Judges agree realistic rate of return to protect the injured
As part of that judgment, it was considered reasonable to expect someone receiving damages for a future loss to invest their compensation and for the proceeds to go towards their future needs. For example, if someone were awarded, say, £10,000 per year for a 10 year period they could be expected to benefit from investing their compensation so that a discounted award of, say, £85,000, would be enough to fund the award now and in the next 10 years.
The question arose, however, whether damages should be assessed on the basis that the plaintiffs invest those damages in risk-free Index Linked Government Stock (ILGS) or whether, as the Court of Appeal had found, they should be assessed on the basis that they had invested in equities, which provide higher returns on average but which expose the plaintiff to greater risk.
Their Lordships found that while a basket of equities might yield 4-5 per cent p.a., a basket of risk-free ILGS would yield about 3 per cent p.a. net of income tax.
Their Lordships ruled it was right for the trial judges to find that a reasonable plaintiff would make conservative, risk-free investments, i.e. investments in ILGS.
Accordingly, they substituted a discount rate of 3 per cent net of income tax in place of the rates of 4-5 per cent allowed by the Court of Appeal and ordered the awards be recalculated accordingly. This had the effect of reducing the benefit to be expected from any investment income so that the necessary starting award must be increased to keep pace.
It was not, however, until 27 June 2001 that the Lord Chancellor actually fixed the discount rate for the first time, at 2.5 per cent p.a. It remained unchanged until April 2017.
Since 2001, the UK has entered an extended period of low inflation and interest rates. This has had the effect of reducing the returns available upon the investment of a given sum of capital, so that to fund their needs each year, injured claimants have been compelled to eat into their capital funds or go without. The difference between an actuarial projection of the capital funds required to meet the needs of injured claimants and the awards that were being made in accordance with the fixed discount rate has been growing. This led APIL (Association of Personal Injury Lawyers) to bring judicial review proceedings against successive Lords Chancellor to exercise his or her powers to review the discount rate.
On 27 February 2017, the Lord Chancellor Elizabeth Truss gave notice that with effect from 20 April 2017, the discount rate would now be set at minus 0.75 per cent p.a. to reflect the evidence of the real returns available on ILGS-based investments, acknowledging that the purpose was to "make sure the right rate is set to compensate claimants"[1]
This change may have been welcomed by claimants and their representatives, but the insurance industry responded to this "crazy" decision by calling for immediate changes to be incorporated in the Prison and Courts Bill.[2]
The Lord Chancellor's decision is likely to make final lump sum settlements more favourable than PPO settlements. It may now be cheaper, for instance, for defendants to pay for property outright rather than to fund rental or mortgage as per Roberts v Johnstone [1989] 1 QB 878.
The Lord Chancellor is obliged to exercise her discretion rationally and by reference to evidence. It has taken the Lord Chancellor 16 years to respond to a changing economic environment and to adjust the discount rate accordingly. It is unlikely this decision will be amenable to judicial review (and one application by ABI to obtain an injunction has already been made and has been dismissed[3]) and so the rate now stands at minus 0.75%.
It is possible that the Government will introduce changes in the future so that damages for future loss should not be calculated on a compensatory basis as per Wells v Wells but on some other basis. The Government will perhaps have little time available in the next few years to do so but there will be circumstances when the courts will have the power to depart from the prescribed rate.[4]
It's worth noting that nearly 20 years ago, Lord Lloyd of Berwick in Wells v Wells suggested the discount rate should be reviewed (but not necessarily changed) annually.
For the present, therefore, it is most likely that the courts will calculate damages for future loss on the basis of a discount rate of minus 0.75 per cent p.a. Given the burden that this places on defendants to fully compensate seriously injured claimants, and given the Government's position as a major defendant in claims brought against the MoD, local government, the NHS and former nationalised industries, we may well see the introduction of regular evidence-based reviews of the discount rate in an attempt to strike a balance between seriously injured claimants on the one hand and negligent defendants on the other.
[1] Ministry of Justice Press Release 27 February 2017
[2] ABI Press release 27 February 2017
[3] 20 January 2017
[4] See e.g. Helmot v Simon [2012] UKPC 5; Wells v Wells passim; S1(3) Damages Act 1996