Pensions are complicated – there’s no getting away from it – that’s why most people are confused about their pension provision. This makes it particularly important to get it right if you divorce – it’s all too easy to shy away from considering them properly, particularly when there may be more immediate issues such as who will live where?
But from a financial point of view, pensions and houses are usually the biggest assets. Divorce can be a good time to take stock and think about your future.
The most common options for dealing with pensions on divorce are pension sharing orders, or offsetting. A pension sharing order takes money out of one pension scheme and transfers it to another. Offsetting means one person keeps their pension, and the other person gets extra cash in return (so the difference is they receive cash, or a house, rather than a payment into their pension scheme). There are other options, but these are less common.
It is always important to take legal advice about pensions, and it’s often a good idea to take financial advice as well. This can include:
- A financial advisor giving advice about how to deal with your existing schemes.
- A financial advisor giving advice about how to invest the proceeds of a pension sharing order, and whether there are options if you are subject to a pension sharing order.
- An actuary (a financial expert who specialises in looking at future events) can advise on the fairest way to split pensions.
Below we take a look at some of the commonest types of pension and the issues attached to them.
- Personal pensions (or defined contribution) schemes. You make regular payments which attract tax relief. When you retire there are different ways you can access funds. The government have recently introduced more flexibility making it easier to access your money earlier (or with less tax consequences). From a divorce point of view this can make pensions relatively more valuable, because there are more options. In very general terms, making a pension sharing order against this type of scheme is usually straightforward and often a fair way of dealing with them.
- SIPPs are self invested personal pensions. They are the same as 1, but allow you to invest in a bespoke range of investments, rather than investing in an “off the peg” pension fund offered by standard pension companies.
- Final salary pensions (or defined benefit schemes). Instead of paying into a fund and creating your own pot of cash, the amount you receive on retirement is based on your final salary and the number of years worked. It is harder to value these funds, and the figure the court uses (the “cash equivalent value” or CEV) is often wrong. This means it is more likely to be worth using an actuary to value the scheme.
- State pension. We used to talk about the basic state pension, and SERPs, which became known as the Additional State pension. For anyone reaching State Pension age on or after 6 April 2016, the basic and additional State Pensions have been replaced by a new flat rate pension. The amount you get will depend on your National Insurance record; to receive the full amount you need 35 qualifying years (you may get less if you’ve been contracted out). The court can make a pension sharing order against the Additional State pension, but not the basic state pension. You can get a valuation of your Additional State pension by completing form BR20.
- Small Self Administered Pension Schemes (SSAS). These allowsmall businesses to save in a more flexible way and are a type of small company occupational scheme. Typically (but not always) a SSAS might own a business premises or other property or assets. This means to value a SSAS you need to find out exactly what it owns and then get those assets valued appropriately – e.g. you might need a surveyor to value a property. The court can make pension sharing orders but we need to think carefully about how they will work – will the SSAS have to sell a property? How long will that take, and how will it be managed? Who are the administrators – usually it might be the pension holder and his business partner – this gives them scope to undo the intention of a court order. They are complex and need specialist advice, but they can also offer plenty of options.
- Public sector schemes (NHS workers, teachers, civil servants, police, firefighters and armed forces schemes) are usually unfunded, defined benefit schemes (although the Local Government Pension scheme is funded). They tend to offer good returns and again, the CEV may underestimate the real value of the scheme, so it is usually worthwhile to take advice. In particular the CEV assumes retirement at a certain age but these schemes may allow retirement at an earlier date, which makes them more valuable than the CEV suggests. Things are complicated further as there are different schemes (e.g. NHS 1995 scheme and NHS 2015 scheme, the Police 2006 Scheme and the Police 2015 Scheme). They offer a different level of benefits.
- Can’t remember what’s happened to your old pension schemes? Lost the paperwork? Have a look here at a website which helps trace pensions.
- Flexible drawdown. It is easier to access money from a personal pension. This could make the scheme more valuable. It could create options for settlement (i..e you can access money to buy a house or pay off a mortgage), subject to tax consequences.
- The lifetime allowance for pensions has gradually been reduced to £1m. If you are over the threshold then ironically losing some of your pension to a pension sharing order, gives you the chance to benefit from tax relief by rebuilding your pension.
- CEV are a very rigid way of valuing a scheme and they are often wrong or unfair. This is why expert advice is needed.
- Underfunded schemes – some defined contribution schemes are underfunded and will not be able to afford to pay out the expected benefits.
- Has a scheme been subject to a previous pension sharing order, or pension attachment order.
- A pension sharing order can sometimes be internal or external i.e. the money stays in the existing fund or is paid out to a new fund. We need to consider which is best.
- Pre marital pension. You may have paid into a pension for 25 years but only been married for 10 years. Is your spouse entitled to a share of the entire pot, or just the “marital” element? The usual starting position is to look at the marital element but how is this calculated?
- Can a spouse rely on their partners National Insurance record for entitlement to the state pension? The answer used to be yes, and from 2016 it’s no, which makes it more important to look at state pensions.