Goodbye Kaczkowsi? A recent ruling reopens the door to debate
by Chad L. Staller, MBA, JD, MAC
Could the beginning of the end be in sight for Kaczkowski v. Bolubasz,
the 1980 state Supreme Court opinion on the awarding of damages that is
widely regarded by defense counsel as an unwarranted gift to plaintiffs?
In a dissenting opinion to the court's December ruling in Helpin v.
Trustees of the University of Pennsylvania there was a signal that
Kaczkowski may soon be history. On the other hand, the majority
opinion in the case appears to actually expand Kaczkowski to
encompass business-loss claims as well as future lost-earnings claims in
personal-injury matters.
A remarkable opinion in a breach-of-contract matter, the 4-3 majority in
Helpin held that lost future income derived from business profits
should be calculated based on methodology mandated for injury and death
torts by Kaczkowski .
At the same time, the dissent, led by Justice Thomas G. Saylor, openly
invited challenges to Kaczkowski in any context — business or
injury.
Kaczkowski
holds that lost future earnings must be calculated using the "total
offset" method, which almost always favors plaintiffs. The question in
Helpin was whether Kaczkowski should be used to calculate
damages in a breach-of-contract claim involving future profits of a
dental practice.
Helpin, a dentist, entered into an employment contract with the
University of Pennsylvania in 1996. Under the contract he received a
salary and 50 percent of the profits of a dental clinic. He resigned in
2004 after a transfer to a suburban clinic, alleging constructive
discharge, and brought an action for tortious interference with a
prospective economic relationship and breach of contract. The trial
court granted the defendant's motion for nonsuit regarding the tort
claim, but the contract claim was upheld. The jury awarded $4.04
million.
On appeal, the high court held that the Kaczkowski methodology
should be applied to the award, even though it was to compensate for
lost business profits under a breach-of-contract theory, and not a
personal-injury claim.
The Helpin majority noted that to not apply Kaczkowski
would be to deny the plaintiff compensation for the effects of future
inflation.
The dissent enumerated many of the problems inherent in the
Kaczkowski methodology — not only its application to
breach-of-contract damages, but its application in the tort context. The
dissent pointed out that the total-offset methodology has been rejected
in every other state where it has been applied, except Pennsylvania. The
dissent noted that allowing for productivity increases while not
effectively discounting results in a double recovery, concluding overall
that Kaczkowski is "overly compensatory."
Open for Challenge
The majority's extension of Kaczkowski to business-loss claims
will certainly raise vigorous challenges. The accepted methodology for
business-loss analysis takes into consideration many variables that are
ignored in the total-offset method, most notably a discount for risk
factors inherent in business. Abandoning adjustments for risk provides
plaintiffs in business-loss claims an even greater advantage than
Kaczkowski offers in the personal-injury context.
Kaczkowski
has engendered controversy since it was decided in 1980. Defendants
argue that the opinion does not comport with economic reality and that
it unfairly rewards plaintiffs at the expense of the defense.
Kaczkowski
was a wrongful-death and survival action brought by the family and
estate of a 20-year-old student of computer science.
The Kaczkowski court adopted an innovative approach to the
calculation of the decedent's lost future income. Earnings tend to grow
due to adjustments for inflation, and also due to productivity — the
increasing value of an individual worker's experience and skill, and
increases in national productivity due to the adoption of new technology
and other factors.
Awards for lost future earnings generally take these increases into
consideration, but awards are also discounted to present value. The
plaintiff receives the award for lost future earnings as a lump sum.
This lump sum can, if invested, accumulate interest over time. To guard
against overcompensation of the plaintiff, the total amount of future
lost earnings is reduced to the sum that, if invested in a safe
instrument, will yield what the plaintiff would have earned in the
future absent the tort.
The discount rate used to reduce damages to present value is commonly
based on the rate of return on such relatively safe investments as
high-grade municipal bonds or U.S. Treasuries.
Pennsylvania is the only state that requires the "total offset" method
in determining the present value of future lost earnings, as specified
in Kaczkowski .
The total offset method is based on the theory that, over time,
inflationary growth in wages roughly equals, and thus offsets, the
interest rate. Under the total-offset method, the present value of lost
future wages is current earnings times the number of years the earnings
will be received, adjusted upward to account for both individual and
national productivity increases. (Prior to Kaczkowski ,
Pennsylvania injury and death awards for future damages were discounted
uniformly at 6 percent.)
A Difference in Calculations
Kaczkowski
normally will yield a significantly higher bottom line for the plaintiff
than the generally accepted discounting methodology outlined in the 1983
U.S. Supreme Court decision Jones & Laughlin Steel Corp. v. Pfeifer
, which reduced future lost-earnings damages to present value using the
"real" rate of return — the rate of return on a safe investment minus
the estimated rate of inflation.
For example, under Kaczkowski , a $50,000 per year loss for ten
years would yield $500,000. Under Jones & Laughlin , discounting
by the "real" rate of 1.5 percent (a return of 4.5 percent minus an
inflation rate of 3 percent), the present value of the loss is $461,109.
That's an 8 percent difference between the two calculations.
If a productivity growth factor is warranted, Kaczkowski simply
adds the enhancement to the bottom line. Under Jones & Laughlin ,
productivity increases are reduced to present value using the real rate
of return.
Kaczkowski
is controversial in that it is explicitly biased in favor of plaintiffs,
and also due to the fact that rates of inflation and interest rates do
not necessarily — in fact, rarely — offset each other exactly in any
given period.
The Kaczkowski court justified its pro-plaintiff holding: "There
is no measure [of discounting to present value] that can assure absolute
accuracy. An additional feature of the total offset method is that where
there is a variance, it will be in favor of the innocent victim and not
the tortfeasor who caused the loss."
The Kaczkowski court also noted that its streamlined total-offset
methodology offers the advantages of simplicity and predictability.
Critics of the total-offset method, however, point out that interest
rates are a function of many variables beside inflation, and that
interest rates must offer a "real rate of return" over and above
inflation, the rate at which borrowers must compensate lenders in order
for lenders to stay in business. Critics have also pointed out that
current interest rates are no mystery — an award can be easily
discounted by the prevailing rate of return for a safe investment.
The Pennsylvania legislature implicitly rejected Kaczkowski in
the 2002 Medical Care Availability and Reduction of Error Fund, which
mandates that damages in medical-malpractice claims be reduced to
present value using a real rate of return, not the total-offset method.
Criticism of Kaczkowski is sure to escalate now that the
total-offset methodology has been applied to business-loss claims.
In the personal-injury arena, Kaczkowski benefits plaintiffs; in
the business-loss context, Kaczkowski represents a potential
plaintiff bonanza.
Normally, future business income is discounted to reflect the risks
inherent in any business, such as general economic conditions, specific
industry conditions, the financial health and stability of the business
and the quality of management. Risk-adjusted discount rates typically
range from 15 to 25 percent. Assuming an annual $50,000 loss of future
profits over ten years, Kaczkowski yields $500,000, where a risk
adjusted discount rate of 20 percent yields a present value of $209,624.
In Helpin , the court conflates lost future profits with lost
future wages. From an economic standpoint, these are not the same.
Confusing the two can lead to inequitable awards.
Given Helpin 's expansive reading of Kaczkowski , the
debate is sure to intensify, which may pave the way for a full review of
Kaczkowski by the state Supreme Court and a possible repeal. For
now, litigants on both sides have a lot to consider when making
lost-future-income claims. •