The new year is a time when people often take stock of their relationships, and many make the decision to go their separate ways. Independent financial adviser Mary Waring, the managing director of Wealth for Women, guides you through this financial minefield.
Many people wonder what life would be like without enough money. For people facing up to the reality of divorce or the dissolution of a civil partnership, understanding how the finances will work when they are on their own can feel like one of the biggest worries of all.
Basic maths tells you that running two homes and paying two sets of bills will cost more than a single household, and the reality is that many people do find their finances constrained after divorce. That is why it is essential to create a clear financial plan if you are heading towards a separation.
While it is not actually true that divorces peak over Christmas, people do start taking stock of their lives over the festive period. Research from family law solicitor network Resolution has found that the number of people making online enquiries about family law and separation does spike upwards in January.
Research and planning are crucial if you want to make your divorce as painless as possible. Here’s our checklist for reducing the financial pain of separation.
Don’t rely on friends – speak to a professional
Friends will always tell you what you want to hear, which may not be the truth. Divorce is an incredibly stressful process, but speaking to an expert can lay to rest misconceptions that may have been keeping you up at night, and even stopping you from heading for the door.
For example, it is common to meet women who have spent 20 years looking after the children who do not appreciate that this means they are treated as contributing to the household wealth at an equal rate to the principal breadwinner.
Avoid court proceedings if at all possible
Unless your ex is completely unreasonable, stubborn and set on having their day in court, do everything you can to avoid aggressive legal proceedings. Taking divorce proceedings to court is a bad idea emotionally and financially, and can adversely impact on your long-term relationship with your children.
However much you dislike your former partner, it is in your interests to separate on the best terms possible – remember, you will want to feel comfortable going to your child’s graduation ceremony or 21st birthday party years down the line. What is more, court documents are public, which is why celebrities tend to opt for non-adversarial dispute resolution processes to protect their privacy.
Don’t go rifling through his or her possessions looking for evidence
Evidence that has been obtained by covert means will not be admissible in the proceedings, so if you find your ex’s key to their secret drawer, there is no point sneaking in and photocopying all of his or her documents. But it is worth starting to ask more questions about financial matters, pensions and other assets if you are getting close to the point where your relationship is about to end. It is quite common for one party to deal with financial matters, leaving the other party in the dark about what assets and liabilities the household shares.
Start finding out what your household outgoings actually are – once you are on your own, you will be responsible for all of these.
Take action if your ex is hiding assets
If you are worried that your ex is starting to siphon off funds to hide it from the settlement process, you can make an application for an emergency injunction to freeze his or her assets. You need to have started court proceedings to do this, but if you find yourself in this situation it is unlikely that collaboration, mediation or arbitration will work for you.
It’s not all about the house – don’t forget about the pension
The person who will end up doing most of the caring for children, which is usually but not always the wife, often wants one thing above all else – to stay in the family home after divorce. It can be tempting for the woman to want to keep the house and for the man to be keen to keep the pension.
The roles can be reversed, but the reality is that it is usually this way round. Women should avoid this kind of deal as they will find they have nothing to live on later in retirement. We are all used to the idea that our home is our biggest asset, but pension benefits can be worth even more. If one of the parties in a divorce has a final salary pension worth £20,000 a year from retirement, that has an actual cash value of around £600,000 – potentially worth more than the family home. So it is important to factor in the full value of any pension assets into a financial settlement.
In England, Wales or Northern Ireland the total value of all pensions built up will fall within the settlement calculation, whereas in Scotland it is only the value of your pension built up while you are married or in your civil partnership.
Pension assets can be recognised in the settlement through:
- a pension sharing order, where the other party receives a share of the pension;
- offsetting the value of the pension against other assets, such as other investments or the value of the house; or
- deferred pension sharing, where payments are made from a scheme at a later date when you or your former partner have started receiving the pension payments.
Downsizing – you don’t have to do it just yet, but it may make sense in future
Many people – particularly women looking after children – find they cannot face the idea of leaving the marital home while the divorce process is ongoing. This desire for a safe and familiar environment at a time of extreme stress is entirely understandable, but over the longer term this may not be possible.
The cost of running a big family home may be too high to fund out of your post-divorce income, and releasing equity by moving somewhere smaller can make a big difference to your overall finances. You don’t have to cut the cord connecting you to your family home right at the time of the divorce, but you should consider building into your long-term financial plan that you will move six months after the divorce has taken place.
Maximise state tax credits
The idea of ‘going on benefits’ may not appeal to you, but tax credits are different and lots of people receive them these days. Child tax credit and working tax credit are both designed to assist families with children who are struggling to make ends meet. Neither child tax credit nor working tax credit impact your ability to receive child benefit.
The system is complex, but if you have one child and a household income of up to £26,200 then you would be entitled to child tax credit. With two children, you are likely to benefit if you have a household income of up to £32,900. Working tax credit is for families on low incomes and is based on the number of hours worked.
Rebuild your state pension
Many spouses, usually women, find that they have not built up full entitlement to state pension. To receive the full state pension, you need to have worked and paid national insurance contributions (NICs) for a minimum of 35 years, although you do get credit for periods you were not working when you were at home bringing up children under the age of 12. Up until 2016, it had been possible for a divorcee to rely on their partner’s NIC record for the purposes of calculating state pension entitlement, but changes introduced in April 2016 mean this is no longer possible.
If you are on course to have an incomplete state pension contribution history by the time you retire, then it can make sense to buy extra years through ‘voluntary NICs’. These are currently good value, enabling you to buy around £230 a year for life from state pension age for a one-off cost of £733. That £733 would pay back £4,600 over the course of a 20-year retirement.
Invest your settlement carefully
If you have been the financially active party to the relationship, the chances are you will have a clear understanding of how to manage your finances going forward, and crucially, you could well continue to receive regular income through work. But if you have been staying at home looking after children, things can be very different. While the children are still around, your settlement may entitle you to regular maintenance payments from the departed spouse. But once the children leave home you will be reliant on whatever money was agreed in your settlement.
Some people who are unlikely to get a suitable job will find they have to live on their settlement lump sum for the rest of their life. This may look like a large amount of money, but it will have to cover decades of expenditure, so it is important to get advice from a financial planner. They will help you to understand your finances and understand what lifestyle you can afford in the future. A financial planner will do a full lifetime cash flow looking at your future income and spending, and building in assumptions about investment growth, inflation and future taxes.
Based on these inputs and assumptions, it will show you whether you’ll run out of money. If this is likely to happen, you can run ‘what if’ scenarios to see what the impact will be if you work longer, downsize or cut your expenditure. This will help you to work out what you can afford and when.
Case study: Anna
Anna is 47 with two children, aged eight and 13. In her recent divorce settlement, she was awarded the former family home and a large cash lump sum.
What Anna needed to know
- How do I generate enough annual income to pay my bills?
- Can I be sure I won’t run out of money?
Her main concern was that she had sufficient funds to provide a comfortable lifestyle for herself and her two children while they lived at home.
She wanted to take as little investment risk as possible since she was uncomfortable with investing in the stock market.
She knew her ex-husband would adequately provide for the children in his will, so Anna felt that if she didn’t have any of the settlement left in her will this wouldn’t be a major issue.
The steps we went through together
Anna listed all of her expenses and we reviewed her priorities in detail.
- We discussed investment risk, and how she could withdraw funds from her investment to provide the income she needed each year with the lowest level of tax payment.
- Anna was keen to keep her money invested in a bank deposit account. I showed her this would mean she would run out of money by 74.
Based on this, we knew Anna had to take some investment risk to ensure her funds would last. At a low risk level of 3/10, her income would not run out until age 97. The investments were structured so she could withdraw income each year very tax efficiently.
Anna now feels that she has ‘’complete peace of mind”. She says: “I know I won’t wake up in the middle of the night in a panic that my money will run out.”
Moneywise says: Investment returns from even low-risk portfolios are not guaranteed, so you have to be prepared to lose some or all of your money. However, over most 10-year periods the stock market has given positive returns.
Consider trying non-adversarial divorce processes
The only people guaranteed to benefit from court proceedings are the lawyers, who get paid whatever the outcome is. There are several non-adversarial processes available for couples who do not want to slug it out – collaboration, mediation and arbitration.
Collaborative law is a legal process that helps separating couples to work with legal professionals and other family experts to achieve a settlement on a consensual basis.
Through collaborative law – which is a process first practised in the US in the 1990s – each party still has a lawyer, but rather than deal with each other through faceless legal correspondence, issues are dealt with face to face. This non-confrontational approach can typically reduce the divorce process from 18 months through court to six months.
Mediators can help former partners identify areas of conflict while remaining impartial.
Arbitration sees the two parties agree to abide by an independent arbitrator, who then assesses the case, with both parties being bound by whatever decision the arbitrator reaches on the financial or property dispute that has been put before them.
Top tip on tax
Make sure you don’t pay too much Council Tax – half of council tax is a property tax and the other half is a personal tax, based on two people living in the property. As soon as your partner moves out or you move into a property alone, make sure you get your single person discount. This will reduce your bill by 25%.
The author of this article, Mary Waring, specialises in providing independent financial advice to women going through divorce. She is managing director of Wealth for Women.