It is highly unlikely that the proposed legislation to implement changes to the personal injury discount rate will achieve the Government’s stated objective to ‘reflect actual investment behaviour and ensure claimants are compensated in full, neither more or less’.
In the absence of a reliable, independent body of empirical evidence, it is questionable whether the first component of this objective can even be attempted. Even if there were such evidence, it would be overly simplistic and unfair to claimants to use the benchmark of investor behaviour as the sole measure of full compensation.
The Government asserts that the continuation of the current legal framework of a discount rate based on index-linked gilts (ILGS) would lead to claimants being ‘on average over-compensated’. This assertion appears to be premised on the views of the majority of responses to the recent consultation, who, according to the government’s impact assessment (the IA), were insurers and other institutional defendants. That is not an impartial, nor balanced conclusion.
Would the Government have reached the opposite conclusion had the majority swung the other way had a handful of additional claimant firms or representative bodies taken the time to respond to the consultation? I doubt it.
The IA errs in focusing on the ‘average’ outcome, and in doing so, fundamentally fails to recognise that every seriously injured claimant is an individual, with just one claim and one chance at successfully securing their future financial wellbeing through the civil justice system. Unlike insurers and the NHS Litigation Authority (NHSLA), claimants are not a group and therefore cannot play the numbers game.
The IA also fails to recognise the fact that the discount rate predominantly affects claimants with serious injuries, causing lifetime losses, who are by definition those with disability-related protected characteristics for the purpose of the Equality Act 2010.
What is a low risk portfolio & is it a fair & achievable benchmark?
The author agrees with the view of the well-regarded personal injury specialist investment advisers, PFP, who have commented that ILGS are the only assets capable of preserving capital and income relative to RPI inflation, in addition to providing a certain prospective return.
All other forms of investment involve looking to past performance in order to estimate future returns and inflation. However, claimants are not investing in the past and future financial markets are unpredictable.
The Government’s approach is also methodologically unsound. To take into account the actual returns that claimants are likely to receive on investments would be what the actuarial profession refer to as a ‘budgeting approach’. This would only be appropriate if the adequacy of the compensation could be reviewed from time to time and the amount topped up if the estimated returns have not been achieved– as in the funding of a defined benefit pension plan by a sponsoring employer.
The Ministry of Justice (MoJ) asked the Government Actuary Department (GAD) to analyse two model portfolios based on unpublished anecdotal reports of claimant investor behaviour. Portfolio A was considered to reflect typical ‘low-risk’ claimant behaviour, whereas portfolio B was the highest end of the ‘low-risk’ spectrum. They were not asked to and did not analyse the lower end of the spectrum. Therefore, not only are the conclusions on which the MoJ proposes this legislation is passed derived from an unpublished and small evidential base, they also do not reflect the full range of claimant investor behaviours.
Additionally, the ‘low-risk’ categorisation of the portfolios modelled by the GAD is disputed on the grounds that both models carry a serious risk for the claimant’s ability to achieve full compensation. According to the GAD model, portfolio A had just 5% invested in ILGS (46% in equities or alternative investments) and this figure was only 3% in portfolio B. In contrast, the majority of the 2015 MoJ expert panel described the low-risk portfolio approach as one in which at least 75% of the portfolio is allocated to ILGS.
The impact of the legislation & the extent of its relationship with other changes
This knee-jerk reaction to the long overdue correction of the discount rate comes at a time when other costs for motor insurers are being significantly reduced. Most notably, these include the savings from the Legal Aid, Sentencing and Punishment of Offenders Act 2012 (LAPSO). and the referral fee ban. Other savings arise from the proposed reforms in relation to small claims and whiplash injuries.
The combined savings arising from these major reforms, which affect the vast majority of injury claims, are likely to significantly exceed the additional discount rate related compensation that is needed by the small number of seriously injured claimants.
It is also pertinent to observe that there is little or no evidence of the LASPO savings having been passed on by insurers to consumers in the shape of reduced premiums.
In percentage terms, the impact of the discount rate on insurance premiums is modest and its importance is vastly over stated in this debate.
The extra insurance cost to the average motorist attributable to maintaining a Wells v Wells approach to the discount rate reduction is roughly equivalent to the cost of a single cup of cappuccino once per month.
In contrast, for a 20-year-old male claimant who is seriously injured and who has combined future losses that could easily be up to £250,000 per annum (earnings, care, medical, therapies, disability, aids/equipment, accommodation, etc.) it would be worth around £5.5m. That claimant would be at significant risk of their compensation fund running out and falling back on the state for high cost support for well in excess of 10 years.
Which of these options is more affordable and, more importantly, represents full and fair compensation?
This article first appeared in the New Law Journal, the original can be found here (subscription required).