I have a pension attachment order following my divorce.
I am worried about what happens if my ex-husband makes a pension withdrawal and HMRC takes emergency tax.
Will I get some of the eventual refund from HMRC? How do I make sure I get the correct amount of pension income?
Emergency tax raids on pension withdrawals: You either have to reclaim the tax yourself or wait for HMRC to give it back – but where does this leave ex-spouses?
Tanya Jefferies, of This is Money, replies: HMRC often makes ’emergency’ tax raids on pension cash withdrawals.
Those taking out a lump sum are judged as if this is the start of a series of monthly withdrawals, and taxed accordingly.
They then either have to reclaim the tax themselves or wait for HMRC to give it back. Our pensions columnist, Steve Webb, recently replied to a reader in this situation, and ran through how this process works.
But where does this leave someone who is not the pension holder, but an ex-spouse with a pension attachment order that entitles them to a share of the income, and therefore the reclaimed tax as well? We asked a legal expert to explain.
Rhys Taylor is a barrister specialising in matrimonial finance claims who practises from chambers in Cardiff and London. He is a co-author of Pensions on Divorce: A Practitioner’s Guide. He replies:
Pension attachment orders were commonly made between 1996 and 2000, prior to the introduction of pension sharing.
Rhys Taylor: ‘Historically pensions were often a difficult asset to share fairly on divorce’
Historically pensions were often a difficult asset to share fairly on divorce, and this mainly resulted in unfairness and discrimination against wives.
Pension attachment orders sit, parasitically, on top of the member’s rights and when benefits are drawn, the pension company is required to comply with the attachment order and ‘earmark’ and pay direct whatever has been ordered to be paid to the non-member.
Pension sharing orders are now typical. This is where a percentage of the cash transfer value of a pension is ordered or agreed to be shared, so money can be put in a separate pension in an ex-spouse’s own name, creating a ‘clean break’ after a divorce.
However, for those who divorced when pension attachment orders were still prevalent, the pension freedoms introduced in 2015 have the potential to play havoc with how they are worked out.
Before pension freedoms, the conventional way in which a pension was accessed was via a 25 per cent tax free cash lump sum while the balance was usually drawn as an annuity.
Ex-spouses with a pension attachment order might (subject to the deal which was struck or ordered by the court) receive half of the tax free cash and half of the net income received by the pension member, after the member had paid income tax on that receipt.
Now, pension freedoms mean pension members can still take the tax free element of (usually) 25 per cent of the pension, but the balance can be taken as a series of lump sums or even one big lump sum, subject to payment of the appropriate income tax, rather as an annuity.
Pension attachment orders and tax
A conventional pension attachment order should have taken into account that your ex-husband would have income tax to pay on its receipt.
The person with the benefit of a pension attachment order does not pay income tax on it when they get it as the member has already paid the tax due.
Watchdogs stop unscrupulous divorcees snatching pension pots
Financial watchdogs stepped in a few years back to stop divorcees exploiting pension freedoms to swipe retirement pots from each other.
The reforms launched in April 2015 mean over-55s can now cash in their whole retirement pots and spend, save or invest the money as they wish.
But pension providers have to block people trying to cash in their entire savings at once as a way of dodging pension attachment orders that force them to share income with ex-partners. This is Money
Pension attachment orders, if drafted properly, used to be calculated at a percentage rate to ensure that the pension member could pay the income tax due on the whole sum.
So, if the intention was for, say, a wife to have 50 per cent of the net income, the actual court order might have said that the wife receives, say, 40 per cent of the pension income. This allowed for a notional sharing of the tax the husband was due to pay on his pension income.
So far as HMRC is concerned, all of the money paid from the pension is ‘his’ income, even though there is an attachment order in place.
If the member drew his pension as an annuity he would be taxed throughout its receipt at his usual income tax rate – 20 per cent, 40 per cent or 45 per cent.
But with pension freedoms, the pension member has been able to take a series of lump sums, rather than an annuity.
When he draws a lump sum, say, of £10,000, HMRC applies an ’emergency’ tax code which assumes that he will take £10,000 out every month.
It is recognised by many that this is an unfair thing to be doing, but HMRC does not seem to care. This could push your ex-husband into a higher tax rate bracket where he will overpay tax.
The net amount of pension receipt which will then get paid from the pension company is reduced, but as the person with the benefit of a pension attachment order is only entitled to 40 per cent, they will get 40 per cent of the reduced amount.
If properly advised the member will later reclaim his tax over payment, but that is then not paid via his pension company but by way of an HMRC tax refund, which will not have the attachment provision in place, so the person with the pension attachment order will not automatically get a share of the refund.
What can you do to ensure you get the correct pension?
If a person with the benefit of a pension attachment order gets on well with the member, they might do the ‘decent thing’ and simply pay what they know is really due to be paid out of the tax refund.
STEVE WEBB ANSWERS YOUR PENSION QUESTIONS
However, if the pension member wants to be difficult the person with the benefit of an attachment order may have to apply back to court.
Most pension attachment orders (there are some exceptions) are variable and so it would be possible for either party to apply back to the Family Court to obtain an amended pension attachment order to try and reflect what the court originally intended should happen.
Any applicant in such circumstances would most probably need legal advice if they wish to make made an application to court, as my response here only gives a general view.
The court’s options are likely to be limited, however, as many orders would have included a clean break which prevented any further forms of financial relief being made in the future.
A clean break would not prevent the pension attachment order itself being varied, but the court will be stuck with only being able to make a different percentage order.
However, thinking outside of the box, it was common when making a pension attachment order to require the pension member to give an undertaking to the court ‘not to draw benefits in such a way as to frustrate the working of the pension attachment order’ (or words to that effect).
An undertaking to the court is a solemn promise which may be enforced by way of contempt proceedings and, ultimately, may result in a committal to prison.
Upon that basis, the person with the benefit of a pension attachment order may have a stick to beat the member with.
Subject to the wording of any undertaking which may have been given at the time of the making of the order, it may well be possible to force a difficult member back into line and ensure that they repay the person with the benefit of a pension attachment order an appropriate share of reclaimed income tax.
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