Pension Values and Dividing Your Pension for Separation and Divorce
January 2024
Pensions are marital assets to be divided – using the correct pension valuation
The three takeaways from this article are that (a) lifetime work pensions (defined benefit pension plans) are family assets, (b) they are very valuable assets, and (c) the value to be used is usually not the value provided by the employer’s pension administrator, and the correct value is often substantial. This is an issue not well understood among legal and financial professionals, and while I am not a pension valuator, I hope to bring some clarity to common areas of misunderstanding, specifically the difference in values offered by the employer and that by an independent actuary. As a financial professional working with lawyers, accountants and clients in Prince Edward Island, I believe getting the right pension valuation is crucial to reaching a fair settlement upon marriage breakdown. Note that certain provinces may have special legislation governing specifically how pensions are valued for marriage breakdown, and my comments here may not be relevant. Ontario is an example of such a province.
Pension assets typically include Registered Retirement Savings Plans (RRSPs) or Registered Retirement Income Funds (RRIFs), defined “contribution” pension plans, defined “benefit” pension plans and annuities. Other than the defined benefit pension plans and annuities, all of these plan values are an accumulation of savings or investments within an account. Their value is the amount for which you can sell the investment holdings, with a reduction for income taxes. However, a defined benefit pension plan differs because the pension to be paid is based on a formula, often a percentage of salary multiplied by the number of years of service. The pension will be paid from retirement until death. It may be indexed for inflation, and there will be other considerations such as death and survivor benefits, early retirement benefits, disability waivers, etc. As you would expect, there is no easy way to value such a pension, which is the present value of all payments to be received in the future.
First, know that defined benefit pension plans (but not CPP) are assets subject to division and are to be listed on your statement of net family property at fair market value at the valuation date (usually the date of separation). These are not easily valued, and your accountant should not attempt it – you need an actuary. Second, know that all pensions are subject to certain individual terms and conditions, which affects their value. The valuation for marital breakdown purposes will be based on the value earned during marriage (and, in some provinces, may include common-law also). The value of the pension related to pre- and post-relationship sill not be included. Once the pension is valued, each person is entitled to one-half, which will be included on your statement of net family property. Once you agree on who is going to keep what, someone will need to make an equalization payment to the other person. For example, if a husband keeps his pension worth $600,000 (after taxes), and a wife keeps the house worth $500,000, and they have no other assets, then the husband will need to pay the wife $50,000 to equalize their assets at $550,000 each.
You and your ex-spouse determine will need to determine how to make the payment to equalize your net family property. This may require you to transfer part of your pension value to the other spouse. In my example above, the husband has no other assets, so he may need to transfer $50,000 of his after-tax pension value to his wife. However, provincial pension legislation and the terms of the pension plan need to be considered. Some plans can transfer a one-time lump sum payment to a locked-in RRSP for your spouse, but this will be subject to an upper limit. Any additional money, if needed, will need to come from your other assets. Other plans can allow spouses to divide the future monthly pension payments, and will not transfer a lump sum. If this were the case in my example, a portion of the pension plan (i.e., $50,000 of value) may need to be used to set up a new pension plan for the ex-spouse. Other plans will allow either/or method for settlements. More on this below.
I find that most employees prefer to keep their pensions intact, and to avoid any kind of division by their employer. However, that is often not possible because they are very valuable assets. I have seen pensions valued at $800,000, and transfer of $400,000 to the ex-spouse using other assets is a challenge for most people unless there are valuable assets being kept by the other spouse. You should also know, as noted above, that the pension valuation is calculated after deducting the present value of expected future income taxes, which is similar to other taxable assets, such as an RRSP. Any assets used as settlement must all be considered on an after-tax basis. If the equalization payment required is $50,000, and it is being settled by an RRSP/pension transfer, the pre-tax RRSP/pension amount may be $70,000. The actual amount will depend on individual tax rates. Now, some discussion on the valuation.
There are two common types of pension valuation – a value for employment termination and a value for marriage breakdown.
The value for your separation will be an amount based on the pension earned during the years you and your spouse were together. You will need to obtain legal advice to discuss the impact of a common-law relationship that existed prior to your marriage. Provincial family laws and pension legislation varies with respect to property rights regarding common-law and marriage.
You need to ensure the correct method is used for your separation calculations. Pension valuators, particularly actuaries, are trained to prepare pension valuations, and are provided with guidelines by the Canadian Institute of Actuaries to do so. You can review their website at www.cia-ica.ca on which they explain the complexities of the calculations, and I recommend a review of their FAQ (frequently asked questions) section. Of course, provincial legislation and/or court decisions may dictate how a particular pension must be valued, limiting the usefulness of my comments in this article.
If you ask your employer for a pension value because you are separating, the value determined by the employer is called a “commuted” value, and also known as a “transfer” or “termination” value. This value is normally calculated to determine the amount to which an employee is entitled assuming he or she is ceasing employment. Entitlements of a pension member that occur after marriage breakdown, such as early retirement rights, CPP bridging benefits, and inflation adjustments, have a value for family law purposes but may or may not be included for employment termination purposes. When you think about it, some of these benefits disappear on termination, but not on marriage breakdown. The Canadian Institute of Actuaries (CIA) sets out the guidelines for calculating commuted values in Section 3500 of their Standards of Practice. Section 4500 sets out the rules and assumptions to be used for determining the “capitalized value of pension plan benefits for marriage breakdown.” The two valuations are usually different, with either one being higher or lower depending on the pensioners’ circumstances and the terms of the particular plan. Again, certain provinces may have legislation setting out how pensions are valued, as does Ontario.
The “valuation” of the pension must not be confused with the “method of division” allowed by legislation. I touched on this topic above. Once the valuation is determined, the transfer of the pension value from the employee to the spouse can be done by transfer of an equivalent amount of non-pension assets or, if permitted by legislation, by transfer of the pension assets themselves. However, there may still be a difference that would need to be settled using non-pension assets. For example, the federal government, the Treasury Board Secretariat will provide a “transfer value” of an employee’s pension entitlement in accordance with the Pension Benefits Division Act. The spouses then have the option of transferring any portion of this maximum transferable amount to a locked-in retirement vehicle of the non-employee, or by settling the obligation with a transfer of other family assets outside of the pension plan. In contrast, in some plans, the non-employee spouse has the same choices, but also has an option to become a limited participant of the pension plan and receive a future pension.
Remember, even though you request a valuation from your employer for divorce purposes, this does not mean that the pension is valued using the CIA Standard 4500. It is likely a commuted value.
When reviewing a pension valuation, obviously it is important that the valuator has employed the proper standards. Of course, within the standards, there are still variances that can occur, and legal counsel will need to assess the fairness of assumptions chosen, such as the choice of retirement age, the recognition of non-contractual inflation protection, the appropriateness of income tax rates, etc. The valuator may present alternative valuations (e.g. at different retirement ages), and the appropriate choice will need to be made based on the particular circumstances of the separating couple.
In conclusion, a pension can be worth tens or hundreds of thousands of dollars, and it typically costs less than a thousand dollars for an actuarial valuation, and professional fees to argue over an informal value will quickly add up to more than that. The difference between the employer’s value and the value determined by an actuary for marriage breakdown value is often thousands of dollars, and could be higher or lower depending on the pensioner’s personal circumstances. Be sure you have the right valuation before concluding an agreement on equalization of net family assets if you want fairness to both parties. For more information, speak to a qualified pension valuator or an actuary and ask questions about the cost and impact a valuation could have on your situation. Your financial or legal professional may be able to provide you with a reference, or you can try contacting the Canadian Institute of Actuaries. While I cannot guarantee the services of any other professional from a liability perspective, I have worked with Jamie Jocsak of BCH Actuarial Services Inc. in Ontario, who you may wish to consider as one possibility if you are looking for a pension valuator. (As for any other links on my web site, I receive no compensation for this reference.)
Blair Corkum, CPA, CA, R.F.P., CFP, CFDS, CLU, CHS holds his Chartered Professional Accountant, Chartered Accountant, Registered Financial Planner, Chartered Financial Divorce Specialist as well as several other financial planning related designations. Blair offers hourly based fee-only personal financial planning, holds no investment or insurance licenses, and receives no commissions or referral fees. This publication should not be construed as legal or investment advice. It is neither a definitive analysis of the law nor a substitute for professional advice which you should obtain before acting on information in this article. Information may change as a result of legislation or regulations issued after this article was written.©Blair Corkum