Moving the goal posts - the discount rate debate

Damages for successful Claimants in serious personal injury and clinical negligence cases could soon be dramatically increased, following confirmation from the Lord Chancellor, Ken Clarke, that he would reconsider the level of the discount rate in claims for personal injury compensation. 

Judicial Review?

At a time when the entire country is being asked by the government to tighten its belts, the Association of Personal Injury Lawyers (APIL) have called upon the Lord Chancellor to increase compensation awards by altering the discount rate.  The discount rate is the mechanism by which compensation for future financial losses is calculated.  It appears that the move has been prompted by a threat (by APIL) to judicially review the Lord Chancellor if he did not undertake the reappraisal.

The Lord Chancellor will consult with the Treasury and other bodies before making his decision.  There is no date fixed for the consultation and it could well take 6 months or more before the decision is announced.

The Discount Rate Explained

The discount rate is a key part of assessing compensation in serious personal injury and clinical negligence cases.  It represents the allowance which is made for the financial returns an individual can achieve (over and above inflation) by investing his or her compensation.  Using it, courts can calculate the current value of a loss which is not going to be incurred until some point in the future.

In 1998, the discount rate had been set at 4.5%, but the current discount rate was set by the Lord Chancellor at 2.5% in July 2001 and has not changed since.  It was set based on the assumption that it was possible for a successful Claimant to invest part of his compensation in 2001, secure in the knowledge that such an investment would increase in real terms by 2.5% each year until the compensation was needed.

Claimants’ solicitors have been complaining for many years now that the rate of 2.5% is unrealistic as investment returns from ‘safe’ investments do not get close to that figure.  They argue that it forces a Claimant to place his or her compensation into more volatile investments in an attempt to retain its real value.  Their argument is that a Claimant should not have to invest in anything more risky than Index Linked Government Stocks (ILGS), a secure government backed investment vehicle which they say currently pays about 0.5% to 1% above inflation. 

Whilst it is undeniable that returns from ILGS have reduced in recent years, there are three objections in principle to the Claimants’ solicitors’ approach:

• In these troubled financial times why should a Claimant be placed in a much better position than the rest of society, whose investments are subject to the variations of the market?  Is there any good reason why the rest of the taxpaying public should be forced to ensure that a Claimant has greater protection than the rest of society?
• Research suggests that very few Claimants invest in ILGS, but instead opt for higher reward/higher risk investments.  Should the award not reflect the reality of the steps a Claimant takes to secure a return in excess of ILGS?
• There has been significant historic volatility in the real rate of return on investments over the past 12 years.  If compensation is to be assessed based on the very low rates of return available at present (0.5% - 1%), there will be inevitable over-compensation for Claimants if the rate of return increases.  By contrast, it is unlikely to get significantly lower.  All the risk therefore would lie with the compensator.

The Effect of a Discount Rate Change

Were Ken Clarke to adopt a discount rate of 0.5%, the effect on damages would be marked.  By way of example, the lifetime future losses for an 18 year old man would increase by 76% if the discount rate were to shift by 2% (ie from 2.5% to 0.5%); the multiplier for assessing future losses would increase from 32.07 to 56.55. 

In one case recently heard in Guernsey (where the Lord Chancellor’s decision on discount rates is not binding) the Court of Appeal there increased the damages award from £9.5 million to £14 million based on a (roughly) 2% shift in the discount rate.

The NHS has managed to protect itself from the worst effects of discount rate changes by its use of periodical payments.  Periodical payments are means of ensuring that compensation for a Claimant’s care and case management needs are paid annually in December rather than in one lump sum at the date of settlement of the claim.  Those annual payments are increased based on the salary increases for workers in the care industry. 

However, the NHS is not immune to the change sought:

• future losses (other than care and case management) will still increase dramatically should a change in discount rate be ordered
• some Claimants may well decide that they would rather have the money in their bank accounts than rely on the NHS to pay compensation for care and case management on an annual basis.  With the present discount rate that is hardly an attractive option, but with a significant change Claimants may alter their approach. 

In either case, the potential exists for large increases in the contributions sought from Trusts to the NHSLA’s schemes.  We will have to await the Lord Chancellor’s decision to see how serious the effect could be.