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Car insurance costs set to soar

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Some motorists face insurance price rises of hundreds of pounds a year as a result of reforms in compensation calculations for accident victims.

Car financeChanges in accident compensation rules are likely to lead to a huge rise in car insurance premiums over the next 12 months, experts have warned.

The government has just announced a reform of the formula used to calculate lump-sum compensation settlements for victims of road accidents as well as other personal injury payments.

Costs likely to be passed on to drivers

As a result, car insurers say they will be forced to pay out much higher amounts in future – and at least some of this increase in costs will be passed on to motorists in the form of higher premiums.

Industry body the Association of British Insurers (ABI) said that the “crazy” new rules – which relate to a formula known as the Ogden discount rate – mean that insurers will have to find billions of pounds extra to compensate those who suffer injuries in road accidents.

Consultant PricewaterhouseCoopers (PwC) added that average premiums were likely to increase by around £75 a year – around 10% -- while some groups would be hit significantly harder.

Young drivers, for example, could be faced with price hikes of as much £1,000 a year, while motorists over the age of 65 could be set to pay £300 a year extra, according to the company.

Legal reform savings ‘wiped out’

This is due to the fact that drivers under the age of 25 are more likely to be involved in accidents, while the cost of treating – and therefore compensating – older injury victims tends to be higher than for other age groups.

Mohammad Khan, UK general insurance leader at PwC, said: “This announcement, on top of the recent increases in insurance premium tax, will make redundant any savings to premiums as a result of the government’s personal injury legal reforms, which were anticipated to generate approximately £40 annual saving per motor insurance policy.”

Since the new discount rate was announced by the Ministry of Justice, Chancellor of the Exchequer Philip Hammond has promised that, in future, the government will consult the insurance industry on any changes.

Nevertheless, the reforms are to set be implemented as planned on March 20.

How does the discount rate work?

The personal injury discount rate, or Ogden rate, is used to calculate how much compensation injury victims are entitled to when they take their payment as an upfront lump sum rather than in regular instalments.

To work out how large a lump sum should be paid, the justice system looks at how much it can be expected to grow over time.

The higher the expected growth rate, the less initial compensation needs to be paid.

At the moment, however, UK interest rates are very low while inflation is on the rise.

Switch from positive to negative returns

As a result, the Lord Chancellor Liz Truss has decided to reduce the discount rate – which is linked to expected future returns on government bonds – from its current 2.5% to minus 0.75%.

This is to reflect the fact that returns on bonds are at present negative when inflation is taken into account.

Huw Evans, director general of the ABI, said that it was wrong to link the rate to bond returns rather than other, more rewarding forms of investment. 

“Cutting the discount rate to -0.75% from 2.5% is a crazy decision by Liz Truss,” he said.

Amanda Stretton, motoring editor at Confused.com, said: “The ruling on the discount rate on insurers’ compensation will potentially add between £50-75 to the average cost of a premium.

More bad news for motorists

 “The latest figures from the Confused.com car insurance price index show that average comprehensive premiums currently stand at £767, so this additional increase could push prices well above the £800 mark.”

Stretton added that the change was the latest in a line of financial blows for drivers.

“Petrol prices have soared to over 120p per litre in some areas of the UK, not to mention the insurance premium tax price rise looming in June,” she said. 

“Changes to car tax laws coming in from 1 April will also increase the car tax of some 2017-plate vehicles.”

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