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Pension Transfer Values: The
New Regime David Salter Joint National Head
of Family Law, Mills & Reeve LLP Introduction Valuation of pension rights in a divorce context
has always been a problematical area for the family lawyer.
Whilst the Divorce (Pensions) Regulations 2000 (SI 2000/1123),
reg 3 and the Pensions on Divorce etc (Provision of Information)
Regulations 2000 (SI 2000/1048), reg 3 (“the 2000 Regulations”)
establish a valuation methodology based upon the cash equivalent
transfer value (CETV) or, in the case of a pension in payment, the
cash equivalent of benefits (CEB), little real guidance has been given
by the courts as to how this methodology should be used in practical
terms (see Salter, Martin-Dye: The Unanswered Questions [2006] Fam Law 666).
To add to the confusion now comes the Occupational Pension
Schemes (Transfer Values) (Amendment) Regulations 2008 (SI 2008/1050)
(“the new Regulations”), which amend the calculation of transfer
values and which came into force on 1 October 2008.
The new Regulations apply to occupational pension schemes, but
do not affect personal pensions, retirement annuity contracts or, of
course, state pension rights. Background Underpinning the methodology contained in the 2000 Regulations is the Pensions Act 1995, the Occupational Pensions Schemes (Transfer Values) Regulations 1996 (SI 1996/1847) (“the Transfer Values Regulations”) and, most importantly, the mandatory Guidance Note, GN11, first issued in December 1985 by which responsibility for determining the calculation framework for transfer values between pension arrangements was delegated to the actuarial profession. In May 2005, the actuarial profession issued a draft revised version of GN11 known as Exposure Draft 54 (EXD54) which invited comments on the proposals for substantial alteration to the existing framework. Following an evaluation of comments made on EXD54, the actuarial profession approached the Government and asked it to reconsider the legislative basis for the calculation of transfer values. On 27 June 2006, the Government published a consultation document Approaches to the Calculation of Pension Transfer Values. The consultation document analysed three different potential approaches to the calculation of pensions transfer values. First, under the prescribed assumptions basis, Regulations would set out in detail the assumptions to be used in the calculation of transfer values and would also describe in detail the extent of actuarial discretion. This was a ‘one size fits all’ approach that was largely criticised in the consultation process. Secondly, under the scheme specific basis (this approach being based on the anticipated cost to the scheme if the member had remained in the scheme rather than transferring out), schemes would be able to calculate transfer values by reference to assumptions in values that reflect the funding position of their scheme. Thirdly, the EXD54 basis was the option put forward by the actuarial profession in its consultation on proposed major revisions to GN11. The first two approaches consider the calculation of transfer values from the perspective of the “cost to the scheme”. The EXD54 basis addresses the issue by reference to the “value to the member” of his/her pension rights. The great majority of respondents to the consultation document favoured a “scheme specific” approach with the EXD 54 method favoured by respondents representing former spouses following a divorce. Following the consultation process, the Department of Work and Pensions (DWP) issued a statement on 18 January 2007 indicating: “The great majority of respondents to the consultation favoured an approach to the calculation of pensions transfer values based on the expected cost to the scheme of providing the alternative deferred pension benefits. This approach is consistent with what happens now. It is also an approach which does not affect the ongoing viability of the scheme. The Government therefore intends to regulate on this basis.” In July 2007, the DWP issued a further consultation document attaching a draft of the new Regulations. In consequence, the new Regulations were laid and came into effect on 1 October 2008 at which point GN11 lapsed. In effect, GN11 is transposed into the new Regulations. The Pensions Regulator has published guidance on the operation of the new Regulations (www.thepensionsregulator.gov.uk/guidance/transfervalues). What does the new regime mean overall? Under the new Regulations, the responsibility for the calculation of transfer values passes from scheme actuaries to scheme trustees. Because of the basis used in the new Regulations of the expected cost to the scheme, it is the process rather than the result which has changed. What does the new regime mean in a divorce context? The new Regulations substitute a new reg 10 into the Pension Sharing (Implementation and Discharge of Liability) Regulations 2000 (SI 2000/1053) (“the Implementation and Discharge of Liability Regulations”). Regulation 10 in its original form provided for the value of rights conferred on a person entitled to a pension credit to be calculated in a manner consistent with the calculation of a CETV under regs 7 to 7C of the Transfer Values Regulations. Accordingly, schemes were required to use the same basis for calculating a former spouse’s pension credit as it used for valuing the member’s pension debit. Further, one of the key principles of GN11 was that, in calculating benefits in respect of pension credits received by a scheme, the actuary “must use methods and assumptions which are reasonable and consistent with the methods and assumptions normally used for outgoing cash equivalents from that scheme”. This equivalence of treatment between pension credits and pension debits was enshrined in GN11. In the draft of the new Regulations published for consultation in July 2007, that approach was maintained. However, in the version of reg 7 laid before Parliament on 11 April 2008, the substituted reg 10 had been amended without consultation so that “the value of rights conferred on the person entitled to a pension credit are calculated in a manner which is consistent with the methods adopted and assumptions made when transfers of other pension rights are received by the person responsible for the pension arrangement.”. Therefore, the former spouse with the benefit of pension credit will no longer be treated as equitably as the party whose pension is subject to a pension debit, but instead be at the mercy of the vagaries of the pension scheme. Rather than using in the calculation of the value of pension credits the CETV or transfer out basis, schemes will be required to use a transfer in methodology. Since most final salary schemes refuse to allow transfers in, and those that do often only allow transfers in on a money purchase basis, schemes will have no precedent for “transfers of other pension rights received” enabling them to adopt whatever valuation methodology they think fit. The background to the unheralded last minute change appears to have been that it was suggested in the consultation process that if, under the new Regulations, it will fall to trustees to determine the award of benefits for incoming transfers, that same rule should apply to the calculation of benefits for pension credit members. It was argued that it would be inappropriate if one were left to trustee discretion with the other being determined by the new Regulations. However, this argument looks to the fact that a member has a choice as to whether or not to transfer benefits into a new employer scheme or to retain them in their previous arrangement; a spouse does not have a comparable choice with an unfunded or underfunded final salary pension scheme. Furthermore, pension sharing does not involve an incoming transfer arising in isolation. By definition, there will always be a corresponding simultaneous pension debit involving the surrender of benefits by the member. The real inconsistency would arise if schemes were to treat the two differently. Conclusion Unless it is possible to amend the new Regulations, those with the benefit of pension credits in occupational pension schemes are now likely to receive an inadequate transfer value despite the lengthy consultation process which has taken place. Because most final salary schemes are currently underfunded, difficulties are already being experienced with pension schemes under reg 16 of the Implementation and Discharge of Liability Regulations whereby, rather than offering the former spouse an internal transfer, schemes are trying to arrange an external transfer of benefits on a reduced transfer value and requesting the former spouse to sign consent forms to confirm acceptance without the former spouse fully understanding the implications. There is little prospect of the party with the benefit of the pension credit being able to recoup the loss created by an inadequate transfer value by receiving pension credit benefits calculated on an equivalent defined benefit basis. There is no obligation on schemes to advise former spouses in advance of the terms and basis upon which a pension credit will be calculated. The person with the benefit of the pension credit does not therefore have any way of making an informed choice between an unreduced and probably inadequate internal transfer or a reduced (and therefore doublely poor value) external transfer. Whilst the Pensions Regulator in his consultation on the Guidance to Trustees recommended that best practise would be to award the former spouse with benefits consistent with those where a person transfers into the scheme, the final resultant Guidance is silent on all matters relating to divorce save to state: “69 Where
relevant, this guidance will need to be considered in conjunction with
legislation on pension sharing on divorce. It is recognised that this
guidance does not outline the specific areas where considerations in
this area should be made, nor does it attempt to do so. This is a
specialist area where trustees should take the appropriate advice when
considering these cases” Any pension sharing order made after 2 June 2008 (or conceivably before) may have an unexpected impact given that pension schemes have a four month period in which to implement a pension sharing order. The implementation period begins on the later of the date on which the order takes effect (being the later of the date of decree absolute or seven days after the ending of the period for filing notice of appeal) and the date on which the pension scheme receives the relevant matrimonial documents and information required by the Pensions on Divorce etc (Provision of Information) Regulations 2000 (SI 2000/1048), reg 5. Indeed, it is not inconceivable that schemes may have chosen to delay implementation in order to take advance of the new Regulations. The real mischief of these transitional difficulties is that the accuracy of actuarial reports relied upon by the parties and by the courts as to the effect of pension sharing (and perhaps equalisation of benefits) will be questionable. For the future, such reports will unnecessarily be subject to caveats which may render them meaningless because of doubts as to how pension credit benefit will be calculated. Because many pension schemes are having to reduce transfer values due to underfunding with the consequence that they are obliged to offer the option of unreduced internal transfers, schemes will have the opportunity of providing deliberately poor value pension credits by way of internal transfers to ease their underfunding predicament. Further
Regulations Unconnected with pension transfer values as such came the Pension Sharing (Pension Credit Benefit) (Amendment) Regulations 2008 (SI 2008/ )[MSOffice1] (“the further Regulations”) which will come into force on 6 April 2009. Against the background of the Government’s commitment to abolish safeguarded rights (rights derived from contracted-out rights on pension sharing which carry no entitlement to a tax-free lump sum and which may not be accessed until age 60) contained in the Pensions Bill (currently clause 97) which is expected to receive the Royal Assent in November 2008, the further Regulations make provision to align the age for the payment of pension credit benefit with other pension rights held in occupational pension schemes with the intention that a pension credit benefit member will have the same choices as other occupational scheme members on when and how to draw benefits. The Finance Act 2004 aligned the payment rules for occupational and personal pension schemes from A Day (6 April 2006). Such pensions may be taken at age 50 (or from April 2010 at age 55), part of which may be commuted into a tax-free lump sum known as a pension commencement lump sum. Regulations currently restrict the circumstances when pension credit benefits held in occupational pension schemes may be paid before normal benefit age. These restrictions do not apply to pension credit benefit from personal pensions. The further Regulations bring the payment rules for pension credit benefit into line with the tax framework referred to above as well as the rules on preserved benefits contained in the Occupational Pension Schemes (Preservation of Benefits) Regulations 1991 (SI 1991/167), regs 5 and 8(2). Preserved benefits are those arising on an individual ceasing to be an active member of an occupational pension scheme, which are payable at a later date. This process of alignment will enable pension credit benefits held in an occupational pension scheme to be paid from age 50 (or age 55 from April 2010) or where ill-health permanently prevents a pension credit member from following his/her occupation. However, a spouse who is not in employment will not be able to benefit from ill health retirement. Taken alongside the proposed abolition of safeguarded rights, pension credit benefit members will potentially be able to enjoy the same choices as other private pension scheme members. However, all the further Regulations do is create a framework within which scheme rules may be amended to permit early payment of pension credit benefit. Without such amendments, the status quo will continue. A key example of this is the public sector schemes and, at the time of writing, clarification is being sought as to whether schemes such as the Police Pension Scheme will permit early payment. The further Regulations are to be welcomed in that the possibility of what has been termed “income gap syndrome” may no longer adversely affect those with pension credit benefits held in occupational pension schemes. For example, a pension sharing order may be made against a member’s rights in an occupational pension scheme which are in payment. However, the pension credit benefit created by that order, despite having an immediate impact upon the member, will not, if an internal transfer is taken, create any immediate corresponding benefit for the member’s spouse (assuming he/she is aged, say, 52) because pension credit benefit may not currently be taken until age 60. It is possible for the pension credit member to elect to take an external transfer, for example, into a personal pension so as to be able to access benefits immediately, but there may be cogent reasons why he/she would not wish to do so (eg the poor transfer value on offer). It should be noted that the proposed amendments will not in themselves (as explained above) eradicate income gap syndrome in relation to statutory pension schemes and thus overcome the problem identified in R (Smith) v Secretary of State for Defence and Secretary of State for Work & Pensions [2005] 1 FLR 97, Wilson J affirmed on appeal [2004] EWCA Civ 1664 (unreported) or, more recently, R (Thomas) v Ministry of Defence [2008] EWHC 1119 (Admin); [2008] Fam Law 731, where it was held that the statutory provisions which prevent a wife from receiving pension credit benefit because she was aged under 60, at a time when her former husband was already drawing his armed forces pension, did not fall foul of the anti-discrimination provisions of European law. Article
– Pensions on Divorce – Where are we now? – David Salter (June
2004) Case law Case
1 Field v Field [2003] 12PBLR Case
2 Pearce v Pearce [2003] JFCR 178 Use
of pensions to enforce lump sum orders Now that pensions are being treated as an asset much like a
home or a bank account (although there are several material
differences in practice) the question arises whether a pension can be
attached as a conventional asset as part of an attempt to enforce
financial orders. In Field v Field
[2003] 12 PBLR (United Kingdom: England and Wales: High
Court: Family Division) 2002 October 28 (Divorce – Remedies –
Sharing – Attachment – Charging orders – Injunctions –
Appointment of receiver – Scheme rules – Anti-alienation rules –
Whether orders may be made by the court over personal pension
entitlements where breach of an order for payment of a lump sum) Mr
Field failed to comply with a court order following his divorce to pay
a lump sum to his wife. In attempting to enforce payment she applied
for a series of remedies against his personal pension, including a
charging order, an injunction and the appointment of a receiver. The
husband objected on the grounds that the court lacked jurisdiction. It was held that where there is an anti-alienation clause
in the rules of a personal pension scheme the court has no power to
issue a charging order, an injunction or the appointment of a receiver
in order to enforce the payment of a lump sum earlier ordered by the
court. In the event the wife’s application was refused on all
counts. Comment The decision emphasises the continuing importance of
anti-alienation clauses in pension scheme rules at a time when it
might have been thought that the new powers of the court under the
Pensions Act 1995 and the Welfare Reform and Pensions Act 1999 might
have made them supernumerary. It
is true that the courts’ powers in relation to pension in
matrimonial proceedings have been much enhanced in recent years –
but the fact remains that while pensions are now often regarded as an
asset much like many others, and therefore subject to apprehension by
the courts for debt, they remain sui generis. The reluctance of the court in this case to find ways round
the anti-alienation clause is a refreshing tribute to the
effectiveness of the right of employers and settlers to draft such
terms as they think fit, having regards to the obligations imposed by
the taxation authorities and the requirements of public policy. The
Law Commission’s proposals in 2002 to outlaw for example exemption
clauses for professional trustees in pension scheme rules without much
(any) evidence of abuse of the current position illustrates the ease
by which the authorities assume the need to change the rules of the
game. The courts are much more aware of the need to allow parties to
establish their own parameters unless there are very good grounds to
the contrary – and are also aware, as perhaps the Law Commission is
not, of the impact of the law of unintended consequences. Pearce
v Pearce [2003] 3FCR 178 This decision indicated the Court of Appeal’s view that,
when periodical payments (maintenance) is capitalized on a variation
application, the court should first of all look at the possibility of
making a pension sharing order. In
other words, a pension sharing order should be the weapon of first
choice.
Legal background
For several years matrimonial lawyers have had to consider
how to deal with the parties’ pension rights on divorce. A series of
legislative enactments has enabled the courts to deal with pension
rights either by ‘offsetting’ (available under general matrimonial
law), attachment (permitted following the Pensions Act 1995) and
sharing (permitted following the Welfare Reform and Pensions Act
1999). The legislation with which matrimonial lawyers need to be
familiar is extensive and complex; the list is as follows: Matrimonial
Causes Act 1973 Contributions
and Benefits Act 1992 Pension
Schemes Act 1993 Pensions
Act 1995 Welfare
Reform and Pensions Act 1999 Finance
Act 1999 The
Family Proceedings Rules 1991 SI 1991 No 1247, as amended The
Pensions on Divorce etc (Provision of Information) Regulations 2000 SI
2000 No 1048 The
Pensions on Divorce etc (Charging) Regulations 2000 SI 2000 No 1049 The
Pension Sharing (Valuation) Regulations 2000 SI 2000 No 1052 The
Pension Sharing (Implementation and Discharge of Liability)
Regulations 2000 SI 2000
No 1053 The
Pension Sharing (Pension Credit Benefit) Regulations 2000 SI 2000 No
1054 The
Pension Sharing (Safeguarded Rights) Regulations 2000 SI 2000 No 1055 The
Divorce etc (Notification and Treatment of Pensions) (Scotland)
Regulations 2000 SI 2000
No 1050 (S.4.) The
Pensions on Divorce etc (Pension Sharing) (Scotland) Regulations 2000
SI 2000 No 1051 (S5) The
Divorce etc (Pensions) Regulations 2000 SI 2000 No 1123 The
Finance Act 1999, Schedule 10, Paragraph 18 (First and Second
Appointed Days) Order 2000 ...........................................................................
No 1093 (C32) The
Retirement Benefits Schemes (Restriction on Discretion to Approve)
(Additional Voluntary Contributions)
(Amendment) Regulations 2000 SI 2000 No 1088 The
Retirement Benefits Schemes (Restriction on Discretion to Approve
(Excepted Provisions) .................................................................................................
Regulations 2000 SI 2000 No 1087 The
Retirement Benefit Schemes (Restriction on Discretion to Approve)
(Small Self-Administered ..................................................................................
Schemes) (Amendment) Regulations 2000 SI 2000 No 1086 The
Retirement Benefits Schemes (Sharing of Pensions on Divorce or
Annulment) Regulations
2000 SI 2000 No 1085 The
Sharing of State Scheme Rights (Provision of Information and
Valuation) (No 2)
Regulations 2000 SI 2000 No 2914 The
Pension Sharing (Contracting-out) (Consequential Amendments)
Regulations 2000
SI 2000 No 2975 The
Pension Sharing (Excepted Schemes) Order 2000 SI 2000 No 3088
Summary
Paper issued by the Lord Chancellor’s Department June 1996 Inland
Revenue, Draft model rules for pension sharing on divorce (personal
pensions) Inland
Revenue, Draft model rules for pension sharing on divorce
(occupational Schemes) Pension
Schemes Office, Update No 60, Pension sharing on divorce or nullity,
22 February 2000.............................................................................................
Pension
Schemes Office, Update No 62, Pension sharing on divorce or nullity, Pension
Schemes Office, Update No 76,Pension sharing on divorce or nullity, Inland
Revenue, Contracted-out Employments Group, Pension sharing on divorce,
July 2000 Institute
of Actuaries Guidance Note GN 11 It is likely that the legislation will be revised in due
course to take account of changes expected under the Pensions
Act 2004 and the Finance
Act 2004. The legislation controls the way in which court orders may
be made, how pensions are to be valued, how pension schemes should
respond to court orders, and what powers are available to the court.
It also controls the interface with state benefits, contracting-out,
transfer powers and rights to information. In practice few practitioners have the capacity to make
themselves familiar with around 100,000 words of law and practice
notes and rely for the most part on general knowledge, hope and
intermittent advice from an IFA. Site at Legal Guide. |
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