A lifetime of payments

Why wouldn’t a person hurt in a devastating accident want a lump-sum payment from their insurer? That’s the question being asked by claims directors as periodic payments grow in popularity.

The answer is that, in a downturn, claimants are more attracted to the idea of a guaranteed tax-free annual income for the rest of their lives. The trend is bad news for insurers, however: periodic payments tend to cost more than a lump sum. The shift also raises pressure on reserves and leads to a shortage of the “impaired life annuity” policies that insurers buy to meet the payments.

People who are seriously injured – perhaps in a car crash or by a defective product – still tend to prefer lump-sum awards because they offer control over their settlement and the flexibility to invest, but Mike Telford, claims controller for QBE European operations, says insurers need to identify those customers who might opt for periodic payments.

“In the past it would’ve been brain injuries mainly but, because of the current economic climate, solicitors will be looking more and more to use periodic payments. Insurers should be looking at all their large claims for spinal and brain injuries – anything over £1m.”

Insurers

Periodic payments cost insurers more because the court calculates the award differently. In a lump-sum award for future care costs, the judge will consider a claimant’s life expectancy and assumed investment returns. When periodic payments are calculated, the mortality and investment risk are removed.

Lump sums are still used in personal injury settlements to cover losses of past income, future loss of earnings and the injury itself. So when periodic payments are used, there is still a lump-sum award.

Insurers must fund periodic payments through their reserves. If they struggle to do this, they must buy an impaired life annuity. But these are expensive – and AIG is the only UK provider.

As a life and non-life insurer, AXA can provide its own annuities, but most general insurers don’t have that luxury. Much of the burden also falls on reinsurers. A young person who suffers a brain injury and needs 24-hour care might receive about £9m in periodic and lump-sum payments. Smaller insurers might only have cover up to £1m or £2m before their reinsurance kicks in.

But periodic payments aren’t always more expensive. If a claimant receives a lump sum and then dies, the money can go to their estate. But periodic payments end with a claimant’s death.

If he or she dies soon after an accident, the insurer will save money.

Insurers also have the option of offering larger lump sums – something that claimant lawyers have already been pushing for.

Martin Saunders, motor and casualty claims manager for Allianz, says many claimants still prefer lump sums. “We do see some periodic payments – strangely enough we have completed a couple in the past month. I wouldn’t say that’s a trend yet but I think the economy might be a factor into 2009. [Periodic payments] certainly give a lot more security.”

The claimants in the first two periodic payment cases that Allianz settled died within weeks. Saunders says: “We [paid] both lump sum and periodic payment, where we awarded lump sum to cover past losses. If you need an award to cover future care, you need that for the rest of your life. If you die, then you don’t need the care so you don’t need the money to pay for it. You could argue that, in those circumstances, that is the fairest way in which to award the money.”

He says the best approach is take it case by case. “You’ve got to look at personal circumstances, desires and outcomes. I think [periodic payment] is one of the things in a basket of tools.”

QBE has settled only one periodic payment case, and that was more than two years ago. But Telford says: “Recently we’ve had plenty of claimant lawyers suggesting their client would like a periodic payment. It does seem to be becoming more prevalent.”

Courts

As Britain slips into recession, the courts are expected to favour periodic payment to provide better security for the future care costs of people who have suffered catastrophic injuries.

Joe Monk, a partner at actuarial consultant Lane Clark & Peacock, says periodic payments remain a small percentage of payouts. But he expects the number to increase markedly. “As soon as it gets near a judge, it’s [now] very difficult not to get a periodic payment.”

Before 2005, periodic payments were only awarded if both the defendant and claimant agreed. But since April 2005, courts have had the power to make periodic payment orders – even if the defendant and claimant want a lump sum.

Initially, payments were linked to the retail price index (RPI). Take-up remained low, something industry experts thought was down to claimants’ mistrust of how much they would get in annual income.

But the regular payments were boosted a year ago when the Court of Appeal upheld a landmark decision in Thompstone vs Tameside & Glossop Acute Services NHS Trust. That decision linked payments to the Annual Survey of Hours and Earnings (ASHE 6115) for care workers.

Carers’ earnings tend to be higher than RPI – historically by about 1.5% to 2%. Therefore, periodic payments tend to cost insurers about £3m more for each case.

In the original Thompstone judgment in November 2006, Mrs Justice Swift linked the periodic payment to a wage-related index in favour of seven-year-old Carl Lee Thompstone.

Thompstone was born at the defendant’s Tameside hospital on 15 March 1999. The management of his birth was found to be substandard and to have caused spastic quadriplegic cerebral palsy.

Two large conventional lump-sum awards had already been approved but there was disagreement over the boy’s future care in terms of which index periodic payment should be linked to.

The judge linked payment to the 75th percentile of ASHE 6115, basing it on the upper hourly wage level – only 25% of care workers earn a higher wage. But she could have linked it to other (and lower) percentiles of the index.

In the wake of the Thompstone ruling, insurers have been accused of trying to downplay periodic payment cases, while claimant lawyers have been accused of using the threat of pursuing these payments as a means of driving up lump-sum settlements.

Claimants and care workers

Until recently, periodic payments only related to the cost of future care. The other elements – past losses, future loss of earnings and compensation for the injury itself – were conventionally settled with a lump sum. But QBE’s Telford says: “We’re seeing claimant lawyers suggesting the periodic payment should be used for future loss of earnings as well as care.”

Meanwhile, although the downturn may have made periodic payments more attractive to claimants, it could also cut carers’ earnings as more people are willing to take on lower-paying jobs.

Care workers generally earn low wages – for example, those in the 75th percentile earned £9.21 an hour in 2007. For 2008, the rate rose to £9.55 an hour.

The figures are taken from a survey every April and released in October of the same year. So between April 2007 and April 2008, wages rose 3.7%. The increase in RPI over the same period was 4.2%. This means linking periodic payments to ASHE 6115 has led to a smaller increase in the annual payment over the past year than would have been the case had it remained linked to retail prices.

But this RPI rate is widely considered as a “temporary phenomenon” as inflation since has steadily slowed. Deflation is now the greater risk in the UK.