Insurance discount rate debate: A fundamentally flawed decision that could cost the sector billions
No one can dispute the right of someone seriously injured in an accident to receive compensation.
Where claimants choose to take a lump sum, arriving at the right figure is no easy task as it needs to take into account the long-term cost of care and loss of earnings, among other things. A key component is taking into account how much claimants may earn over time when their lump sum compensation is invested. This adjustment is called the discount rate and, since 2001, it has been set at 2.5 per cent.
In December, after the threat of being judicially reviewed by the Association of Personal Injury Lawyers, the Lord Chancellor, Liz Truss, suddenly announced plans to review the discount rate.
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We took the Lord Chancellor to court and, despite the many shortcomings in the process to date, our attempt to prevent her announcing the outcomes of her review without concluding earlier consultations was rejected.
Unintended consequences
As we approach the point of her decision, let’s be in no doubt: this decision by the Lord Chancellor risks being fundamentally flawed.
A significant downward change in the discount rate will have unintended knock-on effects across the board, so it is vital for every person in the UK to be aware of this; not just those paying motor insurance.
Thousands of people every year suffer the kind of tragic injuries that mean they will spend the rest of their life receiving medical treatment and care. No amount of financial compensation can make up for that but insurance is there to help people get their lives back on track. The real difference this makes to injured people is one of the things that makes me proud to work for the industry I do.
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Take Ben, a 25-year-old sales executive from Lincolnshire who is disabled due to a road traffic accident and cannot work again. He has a degree qualification and it is determined he would have earned £30,000 a year until retirement at 65. Care for the rest of his life is determined to cost £80,000 per year.
Ben has two choices. One option is that he can ask his insurer to invest his damages via a Periodical Payment Order (PPO). Alternatively, he can take a lump sum and ask an independent financial adviser (IFA) to invest it, to produce a return. At the current discount rate of 2.5 per cent, Ben can expect total damages of around £3.2m. If the rate is slashed to minus one per cent, Ben’s total lump sum damages suddenly almost treble to around £8.3m. But if Ben’s IFA, through cautious investment, in fact receives a one per cent rate of return on that sum, Ben is effectively receiving £88,821 more per annum than he should.
Some might say Ben getting more compensation to compensate him for his injuries is a good thing but it is important to ask who will ultimately be footing the bill? Well, that would be you. And me. And the other 36 million motor policyholders in the UK. The greatest cost increases are likely to be borne by those “just about managing” and those who already pay the highest premiums because of the greater risk they represent, such as younger and much older drivers.
NHS
But it isn’t just about motor insurance. Changes to the discount rate will slam other struggling public sector bodies like the NHS, as well as the Ministry of Defence with skyrocketing bills. With clinical negligence claims costing the NHS in England over £1.5bn last year, a change in the discount rate at a time when NHS budgets are already under extreme pressure will have a very serious impact.
All of a sudden, this threatens to become a multi-billion pound problem for everyone and will likely hit the pocket of every person in the UK.
Many businesses buy motor and liability insurance and this will drive up costs at a time of uncertainty in the economy. Some, like bus companies or road hauliers, will be particularly affected. This is not only due to the significant risk they present but because, given the smaller number of insurers selling this insurance, any changes in their appetite for business could have a greater impact on capacity in the market.
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The ball is now firmly in the Lord Chancellor’s court. As an industry, we are committed to providing fair compensation to those who need it, but the system needs to work fairly for everyone.
We continue to call on the Ministry of Justice to set a fair rate; one that works for both the victims of life-changing injuries and those insurance premium payers who will ultimately be footing the bill.