DISCOUNT RATES
Introduction
1. This paper presents a review of the use of discount rates in assessing future loss in
personal injury claims and the factors, including indexation and investment options, that
the Lord Chancellor may wish to consider in resetting the discount rate and reviewing the
methodology used in the process.
Discount Rates
2. The basic principle for any award for compensation in a personal injury claim is to try to
put the claimant in the same position they would have been in if they had not been
injured. There is obvious uncertainty in being able to assess what losses and expenses
will be incurred in the future. To determine future loss and expense as a single lump sum
we generally assess the likely annual losses, the ‘multiplicand’, and apply a ‘multiplier’
by which the annual loss is converted into a lump sum that represents the present value of
the prospective loss. It is not simply a question of calculating the present value of the
annual loss and multiplying it by the number of years over which it will be incurred. That
ignores the under-compensating effect of future inflation as the annual costs are likely to
increase. It also ignores the over-compensating effect of the lump sum being invested to
produce additional income over the anticipated period of loss.
3. Accordingly, a ‘discount rate’ is applied to determine the multiplier that represents the
likely return on the lump sum (net of tax and investment charges) over and above the
increase in the value of the money according to the Retail Price Index (RPI). The sole
purpose therefore is to ensure, as closely as possible, that the lump sum award will
generate what the Claimant has lost over the period in question, but no more and no less,
and thereby put them in the same position they would have been in if they had not been
injured.
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"Essentially what the court has to do is to calculate as best it can the sum of
money which will on the one hand be adequate, by its capital and income, to
provide annually for the injured person a sum equal to his estimated annual
loss over the whole of the period during which that loss is likely to continue,
but which, on the other hand, will not, at the end of that period, leave him in
a better financial position than he would have been apart from the accident.
(Lord Oliver, Hodgson v Trapp [1989] AC 807).
4. It is the discount rate that this paper addresses and not the determination/adjustment of
multipliers for life expectancy and other contingencies in any particular case.
Historical Approach
5. In the 20th century lawyers and judges were reluctant to accept or understand
mathematical attempts to assess future losses creating great uncertainty and variation in
awards of damages.
6. It was not until 1966 that it was held that juries should only be used in the assessment of
damages in exceptional cases (Ward v James [1966] 1QB 273). It was not until the 1970’s
that judges were required to assess separate heads of financial loss rather than simply a
global award (Jefford v Gee [1970] 2QB 130 and George v Pinnock [1973] 1WLR 118).
7. The use of discount rates to assess future losses evolved in a haphazard way. As noted by
Lord Diplock in Cookson v Knowles [1979] AC 556:“The conventional method of calculating it (future loss) has been to apply to
what is found upon the evidence to be a sum representing ‘the dependency’
(multiplicand), a multiplier representing what the judge considers in the
circumstances, particularly in terms of a deceased, to be an appropriate
number of years’ purchase. In times of stable currency the multipliers that
were used by judges were appropriate to interest rates of 4% to 5% whether
the judges using them were conscious of this or not.”
8. The use of a 4 to 5% discount rate was based upon gross investment returns in shares and
equities in relatively stable economic conditions. For other than short periods of loss, it
was a rule of thumb to take the relevant period for which the loss would be incurred,
halve it and add 1. That does, on average, produce a multiplier loosely based upon a
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discount rate of 4 to 5%. But that multiplier was always subject to further judicial
discount for “contingencies” (which in practice were never clearly identified) and also
subject to a judicial belief that a ceiling of 18 was appropriate to a whole life multiplier.
9. So the prevailing position for some time was that a discount rate of c.4.5% prevailed to
provide a rough and ready calculation. As further noted by Lord Diplock:“the likelihood of continuing inflation after the date of trial should not affect
either the figure for the dependency (multiplicand) or the multiplier used.
Inflation is taken care of in a rough and ready way by the higher rates of
interest obtainable as one of the consequences of it, and no other practical
basis of calculation has been suggested that is capable of dealing with so
conjectural a factor with greater precision.”
10. The Ogden Tables, first published by the Government Actuary department in 1984,
provided the means for a more comprehensible approach to assessing future loss
depending upon the discount rate chosen, and they gradually became a useful tool for the
practitioner. To emphasise that this was not an easy approach to understand or implement
at the time, Sir Michael Ogden QC himself when preparing his explanatory notes to the
first edition of the tables, took the view that:“When it comes to the explanatory notes we must make sure that they are
readily comprehensible. We must assume the most stupid circuit judge in the
country and before him are the two most stupid advocates. All three of them
must be able to understand what we are saying.”
Index Linked Government Stocks
11. In 1981 the Government introduced Index Linked Government Securities (‘ILGS’).
These created a means for protecting a claimant against inflation whilst producing some
return without any great risk. They therefore became the focus for a developing argument
that they should represent the gold standard for assessing the discount rate. The argument
being that they most accurately reflected an investment vehicle for achieving what the
court was attempting to achieve in determining a discount rate for the assessment of
future loss.
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12. The developing arguments on assessing discount rates by reference ILGS were of such
merit that in 1994 the Law Commission recommended that legislation should provide for
the courts to take account of the net returns on ILGS when determining a discount rate.
13. However, it is worth considering more carefully what ILGS are:
(i)
A lump sum is invested with the Government in return for an interest payment
which rises in line with the UK RPI.
(ii)
The stock has a fixed life at the end of which the Government guarantees to repay
the nominal value (the initial investment) in full plus the rise in the RPI since the
stock was issued.
(iii)
Both the interest and capital are index-linked (Interest accumulated can be
reinvested or paid out).
(iv)
The value of each stock is the amount of index-linking added to the initial issue
price of the stock. However, the actual market price which the stock is offered at
can be less or more than the notional value and can be sold before the redemption
date. It follows you can buy and sell the stock at any time at the current market
price, but you may lose the security available at redemption date.
(v)
Prices for the stock tend to fluctuate unpredictably in the short term and may
suffer if the Government decides to issue a lot more of this type of stock or if
interest rates rise sharply.
14. It is important to note that ILGS do not provide an investment vehicle for a lump sum that
provides the annual income stream anticipated in a conventional award of damages. A
major problem is that there is no control over the capital. So, if a Claimant wants to pay
for a capital item they have to sell before redemption and are thereby subject to short term
fluctuations in the market price of ILGS. Further, ILGS do not mature annually to enable
a Claimant to receive and spend his damages on an annual basis. There are gaps in
maturity dates (eg none maturing between 2013-2016 or 2042-2047). So providing the
necessary annual income may also require a sale pre-redemption and subject to price
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fluctuations. Indeed ILGS are only issued to institutions and therefore a Claimant at the
outset has to buy at the market price, which can fluctuate wildly in the short-term and
therefore immediately risk capital loss.
15. Put simply the Claimant cannot achieve what the courts intend, or what periodical
payments now provide, by purchasing ILGS. It appears that Claimants never invest in
ILGS. Accordingly it is somewhat surprising that they should be so readily accepted as
the gold standard for determining the discount rate. It is anticipated that this is a view that
may find favour with the current Lord Chancellor.
The Damages Act 1996
16. The uncertainty, debate and Law Commissions recommendations led to the Damages Act
1996. Sections 1 of which reads as follows:(1) In determining the return to be expected from the investment of a sum
awarded as damages for future pecuniary loss in an action for personal
injury the court shall, subject to and in accordance with rules of court made
for the purposes of this section, take into account such rate of return (if any)
as may from time to time be prescribed by an order made by the Lord
Chancellor.
(2) Subsection (1) above shall not however prevent the court taking a
different rate of return into account if any party to the proceedings shows that
it is more appropriate in the case in question.
(3) An order under subsection (1) above may prescribe different rates of
return for different classes of case.
(4) Before making an order under subsection (1) above the Lord Chancellor
shall consult the Government Actuary and the Treasury; and any order under
that subsection shall be made by statutory instrument subject to annulment in
pursuance of a resolution of either House of Parliament.
17. It is of note that despite the Law Commission’s recommendations it did not restrict the
Lord Chancellor to considering ILGS rates of return or indeed require him to have any
reference to them. In any event the Lord Chancellor showed little interest in taking
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responsibility for setting a rate (a trait that appears to have been inherited by his
successors).
Wells v Wells
18. It was not until the case of Wells v Wells [1999] 1 AC 345 that the House of Lords finally
considered and concluded that multipliers should be assessed on the assumption that the
Claimant will invest in ILGS and therefore a discount rate of 3% was appropriate.
19. Lord Lloyd concluded when explaining the court’s reasoning that:“...the judges in these three cases were right to assume for the purpose of
their calculations that the claimants would invest their damages in ILGS for
the following reasons:
1.
Investment in ILGS is the most accurate way of calculating the
present value of the loss which the claimants will actually suffer in
real terms.
3.
…For a claimant who is not in a position to take risks and who wishes
to protect himself against inflation in the short-term of up to 10 years,
it is clearly prudent to invest in ILGS. It cannot therefore be assumed
that he will invest in equities and gilts. Still less is it his duty to invest
in equities and gilts in order to mitigate his loss.
4.
Logically the same applies to a claimant investing in the long-term…
In any event it is desirable to have a single rate applying across the
board, in order to facilitate settlements and to save the expense of
expert evidence at the trial. I take this view even though it is open to
the Lord Chancellor under section 1(3) of the Act of 1996 to prescribe
different rates of return for different classes of case.
5.
How the claimant or the majority of claimants in fact invest their
money is irrelevant.
The research carried out by the Law
Commission does not suggest that the majority of claimants in fact
invest in equities and gilts, but rather in a building society or a bank
deposit.
6.
There is no agreement between the parties as to how much greater, if
at all, the return on equities is likely to be in the short or long-term.
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But it is at least clear that investment in ILGS will save up to 1% per
annum by obviating the need for continuing investment advice.
7.
The Practice of the Court of Protection when investing for the long
terms affords little guidance. In any event the policy may change
when lump sums are calculated at a lower rate of return”
20. In deciding upon the appropriate percentage rate, Lord Steyn said:“… I am content to adopt about 3% as the best present net figure. For my
part I would derive that rate from the net average return of ILGS over the
past 3 years. While this figure of about 3% should not be regarded as
immutable, I would suggest that only a marked change of economic
circumstances should entitle any party to re-open the debate in advance of a
decision by the Lord Chancellor…”
21. Wells also had the effect of approving the use of actuarial tables. Lord Lloyd noted:
…The tables should now be regarded as a starting point, rather than a check.
A judge should be slow to depart from the relevant actuarial multiplier on
impressionistic grounds, or by reference to “a spread of multipliers in
comparable cases”, especially when the multipliers were fixed before
actuarial tables were widely used.
22. The statutory backing in section 10 of the Civil Evidence Act 1995 which provides for the
admissibility of the Ogden Tables in personal injury litigation has in fact never been
brought into force.
Lord Chancellor’s Decision
23. The Lord Chancellor set the discount rate at 2.5% under the Damages (Personal Injury)
Order 2001 on 25 June 2001. He confirmed that the order was made to ensure that
“Claimants and Defendants may have a reasonably clear idea about the impact of the
discount upon their cases, so as to facilitate negotiation of settlement and the
presentation of cases in court.” In so doing he confirmed that:-
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(i)
He should set a single rate to cover all cases, to ensure certainty and to avoid the
complexity of formulas.
(ii)
The rate should be set to the nearest half per cent to ensure use in conjunction with
the Ogden Tables.
(iii)
The rate should remain for the foreseeable future and that it was undesirable to
make frequent changes. However, he remained willing to review it if there was a
“significant and established change in the relevant rates of return to be expected.
I do not propose to tinker with the rate frequently to take account of every
transient shift in market conditions”.
(iv)
The average gross redemption yield on ILGS for the previous 3 years was 2.61%
(before tax)
24. After immediate criticism that if the decision was truly based upon ILGS it was too high,
he provided fuller reasons on 22nd July 2001 for choosing a discount rate of 2.5%. These
are summarised as follows:-
(i)
The real rates of return expected from ILGS tend to be higher the lower the rate of
inflation is assumed to be. Inflation was being kept close to and below a 2.5%
target and that was likely to continue for the foreseeable future.
(ii)
Rates of return on ILGS were distorted to produce an artificially low figure given
the continuing high demand for the stock and the scarcity of its supply (ie the
market resale price was high). He anticipated a rise in rates of return from ILGS.
(iii)
The Court of Protection continued to invest in multi-asset portfolios and no family
of patients had chosen ILGS since Wells despite the option existing.
(iv)
Claimants in fact were unlikely to invest solely or primarily in ILGS and financial
experts provided advice that a mixed portfolio would be appropriate.
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(v)
In any event it remained possible under section 1(2) of the Damages Act for the
courts to adopt a different discount rate if in any particular case there are
“exceptional circumstances” which justify such a departure from the fixed rate of
2.5%
25. Despite the House of Lords basing discount rates exclusively on ILGS and despite the
Lord Chancellor declaring: “I have applied the appropriate legal principles laid down
authoritatively by the courts, and in particular by the House of Lords in Wells”, he
clearly did not. Instead he attempted to distance the decision from ILGS exclusively,
whilst still accepting that those rates were something of paramount importance. Whether
the current Lord Chancellor distances himself further remains to be seen.
Challenging 2.5%
26. Attempts to vary the discount rate set by the Lord Chancellor have proved wholly
unsuccessful despite him recognising that any injustice could be cured by use of a
different rate.
27. In Warriner v Warriner [2002] 1 WLR 1703 there was an attempt to argue that a
Claimant’s long life expectancy of 46 years and the size of the award, in excess of
£2 million, required a lower discount rate and permission was sought to rely upon the
accounting evidence of Roland Hogg to justify that position, particularly because of
inflation affecting earnings and care costs. Dyson LJ stated that if the case in question
fell into a category that the Lord Chancellor did not take account of or involved special
features which were material to the choice of rate of return and shown from an
examination of the Lord Chancellor’s reasons not to have been taken into account, then a
different rate of return may be more appropriate. He also confirmed that although the
phrase “exceptional circumstances” does not appear in the Damages Act 1996, if by that
it is meant no more than special circumstances not taken into account by the Lord
Chancellor when fixing the rate then it was a helpful explanation of that sub-section.
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34. Miss Cox criticises the Lord Chancellor for using the phrase "exceptional
circumstances" at the end of his reasons when referring to section 1(2) of the
Act. So did Lord Brennan in the debate in the House of Lords on 29th
November 2001 when an opposition motion that the order be revoked and a
rate of 2% be substituted was rejected. It is true that the phase "exceptional
circumstances" does not appear in the Act. But in my judgment the Lord
Chancellor must have meant by "exceptional circumstances" no more than
special circumstances not taken into account by him in fixing the rate of
2.5%. If "exceptional circumstances" is understood in that way, the phrase is,
in my view, a helpful explanation of the meaning of the subsection.
35. If section 1(2) is interpreted in this way, it is likely that it will be in
comparatively few cases that section 1(2) will be successfully invoked, at any
rate as long as the 2.5% rate and the Lord Chancellor's reasons for it
continue to apply. The construction that I have given to section 1(2) seems to
me to accord with and promote the policy considerations to which I have
already referred. A generous and open-ended interpretation of section 1(2)
would undermine the policy that was clearly articulated by Lord Chancellor
in his reasons, and by the courts before that.
28. Of equal interest he went on to consider the particular facts of the case and noted not only
that the Lord Chancellor was entitled to look at the practices of the Court of Protection
and returns achieved, but that is was the larger awards intended to cover longer periods
that he had in mind.
38. One of the factors taken into account by the Lord Chancellor in arriving
at a rate of 2.5% was that prudent investment by the Court of Protection
would enable a rate of return at or above 2.5% to be achieved comfortably.
Of greater importance is the fact that, as has been seen from one of the
passages that I have quoted earlier, the Lord Chancellor was alive to the very
point that Miss Cox makes, namely that it is in the context of larger awards
intended to cover longer periods that there is the greatest risk of serious
discrepancies between the level of compensation and the actual losses
incurred if the discount rate set is not appropriate. The Lord Chancellor said
in terms that he had this type of award "particularly in mind" when
considering the level at which the discount rate should be set.
39. Miss Cox makes the valid point that the Lord Chancellor does not say
what he meant by "larger awards intended to cover longer periods". How
large? How long? But claims by claimants with life expectancies of between
30 and 50 years are by no means uncommon, nor are claims in the range of
£2 to £3 million. I cannot accept that claims of this kind were not included in
the category which the Lord Chancellor had particularly in mind when
setting the rate at 2.5%. In my judgment Mr Hogg has not identified any
special features of this case which take it outside the classes of case that the
Lord Chancellor took into account when fixing the rate. In truth, it seems to
me that, despite Miss Cox's disavowal, Mr Hogg's report is, on analysis,
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more a criticism of the Lord Chancellor's rate itself. It is noteworthy that on
Mr Hogg's approach, the net return for the claimant even if her award were
no more than £1 million would be below 2% and would, in his view, justify
invoking section 1(2).
29. We now know from documents recently available under the Freedom of Information Act
that the Lord Chancellor does not appear to have been considering the very highest
awards. His various questions to experts sought guidance in respect of a whole host of
awards up to “£250,000 plus” with no specific mention of claims above a million pounds.
Although we have no clarification as to what value of higher awards he received advice
upon, on reflection it looks as if Miss Cox made a more than valid point. Although the
decision in Warriner is very likely to have been the same the reasoning at least may have
been very different.
30. In the case of Cooke v United Bristol Health Care [2003] EWCA Civ 1370 the central
argument was that care costs increased at a steeper rate than the RPI. The appeal court
seemed sympathetic to the issue but considered that the Cooke appeal amounted to an
attempt to subvert the Lord Chancellor’s rate. Of course the same argument since the
Thompstone appeals would likely have much greater merit (Tameside and Glossop Acute
Services NHS Trust v. Thompstone [2008] 1 WLR 2207). If under the same legislation,
the courts are willing to readily apply a different inflation index to the RPI specifically
identified as appropriate for PPO’s, why should the same reasoning not apply to choosing
a discount rate based upon a different index when there is not even a mention of it in the
legislation so as to restrict the Lord Chancellor. See Section 2(8) of the Damages Act
1995:
2(8) An order for periodical payments shall be treated as providing for the
amount of payments to vary by reference to the retail prices index ....
2(9) But an order for periodical payments may include provision ...
disapplying subsection (8) or modifying the effect of subsection (8).
31. Therefore although in practice ‘exceptional circumstances’ to shift from a single rate
under Section 1 are necessary, despite its express terms giving the courts a wide
discretion, under Section 2 no such restriction is imposed. It follows, in the absence of the
Lord Chancellor’s decision, that it may have been a logical step for Wells to have been
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developed so as to provide for different discount rates applying to different classes of
damages in accordance with the full compensation principles (see Helmot below).
32. Accordingly, we are presently left in a position where the 2.5% discount rate seems
unchallengeable save perhaps in the circumstances where the impact of tax would have a
substantial effect upon the returns for a claimant living abroad, as in the case of Bieshevel
v Birrell 1999 PIQR Q40. Wells and the Lord Chancellor both approved a single rate for
all claimants and damages and it is impossible to envisage ‘exceptional circumstances’ to
justify a departure and the same is likely to hold true when the Lord Chancellor concludes
his present review. Although it is arguable that subsequent events suggest that Warriner
and Cooke could have been decided differently, they establish that the Courts will follow
the Lord Chancellor’s rate, whatever that turns out to be and, most probably, whatever his
reasons.
33. Of course since 1st April 2005 the availability of periodical payments has to an extent
provided a vehicle by which the perceived unfairness of the continuing 2.5% rate and risk
of under compensation can be avoided. Yet, there remains a reluctance to consider them
in all but the highest cases involving care and case management costs, largely because of
the costs of administration in smaller claims and Claimants’ strong desire to be in control
of their damages and future.
Helmot v Simon
34. In the case of Helmot v Simon (14th September 2010) Jonathon Sumption QC, sitting in
the Court of Appeal of Guernsey, considered a case involving the long term care of a
young victim of a Guernsey road accident. He was not bound by the Damages Act and
based the decision upon common law principles, giving a glimpse of what would have
been in the absence of the Lord Chancellor’s powers. Following Wells he assumed that a
Claimant’s investment would be in ILGS, irrespective of whether the claimant would do
differently (or even could do it all), took account of their different tax rates and the
differences between price and earnings related inflation, giving a result that a discount
rate of -1.5% was applicable to the care and earnings’ claims and 0.5% to all other future
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losses. Of course the setting of different rates is a power available to the Lord Chancellor
but one discouraged in Wells.
35. The following reasoning can be drawn from the decision:
(i)
Guernsey has no equivalent of the Damages Act and no provision for a Lord
Chancellor's discount rate.
(ii)
Guernsey must therefore fall back on the English common law which is generally
followed and applied there.
(iii)
Because the real net rate of return on index-linked gilts in Guernsey was found to
have fallen to c.0.5 per cent, this figure formed the starting point. Then, because
the Guernsey rate of average earnings inflation was found to exceed the related
Guernsey rate of price inflation by 2 per cent, this reduced the discount rate
further to a negative, minus 1.5 per cent, on earnings-related losses, ie care and
lost earnings.
The effect of this decision was that the total award in the Helmot case was almost £14
million and the difference between the cost of future care using a 2.5 per cent discount
rate and -1.5 per cent rate was £5.25 million alone.
36. How genuine a reflection that case is of what would have been decided in the UK is
questionable when the court relied upon the Claimant’s expert accountant (Rowland
Hogg), economist (Roger Bootle) and former government actuary (Christopher Daykin),
in circumstances where they were not cross examined and no evidence was called at all
by the Defendants on discount rates. The Defendant’s case was restricted to urging the
court to adopt the practice in Guernsey of following the Lord Chancellor’s rate despite it
having no legal standing. Further, unlike Wells the Guernsey Court of Appeal confirmed
that it would not prescribe specific discount rates for the foreseeable future in the manner
of Wells, given the uncertainty of future rates of return on ILGS. Indeed they proceeded
to state a formula to be applied in future cases until economic conditions stabilised, and
by implication the discount rose:-
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“50. In future the courts of Guernsey, when assessing recurring future losses
of earnings and care costs, should take as their starting point the assumption
endorsed by the House of Lords in Wells v. Wells that the Plaintiff will invest
any lump sum awarded in UK index-linked gilts, whether or not he actually
intends to do so. In the case of a Guernsey resident who will suffer his loss of
earnings and incur his care costs in Guernsey, the court should determine the
gross redemption yield on UK index-linked gilts. Since the assumption is that
the Plaintiff goes out into market to invest the lump sum on the day of the
judgment, the appropriate course will be to take the average gross
redemption yield over a period of one year up to the time of trial [NB not 3
years as in Wells], of index-linked gilts which remain unredeemed at that
time. They should adjust that yield for (i) taxation at Guernsey rates, and (ii)
the difference between UK and Guernsey rates of price inflation, so as to
produce a net real rate of return in Guernsey. They should then adjust the
result to ensure that in relation to the earnings-related element of the
damages (generally comprising the Plaintiff’s lost earnings and the cost of
paying his carers), the Plaintiff is compensated for the excess of the rate of
inflation of average earnings over the rate of price inflation.
52. Rather different considerations apply to the gross redemption yield on
UK index-linked gilts. In Wells v. Wells the House of Lords expressed the
hope that 3 per cent would be treated as the relevant net rate of return until
the Lord Chancellor exercised his power to fix a rate of return under Section
1 of the Damages Act 1996 .... That assumed a reasonably stable gross
redemption yield of 3.5 per cent. I am not, however, prepared to make a
similar assumption about the gross redemption yield of 1.28 per cent which
the Royal Court has found in this case. It reflects the historically low returns
which are presently available on low-risk fixed-interest securities, after three
years of exceptional turbulence in the bond markets. When conditions
stabilise, it seems unlikely to be at current levels of interest. Until that
happens it may well be appropriate to re-examine case by case the current
gross redemption yield available on UK index-linked gilts. At least that figure
should ordinarily be readily ascertainable and beyond serious challenge.”
37. The case is being appealed to the Judicial Committee of the Privy Council and is expected
to be heard in 2012.
38. As an aside, at first instance the Claimant unsuccessfully challenged the Roberts v
Johnstone approach to accommodation costs, relying upon well published criticisms,
despite the fact the a minus discount rate has a profound effect upon the measure of
damages and, put simply, does not work, providing a negative multiplicand and higher
multiplier.
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Challenging the Lord Chancellor
39. In November 2010 the Lord Chancellor announced that he would review the current
discount rate following a pre-action protocol letter in relation to potential judicial review
sent on behalf of the Association of Personal Injury Lawyers (APIL). The lack of any
signs of action prompted Judicial Review proceedings in April 2011. On the 16th August
2011 Holman J dismissed the application. Although he was “sympathetic” to the
application it had “absolutely no prospect ... of succeeding” with the Lord Chancellor’s
promised consultation paper being due by October 2011. However, he did accept that
there might in due course be grounds for a fresh claim, thereby maintaining pressure on
the Lord Chancellor to come to a decision, which is presently expected to involve the
consultation finishing in early 2012 and an announcement in mid 2012.
40. The perceived wisdom prompting APIL’s actions is that since the 2.5% rate was first set
by the Lord Chancellor in 2001 it has been too high and therefore multipliers and
damages too low. The main criticisms of the 2.5% rate have remained:-
(i)
Wells set the discount rate by reference to the return on ILGS.
The Lord
Chancellor claimed to have ILGS and the principles in Wells at the heart of his
decision when first announcing the rate. Yet economic conditions and ILGS
returns have been such for so long that 2.5% should not have been the appropriate
rate.
(ii)
From a financial perspective, the present law is short changing Claimants to a
significant degree, which can only be avoided by taking on investment risks
contrary to the Wells’ principles.
(iii)
Returns have generally been running at below 1% on ILGS over the last 6 years.
Presently available post-2005 issue ILGS have coupon yields of 0.5% to 1.875%
but actual yields of 0.4% to -1% (due to high market prices). For presently
available pre-2005 issue ILGS, coupon yields are nearly all at 2.5%, but actual
yields range from 0.3% to -2%.
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(iv)
Inflation, as measured by the RPI since 2001 has averaged 3.16% a year (range
2.2% to 4.8%) and not ‘well below’ the 3% anticipated by the Lord Chancellor
and certainly above the governments then target of 2.5%.
(v)
A single discount rate for all future losses is an imprecise tool. As Laws LJ noted
in Cooke v United Bristol Health Care [2003] EWCA Civ 1370:
“Two points about this approach to the assessment of damages are I
think worth noticing at this stage. The first - plain enough - is that an
appropriate discount rate will depend upon prevailing economic
conditions, and so is likely to shift from time to time. The second is
that if a single discount rate is set for all cases, whether by the courts
or by statute (or executive decision taken under statute), the full
compensation principle will only be achieved in a rough and ready
way, since actual rates of inflation will differ between different
sectors. Thus wages are prone to rise at a faster rate in some sectors
than others; and prices likewise.'
The Thompstone appeals, involving periodical payment orders, proved that RPI
is inappropriate for the indexing of damages for future earnings-based losses. On
that reasoning, a discount rate based on it must also be wrong. The Damages Act
envisages the possibility of different rates for different types of loss. It was the
courts willingness to utilise different inflation indices in assessing periodical
payments that justified the negative discount rate in Helmot.
What Next?
41. The Courts have, laudably, wholly differentiated a Claimant from the ordinary investor:
“The premise that the Claimants, who have perhaps been very seriously
injured, are in the same position as ordinary investors is not one that I can
accept. Such Claimants have not chosen to invest: the tort and its
consequences compel them to do so...'
Typically, by investing in equities an ordinary investor takes a calculated risk
which he can bear in order to improve his financial position. On the other
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hand, the typical Claimant requires the return from an award of damages to
provide the necessities of life” (Lord Steyn in Wells)
42. But will the Lord Chancellor do the same? In 2001, the then Lord Chancellor, Lord
Irvine, had taken many years before setting a discount rate. There has been no review of
the rate, despite pressure, until 2011. It is clear that the current Lord Chancellor, Kenneth
Clarke QC MP, is equally not in any hurry to reset the rate. There is clearly reason for this
which could well be expressed in the discount rate that he chooses in 2012.
43. The universal view held by Claimants and Defendants over the last 10 years that the
discount rate has remained too high (best emphasised by the failure of the Defendants in
Helmot to call expert evidence) assumes that the reasoning in Wells is unchallengeable.
However, the Lord Chancellor is not restricted by the common law under the Damages
Act and may consider himself largely unencumbered in setting a rate.
44. Although widely reported as a review of the discount rate, in fact the review goes further.
On 11th May 2011 Justice Minister Jonathan Djanogly responding to questions in the
House confirmed that:"The Lord Chancellor is in the process of reviewing the discount rate. In this
context he has sought views from HM Treasury and the Government Actuary
as required by the Damages Act 1996, and has received representations from
the Association of Personal Injury Lawyers (APIL) and the Association of
British Insurers..........In the light of the views received, he has decided to
conduct a wider consultation on the methodology to be used in setting the
discount rate. A consultation paper will be published soon, and the review
will be completed on as timely a basis as possible.”
45. The current economic and political implications of the decision will be at the forefront of
the Lord Chancellor’s mind, even if not expressed in his decision. NHS trusts and the
MoD have a great deal to lose by a reduced discount rate (eg a reduction in rate to 1%
would increase future losses for a male aged 18 by over 50%). The ABI will have made
submissions based upon devastating financial implications for the insurance industry.
Although we do not have details of the submissions now made, in March 2002 the Lord
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Chancellor published an analysis of the impact of the prescribed discount rate of 2.5%
whereby it was reported by the NHSLA that the cash cost of reducing the discount rate
for them from 3% to 2.5% was £100 million and the total additional cost to insurers was
estimated at £254 million. Any reduction in the current rate (particularly to Helmot levels)
will drive all Claimants away from PPO’s and to lump sum awards that the NHSLA can
ill afford. Put simply this Lord Chancellor is under even more pressure not provide the
result that so many have assumed for so long to be inevitable.
46. So what can the Lord Chancellor rely upon to avoid reducing the discount rate? I set out
below a number of factors that may prove to be all too attractive:(i)
The Lord Chancellor is said to be investigating the practices of the Court of
Protection and the returns achieved for Claimants. He may regard the rates of return
being achieved by protected parties as the most extensive and accurate way of gauging
what the discount rate should be. It is highly likely that this exercise will reveal that
the Court of Protection will at most invest in ILGS to a limited degree and that
returns for protected Claimants substantially greater than 2.5% have been
achieved over the last 10 years. Even in 2001 Lord Chancellor considered this to
be a factor that justified a higher rate than ILGS alone would have done:
“Although the House of Lords in Wells v Wells chose not to be guided
by the practice of the Court of Protection, this was principally on the
grounds that what the Court of Protection might do in the future was
uncertain, and not on the grounds that its practice was irrelevant. I
consider it is appropriate to take account of what has happened in the
period since that decision
Investigations are likely to prove Lord Lloyd wrong when he assumed that with the
resetting of the discount rate in line with ILGS there could be a change in
investment approach:
“'As for the Court of Protection's current policy, it may be that they
feel obliged to invest in equities so long as the sums available for
investment are calculated on the basis of a 4.5 per cent return. In
spite of the risks, it may be the only way of making the money go
around”'
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(ii)
Most IFA’s will claim to be able to achieve a substantially greater return than
2.5% net, and generally do.
(iii)
The Government’s preferred measure of inflation is now the Consumer Price
Index (“CPI”). This generally runs a whole percent lower than the RPI. This could
have a substantial effect on the discount rate and is arguably the more appropriate
rate in taking out housing costs poorly catered for by a Roberts v Johnstone
calculation.
(iv)
The government’s current inflation target is now 2% (based upon CPI) and
therefore lower than the 2.5% target affecting the decision in 2001.
(v)
However laudable the courts approach in Wells in providing security for
Claimants, historical analysis is likely to
reveal that
Claimants are
overcompensated as they do not invest in ILGS. The Law Commission did
suggest in 1994 that many Claimant’s use banks and building societies where rates
are not so high. However, the justification for that approach applies to the
Claimant who is a short term investor because of, for instance, a much reduced
life expectancy. This could be catered for by different discount rates for different
periods of loss as successfully managed in Canada without complication.
(vi)
The Lord Chancellor is not taking a short term approach or assessing the rate
based solely upon events since 2001. He is setting a rate that has to predict the
future. He will search for trends to justify a higher rate. If compensation is
assessed on the very low rates of return available from ILGS at present there will
be inevitable over-compensation for Claimants if and when the rates of return
increase. By contrast, they are unlikely to get significantly lower. All the risk
therefore would seem to lie with the compensator.
47. Wells places ILGS and certainty for the Claimant at the heart of the decision making
process in choosing the discount rate. The Lord Chancellor’s express reference to ILGS
when announcing the rate in 2001 was in keeping with the common law approach.
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However, his justification for setting 2.5% when challenged on the basis that it seemed
too high vis-à-vis ILGS included a host of factors that justified the higher rate than
expected. The Damages Act does not require the Lord Chancellor to have ILGS at the
forefront of the decision making process and the reluctance of all Lord Chancellors to
alter the rate and the costs to the tax payer of higher awards may prompt the current
review to look for reasons to keep the discount rate higher than ILGS rates would justify
and theoretically higher than currently set.
48. When looking beyond the reasoning in Wells it is not difficult to envisage a situation
where the Lord Chancellor could set a single discount rate above the present 2.5%. The
reality is that he is more likely to be inclined to keep as close to the 2.5% rate as possible
and provide a clearer but wider ‘methodology’ for his determination of the discount rate
in the future. The courts are unlikely to interfere with his chosen rate.
49. The prospect of different discount rates for different classes of case seems unlikely. It
would seem logical that to attempt to achieve 100% compensation as accurately as
possible different discount rates should be considered for the Claimant who will be a
relatively short term investor, achieving higher multipliers than the Claimant who will be
a long term investor. It is equally logical that different heads of future loss should be
prescribed different discount rates to account for different indices determining future
inflation for the different types of loss. However, such an approach would be complex,
liable to regular variation and impracticable for practitioners and courts to operate. A
single rate for the longer term based upon investment options available to a Claimant in
the ‘real world’ would seem the most likely result and the most desirable result for the
Treasury.
50. In the meantime, until a new rate is set, practitioners remain in limbo and need to consider
each case individually. For instance, the Claimant with a short life expectancy and a large
accommodation claim may well be better off with a high discount rate (to provide a
higher multiplicand for the RvJ calculation). For the Claimant with a long life expectancy
PPO’s are the only way to protect the Claimant from the risk of investing a lump sum
other than in ILGS (yet ironically will benefit most from a lump sum with a low discount
rate). However, there now appears to be limited merit in awaiting the outcome of the Lord
Chancellor’s review. In Love v Dewsbury [2010] EWHC 3452 the Claimant’s attempt to
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adjourn determination of the issue of the appropriate multiplier to be applied to the
assessment of damages pending the outcome of the review failed. The Deputy High Court
Judge concluded that the correct approach was for the Court to apply the specified
discount rate until such time as it was formally changed. There is equally likely to be no
advantage in settlements being revisited upon any change in the discount rate when
announced despite the NHSLA being all too agreeable to such a course.
Andrew Lewis QC
Byrom Street Chambers, Manchester
(and also at Sovereign Chambers, Leeds)
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