Why you should not ignore pensions during a divorce

In many divorce cases, pension arrangements are often overlooked, leading to potential long-term negative consequences.

Research conducted by Legal and General reveals that only 20% of divorcing couples discuss their pension arrangements when dividing their assets.

This is mainly due to the perceived complexity of pensions compared to other assets, with many believing that pensions should remain with the contributor, especially if contributions were made prior to the marriage.

According to the Fair Shares Report 2023, only 11% of respondents had implemented pension sharing orders for pensions not yet in payment.

Of those, just 20% were divided equally, highlighting a gender disparity in pension provision, particularly disadvantaging women.

Studies also indicate that women in divorce proceedings are primarily concerned with immediate needs like housing and future income.

If the financially weaker spouse agrees to retain their own pension, the consequences of this decision may not be felt for several years.

However, the reality is that a failure to deal with the pensions fairly on divorce may well result in the financially weaker spouse having inadequate pension for their retirement.

As a result, they may need to seek a higher salary through a more demanding job or transition from part-time to full-time work to increase their pension contributions.

Depending on the age of the divorcing individuals, despite efforts to boost their pensions, they might still experience a lower standard of living compared to their ex-spouse before and during retirement.

It is crucial for divorcing couples to ensure a fair division of pensions to safeguard the long-term financial stability of both parties, especially the more vulnerable one.

It is again worth noting that pension sharing claims should not be underestimated. The family courts do not treat pension assets any differently to other capital assets. Both are taken into account and are available for distribution on divorce.

Understanding the true value of the pensions

Divorcing individuals should always obtain information about their own pensions and those of their spouse.

Find out what types of schemes the pensions are. If there is a defined contribution (DC) scheme  also known as a Personal Pension, with guarantees or guaranteed minimum payments (GMP), the cash equivalent may not be reflective of their true value.

Similarly, the cash equivalent of defined benefit schemes, also known as Final Salary Schemes, is typically an underestimation of the cost of buying the equivalent benefits on the open market.

If this is not clearly understood, the pension benefits and therefore what can be achieved by making a claim for a pension sharing order will not be appreciated.

Due to the complexities of the various pension schemes in existence it is always advisable to obtain correct financial advice to obtain a true value of the pensions before they can be shared fairly. 

Pre-marital pensions

It is important to understand that pre-marital pensions are typically not exempt from the financial settlement.

There is a common misconception that individuals going through a divorce will automatically have the right to keep any pensions they accumulated before the marriage. However, this is not always the case.

Most cases are categorised as 'needs' cases, where the parties' assets do not surpass their needs.

In such instances, the origin and timing of pension assets are generally not relevant.

Consequently, a family court will assess all pensions, including those obtained before the relationship began.

 

Pension sharing orders

This is often regarded as the fairest way to achieve equality of pension income via a pension sharing order.

This is typically the situation for divorcing couples who are approaching retirement age or are older.

Many individuals going through a divorce are deterred by the expenses associated with seeking legal or actuarial guidance.

Nevertheless, making an uninformed decision and dividing the pensions based on their capital values often leads to an unforeseen outcome; there is no guarantee that income equality will be achieved.

When the couple's pensions involve a Defined Benefit/Financial Salary scheme, not only might the recipient spouse end up with a lower pension income than anticipated, but the other spouse could end up in a better financial position than before the pension sharing order was implemented.

 

State pensions

 

State pensions should not be forgotten because these will be taken into account by the court as well.

A form BR19 should always be completed to obtain an estimate of state pension entitlement.

Where there are children and one of the parents gave up work, clients should be asked who claimed child benefit.

If it was the working spouse, they will have duplicated national insurance credits.

The non-working spouse can reclaim those national insurance credits by completing forms CF411 for pre-2010 credits and CF411A for post-2010 credits.

It is important to highlight that the basic state pension cannot be shared under a pension sharing order.

However, for men born before April 6, 1951, or women born before April 6 1953, they should obtain an estimate of their additional state pension by completing form BR20.

The additional state pension could be worth more than £100,000, so is worth finding out about, and it can be shared under a pension sharing order.

Dealing with pensions properly on divorce is worthwhile. With that in mind, what orders can be made to share pensions fairly?

On divorce the family court has the power to make a pension sharing order.

This is a court order that states a percentage of the cash equivalent of a party’s pension to be transferred to the name of the other spouse internally, or externally to another provider.

This gives the recipient their own pension, which they can draw as they wish, according to the scheme rules.

Contrary to common misconception, pension providers cannot transfer pension benefits to another person in the absence of a pension sharing order.

Such orders cannot, however, be made in respect of overseas pensions. Instead, one option may be to transfer overseas pension benefits to a UK pension, which can be the subject of a pension sharing order.

Off-setting rules

The primary alternative to a pension sharing order is referred to as 'off-setting'.

This involves exchanging a claim for a pension share for another asset, where one party retains their pension provision while the other receives more non-pension assets to compensate for not claiming a pension share.

Off-setting can be a suitable solution for divorcing parties prioritizing rehousing themselves and their children, potentially enabling them to secure exclusive ownership of the family home or obtain more proceeds from a sale for adequate rehousing.

This approach can be beneficial when one party has a higher income and mortgage capacity, reducing the immediate need for capital to rehouse. Although off-setting may seem appealing, it carries risks as it entails comparing different asset types like pensions, which yield future income, with assets such as cash or property equity.

To ensure a fair outcome, understanding the value being given up or retained is crucial.

Relying solely on the cash equivalent of a pension may not be appropriate. Seeking financial advice is advisable to accurately assess the value of pension benefits before considering off-setting against another asset.

Adjustments should also be made considering that the pension holder will pay taxes on their pension, impacting its value. For younger pension holders, adjustments might be necessary to reflect the inability to access pension benefits for several years, unlike the immediate access the other spouse has to cash or other assets.

While off-setting is not an exact science, a more reliable method for achieving fairness is typically through a pension sharing order.

Earmarking orders

This is a court order that redirects pension benefits to a former spouse when the pension is drawn by the holder.

Since the introduction of pension sharing orders in 2000, pension attachment orders are extremely rare.

Their main downside being the receiving spouse is entirely dependent on their former spouse to take the pension and the timing of such; if the holder dies before the pension is drawn, the other loses the benefits under the pension attachment order.

Following the introduction of "A Guide to the Treatment of Pensions on Divorce" (first edition 2019 and second edition 2024), produced by the Pension Advisory Group and made up of family lawyers, judges and actuaries, specialist family lawyers and the family courts are more alive than ever to the importance of dealing with pensions fairly on divorce.