The Lord Chancellor has today announced that the discount rate used for lump sum personal injury compensation payouts is to be cut from the current level of 2.5% to a negative rate of 0.75%. When calculating the size of compensation awards, courts in the UK must make an assumption about the returns that will be available on the monies; the higher this interest rate, the lower the upfront payment required. The move to a negative discount rate means that insurers must pay more immediately than the expected total future cost of the claim. By way of an example, for a compensation expected to last 25 years, the total present value is almost 50% higher using the revised negative discount rate announced today, rather than the original rate.

The so-called Ogden rate has been held constant since 2001 and has been under review since late last year. This change has wide ranging ramifications for insurers and reinsurers of UK motor business as well as other parties responsible for compensation for long term injuries including the National Health Service and the Ministry of Defence. A recent study by Willis Towers Watson, a leading global advisory, insurance broking and risk solutions company, put the estimated cost to the insurance industry of a reduction in the Ogden rate from +2.5% to -0.5% at £4.9 billion. There would also be an annual increase in the costs of motor insurance of £700 million.

The actual change in discount rate is worse than most insurers have projected. Direct Line was due to announce its annual results on 28 February but decided to defer until 7 March pending the Lord Chancellor’s announcement. It did, however, state that it had been applying a lower discount rate of +1.5% for all long term injury claims liabilities in the expectation that the Ogden rate would reduce. Admiral has also announced the deferral of its annual results in the light of the change. Admiral has stated that its 2016 profits would be reduced by between £70m and £100m as a consequence of the change (profits before tax in 2015 were £377m).

Although the most material impact of the change will be borne by the syndicate reinsurance, this is a material setback for ERS Syndicate 218. ERS Syndicate Management Limited will resubmit its year end returns to Lloyd’s on 10 March, with this resubmission including a full and final reassessment of the judgement. It states that it does expect to close the 2014 account as at 31 December 2016 but that the previous guidance given on the 2014 and 2015 accounts is now outdated and that the results and forecasts will be materially worse. The managing agent does not expect to make any further announcements on the results before 10 March.

Forecast results for the 2014 and 2015 accounts as at 30 September were as follows:

Year of account

Capacity

Forecast Range

2014

£437,522,000

8.6% loss to 1.4% profit

2015

£349,828,000

2.9% loss to 7.1% profit

The Association of British Insurers has described the change in the Ogden rate as “crazy” and a “massive own goal” that lands the NHS with a likely £1 billion increase in compensation costs. Director General, Huw Evans said “Cutting the discount rate to -0.75% from 2.5% is a crazy decision by Liz Truss. Claims costs will soar, making it inevitable that there will be an increase in motor and liability premiums for millions of drivers and businesses across the UK. We estimate that up to 36 million individual and business motor insurance policies could be affected in order to over-compensate a few thousand claimants a year. To make such a significant change to the rate using a broken formula is reckless in the extreme, and shows an utter disregard for the impact this will have on consumers, businesses and the wider operation of the insurance market."

The government has said that it will review the framework for setting the discount rate in the future, to ensure that it remains “fit for purpose”. It plans to consult on options for reform before Easter.

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