In the first instalment of our Consilia Legal guest posts, we are joined by Victoria Hicks, Independent Financial Adviser and Director of Private Client Wealth Management (PCWM) in York. Victoria is one of the Financial Advisers and Directors at PCWM. With a career in bespoke financial planning which spans almost a decade, Victoria works with her clients to ensure that their financial objectives continue to be met.
Going through a divorce can cause significant emotional strain, at which point you are forced to make difficult financial decisions.
The family home is often at the centre of negotiations, and there can be a desire to retain the family home to avoid further personal disruption. However, there may be another asset just as important and often more valuable; the pension. In December 2018, the UK House Price Index valued the average house in the UK at £230,776. Pension assets can be as valuable, if not more, especially where a Defined Benefit pension is involved, or where there is an outstanding mortgage reducing the value of the equity in the property.
A recent survey conducted by the Prudential found that just one in three divorcees will have saved enough for retirement, compared to 42% of those who do not divorce. Their study went further, suggesting that divorcees receive on average 18% less income in retirement. Overlooking pensions can be a costly mistake, especially if your ability to save into your own pension after your divorce is difficult. (source Prudential Research + – an online survey in 2017 of 9876 non-retired adults age 45+).
Common Types of Pension
Below is some basic information about two of the most common types of pensions, however due to different scheme rules, a pension could be much more valuable than it first appears.
Defined Benefit Pensions
A member of a Defined Benefit pension is building an annual income to be paid for life from the scheme retirement age. This often inflation proofed income, is linked to the pensionable salary of the member, and the length of time they were a member of the scheme. With retirement commonly lasting over 30 years, and the cost of living rising, a guaranteed income in retirement can be a very valuable asset, especially where this income rises with inflation.
A transfer value can usually be provided as the first step to assessing the value of the pension, however this is rarely reflective of the level of income the scheme would provide. Often, purchasing the same level of income from a Money Purchase pension can cost significantly more.
Money Purchase Pensions
Via these arrangements, a member builds up a pot of money to draw from in retirement. There are no guarantees as to how much they will receive in retirement, as this depends on various factors including when the pension is accessed and how the investments have performed.
Some money purchase pensions offer guarantees or special features, making them more valuable than their transfer values.
Common Options for Pensions in Divorce
Offsetting is where there are enough assets available to allow one spouse or civil partner to retain their pension provisions, in favour of other assets of equivalent value.
Whilst it may be appealing to receive assets for use today, such as a property or savings, working through this with the help of your solicitor and a financial professional will allow you to assess what this could mean to your financial future.
In accepting pension offsetting, it is important to assess the true value of the pension being left behind. This is not as simple as obtaining a transfer value, if the pensions have a higher worth because of special terms or guarantees.
- Pension Sharing
Pension Sharing is where you are awarded a percentage of your ex-spouse’s/civil partner’s pension, and this then legally becomes your pension.
Where there is a Public Sector pension involved (Police, NHS, Civil Service etc), they will usually provide an ‘ex-spouses fund’ within the scheme, to pay the ex-spouse/civil partner their share in retirement.
Via other Defined Benefit pensions, and where the schemes allow, a pension sharing order could provide the ex-spouse/civil partner with a percentage of the transfer value to then invest in their own Money Purchase arrangement. The guarantees of the Defined Benefit pension are lost, and the future pension is dependent on various factors including when the pension is accessed and how the investments have performed.
It can cost more to purchase the same level of income in retirement under a Money Purchase pension than a Defined Benefit pension, and there are no guarantees. As income in retirement is the overriding objective for a pension, working with your solicitor and a financial professional to accurately value the pension is advisable.
Money Purchase pensions are usually easier to value as they have a clear transfer value, however if there are special terms attached to the existing scheme these are lost upon transfer into a new arrangement. Again, ensuring you understand all the terms of each contract could prevent costly mistakes.
- Pension Attachment Orders / Earmarking Orders
If the court makes a Pension Attachment Order, the earmarked benefits are paid to the ex-spouse or civil partner when the pension commences, thus reducing the amount the member receives.
This option does not offer the clean split often desired, and the scheme member retains control.
This option may be appropriate if you and your ex-spouse/civil partner are of a similar age, and/or there are benefits in maintaining a portion of the pension, however there are pitfalls to be aware of.
These include, and are not restricted to:
- If the member of the scheme retires early or stops contributions this could impact on the benefits received.
- You generally don’t receive anything until the member takes their benefits.
- Income will usually stop on the death of the member.
- The scheme member is taxed on all of the income which could be less tax efficient.
- Don’t accept the face value of a pension. Understand what the pension will provide in retirement as this is its main objective.
- Your solicitor may recommend obtaining financial or actuarial advice. There will be a cost for this additional expertise, but the value obtained could be significant.
- See your property as an asset with a monetary value. Whilst it may hold a great deal of sentimental value now, prioritising this asset could impact on your financial future.
- Don’t forget about the State Pension. Spouses with no or low earnings, who previously qualified for a State Pension due to their partners record may not receive what they expect. Under State Pension rules (post April 16), an individual can no longer qualify for a State Pension based on their partners record and therefore it may be wise to order State Pension forecasts. Where someone had previously built up a State Pension higher than the new allowance, this additional amount is called a ‘protected payment’ and can be subject to a sharing order.
- Think about your future. If you have been awarded a share of a pension and you need your own personal arrangement, seek advice to ensure this is placed in the most appropriate pension and funds. Forecast what you could receive in retirement and if there is a shortfall consider ways to address this. This could be through personal payments which come with very attractive tax reliefs, topping up your State Pension, or considering alternatives to pensions if appropriate.
- Be realistic abut your new financial position, as you may need to make adjustments to balance the life you want today with a comfortable financial future.