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Knotty problems

Tie the knot or lose your pension. Well, at least part of it. That is the message proclaimed loud and clear from many pension schemes – both occupational and personal – and for many annuities paid to those already retired.

Last week I looked at the situation relating to the definition of legally married spousses in pension schemes – in particular, the date on which the couple were married or, subsequently, the date of their divorce. In both cases, the critical consideration was the relationship of either of these dates to the date of leaving the scheme or the date an annuity was purchased or otherwise provided.

The situation is different if a pension scheme member, annuitant or prospective ann-uitant is not legally married. Will a pension become pay-able on that person&#39s death to a selected third party? The scheme or annuity definition of dependant is the key.

First I will look at common-law spouses and other dependants before a brief look at the situation in Scotland.

Common-law spouses and other dependants

Beyond the apparently simple duty of determining the existence of a spouse&#39s pension (as I discussed last week), scheme definitions of “dependant” vary wildly. Where a dependant&#39s pension is deem-ed to be payable from a sch-eme, a child dependant will always qualify on the death of the scheme member.

More controversial issues exist around dependent adults, and in particular dependent adult “partners” (in a gender sense), of scheme members where such a relationship exists outside of legal marriage.

One thing is certain – such partners cannot qualify for inclusion in the standard definition of “spouse” (invariably defining spouse within strict legal terms). It could be arg-ued that they could, should or must be included as a potential recipient of survivor&#39s pension benefits under the defi- nition of “dependant”.

Another thing we know for certain is that the Inland Revenue has confirmed that it is comfortable – from a scheme approval point of view – in allowing dependant pension benefits to be paid to adult dependants.

So schemes can pay sucha pension to an adult dependant but this does not mean to say that schemes must pay a pension to such partners. Most schemes do not commit themselves to making such payments, preferring instead to leave payments to the discretion of the scheme trustees. The latest (1999) survey of pension schemes by the National Association of Pension Funds reveals that only 5 per cent of private sector schemes and 2 per cent of public sector schemes will provide a pension for a surviving common-law partner of a deceased scheme member as a matter of course.

Of the others, 56 per cent of schemes in the private sector and 13 per cent of schemes in the public sector leave the decision to the discretion of the trustees.

A further notable difference between schemes in the two sectors is that, while 14 per cent of schemes in the public sector state that they will not pay a pension to a common-law partner “in any circumstances”, this figure is a massive 77 per cent in the private sector.

Clearly, if you do not want to get married but you value your surviving partner&#39s pension rights, get a job in the public sector.

Trustees, in using their discretion, will take into account a number of factors such as the period of time the couple have been living together, the existence of any children being brought up by the couple, joint financial commitments such as a mortgage, and other generally acceptable indicators.

What these survey results do not show, however, is that the Inland Revenue historically has not permitted a pension to be payable to a sur-viving adult “partner” unless that claimant is able to show that he or she was financially dependent on the deceased at the date of death.

So even if a scheme ack-nowledges the existence of a common-law partner and is prepared to pay a pension to that person, it should not do so unless it has determined the issue of financial dependency.

Other issues involved here are numerous, not least those emanating from the lack of legal definition of “common-law spouse” or “common-law partner”.

How long will a couple have to live together before they can legitimately call themselves “common-law husband and wife” – 10 years, five years,one year…last night?

In the UK there is no legal determination of the required period of time and so schemes – quite apart from the financial considerations of having to pay many more claimant survivors – have tended to avoid committing or even allowing the trustees to make suchpayments to any adult dependants other than legally married spouses.

Giving the trustees discretion in this matter leaves them vulnerable to protracted arguments with rejected claimants.

So, what does all this have to do with financial advisers?

First, advisers should be aware when assessing the overall financial planning situation and needs of a couple in a common-law relationship, that a survivor&#39s pension may not always be paid on the death of a scheme member.

Scheme rules should be checked. The answer may be in the scheme member&#39s booklet but will often require further correspondence with the scheme provider.

If it is discovered that no such pension would be payable, the need for additional life insurance may be seen to become more obvious and immediate.

Second, an increasing number of life insurance companies are offering “joint-life” pension annuities with a survivor&#39s pension being payable to a named common-law partner. The annuity rate is, of course, lower than the rate for a single life annuity.

Advisers considering such an annuity should be aware that the insurance companies are bound by the Inland Revenue rule of “financial dependency” in these cases, just as with occupational pension schemes.

So the annuitant may suffer from a lower income while still alive, foregoing part of his/her annuity to buy a survivor&#39s pension which may never be allowed to become payable, if the named partner cannot demonstrate financial dependency at the date of the annuitant&#39s death.

Third, there is the situation where a scheme will not consider paying a dependant&#39s pension to a common-law partner. Advisers assessing the appropriateness of a pension transfer for someone in this position should note the absence of dependant&#39s pension benefits if the client remains in the existing sch-eme, in contrast to the much enhanced death benefits to be had from a transfer to a private pension arrangement.

The Scottish situation

The situation in Scotland in this respect is a little way ahead of the rest of the UK.

Besides having (as elsewhere in the UK) the concept of common-law relationships, there is also the opportunity of an unmarried couple to go to court to deem them recognised in law – although not in the church – as being or (and read these next few words very carefully) to have been legally married.

The court requires evidence to prompt their app-roval, not dissimilar to the evidence called for by pension scheme trustees seeking to exercise their discretion in pension scheme payments. If the court is satisfied with this evidence, then the couple&#39s relationship will be recognised in law as being equivalent to a formal marriage, bringing potential inheritance tax benefits on the death of one of the spouses.

Also, particularly important for this series of articles, pension schemes will be required to recognise a surviving partner for survivor&#39s pension benefits.

This removes them from any problem with trustees&#39 discretion, including scheme refusal to pay a common-law spouse.

Thus, Scottish law potentially tidies up the uncertainty which can be prevalent elsewhere in the UK.

More about this Scottish law next week, when I look at some of the reasons why I believe it may be shipped south to the rest of the UK in the not too far future.

I will also extend the discussion to the even more contentious arena of same-sex relationships.

Keith Popplewell is managing director of Professional Briefing

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