They say that breaking up is hard to do, and this is especially true if pensions are involved. And n...
They say that breaking up is hard to do, and this is especially true if pensions are involved. And now, for better or for worse, the options for dealing with pensions on divorce are about to increase with the introduction of pension sharing.
Pension sharing on divorce was first proposed in 1996 as a third option alongside offsetting and earmarking. However, it took until late spring 2000 for all of the details of pension sharing to be agreed. These emerged in the form of a lengthy set of regulations, model rules and an Update from the Pension Schemes Office (PSO).
Couples who start divorce proceedings on or after 1 December 2000 will have a choice of three methods for dealing with pensions and will clearly need advice. Trustees, too, will need advice and guidance on their new responsibilities. And, pension sharing could also open up significant new business opportunities for IFAs working together with family lawyers and solicitors.
This article outlines how pension sharing will work in practice and the opportunities it brings for pension specialist IFAs.
The current options
Since 1996, it has been a legal requirement for the courts throughout the UK to consider pension as a matrimonial asset in any divorce proceedings. It was also in 1996 that earmarking became available as an alternative to offsetting.
Under offsetting, the pension remains with the member, but its value is taken into consideration when dividing the matrimonial assets, so the ex-spouse receives a correspondingly greater proportion of the non-pension assets.
The classic example is for the partner with greater pension to keep it, with the other spouse retaining the matrimonial home. This is currently the simplest way of allowing for pension on divorce, it represents a 'clean break settlement' at the date of divorce and has proved to be the most frequently used method for divorces in recent years. Where it is not possible to arrive at a clean break settlement, perhaps because of a lack of non-pension assets, then the only alternative at present is earmarking.
Earmarking was introduced in 1996 by the Pensions Act 1995. Where this route is taken on divorce, an earmarking or attachment order is served upon the trustees of the scheme or the personal pension provider. This instructs the trustees or provider to pay the specified earmarked benefit direct to the ex-spouse instead of to the member. Earmarking orders can be attached to either regular instalments of pension or to lump sum benefits payable on death or on retirement as a tax free cash sum. In Scotland, only lump sum orders are available.
Earmarking has not proved popular since it was introduced. This may be because there are a number of circumstances under earmarking where the ex-spouse may end up with less than was intended. For example, as the member retains control over the pension in the period between the order being served and the benefits coming into payment, he or she can have considerable influence over the pension benefits by, say, delaying starting the pension until age 75, or making poor investment decisions. Delaying the pension means the ex-spouse must wait longer for his or her earmarked portion, while poor investment decisions could deplete the pot at retirement.
Another problem with earmarking for the ex-spouse is if the member dies before the pension comes into payment, then unless the lump sum death benefit has been earmarked, the ex-spouse could end up with no benefit at all. Also, if the ex-spouse remarries, earmarking orders on pension will lapse with all benefits reverting to the member. Orders attaching to lump sum benefits will normally survive remarriage.
The new option
Pension sharing (originally christened 'pension splitting' by the previous Government) has been introduced as a third option, in addition to offsetting and earmarking. Unlike earmarking, sharing will represent a clean break at the point of divorce. Unlike offsetting, it will also result in both parties securing an element of pension income for retirement.
Any new pension schemes seeking approval since 10 May 2000 (known as the 'first appointed day') will have to include pension sharing provisions within its rules, although sharing will only be available for individuals whose divorce proceedings start on or after 1 December 2000 (the 'second appointed day'). Existing schemes do not have to update their rules immediately, but are being encouraged to do so at the earliest possible opportunity, for example when the rules are being amended for some other 'non-trivial' change.
Pension sharing will apply to all types of pension arrangements, occupational and personal, funded and unfunded, approved and unapproved. It will also apply to Serps. Under an occupational scheme, it is the trustees who have an obligation to comply with the order, while for personal pensions it is the provider. For simplicity, in the rest of this article, I will refer solely to occupational scheme trustees, but parallel provisions apply to personal pension providers.
Under pension sharing the member's accrued pension entitlement is split into two (not necessarily equal) parts. The ex-spouse's share will be set up as a pension in his or her own right. This can be achieved in one of two ways either by offering the ex-spouse a transfer value to take to an arrangement of his or her own choice, or alternatively, by granting the ex-spouse his or her own benefit entitlement within the member's scheme. All private funded schemes are required to offer an external transfer value. The alternative of scheme membership is at the trustees' discretion. In practice, this second option may be less popular due to additional administrative complexities and higher costs.
However, unfunded public sector schemes will offer scheme membership as the only option, as there is no fund from which to pay external transfers.
The trustees will initially receive a request for deta
£300bn of liabilities
View from the front row
Transfer from occupational scheme
Appointed by FCA and PSR boards