Pensions are often a significant asset on divorce or dissolution of a civil partnership, that need to be considered carefully. The overall aim in financial remedy cases is to achieve fairness between the parties. This principle equally applies to pensions, although they can be complex to both value and to divide.
It is common for one spouse to have significantly larger pension provision than the other. This often arises where, for example, one spouse has given up work or reduced their career to care for the children, while the other has remained the primary earner. In addition, there could be a situation where one spouse has a more generous pension scheme, such as a final salary pension.
In these cases, Divorce Financial Settlements can correct that imbalance. This can be achieved either by “offsetting”, a “pension attachment” order or, most commonly, a “pension sharing” order.
If you are applying for a judicial separation, the court does not have the power to make a pension sharing order. Instead, the options are limited to offsetting or applying for a pension attachment order.
Offsetting is the process by which a party’s entitlement to present or future pension benefits is exchanged for a greater share of other assets, typically capital available now. For example, one party might agree to forego a claim against a pension in return for a larger share of the equity in the former family home.
However, any settlement based on offsetting requires careful consideration, as pensions and non-pension assets are fundamentally different in nature. The difficulty lies in comparing assets of a very different type, for example a pension, which provides a future income over a lifetime, versus immediate cash, housing or other non-pension assets.
The valuation of pensions for offsetting purposes must therefore be approached with care. It is important to fully understand the value of the benefits that are being given up, retained or received to ensure that any agreement is fair.
The Cash Equivalent (CE), Cash Equivalent Value (CEV) or Cash Equivalent Transfer Value (CETV) represents the capitalised value of pension benefits that have accrued within a pension scheme. It is, however, only a starting point when assessing the value of a pension. The limitations in CE figures need to be clearly understood as they do not always reflect the true value of the benefits, particularly in the case of defined benefit schemes and it is likely that expert valuation and advice will be required to do this.
A pension attachment order has the effect of redirecting part or all of a spouse’s pension benefits to you, but only when those benefits comes into payment. However, there are a number of disadvantages including the fact that it cannot provide for a clean break as it keeps parties financially linked. In addition, the income or benefits are lost if your former spouse dies, and in some cases if you remarry. You also can’t receive any payments until your former spouse decides to draw their retirement benefits, which they can deliberately delay. For these reasons, Pension Attachment Orders are now relatively uncommon.
Pension attachment orders can be useful in certain cases, such as where there is a significant age difference between the parties and a pension already in payment is being used to fund spousal maintenance. In such cases, that income stream might be disrupted if a pension sharing order were to be made. In addition, it might be that an international pension scheme does not allow a pension share.
They are also one of the limited options available where the parties are judicially separated rather than divorced.
A pension sharing order provides for a specified percentage of the CE of a pension to be transferred to the other spouse. Effectively, it divides the pension between the parties, giving each their own separate pension in their own right.
Pension sharing orders are now the most common method of dealing with pensions on divorce. They enable a spouse without pension provision to acquire a pension in their own right, which is not affected by the death of their former spouse or by remarriage. This provides greater independence and control of their own future finances.
They can also help the parties in achieving a “clean break” on divorce (see Divorce Financial Claims).
A pension can only be divided by a court order, it cannot be implemented by private agreement alone. Any agreement to share a pension must therefore be formalised in a court order to ensure that it is binding and effective against the pension provider. The court order can be done by consent, rather than through contested court proceedings.
There is no fixed threshold for obtaining a Pensions on Divorce Expert (PODE) report, but in practice it is more likely to be appropriate where pension provision is substantial (often in excess of £500,000), or where there are complicated aspects of the pension. These include defined benefit or public sector schemes, a significant disparity between parties’ pension provision, age differences or where offsetting is being considered.
A PODE report, can provide the “true” value of the pension, both at the relevant date and in terms of the income it may generate at retirement, which isn’t clear from a simple CE figure. In particular, occupational pension schemes, final salary schemes and those relating to the armed forces, police service and NHS often require specialist valuations. While the McCloud litigation has led to steps being taken to correct certain public sector pension valuations, CE figures may still not fully reflect the underlying benefits and expert advice can be sought.
State pensions should also be taken into account, as entitlements can vary significantly depending on the ages of each party and national insurance contributions.
A PODE report can also provide guidance on how to fairly share the pensions, either based on capital values or income on retirement.
Further advice may also be needed on tax considerations, including the impact on available tax-free lump sums and any applicable protections. While the Lifetime Allowance charge has been abolished, limits on the amount that can be taken tax-free and other historic considerations can still affect the value of pension benefits in certain cases.
Ultimately, we can guide you on whether a PODE is necessary in your particular circumstances.
Once it has been decided what percentage of the pension scheme of the other spouse’s pension is to be shared, that percentage, known as the “pension credit,” is transferred into an existing pension, a new pension or an extra pension as part of the existing scheme, but in your sole name.