Kennedys urges government to bring discount rate into real world

Date published

15/05/2017

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We have told the government that the law which empowers the Lord Chancellor to set the personal injury discount rate (DR) does not need to change, but the assumptions underlying it do to reflect the reality of investment today.

As we act for many insurers and other compensators, we have stressed the “strength of feeling” among compensators that the legal basis for setting the discount rate should be changed to reflect how actual claimants invest their awards.

At the moment, in setting the rate, the Lord Chancellor assumes that the claimant is not prepared to take any risk and so invests in index-linked government stocks (ILGS). We have said that there is nothing in the Damages Act 1996 that prevents the Lord Chancellor from altering this assumption.

In our response, we said: “To ensure accuracy, the Lord Chancellor should set the discount rate based on how claimants actually invest their damages, i.e. in a mixed portfolio of investments. Claimants should not be assumed to be ‘special investors’ but ‘ordinary prudent investors’. To do otherwise results in over-compensation.”
We added that the new rate reflected the fact that investments in ILGS currently result in a net loss relative to inflation. That is not the outcome expected by even the most risk-averse investor.

“Such risks can be addressed by investment in a mixed portfolio of investments tailored to the needs of the claimant and dependent on his life expectancy,” we have said. In the pivotal 1999 House of Lords ruling in Wells, Lord Lloyd said that a minimum of 70% equities and 30% bonds is what “the prudent investor would do”.

We have supported the Lord Chancellor continuing to take the decision in future, albeit following advice from an independent expert panel, whose members it said should include an actuary, a financial expert, an investment adviser and an economist. The firm also backed the consistency and simplicity of a single DR.

Our view was that the availability of periodical payment orders (PPOs) should not affect the DR, given that there are circumstances where they are not appropriate; equally, claimants should not be penalised if they opt for a lump sum.

We said: “We consider claimants should have a choice as to the form of award. Whilst we accept that opting for a lump sum rather than a PPO for future losses suggests a claimant may have a greater appetite for risk, we do not consider this should be a determining factor. Claimants should be given the option to choose the form of award.”

The Lord Chancellor’s decision to introduce a negative discount rate demonstrates how flawed the current methodology is, when in the real world claimants are achieving positive returns from low-risk investment strategies.

Mark Burton, Partner, London

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Mark, who is leading our work on the discount rate, adds: “That has to change if the government is to balance the importance of fully compensating injured people with the profound difficulties that the recent change have caused compensators in both the private and public sectors, as seen by a string of stock market warnings.

“The enormous increase in claims costs caused by the new rate risks a number of adverse outcomes. Will we see the loss of any potential benefit from other measures aimed at reducing whiplash claims and motor insurance premiums as a result? Indeed, might premiums now continue to rise instead?

“At a claims-handling level, we predict that settlements may now be delayed while awaiting the consultation outcome, and that some cases will become more entrenched as compensators are forced to argue smaller points because the financial stakes have been raised so high.

“Such outcomes do not benefit anyone. But we believe that by adjusting the methodology, the government can deliver fairness to all sides.”