Pensions, Divorce and QROPS
With two-fifths of all marriages now ending in divorce and with a growing number of people getting divorced later in life, more and more clients are seeking advice on what happens to their pension pots when a couple splits.
And it is absolutely appropriate and sensible that independent financial advice is sought.
A client’s pension is often the biggest asset in divorce or civil partnership dissolution after the family home, so it is important a financial adviser is highly experienced and qualified to be able to advise in this area.
There are three ways that pensions can be divided during the divorce or civil partnership dissolution.
Earmarking (also known as Pensions attachment) – The client receives an agreed amount of the ex-partner’s net pension income or lump sum (or both) when it starts being paid to them. This means the client cannot receive pension payments before the ex-partner has started taking his or her pension. If the ex-partner is much younger or if they retire much later than the client then they may be forced to wait for several years before being able to receive a share of the pension. In Scotland, this is called a pensions lump sum order.
Action: In reality, few people take this option, and should a client be offered this then you should almost definitely recommend against it.
The main issues are:
– No clean break
– Ex-spouse can delay taking pension benefits
– Pension benefits cease when the ex-spouse dies
– No control over how the money is invested
– Entire pension taxed at the ex-spouses’ rate of tax
Pension offsetting – the value of any pension is offset against other assets. For instance, you may have a greater share of the family home in return for your ex-partner keeping his or her pension income.
Action: This is a very clean method for both spouses and is certainly a better option than Earmarking, however, this may leave a client cash-rich and asset poor if they have large pensions. This is the simplest option for most people.
Pension sharing – A percentage share of any pension is awarded to the ex-partner. This share may be transferred into the client’s own name, which could be an existing or a new plan. Or the client may be given the option to join the ex-partner’s pension scheme. In their own right.
Action: This option is probably suitable for most clients. It allows clients to retain valuable retirement plans whilst also ensuring a ‘clean break’ from their ex-partner.
In order to be able to split pensions fairly, firstly you must know what they’re worth. Generally, pensions will be split into:
Defined Contribution Pension
A defined contribution scheme will ordinarily be simple to value with you being able to call up and get a current value and transfer value of the plan.
Defined Benefit Pension
This type of scheme is more complex because the pension benefit is set as annual pension income at retirement based on various factors, including pensionable service, salary and the accrual rate. If you contact the Scheme Trustees they should be able to provide you with a Cash Equivalent Transfer Value (CETV) within a couple of weeks. The fact is, a pension scheme must provide a CETV within three months of the date of the request.
State Basic Pension
This cannot be apportioned but the ex-spouses’ National Insurance history can be adopted if this gives a better outcome for a client with no impact on the ex-spouses’ pension entitlement. This apportionment will be lost if the ‘adopting’ client remarries.
State Second Pension / SERPS / Graduated Pension
Either party to a divorce must obtain a valuation of their entitlement accrued up to the date of divorce. The valuation as with a Defined Benefit Scheme will be a CETV, a notional sum of money that allows the Court to decide how to apportion the clients’ financial assets.
It could be shared in a financial settlement through a pension sharing order. This means that the client could be forced to share part of their additional state pension with the former spouse. If a pension sharing order is made, the additional state pension may either increase or decrease, depending on the decision of the court.
The only way in which pension sharing can take place in England and Wales is by court order however, in Scotland, it is possible to negotiate a ‘qualifying agreement’ rather than a court order.
QROPS and Divorce
Qualifying Recognised Overseas Pension Schemes (QROPS) are outside of the earmarking or pension sharing jurisdiction of the UK courts. In reality, if the courts (and the divorcing client) realise their lack of jurisdictional power they will always have the fallback of reverting to offsetting. This will only be of use to the courts should the couple’s other assets outweigh that of the overseas pension rights. And of course, if the asset is declared!
Typically, a UK resident may consider setting up a QROPS when they leave the UK to permanently emigrate (or to retire abroad) having built up a pension fund within a scheme approved by HMRC. The QROPS does not have to be established in the new country of residence, with some of the most popular jurisdictions of choice being Malta and Gibraltar, thus providing greater flexibility and stability, along with a choice of scheme provider. A QROPS is an overseas pension scheme that meets certain requirements set by HM Revenue and Customs (HMRC). A QROPS can receive the transfer of UK Pension Benefits without incurring an unauthorised payment and scheme sanction charge. QROPS was launched on 6 April 2006 as part of new legislation with the objective of simplifying pensions.
Transferring UK Pension assets to a QROPS may be seen by some as a step in protecting assets from a spouse on divorce. As the law does not forbid a transfer, advisers should ensure that they are not seen to be promoting this or even supporting the activity. This could be seen as a bi-product of the QROPS market which otherwise offers non-residents an excellent method of continuing to save toward retirement in an efficient manner.
I go into further detail on the benefits of QROPS in one of my other blogs, which will solely focus on these retirement vehicles of choice for expats.
How can advisers add value?
– Help your clients to understand their options in simple terms!
– Help fellow professionals to understand this potentially complicated area!
– Advice on how pension holder can rebuild their retirement provisions.
– Advice on which option to opt for.
– If pension sharing is opted for then advice will be required on whether to transfer the benefits to another provider to enable a more suitable and tailored strategy.
– Advice on how equality of outcome can be achieved i.e. to ensure not only a split of pension value is achieved, but equivalent pension income is shared may be leading to a higher split required.
Divorce is almost always ranked as one of the most stressful things people can go through, and with all the emotional and practical stresses it entails, pensions can often be pushed to the bottom of the priority list. Of course, this is extremely concerning as when people divorce after the age of 60, there’s little time to bolster a split pension pot before retirement – and diminished funds could lead to some very stark choices having to be made about the downsizing of retirement plans and lifestyles.
Therefore, as advisers it’s our responsibility to financially guide clients through this period of their lives, should it occur, to try and ensure they have optimum levels of financial freedom and security throughout their retirement.
About Mike Coady
Mike Coady is an expat expert based in Dubai and is on hand to help with all of the above and more.
Mike is an award-winning money coach and industry leader in the financial sector.
Qualified to UK Financial Conduct Authority (FCA) standards, a member of the Chartered Insurance Institute, a Founding Fellow of the Institute of Sales Professionals (FF.ISP), and a Fellow of the Institute of Directors (FIoD) and featured as a highly qualified Financial Adviser in Which Financial Adviser.
To learn how to choose a great financial adviser, download our free guide.
Blog published by Mike Coady.