Divorce, or the dissolution of a civil partnership, is one of the most stressful and emotional experiences anyone can face, and decisions made during the settlement can have lifelong consequences. Most people instruct a solicitor to handle the legal process, but fewer realise the benefits of building a team of experts to fight your corner. An independent financial planner can add real value, particularly in situations where the couple holds property, pensions, and investments between them.
Discovering pension values
Discounting the family home, a pension is often the largest asset to be divided on divorce; however, many people overlook the value of existing pension arrangements, instead focusing on property and savings.
At the financial disclosure stage, the value of defined contribution pensions can be easily obtained. Where defined benefit (final salary) pensions are held, the true value is much harder to see. The pension scheme will be able to provide a cash equivalent transfer value (CETV) of the pension rights, but a CETV only shows what the scheme would pay to transfer the benefits out. It does not always reflect the cost of replacing a guaranteed, inflation-linked income for life, so two pensions with the same CETV can provide very different retirement incomes.
Once the pensions have been valued, the parties can decide how to deal with them as part of the wider settlement. Obtaining independent financial planning advice at this stage can prove invaluable. By carefully analysing the existing arrangements, both parties can clearly understand what they are giving up or receiving, depending on the course of action taken.
Pensions can be dealt with by way of a Pension Sharing Order, a Pension Attachment Order, or the value of the pension can be offset against other matrimonial assets held by the divorcing parties. Each option has advantages and drawbacks, depending on a range of factors, such as the value of pensions relative to the overall value of assets held by the couple, their ages, and plans for the future. Pension Attachment Orders come with a significant drawback, as payments usually stop if the recipient remarries or dies.
Of the three options, a Pension Sharing Order is often seen as the most desirable. Under such an order, the court divides the pension, and the agreed share is transferred into a pension in the recipient’s own name, where it is legally treated as their money. This allows a clean break, which many couples prefer. The recipient of the pension credit may need to arrange a suitable pension to receive the credit, and this is where independent financial advice again can add value, by recommending a suitable arrangement and investment strategy.
Investments and savings
The division of investments and savings on divorce can prove complicated. Tax-efficiency is a key factor in any financial plan, and therefore many couples arrange their investments between them in the most tax advantageous manner. A good example would be the use of both parties’ annual Individual Savings Account (ISA) allowances. Dividing assets on divorce could result in the loss of an investment’s tax-free status, which may create tax liabilities that neither party expected.
Selling or transferring investments can also give rise to Capital Gains Tax (CGT). Since April 2023, separating spouses and civil partners have up to three full tax years after the tax year in which they stopped living together to transfer assets between themselves on a “no gain, no loss” basis. This defers the gain until the individual receiving the asset sells it. Transfers made under a formal divorce agreement or court order qualify without any time limit.
Reaching an agreement on the transfer of assets can appear straightforward; however, depending on the circumstances of each party in the divorce, the most appropriate course of action may be very different. For example, one party may need to sell an asset (such as an investment portfolio or rental property) they receive as part of a financial settlement to pay for new accommodation. Depending on how the investment has performed, this could generate a significant CGT liability, which should be accounted for in the financial agreement.
The family home
The matrimonial home usually carries more emotional weight than any other asset. Working with a financial planner at an early stage can help you work out whether keeping the property is a realistic option, considering mortgage affordability on a single income, running costs and the effect on your longer-term goals, such as retirement.
Protection needs
It may be easy to overlook the need to reconsider life insurance and private health cover following divorce. For example, an existing mortgage may have been covered by a joint life policy, and depending on the division of assets, additional cover, or a new policy, may need to be arranged.
It is also crucial to review and, where applicable, update beneficiary nominations on pensions and life policies. These do not update automatically on divorce, and this could potentially lead to trustees following an existing Expression of Wish form, naming an ex-spouse as the beneficiary. Engaging with a financial planner can help address these areas.
After the divorce
Once the divorce is finalised, independent advice can help you restructure your finances for the future. If the settlement includes a lump sum, tailored financial planning advice can help you invest it tax-efficiently to meet both short-term needs and longer-term goals. It is also a sensible time to make a new Will, as any bequests left to your ex-spouse fail in an existing Will once the final order has been made.
Professional guidance
A financial planner may not be the first person you think of when facing divorce, but holistic advice can help you understand the long-term consequences of each option and then help you rebuild your finances afterwards. Our experienced planners at FAS work closely with solicitors across Kent, London and the South East to support clients through their divorce planning. Speak to one of the team if you need assistance.
