This article was originally published in the Summer 2000 issue of the Expert Witness.
In Madge v. Meyer, (Calgary Court of Queen’s Bench, 9601-01261, Judgment: December 31, 1999) Justice Brooker concluded that the plaintiff, Madge, had suffered a very serious head injury and would therefore be unable to operate his farm any longer. The plaintiff was assumed to be able to provide one third of his pre-accident value of work in the late pre-trial period and an average of 15 percent of that value in the future. (His abilities were expected to decline over time.) A farm expert assessed the pre-accident value of Mr. Madge’s work at $60,000 per annum in 1998 dollars. This loss of income calculation itself was a standard type of replacement cost analysis.
My comments on the case are related to Justice Brooker’s statement that
Madge’s situation presents the difficult issue of valuing a self-employed plaintiff’s loss of future income or work capacity when his business has not actually lost any income in the past nor seems likely to lose any in the near future due to his injuries (italics added).
This statement appears inconsistent with the evidence presented in this case to the effect that the plaintiff’s ability to continue in his previous capacity, as the manager of a large farm, was seriously compromised. In particular, it was clear that the management of the farm had been taken over by the plaintiff’s son, and that Mr. Madge’s contribution was now limited to part-time work at fairly menial tasks. Even for those tasks he had to be prompted by his wife and son. The evidence seems at odds with Justice Brooker’s comment that the business in which the plaintiff was the driving force had not lost any income.
Justice Brooker did go through the process of estimating the annual value of the plaintiff’s labour, and then deciding how much of that had been lost and would be lost in the future. I note, however, that Justice Brooker reached his final decision using the concept of loss of “income earning capacity,” (i.e. the loss of a capital asset), when that concept is really not necessary, or more accurately is redundant. When the courts ask economists to value the loss of earning capacity of an individual, the only method we have is to estimate what the annual figures would have been, and will be, and discount the difference back to the date of trial. The “capital asset” is valued by the present value of the stream of income that asset can produce.
The apparent lack of a loss at the level of the business in such situations usually simply means that family members or friends have assisted and were not fully paid, or paid at all, for those efforts. In addition it is possible (especially on a farm) that some long-term land or equipment maintenance, business development, or other work might simply not be done, with little apparent effect on immediate financial results. It seems likely that this is what has occurred in Madge. Even if Mr. Madge’s son had not been paid anything for his extensive assistance, the collateral benefit rule suggests that the loss should be assessed using the market value of any labour that replaced the plaintiff’s. The fact that no loss may have appeared at the corporate level is irrelevant. To suggest that there is no loss (as the defense apparently did in this case) because family members provided free labour to the plaintiff is in my view false. I presume that the defense would not argue directly that the son must provide such free labour indefinitely, and that the plaintiff’s future loss should be reduced by the value of that help. Yet that is what is implied whenever someone says “the business shows no loss and therefore the plaintiff has no loss.”
Note that if an injured party is provided with direct financial assistance from family members or friends, it is quite clear that that is a collateral benefit, and should be ignored in the loss calculations. (If the injured person then receives a damage award, it is possible they will repay the amounts provided, but whether or not they do so is irrelevant to the estimation of loss.) There is no reason to treat free labour any differently, yet it is common to hear the argument (or implication) that such assistance should: (A) benefit the defendant; and (B) be assumed to continue indefinitely. This false claim can only be made in the case of a self-employed plaintiff, who reports business income or has a corporation or partnership. The help provided by family and friends does not typically increase labour costs by much, if anything, and so the claim can be made that little or no change has occurred. Worse, the falsely reduced annual amount is then used to assess future loss. Another analogy can be found in household services losses. If an injured person is helped by a neighbour who cuts the lawn and shovels snow for a while, we would never reduce the household services claim by the value of that assistance. It would also be false to presume that the neighbour should provide that help until the injured party’s age 80 (when we typically end our household services loss calculations). Again, while we might expect the injured person to compensate the friend after settlement, that is a non-issue in the calculation.
This issue was addressed in an article in the Winter 1997 Expert Witness, in which Christopher Bruce and I discussed the D’Amato case. We noted that if the courts were to ignore the collateral benefit principle, and treat assistance freely given by friends and family as income (in D’Amato the issue was assistance in the form of overpayment from a business partner, and presumably friend), then not only would loss of income be severely underestimated, but the friends and family would be badly treated as well.
Imagine a plaintiff who cannot, for example, perform half of his previous work. His wife, who did not work at the time of the accident, begins to do that which he cannot, and takes no income from their jointly owned company (or takes the same amount she had been taking previously, if they had been income-splitting). If the wife’s work is identical in quality and there are no other losses (decreases in revenue, increases in costs), then the statements of the company are unchanged. The couple’s own personal tax returns would be unchanged as well. Yet it should be quite clear that the husband’s loss is half of his income. First, his earning capacity has been reduced by half; and, second, the apparent stability in his income has arisen only because his loss has been replaced with a collateral benefit – an altruistic “gift” from his wife. The presence of a collateral benefit should not, of course, reduce the estimated loss.
The problem is avoided with exact payments equal to the value of labour provided. Assume, for example, that the husband formerly received $80,000, and the wife did not work and received no income. After the accident she works and is paid $40,000, while his income falls by that same amount. The size of his loss of personal income is clear, even though there would be no change on their company’s financial statements. If the documentation was as simple as this, and the payments reflected the exact market value of each party’s labour, then the correct assessment would be easy. Unfortunately, this is rarely the case.
More realistically, assume that in the pre-accident case the wife had been receiving $20,000 per annum merely as an income-splitting measure. The husband’s reported income would have been $60,000. His labour actually had produced $80,000 in income, and now each of the spouses produces half of that. We would expect that their post-accident tax returns would report $40,000 each, simply because equal incomes are usually optimal for tax reduction. A shallow analysis would indicate that he had lost only $20,000 (= $60,000 – $40,000). Indeed, in an extreme case, the couple could still report the entire $80,000 on the husband’s return (there might be tax reasons to do so), and a cursory investigation would suggest that there was no loss.
There is really no substitute for actually estimating the share of company/family income that was due to the injured person’s labour, and then estimating how much of that has been lost. The fact that there may be little or no apparent change at the corporate, or even personal, level does not imply that no loss has occurred.
It bears repeating that if a proper analysis is not done, and the help provided by a friend or family member is mistakenly treated as income earned by the injured person, then a serious wrong could result. First, the person who provided the help might go uncompensated, since the plaintiff might not have the resources to pay them later. Second, the underestimation of the annual pre-trial loss could produce an extreme underestimation of the future loss. Oddly enough, in D’Amato, it appears that the Supreme Court correctly treated a large fraction of the plaintiff’s annual income as lost in the future, but did not compensate the partner for assistance provided in the pre-trial period. That decision essentially told partners (and family members and friends) that in helping an injured person you might not only be working for free, but you could also be undermining their loss of income case in doing so. Although D’Amato did receive full compensation for his future loss, it would appear that the overpayments made by his partner did cause an unjustified reduction in the pre-trial award. That uncompensated loss will be borne by D’Amato (if he pays back his partner), the partner (if he does not), or both of them. It would also seem to be quite possible that in other cases pre-trial and future losses will both be cut because of the failure to treat unpaid assistance as a collateral benefit.
At paragraph 175, Justice Brooker wrote “I cannot conclude that there has been an actual loss of farm profits to date.” He then stated shortly thereafter that “In my opinion, regardless of the profitability of the farm, Madge has suffered a loss of income or more accurately, income earning capacity for which he must be compensated.” Justice Brooker went on to note that Madge’s son should be entitled to more of the farm profits, since he had taken on “many of Madge’s work and responsibilities” since the accident. I would suggest that it would have been perfectly acceptable for the Justice to estimate the fraction of Mr. Madge’s work now done by his son and spouse (or not done at all!) and then presume that the annual loss is that fraction of his estimated annual income.
Note that if Madge had simply paid his son (and wife) exactly the amounts their additional labour had been worth, then his own personal income (or his business income, if the farm appeared as gross and net business income on his return) would have fallen by the precise amount of his loss. There are many reasons, however, why it is rare to have the loss appear in so clearcut a manner. First, the injured party simply may not have the money to pay a replacement, at least not in full. It is easy to say in hindsight that little help was paid for, so little could have been needed, but that is specious. The dollars which would have paid for replacement help are part or all of the plaintiff’s income, and in many cases the plaintiff can ill afford to give that up. That is exactly why friends and family will provide free or cheap assistance in many cases. Second, the assessment of what has changed as a consequence of injury can be complicated by issues like the income-splitting discussed earlier. Third, simply estimating labour income itself can be complicated, especially for farmers – some fraction of income is hidden, some is a return to capital employed, some is left in the business in any year while some is taken out. Depreciation taken could be more or less than the true economic loss of value of vehicles and equipment. Fourth, even just estimating what fraction of his or her former work the plaintiff can still do may not be easy. Fifth, one might only have financial information for a short period, containing years which are better or worse than a long-term average year. Sixth, the loss may not be fully valued unless things like long-term maintenance are considered (as mentioned earlier, are some things not being done which will create costs later?). Finally, any business analysis must separate changes caused by the plaintiff’s injuries from unrelated ones. If the business climate improved at roughly the time of the accident, it should be plain that that is not due to one person’s injuries, but I have seen a case treated that way.
Given the myriad difficulties associated with determining farm labour income precisely, and then estimating the fraction of income lost, I believe Justice Brooker’s approach to determining the loss in this case was reasonable. My purpose has been only to emphasize that that approach is not really in principle different from a standard assessment – it just uses an approximation for a hard-to-specify income figure. I also want to emphasize that to properly assess loss of income, the expert must consider the corporate and personal levels of tax, deal with the uncertainties listed above, and be sure not to treat freely given (or loaned!) assistance as income earned by the plaintiff.