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Mix and match

In my last article, I gave examples of the three ways in which pensions may be taken into account in financial settlements on divorce – these being set-off, attachment orders and sharing orders.

I repeat these examples here as a reminder before comparing the advantages and disadvantages of each of these methods for each party to the divorce.

I left a few points still to develop from that last article which I will now complete.

First, in my example of sharing orders, it must be noted that if Jane successfully claimed a pension-sharing order against David’s pension, it might be expected that David would claim a sharing order against Jane’s pension.

This will not necessarily be the case as, the next additional principle to note, even if a sharing order were agreed against David’s pension his own “claim” against Jane’s pension could be settled (if, indeed, there is any settlement at all in this respect) either by set-off or an attachment order.

Thus, a financial settlement in respect of the pension rights can be mixed and matched between the three methods and, as always, the possibility of making no order whatsoever in respect of the pensions.

It is always important to remember, as I stated in my last article, that it is obligatory for the value of pension rights to be taken into account in all financial settlements in divorce.

A third point needs to be fully understood by financial advisers becoming involved in this field of advice – there is absolutely no requirement for either the assets or the income of each party to a divorce to be divided equally.

It is a common misconcep-tion (although, of course, not among divorce lawyers) that matrimonial assets must be divided exactly equally. True, a broadly equal distribution between the divorcing spouses is a convenient starting point but many other factors will be taken into consideration.

Thus, the needs of a spouse who will retain custody of dependent children will be a major consideration as will the ability to, for example, one spouse to gain a much greater share of the assets while accepting a lower share of the couple’s joint income.

But for the purposes of the remainder of article, I will assume (for ease of explanation) that an equal division of each spouse’s pension rights has been agreed as I will now consider the respective merits and disadvantages of each method of settlement for each spouse, starting by considering David’s pension in isolation.

Would David, on that assumption of him losing 50 per cent of the value of his pension rights, prefer set-off, an attachment order, or pension sharing?

As regards set-off, it should first of all be noted that, as I briefly noted in my last article, the default valuation method of the pension benefits is the fund value of a money-purchase scheme or, for final-salary benefits, the transfer value provided by the scheme – known by divorce lawyers and the courts as the cash-equivalent transfer value (CETV).

The use of the CETV as the accepted method of valuing final-salary benefits is enshrined in legislation and regulations but it can be questioned by either side if it can be demonstrated that it would unfairly prejudice one of the spouses.

This is a particular area where the knowledgeable financial adviser can assist divorce lawyers, possibly including the suggestion of an independent actuarial appraisal.

CETVs provided by many or most final-salary schemes are currently being reduced due to the underfunding levels of the scheme. Most pension practitioners will be aware that this has been the case for a number of years and appears likely to remain the case for many more years.

It could convincingly, at least from a technical actuarial point of view, be argued that the CETV is not an accurate reflection of the true value of David’s pension rights where the CETV has been reduced to take account of scheme underfunding.

By way of very quick example, if David’s unadjusted CETV is calculated at 150,000 but as the scheme is 20 per cent underfunded the CETV provided by the scheme is reduced to 120,000 (that is, reduced by 20 per cent) a 50 per cent set-off agreement would, in effect, allocate 60,000 of the couple’s other (that is, non-pension) assets to Jane. Jane (or more likely her solicitor) could – if he had asked the correct questions in requesting the valuation from the scheme and then understood the answers and the importance of the answers – argue that Jane’s set-off agreement should be worth 75,000 to her.

Here, an extreme word of caution should be noted. Divorce lawyers and courts have only in recent years come to accept the need fully for pensions to be taken into account in all divorce settlements.

The vast majority of these legal practitioners would readily admit to not fully understanding pensions technically or actuarially and so the above line of reasoning is unlikely to be readily accepted (if, indeed, understood) by David’s solicitor even if Jane’s solicitor put the argument forward in the first place.

If Jane’s solicitor pushed the issue to demand a greater share than 50 per cent of the 120,000 CETV, it is highly unlikely that the courts (a judge in the rest of the UK, a sheriff in Scotland) would understand the issue sufficiently to vary their normal practice. The reasoning, however sound and justifiable, is often likely to fall on deaf ears, especially if it was not well reasoned and supported.

But suppose that the CETV has not been reduced, David could have a sound argument for not wanting 50 per cent of its value to be taken into account in the set-off.

The CETV includes the capitalised value not only of the promise by the scheme to pay a member’s pension but also of the scheme’s promise to pay a dependant’s pension and if David is still an active member of the scheme (that is he is not an early-leaver), the capitalised value of the promise to pay a lump sum death-in-service benefit.

A fairly typical breakdown of David’s CETV is shown in Box 4:

Bearing this CETV breakdown and David could surely argue the value of his pension benefits is not 150,000 at all, it is only 120,000 and this should be the figure which is then divided – notionally in half, as I have discussed above.

After all, David cannot possibly benefit personally from either the dependants pension or any payment of the DIS lump sum. This is a convincing line of argument from a technical pension and actuarial viewpoint but, again, the same words of caution as the ‘underfunding’ argument for Jane should be heeded: trying to get either solicitor to understand the issue, let alone accept it, might prove to be very difficult if not downright impossible.

More important issues still to cover in respect of the validity and use of the CETV in divorce settlements, and a suggested way forward for pension advisers with solicitors in this respect, continues in my next article.

Box 3

Pension-Sharing Orders

A pension-sharing order of 50% has been agreed against David’s pension:

David’s CETV 150,000

Transfer to Jane (at date of settlement) 75,000

David’s pension reduced by 50% (subject to clarification in my future articles)Box 1

Set-off

As a first summary of a division of the assets in the divorce between David and Jane:

Equity in the matrimonial home 200,000Investments 100,000Other assets 50,000Pension rights – David 150,000Pension rights – Jane 100,000

Total value of all assets 600,000

A start point for David and Jane’s settlement would therefore be an equal division of the 600,000 assetsBox 2

Attachment orders

David’s expected pension 20,000 a year

Expected value (at retirement) of Jane’s attachment order 10,000 a year

David’s reduced pension, after the attachment order 10,000 a yearBox 4

Typical breakdown of a CETV

Capitalised value of:

Member’s pensionpromise 120,000Dependent’s pensionpromise 25,000Death-in-service benefit 5,000150,000

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