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How to calculate lost earnings – It’s much more than just setting a dollar amount

July 18, 2013

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A plaintiff might sue for lost earnings for many reasons — personal injury and wrongful termination are a few that may come to mind. And while it might seem as though calculating the depth of damages is a simple matter, there’s much more to it than setting a dollar amount.

Two calculations are involved

Calculating lost past earnings — or earnings the plaintiff would have received from the time of the incident until trial — is relatively simple. Estimating future earnings, however, can be nearly as complex as estimating lost profits for a business.

Unless the plaintiff is unable to work at all, the expert must make two calculations: 1) the earnings the plaintiff would have enjoyed but for the defendant’s wrongful act, and 2) the plaintiff’s actual expected earnings. The plaintiff’s damages are generally equal to the present value of the difference between those two numbers.

Multiple steps are required

As with a business, the first step is to analyze the plaintiff’s earnings history — including salary, benefits, bonuses and commissions — to establish a level of base earnings from which to extrapolate. If the plaintiff has worked for the same employer for several years with a consistent pattern of annual increases, determining base earnings is fairly straightforward. If the earnings history is erratic, however, the expert takes into account the reasons (such as health problems) in arriving at base earnings.

The expert also might find it necessary to adjust base earnings for unusual, nonrecurring payments, such as a “signing bonus.” He or she further considers variable compensation, such as commissions and performance bonuses.

Past earnings trends can be a good predictor of future earnings, but they may need to be adjusted. For example, a startup business with little or no earnings history may nevertheless recover substantial lost profits damages if it can establish future earnings with reasonable certainty.

In analyzing historical earnings trends and projecting future earnings, an expert considers the impact of seasonal variations and economic trends that may distort past earnings patterns. The expert also analyzes the plaintiff’s promotion history and evaluates the likelihood that promotions will continue at the same rate in the future. The plaintiff’s level of education and future job potential should also be considered.

If the case involves employment discrimination, the plaintiff’s earnings history may not be a reliable indicator of his or her earnings potential. Under those circumstances, it may be necessary to rely on the earnings of other employees in comparable positions.

Setting a value is key

Placing a monetary value on benefits is another challenge. Benefits can cover a lot of ground, from health insurance and retirement plans to company cars and meals, and they can be a significant component of earnings. The plaintiff may not remember — or even be aware of — all of the benefits he or she receives, so it’s important to use the discovery process to make sure all benefits are accounted for.

In some cases, using statistical evidence, such as average employee benefits as a percentage of salary, may be appropriate. But if benefits are substantial, it may be worthwhile to determine the value of each benefit separately. Other evidence that’s commonly used includes worklife tables and historical and projected inflation rates.

Finally, the expert needs to determine the loss period. The appropriate loss period can have a significant impact on the overall damages award. Typically, it extends from the date the plaintiff was discharged or otherwise prevented from working until he or she secures comparable employment. If the plaintiff can’t work or is no longer able to achieve the previous level of earnings, the loss period may extend over his or her entire worklife expectancy.

Working with a pro is a must

This article offers just a taste of what valuation experts do to ensure a proper damages award in a lost earnings case. Working with a qualified appraiser is a must if you desire a proper settlement.
Please contact Kent Pummel, a member of our Business Valuations Team, with any questions at [email protected].

All content provided in this article is for informational purposes only. Matters discussed in this article are subject to change. For up-to-date information on this subject please contact a Clark Schaefer Hackett professional. Clark Schaefer Hackett will not be held responsible for any claim, loss, damage or inconvenience caused as a result of any information within these pages or any information accessed through this site.

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