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A year on: further evidence needed before discount rate changes can go ahead

'Fear of further delay' was the headline response to the Justice Select Committee's report on the proposed discount rate reform. If the Government accepts the recommendations that further evidence about claimant investment behaviour is required and that the independent expert panel should participate in the first review, then delay would seem inevitable. In this article, (written almost exactly a year since Liz Truss announced her decision to review the rate) we examine the Committee's recommendations and how they will affect the Government's reform programme. We also ask whether the time has come to start a conversation about the long term sustainability of the principle of full indemnity.

Full compensation and competing interests

Two clear issues arise from the Justice Committee's consideration of the Government's plan to change the assumptions on which the discount rate is calculated: the desire to safeguard vulnerable claimants against under-compensation, and the need to balance the interests of claimants, defendants and the wider society. Further recommendations on the proposed process for setting the rate arise from consideration of these key issues.

Achieving full compensation for claimants

What does 100% compensation mean?

The Committee welcomes the Government’s commitment to the principle of full compensation for claimants, but says it is unclear about what this actually means. Given that a lump sum award will nearly always either under- or over-compensate claimants, the Committee asks if the Government is targeting 100% compensation on average with around half of claimants being under-compensated (and presumably the other half being over-compensated)? If that is the case, the Committee believes that the Government should say so, although later in the report the Committee invites the Government to consider "adopting as a target the median level of compensation to tend towards over-compensation".

Evidence of claimant investment behaviour

The Committee acknowledges that it may be reasonable to change the assumptions on which the discount rate is calculated, as is proposed, if they are no longer representative of “real world” behaviour, but they recommend that "clear and unambiguous evidence" should be gathered about the way claimants invest their lump sum damages before any change is enacted. They did not appear to be satisfied by the Government's conclusion, based on the consultation responses and previous research that claimants are investing in low-risk diversified portfolios of assets. Nor did they seem entirely convinced by the Government Actuary's Department (GAD) analysis, based on the low-risk mixed portfolio approach: they had received no evidence about how closely that information represents advice given to and followed by claimants; and Richard Cropper of PFP had submitted that the “low-risk mixed portfolios” used in the GAD review are not appropriate as a benchmark for claimants, saying that that the portfolios could not be considered ‘low risk’ as they contain too great a proportion of equities. Data was a recurring question in the oral evidence sessions and it seems that the Committee was ultimately not satisfied with the responses given, no doubt heeding previous criticism of the inadequacy of the evidence obtained in support of the LASPO changes to the legal aid system.

Use of claimant investment behaviour when calculating the rate

Notwithstanding the recommendation for more evidence of claimant investment behaviour the Committee then went on to advise caution against using evidence of claimants' investment behaviour to set the discount rate. The Committee accepted the assertion made by the claimant lobby that investment by claimants in higher risk portfolios could indicate they are under-compensated and forced into higher-risk investments to generate sufficient return for their future living expenses.

Therefore if the rate is to take account of investment behaviour, the Committee says that a mechanism must be established to keep those responsible for setting the rate informed about that behaviour. Until the Government obtains data on whether claimants are being appropriately compensated, the Committee recommends that as a starting point the rate should be set at the lower end of the range of “low-risk”, and that the Government should aim for a higher proportion of over-compensation to safeguard the interests of vulnerable claimants who could be significantly under-compensated.

Balancing the costs and benefits for claimants, defendants and the wider society

The Committee recognises that setting the discount rate is more than a technical decision: it involves balancing the interests of claimants with those of defendants, and also balancing the social costs of increased clinical negligence payments and increased insurance premiums. Whilst it is reasonable for the Government to take into account the impact of the discount rate on clinical negligence payments and insurance premiums, the Committee says it should be open about this.

It would have been helpful, they say, for the Government to have given an estimate of the costs and benefits of the legislation in its impact assessment, based upon its “assessment” that the discount rate would be between “0% and 1%”. They also recommend that whenever the Government changes the discount rate under this legislation, it should publish an estimate of the costs and benefits of the change to claimants and defendants. It should also report on the impact of changes in the discount rate on motor insurance premiums and the extent to which increases in the rate are reflected in reduced premiums. If changes in the discount rate do not lead to the forecasted reductions in premiums, it would mean that some of the social benefits of changing the risk profile for setting the rate had not materialised and this would need to be taken into account in future reviews.

The process of setting the rate

The Committee agrees that the decision to set the discount rate should remain with the Lord Chancellor but recommends publication of the reasons for that decision, alongside the expert panel's advice, and reasons for not accepting the advice of the panel whenever that occurs.

They also agree with the Law Society that the expert panel should be involved in the first review of the rate. This was not in the Government's proposals and again would if adopted add delay to the process of changing the current rate.

The Committee does not express a view on the frequency of the reviews but acknowledges that the timing of changes to the rate should take account of the need to minimise disruption to the financial year end of insurers and the NHS.

It goes on to recommend that the legislation should require the expert panel and the Lord Chancellor expressly to consider whether to set different discount rates for different periods of loss or different heads of damage and also to consider the most appropriate way to take into account the cost of financial advice and management and inflation.

Comment

Pre-legislative scrutiny of draft bills has in recent years become part of the usual parliamentary process. The recommendations from the Committee in this report are not binding on the Government but the debates which ensue when the bill to enact these reforms begins its progress through parliament, are likely to make use of the points raised in pre-legislative scrutiny.

Claimant representatives will be pleased with the report: both the oral evidence and written submissions of PFP's Richard Cropper, and Professor Victoria Wass have informed the Committee's cautious approach. Richard Cropper's assertion that even under a "risk-free" discount rate, compensation is inadequate for a claimant's accommodation needs (as part of the ongoing criticism by the claimant lobby of the principles established in Roberts v Johnstone) made an impression on the Committee.

Insurers are pleased that the Committee recognises that there is a balance to be sought between the interests of claimants and defendants and the social costs of increased clinical negligence damages payments and increased insurance premiums. The recommendation for the Lord Chancellor to publish reasons for the decision on setting the rate will also be welcomed to promote transparency.

There will however be disappointment about the potential for further delay before the process of reviewing how the rate is set can be finalised, with the Committee seeing a need for further evidence of claimant investment behaviours and recommending the involvement of the expert panel for the first review.

It is worth noting that during the oral evidence sessions, the ABI's Huw Evans and Emma Hallinan of the Medical Protection Society explained that insurance companies and the MPS had not passed on the full -0.75% discount rate to policyholders and general practitioners because the Government had promised that it would review the process of setting the rate. It remains to be seen how long this course of action can be sustained in the event of a lengthened timetable.

In our last update we concluded that the Government had carefully considered the consultation responses and the comprehensive evidence from the GAD to produce a fairer process. It is perhaps then disappointing that the Committee was not persuaded by the evidence of FOIL and other defendant representatives, including DWF, that over the past five years “full opportunity has been given to claimant representatives to present evidence on claimants’ behaviour but very little has been forthcoming” and that it should therefore be seen as appropriate for the Government now to assume “that claimants generally adopt a low-risk mixed portfolio approach”.

We will see in the next two months how the Government proposes to proceed as they are committed to outlining a response to the Committee's report by the end of January.

The question of how the proposed reform of the discount rate will be taken forward should also be considered alongside progress on the other reforms recently proposed for civil claims. We still await publication of the Civil Liability Bill on whiplash reform which can also be expected to be sent for pre-legislative scrutiny when published. To date, the discount rate has been seen as taking precedence over whiplash reform for the Government but depending on any further action the Government considers necessary to progress the discount rate reform, those priorities could be reconsidered.

The outcome of the Committee's report alongside other recent input from a Supreme Court judge raises a further thought, namely whether notwithstanding the commitment to the 100% compensation principle from all stakeholders throughout this consultation,  the point is now being reached where a discussion needs to begin about the future of personal injury damages? 

In one of our previous updates following the cut to the discount rate we warned that the widening chasm between society’s provision for catastrophic injury suffered by those in receipt of compensation following a tortious act, compared with those who have suffered the same injury where there is no fault, is becoming hard to justify from an ethical point of view.

Professor Wass raised the issue in her oral evidence to the Committee:

"The question gets to the heart of what is driving the Bill: the cost to the NHS and the inflationary costs of car insurance. The Bill must be presented with that as the motivation—that the Government think that, for prudent fiscal and financial reasons, we should change the discount rate on the basis of a mixed portfolio. But we then cannot also claim that we are achieving the 100% compensation principle. You cannot have them both. You have to choose one or the other."

The input of the Supreme Court judge came from Lord Sumption, in his Personal Injuries Bar Association Annual Lecture in November, when he questioned the ability of the NHS and insurance policyholders to continue to shoulder a fault-based liability system for personal injury and the principle of full indemnity. He predicts the likely outcome to be "the abolition of the principle of full indemnity and its replacement by a statutory measure of damages with a view to achieving a better balance between public and private interests". He sees the direction of travel being the potential capping or abolition of certain heads of loss, looking to the Australian example set in New South Wales where liability thresholds and caps on awards for loss of earnings were introduced following large and unpopular increases in insurance premiums. As he notes though, these reforms though were accompanied by other measures making more generous statutory provision for certain categories of victim including a generous statutory scheme for compensating those suffering from personal injuries involving long-term care.

It is becoming apparent that the bombshell dropped by the then Lord Chancellor Liz Truss earlier this year with her sweeping reduction in the discount rate may now be giving rise to unintended consequences and that the resounding cheers from claimant representatives may ultimately prove to have been misplaced. If the end result is a review of the very principle of how damages are awarded, that is unlikely to result in the level of awards continuing to increase and indeed a reduction to a level which society is better able to afford could be anticipated. In turn, this may well have a significant impact on the significant level of legal costs currently being recovered in these claims by claimants' solicitors. Might the turkeys in the end prove to have indeed voted for Christmas?

Contact

For further information please contact Charles Ashmore on 01908 255594 or at charles.ashmore@dwf.law

Read more from DWF on the Discount Rate developments to date.

By Charles Ashmore

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This information is intended as a general discussion surrounding the topics covered and is for guidance purposes only. It does not constitute legal advice and should not be regarded as a substitute for taking legal advice. DWF is not responsible for any activity undertaken based on this information.

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