Pension Offsetting in Divorce: The Long-Term Cost of Keeping More Capital

One of the common issues faced by those going through the financial remedy process is meeting their housing needs when overall capital is limited. In these circumstances you might be tempted to suggest that a pension claim should be offset against the available capital to achieve the goal of meeting a housing need up front.  

This appears to be a practical solution to the problem but what are the long-term consequences? Capital and pensions are two fundamentally different assets cannot be compared like for like. It is important that legal advice is obtained in order to ensure that the consequences of offsetting are understood and that you are not affecting your future. 

Start with section 25  

Pensions are considered to be part of the parties’ resources for the purposes of section 25 of the Matrimonial Causes Act 1975. This means that they must be identified and considered when looking at each party’s needs, income and earning capacity, age and the duration of the marriage. The fact that the parties’ retirement age may be years away should not make the pensions a secondary issue. 

Unfortunately housing need is often a pressing and very real problem. If you have children, limited borrowing capacity and/or reduced earnings due to being the primary carer, ensuring that you achieve an unequal equity share might be critical to guaranteeing that your housing needs can be met.  

It is likely that case that the same circumstances which led to the problem of housing need may also have restricted your ability to save into a pension and subsequently your ability to rebuild a pension provision post-divorce.  

It is important to remember that immediate housing need and retirement need are not competing entities; they are different sides of the same coin. 

A cash equivalent transfer value is not cash 

The figure used to denote the value of a pension will commonly be the cash equivalent transfer value supplied by the pension administrator. It is useful for understanding the assets that parties have, but it should not necessarily be assumed that it is the same as cash or property with the same value on paper. You need to be alive to factors such as accessibility, taxation and investment exposure. 

The type of pension scheme matters. A DB (“defined benefit”) scheme might promise a guaranteed income for life and include protection against inflation. A DC (“defined contribution”) scheme on the other hand is exposed to market performance and withdrawal decisions. Two schemes which on the surface appear to have very similar cash equivalent transfer values may offer very different benefits.  

Agreeing to a ‘pound-for-pound’ offset of pension against capital can produce an asset schedule that looks like it is fair and balanced, while leaving the parties with significantly different positions in retirement. Parties can often take comfort in the fact they have capital up front which is tangible whereas understanding the income stream produced by a pension is a harder concept to visualise.  

Do you need an expert 

PAG2 (the Pension Advisory Group’s second report dealing with pensions on divorce) remains an important reference. The central message is not that every case requires an export report, but that the type and value of the schemes (among other factors) require consideration to determine whether such evidence is required. 

In a case involving modest DC pensions, you may be able to make an informed decision without a detailed pension expert report. These sorts of pensions can often be equalised with reference to the cash equivalent transfer values only. 

Greater caution is needed where there are DB or public sector schemes (police/armed forces/fire service, NHS), the parties are substantially different in age, one or more of the pensions have unusual features or that there is a significant offset proposed. It is often inappropriate to try to equalise these sorts of pensions with reference to the cash equivalent transfer value only as they can have hidden benefits or produce an income which is not reflective of the value put forwards. Without expert evidence, you run the risk that you could end up with less by way of pension share than you were entitled to. 

Ultimately the cost of a report must be weighed against the cost of getting it wrong. This could be many thousands of pounds being retained by one party leading to a settlement which is not a fair one.  

Translating the choice  

Explaining the technicalities of pension sharing vs capital and offsetting is not likely to help you decide the appropriate course of action. Questions need to be asked at every stage to make sure you understand the consequences of giving up a potential pension share to retain more of the capital, for example:  

1. If I give up my claim against the pension, what will my income in retirement be? 
2. What age will I be able to access that income? 
3. Will I be able to rebuild equivalent provision from my earnings? 
4. If I keep the family home, will my housing needs be met and be affordable when mortgage payments, bills and repairs are taken into account? 
5. Is the offset and the settlement as a whole still the best option if employment, interest rates or retirement plans change? 

You should also consider whether an alternative structure could be beneficial over a complete offset. For example, would receiving less of the pension combined with more capital meet your needs and produce a fairer outcome? Does retaining the family home when it is in excess of needs make sense or would a sale and a smaller property be a better option even if it is not your preferred option?

A long term decision 

The decision to offset a pension claim can have ramifications for your future income in years to come. It is important that this is properly considered at the time and that you make sure that you understand the implications of the decision you are making, both now and at retirement.  

Choosing to offset your pension claim for more capital is not necessarily the wrong decision, so long as it is properly understood. Apparent gain in your short-term security may come at a significant cost which you will only discover years later.