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BeeHive  >  BeeLines  >  The new inland revenue tax proposals

The new inland revenue tax proposals

Pensions and Divorce after A-Day

Once we get to the other side of A-Day, perhaps in 2005 or 2006, it looks to me that some of the people who have lost out in pensions terms because of divorce may be able to do something positive about it.

The reason for my optimism on this is down to one of the fundamental differences between the existing benefits-limited system and the proposed ĎLifetime Limití pension fund system. At the moment, someone who is a member of a pension scheme is limited by the current tax laws to being able to accumulate a fixed amount of pension benefit related to their level of earnings and length of pensionable service. In the event of their getting divorced, what can happen now is that their pension entitlement nominally earned to the date of their divorce can be split between them and their ex-spouse. This can give their ex-spouse a pension entitlement they can have earmarked for them in a pension scheme, or a transfer value of their share of the pension rights provided for investment in a personal pension.

The person whose pension is split, though, can be left with a damaged pension in an occupational pension scheme that is irreparable even if they can afford to pay sufficient funds to make good the deficit. The reason for this is that the benefit limits do not allow people to add to their pension in this way, even though they may have had half of it removed. Technically they would be going over the allowed limit which theyíre not allowed to do.

In the new system that is proposed, such restrictions look as though they will only exist at the higher level of earnings, but should not affect most people in pension schemes. I could go through a long and detailed explanation of why I think this, but a simple example may do the trick and save you being bored to death in the process. This is how I think it will work in the future:

Imagine a guy whoís a member of a company pension scheme and who is earning £35,000 a year. Letís say heís been a member of the scheme for thirty years and has final-salary benefits that are valued at £400,000. (I donít know if thatís an example thatís even close to being Ďright oní, Iíve just made it up at random to explain the point. So, no writing in and picking me up on detail please. Needless to say, any actuaries reading this means especially you). Now where was I? Oh yeah. So, this guy now gets divorced and he needs to give his ex-wife £200,000 worth of the value of his prospective pension entitlement. Normally, under the existing rules, this would have left his pension crocked and there would be little or nothing he could do about it. However, under the new rules all that will happen will be that his Lifetime Limit of £1.4 million will be reduced by £200,000 to £1.2 million. That will leave him with plenty of scope to repair his pension and more, if thatís what he wants to do and he can afford to do it.

Now thatís a big improvement on where heíd be at now and it opens up the opportunity for financial advisers to revisit all of the people whose divorce cases theyíve worked on in the past and talk to them about the positive changes that are being made that may be of interest to them.

By the way, the example also goes to demonstrate that what some people have been saying lately about people being able to build up £2.8 million pension pots and then getting divorced so they can share them out with their spouse at £1.4 million each wonít work. Not if Iíve understood the stuff Iíve read it wonít, anyway. Someone giving away £1.4 million of their pensionability would be left with a personal Lifetime Limit of £0 as far as I can see. So it looks like the Inland Revenue have already thought of that one and seen it coming. Never mind, Iím sure there will be other amazing facts that will come to light regarding pensions and divorce as all this legislation wends its way through the system. If I spot any more of it Iíll write it up here on the BeeHive. So keep looking in why donít you.

Steve Bee
4 February 2003

This document is based on Scottish Lifeís understanding of current tax law and the Inland Revenueís proposals and the Pensions Green paper issued on 17 December 2002. These proposals are subject to consultation and may change in the future.