Calculating Economic Damages Involving Individuals

March 2014       Download PDF      Print

According to Black's Law Dictionary, damages are defined as "money claimed by, or ordered to be paid to, a person as compensation for loss or injury."1 Damages calculations involving individuals often relate to personal injury, wrongful death, medical malpractice, or employment disputes.

These damages generally fall into three categories: special, punitive or exemplary, or hedonic. Special damages refer to the loss of earnings, fringe benefits, and other income, and sometimes also include costs such as medical expenses and property damage.

Some courts award punitive or exemplary damages to deter damaging behavior while some also award hedonic damages, which compensate a plaintiff for experiencing a loss of enjoyment of life due to pain and suffering caused by a damaging event. Accounting experts typically don't calculate these damages as they are subjective and are not calculated with reasonable certainty. Hedonic damages calculations are also an area of considerable debate and many jurisdictions do not allow them.2

Experts calculate the monetary amount that the plaintiff would have realized "but for" the damaging event and then subtracts the amount he or she actually received. The expert may have to reduce the monetary amount further if evidence shows that the plaintiff could have made a reasonable effort to mitigate the impact of the damaging event. In some cases, particularly those involving wrongful death claims, further reductions for personal consumption or personal maintenance and income taxes may be applied depending on the jurisdiction.

Reasonable Certainty

The reasonable certainly principle is a critical component of any damages case involving individuals. This principle tells us that damages estimates can be approximate calculations based on assumptions as long as they are reasonable and not the result of speculation.3

Mitigation and the Collateral Source Rule

When possible, an individual seeking damages relating to a personal injury or employment dispute is expected to make a reasonable effort to reduce the impact of the damaging event. For example, if a plaintiff is injured, he or she has an obligation to seek medical advice to help prevent the injury from causing further damage. In this case, a medical expert could testify on mitigation factors and provide insight on what the damages would have been had the plaintiff made an effort to mitigate the damage. In similar situations, the damages expert would apply an offset to amounts that the plaintiff did, will, and could have earned, had there been an effort to mitigate.4

However, it should be noted that amounts from collateral sources such as Social Security insurance or health insurance are generally not considered mitigating factors. Therefore, they should not offset against past or future losses. The collateral source rule in Black's Law Dictionary states, "...if an injured party receives compensation from a source independent of the tortfeasor, the payments should not be deducted from the damages that the tortfeasor must pay."5

To illustrate how this rule may be applied, consider a personal injury claim in which the plaintiff's medical bills were paid by his or her medical insurance. Since the plaintiff's medical bills were paid by a collateral source, the cost of the bills should not be deducted from the damages owed by the tortfeasor.

The collateral source rule has been challenged by tort reform advocates who hold that since the plaintiff's injuries and damages have already been compensated, it is unfair and duplicative to award such damages. As a result, numerous states have altered the rule by statute.6

Loss Period

The loss period is the period over which the damages are applicable and are generally considered equal to the plaintiff's work life expectancy or life expectancy. Calculations include losses incurred between the date of the damaging event and the date of trial (i.e., past losses) and losses that are expected to occur from the date of the trial to the end of the loss period (i.e., future losses). Growth rates are generally applied to the base elements of the loss claim to determine losses over the loss period and a discount factor is applied to future losses to determine their present value dollar amount. Prejudgment interest may be applied to past losses, although jurisdiction dictates how it is calculated and the rates that are used.7

Calculation of Losses

There are many elements to measure when quantifying the damages owed to an individual. Moreover, these measurements are captured as either past or future losses with respective interest rates, growth rates, and discount rates applied. Elements that are considered in the calculation of losses involving individuals include:

Lost earnings

  • Earnings base
  • Earnings capacity of the damaged party according to other experts
  • Age-earnings profile

Other lost income

  • Effect of the damaging event on income-generating rental properties, interest, dividends, or royalties
  • Additional expenses incurred as a result of the damaging event

Fringe benefits

  • Retirement benefits
  • Health, life, and disability insurance
  • Accumulated vacation time owed

Other Expenses

  • Household services (cost of hiring household service providers)
  • Medical and rehabilitation expenses

Various sources are available to assist with identifying the amounts associated with each of the above elements of damages, including the following:

  • Bureau of Labor Statistics
  • Department of Labor
  • U.S. Chamber of Commerce
  • Expectancy Data (provides estimates for time spent on various household tasks)
  • Journal of Forensic Economics
  • The Center for Disease Control and Prevention, National Center for Health Statistics
  • U.S. Equal Employment Opportunity Commission
  • Litigation Economics Digest
  • Ibbotson Associates' Stocks, Bonds, Bills and Inflations: Valuation Edition 2012 Yearbook
  • Board of Governors of the Federal Reserve System, Releases

Certified public accountants with forensic expertise are qualified to leverage these various sources along with other applicable data to calculate damages involving individuals. They can be engaged as a consultant (non-testifying expert), an expert witness (testifying expert), or as a fact witness. The assistance provided by forensic accountants serving in these capacities may include discovery assistance, analysis of data, preparation of damages calculations, preparation of demonstrative exhibits, and expert testimony.

While there are many layers of detail behind the full exercise of calculating damages involving individuals, this document aims to serve as a reference point for certain core components that should exist within your expert's calculation.

1 Black's Law Dictionary, 8th ed., p.416.
2 Forensic & Valuation Services Practice Aid: Measuring Damages Involving Individuals, AICPA, 2013.
3 Ibid.
4 Ibid.
5 Black's Law Dictionary, 8th ed., p.279-280.
6 Collateral Source Rule Reform, American Tort Reform Association
7 Forensic & Valuation Services Practice Aid: Measuring Damages Involving Individuals, AICPA, 2013.