Personal Injury Discount Rate Reform: Easing Pressure On Compensation Payments & Liability Premiums
When a UK court decides on lump sum compensation payments it awards to people seriously injured or suffering long term trauma/disability from incident, accident, malpractice or negligence, it will always take into account the likely investment income the victim will typically earn.
Damages are decided using the Ogden Table guidelines (introduced in The Civil Evidence Act of 1995) and the personal injury discount rate is applied to reflect the possible investment return. This discount rate is based on the amount the individual can expect to earn by investing a lump sum; one that would put them in the same financial position but for the injury sustained. In short, Ogden stipulates the lower the assumed investment interest rate then the higher the lump sum compensation payment.
The introduction of a new personal injury discount rate in March 2017 had a significant immediate impact on claims payments and on the reserves that insurers had to make to meet higher lump sum compensation awards. Accordingly, the Government has announced plans to revise the rate with regular reviews every three years, following a full consultation investigating a fairer way to set the discount rate in future. Let’s drill down…
- The UK Government cut the Ogden interest rate on compensation payments from 2.5% to minus 0.75% in February 2017. There is concern that the reduced interest rate will begin to drive higher compensation payment amounts and this in turn is already having a tangible impact on premiums.
- It also caused most insurers of third party personal injury liabilities (including motor underwriters) to make major upward adjustments to their reserves for long term injury claims.
- The Ogden discount rate drop wiped an estimated £2bn a year from insurer profits through higher payouts, driving sharp increases in personal injury liability and medical malpractice premiums as insurers attempted to return to the black.1
- An example of the impact: the Association of British Insurers (ABI) estimated that 36 million business fleet and personal motor insurance policies would be negatively affected - increasing premiums for millions of businesses and individuals to cover over-compensation in just a few thousand cases.2
- Government itself put aside an extra £1.2bn to meet the changed compensation award obligations from the NHS as well as for various other costs.3
Regulators and the industry highlighted the likely surge in compensation amounts and in March 2017, the Government launched a full consultation to consider all the evidence. The consultation concluded that claimants actually take more investment risk than the rate (and the law under Ogden) currently assumes.
- The Government proposes to adjust the original cut to Ogden, ensuring the interest rate for compensation payments fairly reflects how accident victims invest.
- The proposed changes to the discount rate under Ogden mean the rate may possibly move from ‘very low risk’ to ‘low risk’ investments, typically yielding between 0% and 1%.
What are the impacts of the Government’s consultation?
The reforms to the discount rate are part of plans to ensure that victims of personal injuries get the right compensation. The potential re-adjustments to the Ogden discount rate outlined in the consultation will ensure that claimants are put in the same financial position they would have found themselves had they not been injured. Importantly, recalibrating the personal injury discount rate will mean no victim is under or over-compensated.
- If implemented, they should help relieve some of the inflationary pressures on motor and liability insurance premiums, as well as the NHS-borne cost for medical negligence claims generated by the rate reduction from 2.5% to minus 0.75%.
- The proposed alterations should better reflect the investment habits of claimants, reduce the amount they could potentially receive, lessen the negative impact on insurer profitability and also relieve upward pressure on insurance policy premiums.
- They also specify a commitment to review the discount rate at least every three years plus an extension of the review powers available to the Lord Chancellor that adds an independent expert onto the Ogden panel.
- If implemented, insurers’ long tail claims reserves should become lower than forecasted under the old rates. This should lessen the impetus for premium increases across commercial liability insurances (such as employers liability, motor fleet and medical negligence) and personal premiums (with motor for instance) -plus likely reduced compensation expenditure by the NHS in cases of medical malpractice.
Lord Chancellor and Justice Secretary David Lidington said: “We want to introduce a new framework based on how claimants actually invest, as well as making sure the rate is reviewed fairly and regularly”.
In a public statement, the Ministry of Justice added: “While it is difficult to provide an estimate based on currently available information, if the new system were to be applied today the rate might be in the region of 0% to 1%. The move will help ensure that claimants continue to receive full compensation, but will significantly reduce overpayment by more reliably reflecting how the money is actually invested”.
What happens next?
The legislation is currently in draft form, will not be backdated and will only be applicable if it passes into law. The proposal will ensure the rate is reviewed more regularly in future and at least every three years. The Lord Chancellor will carry out the reviews as part of an independent expert panel.
What you need to do next
Your Account Manager will be able to identify how these changes will impact your claims reserves and future corporate insurance premiums and can work with you to assess how they may affect your business. If you have any concerns, please get in touch with them in the usual manner.
The Arthur J. Gallagher perspective:
We see the proposed legislative changes as a way to take volatility out of the market and avoid dramatic and disruptive adjustments in personal injury compensation rates. Naturally, the combination of time and how the legislative detail pans out will in turn decide how insurers choose to readjust their claim reserves back down and how this may reverse the adverse effect on many clients’ loss ratio. The inclusion of an independent expert on the review panel is a very positive move and will add greater precision to the process. We will continue to monitor the situation and keep you informed of developments.
1 & 3 Source: Financial Times / 7 September 2017 / UK insurers win multibillion victory over compensation rates / by Oliver Ralph, Insurance Correspondent.
2 Source: Daily Telegraph / 27 February 2017 / UK insurers hit back at ‘crazy’ personal injury rate change as share prices tumble / by Julia Bradshaw.