The ‘sharing principle’, namely that spouses in a marriage should share “the fruits of the matrimonial partnership” equally, was established in White v White [2000] UKHL 54. The focus then shifted to distinguishing which assets were reflective of ‘marital endeavour’ and thus were subject to the sharing principle, and which originated from a source ‘external to the marriage’ and were thus ‘non-matrimonial property’ (Miller v Miller; McFarlane v McFarlane [2006] UKHL 24,[2006] 1 FLR 1186).
In the recent case of W v H (divorce financial remedies) [2020] EWFC B10, His Honour Judge Hess said that ‘the exclusion of the pre-marital portion of the pension is no more than, in modern parlance, the identification of non-matrimonial property’ (§ 61(iii)). Pensions, just like business assets, can be wholly or partly non-matrimonial; they are often acquired before the marriage and following separation. However, notwithstanding the plenitude of guidance on the calculation of non-matrimonial business assets, there has been little to no reported cases dealing specifically with the ring-fencing of pension assets.
This blog seeks to highlight how different approaches to valuing pensions and calculating the non-matrimonial portion to be ring-fenced, may lead to outcomes that favour one party over the other. The focus of this blog will be on the three methods outlined in the ‘Guide to the Treatment of Pensions on Divorce’ (Appendix S) by the Pension Advisory Group for valuing the non-matrimonial portion of a Defined Benefit pension scheme.
The ‘Deferred Pension’ method
This method looks at the accrued pension from the date of marriage (or beginning of cohabitation) to the date of separation.
Notably, its calculations include a re-valuation of the pension accrued at both of these dates to account for the ‘passive growth’ that has accrued. Passive growth represents the increase in value of an asset which happens passively, i.e. it is not attributable to any activity of the pension scheme member. An example of such passive growth would be the guaranteed annual increase in Guaranteed Minimum Pension, which is set at the rate of inflation or a fixed percentage.
The figures, re-valued to include passive growth, are then used to calculate the pension attributable to the marriage, which is thus subject to the sharing principle. The remaining pension (pre-marriage and post-separation) is ring-fenced as a non-matrimonial asset.
Demonstration:
- At today’s date, H’s total accrued pension is £30k pa
- At the date of H’s and W’s marriage (2000), H’s pension was £8k pa à once the passive growth to date is calculated for the pre-marital pension, this figure becomes £10k pa
- At the date of H’s and W’s separation (2010), H’s pension was £17k paà once the passive growth to date is calculated, this figure becomes £18k pa
- Therefore, the pension attributable to the marriage (and thus subject to the sharing principle) is £8k pa of the total pot of £30k pa (£18k -£10k= £8k pa)
This method is expected to produce a preferable result for the pension scheme member rather than the ex-spouse due to its incorporation of the “passive growth” on the pre-marital pension (i.e. it calculates the growth attributable to assets pre-marriage, that had passively accrued throughout the marriage, as non-matrimonial). On the other hand, this may be the preferred method for the ex-spouse if the pension scheme member attained significant promotions or career success during the marriage, as these larger pension benefits will be accounted for in the matrimonial portion.
The Straight-line method
This methodology is a simple ratio of marital years of service to total service. It applies the number of marital years, say 10 years, and applies this as a proportion of the number of years of pensionable service, say 30 years. It then multiplies this by the value of current benefits (i.e. £30k pa).
Demonstration:
- (10 ÷ 30) x £30k pa = £10k pa
- Therefore, the pension amount attributable to the marital period would be £10k pa (out of a total pension pot of £30k).
This method does not take account of the rate at which the pension was accrued, nor of salary growth over the applicable period. Hence, the ‘straight-line’ method is expected to provide a better result for the ex-spouse rather than the pension scheme member.
However, HHJ Hess in W v H warned that this common methodology ‘carries with it significant risks of unfairness’ (paragraph 61(i)). This is because, if the pension scheme member ‘starts as a lowly paid junior employee and rises to a highly paid director many years later…[the] pension will accrue much more value in its later years’ (at 61 (vii)). Therefore, this methodology may be detrimental to an ex-spouse who was married to the scheme member largely during the years of their career success, during which the pension grew significantly in value. Rather than the matrimonial portion of the pension being calculated as the significantly more valuable years during the marriage, the calculation applies a rudimentary spread of the asset across the entirety of the service period, including the years pre-marriage which were of much lower value.
The Cash Equivalent method
In this method, the non-matrimonial portion of the pension’s cash equivalent value is calculated by an actuary who considers: (1) the pension benefits, and (2) the cash equivalent factors, at the date of marriage (or cohabitation), the date of separation and the date of calculation. The benefit of this methodology is the independent valuation of the cash equivalent factors considered by the actuary. However, for this method to work properly, the cash equivalent factors, such as the yields on government bonds and the market’s view on future price inflation, would need to be consistent throughout, and this is unlikely to be the case over many years.
The cash equivalent method does not re-value the pension assets to account for passive growth nor for falling annuity rates. Therefore, it is likely to produce the smallest non-matrimonial portion of the three methods, and thus be least favourable to the pension scheme member.
Concluding remarks
It is important to note that these methodologies cannot be viewed in isolation from broader financial remedy principles, such as the Section 25(2) factors of the Matrimonial Causes Act 1973 or the or the needs of the parties overriding the ring-fencing of non-matrimonial assets, and the difficulties and expense involved in obtaining historical pension data. Nevertheless, it is hoped that this blog has shed light on the potential impact of ring-fencing methodologies in respect of calculating the matrimonial and non-matrimonial pension assets, and how these may be employed to favour one party over the other.
