Government finally asks the 2.5% question – is it time to change the discount rate?

Malla: two-stage process

Malla: two-stage process

The government has outlined two approaches to setting the discount rate in its long-awaited consultation on whether it needs changing

This is the first of two Ministry of Justice (MoJ) consultations on the issue, it has emerged

The discount rate is the rate of return to be expected from the investment of a lump sum award of personal injury damages for future loss, and applied to the lump sum to ensure a claimant is not over-compensated

The rate has been 2.5% since 2001, largely by reference to yields from index-linked government gilts (ILGS). This is on the basis that claimants would seek low-risk investments

The MoJ has been under pressure to act on this, with the Association of Personal Injury Lawyers last year launching a judicial review over the failure to reconsider the rate.

The consultation paper said: “Yields on ILGS have been declining for some time and there is a risk that the present rate may now be too high.

“This would mean too much being taken off claimants’ damages; on the flip side, a lower discount rate would mean defendants and their insurers having to pay more.”

The MoJ is seeking views on the methodology to be used in setting the rate, putting forward two broad options: to use an ILGS-based methodology applied to current data; and to move from an ILGS-based calculation to “one based on a mixed portfolio of appropriate investments applied to current data”.

“Identifying the appropriate methodology will not of itself have any direct effect on awards of damages, but, depending on its size, a change in the discount rate may significantly increase or decrease the sums payable in awards of damages for personal injuries.

“This follows inevitably from the application of the principle of full compensation. However, the consequences for defendants of paying awards are not a matter to be taken into account in setting the discount rate.”

The consultation gave the real-life example of a claimant who was awarded a lump sum of £5.5m following the application of a discount rate of 2.5%. Had the discount rate been 1.5%, the award would have been £6.4m and £7.5m had it been 0.5%.

“Whether a change in the discount rate leads to an increase or decrease in the size of awards will depend on how rates have changed since the rate was last set. Any methodology will therefore be capable of producing increases or decreases on different occasions.”

The consultation also raised the possibility of having more than one discount rate to apply to different types of case, and asked for specific rates that respondents would recommend.

Christopher Malla, a partner at leading defendant law firm Kennedys, welcomed the consultation, adding: “I understand from the MoJ that this consultation is a two-part process.

“The methodology is under review in this consultation, with a separate consultation to follow in the autumn to review the present legal basis for the setting of the rate and to seek views on whether the restrictions imposed by the present law on the factors that can be taken into account in the setting of the rate are still appropriate.

“We look forward to working with all parties with a stake in this important issue with a view to achieving a fair and balanced outcome.”