UK: Untying The Knot

Last Updated: 31 October 2011
Article by Amy Radnor

The dissolution of a marriage is not often straightforward and can be complicated by the dividing up of both parties' pension provision.

Although the process for divorce is well-established, the division of assets will depend on the circumstances of every divorcing couple and the calculations can often be complex and difficult. As well as dividing up real property, bank accounts, shares and other assets, the court will also look at both parties' pension provision.

If one spouse never worked for instance, while the other built up a large pension fund, this will have to be taken into account to make sure both parties have an adequate income on retirement. The calculations can be complex, and for some couples a pension may be the single most valuable asset in the pot after the family home.

A court has the power to make a 'pension sharing order' on any divorce in England and Wales where there is an applicable pension, although they cannot be made in relation to foreign pensions nor can they be made over a basic state pension. It is important also to be aware that pension sharing is not available on judicial separation but only on a final decree of divorce, and one of the crucial disincentives of the judicial separation route is the court's inability to order a pension share.

In terms of the practical procedure, the first step is for the pension fund to be valued, and that often means instructing an accountant or an actuary to prepare a report, especially for large pensions which are often made up of different components with different rules. Once the fund value has been determined, the court will then order a division which has to be expressed as a percentage share of the total fund value.

The spouse receiving the pension share is then "credited" with that percentage, which becomes entirely theirs. The great appeal of a pension share is that there is a "clean break", in that the fund is completely divided and becomes two entirely separate pots. Any payments after that date which are made by the ex-spouse, or their employer in the case of an occupational pension, go only to the ex-spouse's fund and will not benefit the receiving spouse. The receiving spouse may decide to keep their share in the same scheme as the ex-spouse, or transfer it to a completely new scheme of their own choosing. It is theirs to manage as they wish, subject to the rules of the scheme.

A pension credit cannot be taken as cash. If the receiving spouse decides to transfer the fund out of the original scheme and place it elsewhere, the original pension fund will need to have confirmation from the new fund that it is instructed to accept the credit and the payment will be made directly between them without passing out to the ex-spouse.

Fluctuations

The share of a pension must be expressed as a percentage, and that will need careful consideration where the pension fund in question has a value which fluctuates considerably. Any percentage can be specified. It is possible to order a 100 per cent pension share, which simply means the transfer of a whole pension fund from one spouse to another. Pension sharing orders can be made over pensions which are already in payment.

Where a pension sharing order cannot be made for whatever reason (for instance on a petition for judicial separation rather than divorce) the court has power to make a 'pension attachment order', sometimes referred to as ear-marking. With an attachment or earmarking order, the receiving spouse does not receive their own separate pension fund to do with as they will, as under a pension sharing order. Instead, a pension attachment order requires the trustees or managers of a particular pension scheme to ear-mark a certain percentage of the member spouse's pension and pay it to their ex-spouse each year or each month. This also includes a percentage of their commutation lump sum, if and when they take benefits on retirement.

The receiving spouse will receive a monthly or yearly sum of money, akin to maintenance, but will not have control over how and where the fund is invested or the ability to make decisions about when and if to take a lump sum. Another key difference is that because the ex-spouse does not acquire their own pension rights, as they do under a pension sharing order, the right to the percentage payments dies with the member spouse. This can leave ex-spouses without pension income in later life when it is most needed unless there is provision in any settlement (for instance a life insurance policy) or by way of the member spouse's will, to provide for the surviving party. For all of these reasons, and crucially because it does not provide a clean break, pension attachment orders are rare and generally a pension sharing order will be the preferred option. The same pension arrangement cannot be both attached and shared in the same set of proceedings.

The exact terms of the percentage division on a pension sharing order will be the subject of negotiation and depend very much on the circumstances of each case. In long marriages with children the presumption is that, like other assets, there should be a 50/50 division. The court's emphasis will be on ensuring that both parties have an equal income in retirement, and in the case of valuable pensions, the receiving party will usually want to obtain a pension report from an actuary to determine exactly what share of the pension will be required to produce the same income for them in retirement as their former spouse, given that women have a longer life expectancy and therefore currently have different annuity rates (but this may change following the new ruling on gender discrimination on annuity rates). This is particularly the case also where one party has health considerations which need to be factored in. It may be that an unequal division is required in order to produce an equal income when it is needed.

Division

The exact division of a pension is negotiated by practitioners in the context of the division of the other assets. Often, couples have several pensions between them. Very often, for instance, a party with an occupational pension at a place where they are still employed, or a self-invested pension that they alone have built up and controlled, will want to keep the whole of that favoured pension intact and will be prepared to trade off other, less valuable, pensions or cash in recognition of that. This is a practice known as off-setting which is not a separate power open to the court but rather an exercise performed in negotiations.

It does require there to be available liquid funds to compensate the other party, and if there is not enough cash available to perform the off-setting exercise then the court will have no option but to make a pension sharing order regardless. Sometimes there is no option but to off-set, for instance where there is a foreign pension the court cannot order a pension sharing order and will have to compensate the other spouse with cash (provided of course that liquid funds are available to do so).

If one party is taking cash in lieu of pension, how much are they entitled to? Is it pound for pound? In fact, it is generally accepted that cash paid in lieu of pension is more valuable than a pension credit as it is free cash rather than an asset which is locked in and not going to become available to a spouse for many years to come. There is also the risk that the receiving spouse may die before becoming eligible for pension benefits and therefore get no enjoyment at all from the money. Broadly, a discount of about one-third is applied to what the recipient would have received on a pension share when calculating what they should receive as a cash balancing sum.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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