The origins of the statutory discount rate for lump sum personal injury awards

The announcement last Monday of a new prescribed interest rate to be used in the calculation of general damages for future pecuniary loss made me reach back deep into my memory to recall how the Lord Chancellor first acquired any statutory powers in this matter.

When I joined the Law Commission in January 1993, one of our on-going projects was a massive review of the ways in which damages should be calculated in many different corners of personal injuries legislation. The responsible Law Commissioner was Jack Beatson, now a Lord Justice of Appeal.

A few months earlier the Commission had published a Consultation Paper in which it discussed ways of achieving greater accuracy in the calculation of lump sum awards to compensate for future financial loss. It said:

“The multiplier approach is very flexible in that it can incorporate virtually any assumption about ‘contingencies and chances’, and about interest rates. However, the use of the multiplier system seems to us to be inappropriate unless use is also made of the most up-to-date information. Because we believe that to make complex assumptions about mortality rates would not lead to the most accurate assessment of damages so long as very crude assumptions about interest rates are made, our provisional view is that courts should make more use of information from the financial markets in discounting lump sums to take account of the fact that they are paid today,

One way of doing this would be if courts were able to refer to the rate of return on Index-Linked Government Securities (ILGS’) to establish an appropriate rate of discount. The aim would be to reflect the best market opinion as to what real interest rates will be. Because the quoted stocks show a range of yields, it might be appropriate for the court to consider published yields on a basket of ILGS for a set period, for example a month. An alternative method might be to require expert evidence analysing this data to be put before the court by the parties. The question upon which we seek the views of consultees is whether it is possible to use the return on ILGS as a guide to the appropriate discount. If so, we would welcome advice as to exactly how that could be done and whether it would be a less arbitrary method than reliance on the conventional 4.5%. We also seek the views of consultees as to possible alternatives to ILGS as suitable indicators.

Such an approach rests on the assumption that ILGS are a permanent feature of the financial market. ILGS have been issued from time to time since 1981, the latest issue being on 12 June 1992 with a redemption date of 2030. We accept that there is no guarantee that the Government will continue to offer such stock. However, it is reasonable to proceed on the basis that they are now an established feature of the market. As long as there are concerns about the rate of inflation and whether or not it can be controlled, there will be a perceived need for such stock.

Further, it is likely that insurance companies will maintain demand for ILGS even when inflation is low since the purchase of the stock allows them to hedge their long-term liabilities. If, however, there are significant doubts about our assumptions, flexibility could be preserved in any legislation establishing the rule as to the use of this evidence. Should ILGS cease to be available, Rules of Court could allow for a suitable replacement to be specified. Obviously if ILGS no longer exist and no alternative is specified, judges will not be required to take account of such evidence.

In September 1994, following the usual thorough consultation process, we published our first report in the new series: Structured Settlements and Interim and Provisional Damages (1994) Law Com No 224.  In it we considered that the time had come for the courts to take actuarial evidence into account in the calculation of these awards, now that the early defects in what became known as the Ogden Tables[1] had been ironed out.

On the question of the discount rate most respondents to the consultation had supported our approach in the consultation paper, with none of them suggesting any particularly radical alternative.  We also referred to a very substantial piece of research[2], led by Professor Hazel Genn, which we had commissioned.  This revealed that in practice it was the claimants who had suffered the most serious injuries who were the most concerned to preserve their funds for the future. This, we said, “would make them naturally risk-averse.”

The draft Bill attached to our report showed (as the report suggested) that we envisaged that the Lord Chancellor’s role would be limited to filling the gap which would occur if the practice of issuing index-linked government securities ever came to an end:

(1) This section has effect in relation to the assessment, in an action for personal injury, of the sum to be awarded as general damages for future pecuniary loss.

(2) Actuarial tables for use in personal injury and fatal accident cases prepared by the Government Actuary’s Department shall be admissible as evidence of the matters which they contain and may be proved by the production of a copy published by Her Majesty’s Stationery Office.

(3) In determining the return to be expected from the investment of the sum awarded, the court shall, subject to and in accordance with rules of court made for the purposes of this provision, take into account the net return on an index-linked government security but it shall be open to any party to show that a different rate of return is more appropriate in the case in question.

(4) If at any time it appears to the Lord Chancellor that no index-linked government security exists to which reference can be made under subsection (3) above he may by order prescribe an alternative indicator of real rates of return and that subsection shall have effect accordingly.

(5) Before making an order under subsection (4) 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.

If Parliament had adopted this recommendation, none of the later problems would have arisen. In the same way that pension payments linked to the retail price index or the consumer price Index are varied as those indices rise or fall, so the courts would have adopted seamlessly the current net return available on a newly issued index-linked government security.  The Lord Chancellor, even though he was until April 2006 the head of the judiciary, would only have a role to play if the practice of issuing government-linked securities came to an end at some future date.

However, by the time the Damages Act 1996 came into force in September 1996, almost exactly two years after we submitted our report to Parliament, the Government had tweaked our recommendations slightly, so that the legislation provided that the Lord Chancellor was to be given the role of prescribing “from time to time” what was to be treated as the “default” rate of return[3].

The relevant clause, when enacted, read:

Assumed rate of return on investment of damages

(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.

(5) In the application of this section to Scotland for references to the Lord Chancellor there shall be substituted references to the Secretary of State.

I am pretty sure that we would not have favoured the Government’s preferred approach. In the field of bereavement damages, a similar formula had been used when a statutory award was first introduced (at a level of £3,500) in 1976, and it was only the political storm that followed some high-profile disasters[4] which had led to an increase in the statutory award for the first time to £7,500 15 years later. When (after my time there) the Law Commission reported on this issue in 1999, it recommended an increase to £10,000[5].

It also recommended that this sum should then be varied in accordance with movements in the retail price index since the Act came into force, but once again the Government preferred to leave it to the Lord Chancellor to go on varying the rate from time to time, despite the unpromising past history of this formula in practice.

In 2001 the Lord Chancellor fixed the Damages Act rate (for the first and only time – until this week) at 2.5%.

When the different statutory responsibilities of the Lord Chancellor came to be divided up in the context of the 2005 constitutional reforms, the Government insisted that this power should remain vested in the Lord Chancellor, as opposed to the Lord Chief Justice (who now became head of the judiciary), even though it was in essence a judicial act to be performed in setting the rate.

In recent years, everyone has known that the dismal failure of successive Lord Chancellors to alter the prescribed discount rate was increasingly meaning that the courts were being precluded from applying realistic discount rates, so that their awards increasingly favoured defendants.

This became blindingly obvious when the courts in Guernsey, later upheld by the Privy Council[6], applied a negative discount rate (of minus 1.5%) because the Damages Act 1996 did not apply to the Channel Islands. And even now it is unlikely that the Lord Chancellor would have taken any action if judicial review proceedings had not been threatened against her by organisations representing claimants’ interests.

This saga has been redolent of bad government. It could well be that another Law Commission study might show that after a long period of low inflation some other formula might be more appropriate (so long as claimants were to be entitled to include the cost of an independent financial adviser within the sum to be awarded to them). What was inexcusable was for the Lord Chancellor to do nothing at all, even though it must have been obvious to him and his advisers year by year that completely unrealistic discount rates were being applied to their awards which would no longer be sufficient to cover their future costs they would have to meet.

I certainly welcome the idea of a new study, nearly 25 years after the study we conducted, so long as it is conducted with the independence and thoroughness of a Law Commission study, supplemented by independent research of the quality of the study Professor Genn conducted all those years ago.

The histrionic reaction of some leaders of insurance interests, however, and the immediate involvement of the Chancellor of the Exchequer suggest that Government (which as a paying party in many cases has an interest in keeping awards as low as it can) will not be trusted to achieve a just result (in the performance of what is essentially a judicial function) if it is unwilling to commission transparently independent skilled advice on this very difficult and emotive issue.

 

[1] Named after Sir Michael Ogden QC, the specialist personal injuries silk who led the campaign to put the calculation of these awards onto a more rational basis.

[2] Personal Injury Compensation: How Much is Enough? A study of the compensation experiences of victims of personal injury (1994) Law Com No 225.

[3] : I do not know if any litigant ever sought to persuade a court that a different rate of return (other than the prescribed rate) would be more appropriate “in the case in question”. The statutory language would have precluded a court from ruling that the prescribed rate was so badly out of date that it could be disregarded in all cases.

[4] Such as the fire at King’s Cross Underground station and the sinking of the “Herald of Free Enterprise” ferry at Zeebrugge.

[5] Claims for Wrongful Death (1999) Law Com No 263,, paras 6.42 – 6.43.

[6] Simon v Helmut (2012) UKPC 5.

One thought on “The origins of the statutory discount rate for lump sum personal injury awards

  1. Pingback: The discount rate: some defects in the Ministry’s Consultation Paper – Henry Brooke

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