Experience rating is also absent for new employers since they have no history of layoffs. Typically, they are assigned an initial fixed tax rate until they acquire the necessary unemployment experience. In some states, this tax rate varies according to the unemployment experience of the industry in which the new employer is located.
Another suspension of experience rating occurs in the case of bankrupt or inactive employers. The costs of unemployment benefits paid to these employers’ laid-off workers may be charged to the employers’ accounts, but since they have ceased to operate, their payrolls and tax liabilities are zero, no matter what their accumulated charged benefits may be.
Trust Fund Solvency
If all unemployment benefits were fully charged and there were no time lags or suspensions in the experience-rating methods, the current tax payments of all employers would be adequate to pay for all current unemployment benefits. If, in addition, a small tax were levied to recover administration costs, then the UI system would be totally self-financed in any particular year. Since the required conditions are not satisfied, however, the UI system may run an annual deficit or surplus. To allow for the carry-over of deficit or surplus balances from one year to another, state trust funds have been established. Employer tax payments (as well as interest and some other disbursements from the federal government) are credited to the state’s trust fund, and unemployment benefit payments are debited.
To ensure the long-run solvency of their trust funds, all states have made provisions for some or all tax rates to rise (fall) as the trust fund balance, expressed as a percentage of the state’s total taxable payroll, falls (rises). These changes in tax schedules are automatic and do not require specific legislation. States differ in the methods by which their tax structures respond to changes in the trust fund balance. In Louisiana, for example, a falling trust fund balance triggers equiproportionate increases in experience-rated tax rates. Thus, with given taxable payrolls, employers with high UI tax rates face larger increases in their tax bills than do employers with low tax rates. In Mississippi, by contrast, a fixed absolute amount is added to all UI tax rates, thus distributing the tax burden equally across employers. As a third illustration, Minnesota raises just the minimum tax rate thus only raising the tax burden of employers with the best experience record. Though the distribution of the extra tax burden may differ among states, all states have made provisions for aggregate tax inflows to increase as the trust fund declines or, indeed, become negative.
In general, state laws governing employer experience rating may be regarded as allocating UI costs to individual employers. Laws governing changes in average tax rates are designed to ensure the solvency of the system as a whole.
While the reserve ratio and the benefit ratio methods of experience rating may be viewed from the perspective of their common dimensions. These two approaches differ in several important respects. We now turn to a description of their unique characteristics.