A Divorcee’s Guide to State Pension Reform
Some research recently found that 71% of couples don’t discuss pensions at all during divorce settlements. The same report also states that despite an average married couple’s retirement pot totalling £132,000, more married people would be concerned about losing a pet during a settlement than sharing a pension.
With that in mind, this article should probably be filled with photos of cute cats.
Nevertheless, it has been decided that it would perhaps be more useful in light of these statistics to shine a light on the government’s changes to the state pension. These have largely gone under the radar amidst the wide scale private pension reforms. This is not surprising given that it is only in the detail that the significance of their impact, particularly on divorcees, is really understood.
As it is not everyone’s cup of tea to be dissecting details of pension changes, here is a one stop easy guide to all things state pension reform.
State Pension Age
The reform that is widely understood is that the state pension age (the age at which we are eligible to being receiving our state pension) is steadily increasing, making retirement seem gradually more distant. Indeed, the age will be equalised for men and women this year at 65 and will be raised incrementally until 2046 when it will have increased to 68. The important point to note though is that the government are set to review this every five years so it will most likely continue to change. These goalposts will not move for anyone within 10 years of their state pension age, but it will affect the rest of us.
Key lesson for those considering divorce #1:
Even though you think you might know the age you will being receiving your state pension, you are most likely wrong. So if you want any ongoing agreement with your spouse to end upon retirement, avoid specifying a specific year and leave it flexible by writing ‘until state pension age.’
The Old System
Before April 2016, state pensions were comprised of a Basic State Pension (BSP) and an Additional State Pension (ASP). The BSP was not related to income but was accrued through paying National Insurance (NI). Simply put, if you worked for 30 years, whatever your income , then you would accrue enough NI credits to receive the maximum BSP upon retirement. The key point to note about BSP is that although the court could not order it to be shared between spouses upon divorce, it was eligible for ‘substitution’. With substitution you were able to adopt your ex-spouses credits meaning that you were not left hard done by if you had been caring for the family whilst your spouse was working.
The ASP on the other hand was related to earnings and was only earnt by those with a large enough income. The court could make orders to share this part of the pension.
The New System
The new system is simpler. There is now just one single-tier flat rate pension. This is more similar to the BSP in that it is earnt through paying NI and is not related to earnings. It is potentially larger than the BSP (Maximum is £159.55 p/w compared to £122.30 p/w) but 35 years of work is needed to reach this maximum and no one who has worked for less than 10 years is eligible for anything. Like the BSP, there is no power for a family court to order this pension to be shared between divorcing parties. However, unlike BSP, and most importantly, substitution is no longer possible.
Key lesson for those considering divorce #2:
If you are heading for a divorce and you have worked for less than 10 years, or have simply worked for less time than your spouse, then this must be accounted for when considering any agreement upon divorce. No longer will you be able to benefit from your spouse’s accrued NI credits and so you will need some other alternative capital or income to support you in retirement.
For most people divorcing in the near future, their State Pension Age is set for after April 2016, yet they will have accrued credits under the pre-2016 system. The government has therefore put in special transition arrangements for those of us who are straddling the two systems.
Firstly, the government will look at your NI credits and assess a pension amount under the new rules and the old rules and award the higher amount to ensure no one loses out. This is the ‘Foundation Amount’.
However, anyone who had ASP under the old system would end up losing this if NI credits were all that is taken into account. So, under transition arrangements, anyone who had earnt more pension under the old system than is represented by the Foundation Amount, will also receive a ‘Protected Payment’. Like the ASP, the court can make an order to share this between divorcing spouses .
Key lesson for those considering divorce #3:
Whilst negotiating an agreement upon divorce, it is essential to obtain a forecast of the other party’s pension. It may of course be lower than expected because they have not worked enough years to be eligible for the maximum Foundation Amount. However on the other hand, unbeknown to you they may have been earning enough for an ASP, meaning their state pension is much larger than you expected. ASPs have been known in the past to be worth as much as £120,000 and as a ‘Protected Payment’ under the transitional system, you could be eligible to share in it.
Whilst it is near impossible to explain state pensions completely simply, perhaps given the statistic at the start of this article, we can finish with a much simpler and easier to remember lesson for potential divorcees:
Key lesson for those considering divorce #4:
DON’T FORGET ABOUT YOUR PENSIONS!