Structured settlements cut large financial losses
Discounted payments offer major advantages
While the main objective of risk managers is to limit their institution's exposure to liability, chances are that every health care facility will lose or settle a lawsuit.
Risk managers can help take the sting out of an adverse verdict by using structured settlements to reduce the cost of paying the award to the plaintiff, legal and financial experts say.
The power of smart financing, based on skillful discounting strategies and an understanding of the "present value" and "future value" of money can dramatically reduce the hospital's financial losses -- in both large and small settlements.
Ordinarily, if a hospital loses a lawsuit, the plaintiff will expect the facility or its insurer to pay the award in a lump sum. By using a structured settlement, a hospital effectively pays less than the full amount of the award. This is because the hospital accrues interest on the money it would have paid off in a lump sum. This extended pay-out significantly offsets financial losses it would have incurred by paying out in one lump sum.
Structured settlements work by deferring full payment of the award. Hospitals purchase annuities from life insurance companies. Interest on the original premium is compounded so that it eventually reaches the amount of the plaintiff's award, explains Donna Johnson, a structured settlement broker with American Settlement Corp. in Atlanta. Structured settlement brokerage companies exist throughout the country and assist risk managers and insurers in purchasing the annuity and negotiating the settlement.
Legal and financial experts say the benefits of using a structured settlements are threefold:
* Premium payments are lower.
Structured settlements are based on compounded interest. The hospital pays a lower sum up front based on its money's earning power over time.
* Payment responsibility is transferred to a third party.
The hospital's cost of administering a plaintiff's fund is removed. "It takes a lot to manage the future payments," Johnson says.
* Plaintiffs are assured of a stream of income to meet their future needs.
"Structured means that the payments can be tailored to meet the medical needs and other requirements of claimants. The deferment can be a series of lump sums or monthly or annual payments or any combination," Johnson says.
The cost of the annuity typically is significantly less than the hospital or its insurer would spend if the hospital were paying the claimant in a lump sum. (See example on page 85.)
"It's been a benefit to defendants because a structured settlement allows you to grow out a significant future stream of income to the plaintiff at a reduced cost," says James Bream, JD, a partner with the law firm of Querry & Harrow in Chicago, who represents hospitals and managed care organizations. "I can take $1 million and have it compensate somebody [the plaintiff] at $6 million by the time the structure is paid out."
Hospitals are not the only parties to sometimes benefit from structured payments. There can be tax advantages for plaintiffs, says Bream. If a plaintiff accepted a $1 million settlement, the sum is tax-free, but any earnings on that $1 million are not tax free. However, if a hospital took the same $1 million, and purchased an annuity worth $6 million, the plaintiff would not be taxed on the earnings.
Not just for the big cases
While risk managers often think of using structured settlements for paying out awards in multimillion dollar cases, it is a mistake to only use them for the significant verdicts.
"Structured settlements can be used for all types of claims," Johnson says. "People think they are mostly used in large dollar claims in which the plaintiff suffered a very severe injury. However, they are also good for small settlements."
For example, if an infant is permanently scarred by a burn received in the hospital's nursery, the average case may settle for $5,000. Most hospitals will write a check for the full amount to dispose of the claim.
Instead of pulling out the checkbook, Johnson suggests using a structured settlement to establish a college fund for the child. The hospital will pay much less to purchase an annuity worth $5,000, and the parents can make sure the money is earmarked for the child's benefit.
A structured settlement also can be used to pay for the hospital's portion of its deductible, Johnson adds and can be used in other cases involving legal torts aside from malpractice, including product liability and negligence. But risk managers should be cautioned about using them to compensate employees in workers' compensation cases because many state laws bar the employer from transferring responsibility for payment of the award to a third party, Johnson says.
Creativity is key
"The settlement offer by the risk manager of the hospital can be as inventive as the risk manager wants to be," Bream says. "It can be a combination of lump sums, monthly payments, and annual payments. There is an endless variety of ways to structure a settlement."
Risk managers not only need to be aware of ways they can structure the payout to the plaintiff, but they also need to understand the different bases on which the annuity can be priced to benefit the hospital's bottom line.
There are two common bases of pricing an annuity for a structured settlement, according to structured-settlement brokers: on a rated age basis and on a life care plan basis. Here is how each works:
* Rated age.
Since the payments to the plaintiff cease upon his or her death when an annuity is purchased, insurance companies often are willing to take a risk that the plaintiff will expire prior to the life of the annuity.
If an insurance company is willing to issue an annuity under this so-called rated age basis, the hospital may be able to purchase the annuity at a greater discount. If the insurance company wins its gamble and the plaintiff dies before the annuity is fully paid out, the insurance company retains the rest of the money.
Insurance companies often are willing to take this risk in the case of a severely injured plaintiff who has a reduced life expectancy, such as a brain-damaged baby, Johnson says.
* Life care plan.
If an insurance company is not willing to give a rated age, risk managers also can reduce the cost of purchasing an annuity for a structured settlement through life care plans. A life care plan refers to a document in which an economist forecasts the present and future costs of medical care. The forecasts are then applied to the plaintiff's actual needs throughout his or her lifetime. The amount of the annuity purchased equals what the economist has forecasted for the claimant's needs.
Structured settlements are not always beneficial for the hospital. The benefit of a structured settlement is tied into the cost of purchasing the annuity. If insurance companies are not offering good interest rates on annuities, a hospital may not realize a cost savings because the premium may be close to the actual cost of the award, Johnson says.
Conversely, if interest rates are good, the hospital will realize significant savings by purchasing an annuity.
As structured settlements become more prevalent, plaintiffs' attorneys are becoming more demanding, Bream says. Many attorneys are demanding that the premium used to purchase the annuity equal the actual amount of the award, thereby diminishing the value of this tool for the hospital. In the prior example, the demand would then be for $6 million up front, rather than as an annuity.
To encourage the use of a structured settlement, risk managers should introduce the concept early in settlement negotiations, Bream advises.
"Consider the use of a structured settlement in any case where you can demonstrate through your negotiations that the structure will be of added benefit to the plaintiff," he says.
Risk managers also should include structured settlements in the negotiations with plaintiffs, Bream says. Aside from their access to markets to obtain the best rates for the hospital, insurance brokers can be helpful in structuring an attractive offer for the plaintiff and negotiating in the hospitals best interest. *
You have reached your article limit for the month. Subscribe now to access this article plus other member-only content.
- Award-winning Medical Content
- Latest Advances & Development in Medicine
- Unbiased Content