Trial of preliminary issue in three Hong Kong cases
As reported in our Client Alert of 19 September 2012, on 18 September 2012, Mr Justice Bharwaney directed that the following be tried as a preliminary issue (on 6, 7 and 16 November 2012) in three personal injury cases:
“Whether, having regard to economic developments from 1995 up to the present time, the Cookson v Knowles assumption of a net rate of return of 4.5% remains valid in Hong Kong and, if not, what is the net rate of return, based upon which multipliers ought to be assessed and awarded.”
Mr Justice Bharwaney granted the parties leave to adduce economic expert evidence on the interpretation of historical data of investment returns, net of inflation, of various investment vehicles in Hong Kong from 1995 to date.
On 16 October 2012, Mr Justice Bharwaney handed down his reasons for directing a trial of the preliminary issue. Mr Justice Bharwaney was persuaded that sufficient evidence had been adduced before him to demonstrate that there had been a substantial change in the economic landscape since Hong Kong’s Court of Appeal’s decision in Chan Pui-ki v Leung On & Anor in 1996, such that he should permit economic evidence to be adduced to test whether the Cookson v Knowles assumption of a net rate of return of 4.5% remains valid today.
The three personal injury cases in question, all involve plaintiffs who had suffered catastrophic injuries, meaning that damages for future losses and expenses would make up a significant part of the awards, including total loss of earnings and the cost of future care. The basis upon which the calculation for future losses is made, and discount rate to be applied (see below) is therefore critical.
In the event that the Court decides that the assumption of a 4.5% net rate of return is no longer valid in Hong Kong and that the discount rate should be reduced, it will mean higher multipliers and higher awards for future losses in personal injury claims. This will have a significant impact on cases involving severely injured plaintiffs, where damages for future losses are likely to rise substantially.
Mr Justice Bharwaney said that although his decision on the trial of the preliminary issue may impact on pending personal injury cases involving future loss, there is no need for the trials or assessments of damages in those cases to be delayed or adjourned. The trial judge or master can proceed to assess damages, including the multiplicand for the claims for future loss and defer a decision on the multiplier(s) to be adopted, pending final determination of these particular proceedings.
Cookson v Knowles-Assumption of 4.5% net rate of return
In assessing damages for future losses and expenses, the Hong Kong Courts have followed England’s common law, which is based on the principle that compensation is intended to put the plaintiff back in the position he would have been in had the accident not occurred; the plaintiff should be compensated as fully as possible, but neither under-compensated nor over-compensated. Calculations for future losses are based on the “multiplier/multiplicand” approach, the multiplicand being the annual loss or expense, which is multiplied by the “multiplier”, being the number of years over which provision is to be made. As the plaintiff receives the compensation in one lump sum at trial for future losses and it is assumed that he will invest the same, a discount rate is applied in determining the multiplier, to prevent the plaintiff being over-compensated.
The English House of Lords in Cookson v Knowles  UKHL 3 (24 May 1978) assumed that the lump sum awarded would provide a real return (i.e. over and above inflation) of 4%-5% and, on that basis, a discount rate of 4.5% was applied and the appropriate multipliers determined. No allowance was made for future inflation, on the assumption that the lump sum would be prudently invested and the investment returns would protect the plaintiff against such. The Cookson v Knowles approach has been adopted by the Hong Kong courts.
Hong Kong Courts adopt Cookson v Knowles approach Court of First Instance Decision in Chan Pui-ki
The issue of discount rates was last examined by the Hong Kong courts in Chan Pui-ki v Leung On & Anor  3 HKC, 732, which involved an infant plaintiff (aged 10 years at the date of the accident and 16 at the date of trial), who suffered serious injuries in a road traffic accident. The Plaintiff claimed (amongst other things) loss of future earnings and the cost of future care. Although the Court of First Instance accepted that the multiplier/multiplicand was the appropriate method of assessing future loss, it allowed the Plaintiff to adduce actuarial evidence, which showed that wages had increased annually by more than the rate of inflation in Hong Kong, so that the English investment return or discount rate of 4% to 5% was not capable of giving the Plaintiff fair compensation.
The Court of First Instance held that the appropriate investment return or discount rate in Hong Kong, for the purpose of calculating the multiplier, was 2.7% (or 1.2% where the damages were to be managed, as in this case). The Court held that the Plaintiff had the normal life expectancy of a girl aged 16 in Hong Kong and that based on actuarial tables appropriate to females of that age in Hong Kong, the approximate multiplier, based on a return of 2.7% was 27 years, and based on a return of 1.2%, was 34 years. After hearing evidence from economists and an actuary, the Court computed the 1.2% discount rate as follows: 15.9% (investment return) – 0.7% discount rate for more conservative investment strategy – 12.5% for payroll inflation -1.5% for management and trustee fees. Adopting the 1.2% discount rate, the multiplier of 34 was discounted by another 10% for vicissitudes of life and a further small discount was applied to reflect the fact that the Plaintiff would not have started work until she was 18 to 20 years of age. The appropriate multiplier for future loss of earnings, the Court said, was therefore 30. Adopting a multiplicand of HK$120,900 per annum, the award for future loss of earnings amounted to HK$3,627,000 (i.e. HK$120,900 x 30).
For the costs of future care, the Court of First Instance adopted 35 years as the appropriate lifetime multiplier for a female aged 16 (by using actuarial tables produced by the Plaintiff) and, based on a discount rate of 1.2%, awarded HK$1,680,000 for the cost of future care (HK$4,000 x 12 x 35).
Court of Appeal’s Decision in Chan Pui-ki
The Court of First Instance’s decision was overturned by the Court of Appeal on 19 July 1996, in Chan Pui-ki v Leung On & Anor  2 HKC 565. The Court of Appeal held that the use of actuarial tables and discount rate of 1.2% resulted in the Plaintiff being awarded an amount for future loss of earnings which was much greater than that which would have been awarded had the conventional Cookson v Knowles assumption of a 4% to 5% real return been followed. The Court of Appeal said that nothing in evidence before the Court of First Instance judge pointed to the conclusion that in Hong Kong, plaintiffs had been under-compensated for future loss of earnings by the use of the conventional multipliers over the last twelve years or so and that the trial judge had been wrong to abandon the conventional approach.
In respect of future loss of earnings, the Court of Appeal reduced the multiplicand to HK$108,000 per annum and the multiplier to 15, thereby reducing the award from HK$3,627,000 to HK$1,620,000. In respect of the cost of future care, the Court of Appeal retained the multiplicand of HK$48,000 per annum, but reduced the multiplier from 35 to 10, thereby reducing the award from HK$1,680,000 to HK$480,000.
In respect of the expert evidence, which had been adduced in the Court of First Instance (that of actuaries and economists), the Court of Appeal said that although it was justified in exceptional cases such as the present, which could be regarded as a test case, now that all outstanding issues had been resolved by its judges, there should be no need in future for non-medical expert evidence of that kind to be adduced. It said that for the foreseeable future, the only evidence of an economic nature which needs to be put before the court would be the incidence of general inflation, which was something which could be done by the production of Government published statistics and that the occasions for opinion evidence from experts on economic matters should be rare.
Developments in England Post-Chan Pui-ki Damages Act 1996
On 24 July 1996, the Damages Act 1996 came into effect in England. This provides that in determining the return to be expected from investment of a lump sum awarded as damages for future pecuniary loss in personal injury actions, the court shall take into account such rate of return as may from to time be prescribed by the Lord Chancellor. The court can, however, take a different rate of return into account, if any party to the proceedings shows that it is more appropriate. The Damages Act 1996 came about as a result of a consultation paper which recommended, amongst other things, that in setting the discount rate, the courts should take into account the then rates of return on Index-Linked Government Stocks (“ILGS”) when determining the expected rate of return from investment of the lump sum award. ILGS were introduced in England in 1981 and are linked to the Retail Price Index and therefore protected against inflation.
Under the Damages Act 1996 (since 2003), the court when awarding damages for future pecuniary losses, can order that damages (wholly or partly) take the form of periodical payments.
Discount rates considered by the House of Lords in Wells v Wells
Since the Court of Appeal decision in Chan Pui-ki, the issue of discount rates has been considered again in England (in 1998) by the House of Lords (in three conjoined appeals from the Court of Appeal) in Wells v Wells, Thomas v Brighton Health Authority and Page v Sheerness Steel Co Plc  1 AC.
The issue before the House of Lords was what the correct method of calculating lump sum damages for future loss of earnings and the costs of future care was. All three Plaintiffs had suffered serious personal injuries. The judge at first instance calculated damages for anticipated future losses and expenses on the basis that the capital sum awarded would be invested in ILGS, providing an annual net return of 2.5% to 3%, rather than in a mixed “basket” of equities and gilts (as had been assumed in previous cases). This calculation resulted in a significantly greater lump sum payment than would have been produced on the conventional basis of an annual return of 4%-5%.
The Court of Appeal allowed the Defendants’ appeals and held that the damages should have been awarded on the conventional basis of assuming a 4.5% return on investments, thereby substantially reducing the multiplier and therefore the awards.
The House of Lords subsequently allowed the Plaintiffs’ appeals and held that in awarding damages in the form of a lump sum, the court had to calculate as best is could the sum that would be adequate by drawing down both capital and income to provide periodical sums equal to the plaintiff’s estimated loss over the period during which that loss was likely to continue. The higher the assumed rate of return on capital, net of tax, the lower the lump sum. The House of Lords said that a plaintiff was not in the same position as an ordinary, prudent investor and was entitled to greater security and certainty achieved by ILGS. In the past, the courts had assumed that the plaintiff could take care of inflation in a rough and ready way by investing the lump sum sensibly in a mixed “basket” of equities and gilts, but the advent of ILGS had provided an alternative, as capital on ILGS is fully protected against inflation.
The House of Lords held that the judges at first instance had been right to assume that for the purpose of their calculation the Plaintiffs would invest their lump sum in ILGS, as that was the most accurate way of calculating the present value of the Plaintiff’s future loss and the lump sum should be calculated on the basis of the rate of return available on ILGS, which for the present case, was 3%. The House of Lords said that 3% should be the guideline for general use until the Lord Chancellor specified a new rate under the Damages Act 1996.
The House of Lords also said that the Ogden Tables should be regarded as a starting point, rather than a cross check when selecting a multiplier. The Ogden Tables are actuarial tables used in personal injury and fatal accident cases in England (which take into account factors such as life expectancy), as an aid for assessing the lump sum compensation for a continuing future pecuniary loss or expense, such as the costs of care. Hong Kong’s version of the Ogden Tables are the Chan Tables. Mr Justice Bharwaney ruled on 16 October 2012 that the Chan Tables should be accepted as the starting point in Hong Kong, just as the Ogden tables are in England, and there should be less reference to previous case law on multipliers. However, he said that case law may still be relevant for a plaintiff who is atypical and has either a longer or shorter life expectancy than other persons in his or her age group.
Lord Chancellor fixes discount rate at 2.5% under Damages Act 1996
In 2001, England’s Lord Chancellor fixed the current discount rate of 2.5% under the Damages Act 1996, following the principles laid down by the House of Lords in Wells v Wells (referred to above) that the assumed rate of return should be based on yields on ILGS. The 2.5% discount rate was based on the average gross redemption yields on ILGS over a three year period.
Privy Council applies negative discount rates in Dylan Simon v Manuel Paul Helmot
On 7 March 2012, the Privy Council handed down its decision in Dylan Simon v Manuel Paul Helmot  UKPC 5. This is the first case in which a negative discount rate has been applied in calculating future loss of earnings.
The case concerned a plaintiff (aged 28 years at the date of the accident and 39 at trial) who had suffered severe head injuries in a road traffic accident. He suffered a total loss of earnings and would need 24 hour care for the rest of his life.
The Royal Court of Guernsey adopted a discount rate of 1% in calculating future losses. The 1% discount rate was arrived at by starting with the 2.5% discount rate specified under England’s Damages Act 1996 (referred to above) and adjusting it for changes in the rate of return since then and to take into account differences between Guernsey and England in the rates of income tax and price and earnings inflation.
On appeal, the Guernsey Court of Appeal replaced the 1% discount rate with a discount rate of -1.5% for future earnings related losses (i.e. Mr Helmot’s own loss of earnings and the costs of employing his carers) and 0.5% for non-earnings related losses. This resulted in a higher multiplier and increase of £4.5 million in damages.
The 0.5% discount rate for non-earnings related losses was arrived at by taking the starting point as the then current Guernsey net return on ILGS of 1.13% and reducing it by 0.5%, for the higher rate of inflation, to 0.63% and then rounding it down to 0.5%. For earnings-related losses, an additional allowance of 2% was made for the faster growth rate of earnings compared to prices, which gave a discount rate of -1.5%. In arriving at that conclusion, the Court of Appeal accepted unchallenged expert evidence called by Mr Helmot, namely that of a chartered accountant, an economist and a Government actuary. The Defendant appealed to the Privy Council, which agreed with the Court of Appeal’s calculation of the discount rates and upheld its decision. The Privy Council said:-
2012 Consultation Paper in England in relation to Discount Rate
There have been further recent developments in England, namely a consultation paper, published on 1 August 2012, relating to the methodology to be used by England’s Lord Chancellor (and his counterparts in Scotland and Northern Ireland) in setting the discount rate for personal injury damages. The aim is to set the discount rate as accurately as possible, so that under or over-compensation by reason of accelerated payment of future losses is avoided so far as possible. The two options considered by the consultation paper are (a) to use ILGS-based methodology applied to current data; and (b) to move from an ILGS based calculation to one based on a mixed portfolio of appropriate investments applied to current data. The consultation period ends this month. The impetus for the consultation paper was the decline in ILGS yields (from 2.46% in 2001 to 0.2% in mid-2012) before tax and the concern that the current discount rate of 2.5% is too high to give effect to the principle that plaintiffs should be compensated as fully as possible.
Possible outcome of trial of preliminary issue in Hong Kong
It is clear from the above, that since the Hong Kong Courts last considered discount rates in 1995 and 1996, in Chan Pui-ki, there have been changes which seriously question whether the Cookson v Knowles assumption of a real rate of return of 4.5% is still appropriate, namely:-
It is possible that the Hong Kong Court will lower the discount rate, although at this stage it is not clear by how much and whether different discount rates will be set for different heads of loss, as in Dylan Simon v Helmot.
Implications for insurers in Hong Kong
In the event of the discount rate being lowered, the result will be higher multipliers for future losses and therefore higher awards. The most significant impact will be for cases involving seriously injured plaintiffs, where damages for future losses will probably rise significantly. Accordingly insurers should be aware of this possibility and review their current reserves and also consider the need to increase premiums.