements became available for use in Indiana from item filing B-1276 effective 06/01/1992 and item filing RM-W-8027 effective 01/01/2006. The filings revised the Basic Manual rules for assigned risk business, as well as the Experience Rating Plan Manual and Policy Forms Manual for all business.
 

Filing History
NCCI made two countrywide filings in 1991. The first was Item B-1265 and its residual market counterpart, Item B-8010 effective 4/1/91. Item B-1265 proposed nonrules or generic rules for the voluntary market that provided carriers the flexibility to write the policy under the name of the client or the labor contractor. Item B-8010 proposed rules for the residual market that provided the position that the labor contractor was not the employer; therefore residual market policies were to be written under the name of the client entity. Due to threat of litigation, NCCI filed in all states a request to suspend both B-1265 and B-8010. The filing was suspended in all states however, CT, DC, FL, and UT (B-8010 only) denied the request.

The second countrywide filing was Item B-1276 effective 6/1/92 in Indiana. Item B-1276 provided experience rating rules and policy forms for both the voluntary and residual markets, and Basic Manual rules for only the residual market. It allowed the labor contractor (employee leasing company) to apply for coverage on behalf of the clients. The assigned risk rules require multiple coordinated policies. The filing intentionally did not address Basic Manual rules for the voluntary market to give carriers flexibility in writing voluntary policies. Item B-1276 is approved in AL, AR, IA, IN, KS, KY, LA, MD, MS, NC, NH, NJ, NM, RI, SC, SD, TN and VT.

Indiana implemented a state specific filing, Item ER-IN-2000-01 "Employee Leasing" effective 8/1/2001. The filing changes Experience Rating Rule 5.A.1. regarding employee leasing. The old rule permits a client's experience to be commingled with other clients. The rule merely asks that the client experience be separated, if possible. The new rule requires the carrier to maintain separate experience by client and report it when and if needed. The documents attached below contain the filing information and announcement.


Item Filing RM-W-8027 effective 01/01/06 revised assigned risk rules for employee leasing arrangements. It replaced the employee leasing rule in the assigned risk green pages and create a national rule in Basic Manual, Rule 4-B. It replaced "labor contractor" wording with "PEO."

A number of other states have special rules on employee leasing. The NCCI website has an employee leasing topic in its Research Initiatives section.


Professional Employer Organization (PEO)
PEO is a relatively new term to the concept of employee leasing. Although individual contracts between a PEO and its clients may vary, usually clients retain control over operation of the business and delivery of services or manufacture of products. The PEO is usually responsible for the "business of employment" such as paying wages, reporting and paying employment taxes, and providing workers compensation and unemployment insurance.

The National Association of Professional Employer Organizations (NAPEO) provides information about PEOs on its website. Below is an excerpt from its common questions section.

"What is the difference between employee leasing and a PEO arrangement?
Although many still view these two staffing arrangements as the same, they are, in fact, quite different. The term "employee leasing" means different things to different people and has been, and continues to be, used in many diverse contexts. The confusion surrounding this terminology is one reason NAPEO has been active in defining and distinguishing the PEO concept; however, many commentators, regulators, and statutes use the terms interchangeably.

The genesis of employee leasing envisioned a transfer of certain responsibilities from a client to the employee leasing company and spawned the concept of "fire, hire, and lease back," which does not occur in a PEO arrangement. Some would define employee leasing as a supplemental, temporary employment arrangement where one or more workers are assigned to a customer for a fixed period of time, often for a specific project. This concept creates little long-term equity or investment between the worker and customer (much like leasing a car for two years and knowing that you are using it for a specific need but not building any long-term equity).

A PEO arrangement however, involves all or a significant number of the client workplace employees in a long-term, non-project related, employment relationship. The PEO assumes the employer responsibility for employment tax, benefit plans, and other human resource purposes. Through the use of a PEO relationship, client companies make a long-term investment in their workers, because the PEO provides health insurance, retirement savings plans, and other critical employee benefits for their worksite employees.

What is the difference between temporary staffing services and a PEO arrangement?
A temporary staffing service recruits employees and assigns them to clients to support or supplement the client's workforce in special work situations, such as employee absences, temporary skill shortages, or seasonal workloads. A PEO contractually assumes and manages employer responsibilities for all or a majority of a client's workforce. Industry ratios identify the PEO arrangement as a long-term relationship with nearly 90% of our clients and worksite employees remaining with the PEO for a year or longer. Worksite employees participate in the PEO's full range of employee benefits including, health, dental, and life insurance, vision care, and retirement savings plans.

How many Americans are employed in a co-employment PEO arrangement?
It is estimated that 2-3 million Americans are currently co-employed in a PEO arrangement. PEOs are operating in every state, and the industry has grown between 20-30% per year. Today, there are approximately 2,000 PEO companies who are responsible for over $18 billion in employee wages and related human resource and employee benefits.

How does a PEO arrangement work?
In the relationship among a PEO, a worksite employee, and a client company, there exists a co-employment relationship in which both the PEO and client company have an employment relationship with the worker. The PEO and client company contractually allocate some and share other traditional employer responsibilities and liabilities. The PEO assumes responsibility and liability for the "business of employment" such as risk management, personnel management, human resource compliance, and payroll & employee tax compliance. The client company manages product development and production, marketing, sales, and service. The PEO assumes and establishes an employment relationship with the worksite employee and provides a complete human resource and employee benefit package."

Administrative Service Organization (ASO)
In March 2001, the ICRB became aware of a new service called Administrative Service Organization (ASO). The major distinction between a PEO and an ASO is that an ASO does not enter into a co-employer relationship with the client. The ASO is more of a broker of services. The ASO approach simplifies the workers compensation insurance issue in that the client is still the employer and therefore must still buy its coverage separate from the ASO. There is no employee leasing arrangement in place, so the rules that deal with employee leasing would not apply.

An ASO might also be referred to as:
  • human resource outsourcing (HRO)
  • business processing outsourcer (BPO)
  • employer services organization (ESO)
An indepth article on ASO's appears in the March 2001 edition of PEO Nsider magazine, the official publication of NAPEO.


Rule References
Basic Manual Rule 4.B. (old rule in Basic Manual Indiana Assigned Risk Special Rules [green pages], Rule IX)
Basic Manual Rule 1.D.3.f.
Basic Manual Rule 1.F.3.b.
Experience Rating Plan Manual Rule 11, and Indiana State Special Rules, page E1
Policy Forms Manual:
  • Labor Contractor Endorsement WC 00 03 20 A
  • PEO Extension Endorsement WC 00 03 20 B
  • Labor Contractor Exclusion Endorsement WC 00 03 21
  • PEO Exclusion Endorsement WC 00 03 21 A 
  • Employee Leasing Client Exclusion Endorsement WC 00 03 22
  • PEO Client Exclusion Endorsement WC 00 03 22 A
  • Multiple Coordinated Policy Endorsement WC 00 03 23 & WC 00 03 23 A

 

Studies and Articles

 

Related Files

The material in this document has been prepared and shared for informational purposes only and should not be relied upon as legal advice on any particular situation.