Pensions: redefining value

Separating or divorcing couples have a myriad of concerns and issues which need to be addressed and considered. One technical but important matter has recently seen a crucial development, which is relevant for all those going through a separation or divorce and their legal advisers.

A change in the valuation method used for public sector pensions was introduced by the coalition Government in June 2010 in its emergency Budget. The Government announced that the measure of inflation used by state and public sector pensions would change, and that these pensions would increase in line with the consumer price index (CPI) rather than the retail price index (RPI) from April 2011.

On the face of it this seems like a fairly innocuous change, as the average difference between the CPI and the RPI over the last 20 years has been just 0.5% per annum. However, when you apply 0.5% each year to a pension for a 45-year-old man who may have 20 years before his retirement and more than 20 after it, the figure compounds up to be very significant.

The change in the uprating arrangements instantly changed the value of all affected members’ pension benefits – they will be worth less to a member in the future and therefore their value at the current time falls. When the pension scheme is calculating what they think the member’s pension is worth, they will need immediately to factor in increases at an assumed rate for CPI rather than RPI.

This change was brought in without any consultation. Additionally, there has been very little press or discussion on the topic. Understandably this has led to a lack of awareness among the public.

As all family lawyers know, valuations of pension rights are crucial in negotiating financial settlements for separating or divorcing couples. In Scotland, a cash equivalent transfer value (CETV) is requested from the scheme to ascertain the value of the individual pension rights as at the date of separation. It is now important to check that these have been valued in line with the correct measure of inflation, to ensure that the true value is attributed to these rights. Failure to do so could mean an incorrect valuation being used which could lead to an ex-spouse gaining more from the overall settlement than is fair.

We are now seeing cases where the difference in the two valuations is significant – sometimes running into six figures for members in lucrative schemes which they have paid into for decades.

The change in the value of pension rights is most likely to affect those in their 40s or above. The “perfect storm” is likely to come between 40 and 60 where large pensions have been built up and life expectancy is 30-50 years.

This is a key issue that all family solicitors should be aware of.