Family Lawyers – Pensions Helpdesk
Chris Broome – Chartered Financial Planner
At Longhurst we are always happy to act as a ‘pensions helpdesk’ for the family lawyers and mediators we work alongside.
A ‘pensions on divorce’ query that often comes up relates to how the Lifetime Allowance (LTA) is affected on divorce, especially where one or both partners have what is known as a ‘protected LTA’.
Ensuring that any protected LTAs are properly accounted for when considering a financial settlement is essential. In a recent enquiry we had, both H & W each had protected LTAs of £1.8m, and pension funds in excess of the current LTA of £1,073,100.
The family lawyer lawyer wanted us to sense-check their proposals, concerned that any pension sharing from H to W might lead to one or both of them losing their protected LTAs, due to an infringement of the very strict rules.
Here is an excerpt from our reply below.
These are generic observations and do not constitute financial advice. Both parties should obtain and consider independent advice.
I have made two fundamental assumptions based on the info provided in order to illustrate some aspects:
- From the £1.8m figure I am assuming that both H and W applied for (and retain) what is known as Fixed Protection 2012 (“FP12”).
- I will also assume that what is being considered is a pension share (presumably from H to W).
FP12 gave pension savers a protected Lifetime Allowance (LTA) of £1,800,000 if they submitted applications to HMRC by 5 April 2012. There was no minimum fund value requirement at the time. Given that the LTA was reduced significantly after 2012, FP12 has proved to be a very beneficial form of protection.
The LTA currently stands at £1,073,100. A pension member will lose FP12 if they contribute to a defined contribution pension or if they accrue benefits in a defined benefit pension.
The effect on FP12 of receiving a pension credit (I assume W) on divorce depends on how the rights are secured.
- If the pension credit is paid from the original member’s pension into an existing pension arrangement of the recipient, then their fixed protection is not affected.
- But, if a new arrangement is set up to accept the pension credit directly from the original member’s pension, the recipient will lose their fixed protection.
It is possible to claim an LTA increase (known as a pension credit factor) to existing fixed protection if the pension credit:
- comes from a pension already in payment to the original member (i.e. H), and
- the entitlement to that pension arose after 5 April 2006.
This allows the recipient (i.e. W) to claim an LTA enhancement factor that will give them an increase on top of their protected LTA of £1.8m.
But if a pension credit is generated 1) from an uncrystallised pension, or 2) a pension that was already in payment before 6 April 2006, then there’s no change to the amount of fixed protection the recipient has.
This means it could be possible that the increased benefits will exceed the available protection, resulting in an eventual LTA charge for W. It all depends on the numbers which I am not privy to.
I should say that in some circumstances an LTA charge is a reasonable price to pay – it all depends on the circumstances of the individual and the context of the financial settlement.
Finally, where H is concerned in my scenario, FP12 is not affected when pension benefits are reduced as a result of a pension debit under a divorce settlement, but given the restrictions on contributions/benefit accrual, the ability to rebuild the rights that have been lost is limited, with different rules applying depending on the type of schemes concerned.
- Defined benefit (or cash balance) pension scheme – the ability to rebuild rights will be limited as the increase in benefits each tax year cannot be more than the ‘relevant percentage’. This would generally mean that an active member would be restricted to an increase of no more than CPI (based on the figure from the September before the tax year concerned). Any increase during the tax year greater than this would invalidate fixed protection.
- Defined Contribution/Money purchase pension scheme – making contributions to rebuild the pension will result in fixed protection being lost.
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Please note: This blog is for general information only and does not constitute advice.