If you’re planning on getting divorced or are in the middle of divorce proceedings, there are some compelling reasons to engage the services of an advisor who has experience in divorce financial planning. While your divorce attorney may be an expert in divorce legislation and proceedings, they may not necessarily have sufficient knowledge when it comes to finances, tax, CGT, insurance and investments in the context of dividing your assets.
An experienced advisor will be able to consider the impact of divorce on your whole financial picture and, ideally, should work alongside your attorney to achieve the best financial outcomes for you. Here’s what divorce financial planning entails:
If your spouse is a member of a retirement fund, you may have a claim for a share of their retirement benefits – also known as the ‘pension interest’ – although this can be a particularly complicated aspect of a divorce settlement. Contrary to a commonly held belief, the non-member spouse’s share of the pension interest is not simply 50% of the retirement fund value. If your spouse is invested in a pension, provident or preservation fund, the pension interest is the total benefit that would have been due to him if he had resigned from employment at the date of divorce. On the other hand, if your spouse is invested in a retirement annuity, the pension interest is the total of all their contributions to the fund up to the date of divorce, plus simple interest at the prescribed rate. Where both parties have multiple retirement funds in place, calculating the pension interest and deciding how best to divide the assets can be a very complex financial planning exercise. Remember, the nature of your matrimonial property regime will determine whether or not you have a claim to your spouse’s pension interest. Also, it is vital to ensure that the wording of the divorce order is correct to avoid the retirement fund rejecting the settlement agreement and refusing to pay out the pension interest which can add an extra layer of legal costs.
If you are awarded a share in your spouse’s pension interest as part of your divorce settlement, it is imperative to get sound financial advice in this regard. There are a number of options available to you, all of which have tax and other financial implications. If you choose to withdraw the full amount in cash, bear in mind that this lump sum will be taxed as per the retirement withdrawal tables. Also, a withdrawal will interrupt the compounding process and you may be left with a substantially less valuable asset in real terms.
You also have the option of taking a portion of your pension interest in cash and possibly making use of the once-off R500 000 tax-free withdrawal benefit, with the balance being transferred to an approved retirement fund without incurring tax. Alternatively, you may elect to transfer the full amount into a retirement fund of your choice, with it being highly advisable that you seek independent investment advice in this regard. The level of investment risk that you expose your investment to should be aligned with your proximity to retirement, the returns you need to achieve and your retirement goals, keeping in mind that it is highly likely that your divorce will have set back your retirement funding. Another factor to consider is that terminating an insurance-based retirement annuity may result in cancellation fees and/or penalties which can affect the net value of the pension interest.
Your financial advisor will be able to assist you in amending the beneficiary nominations on your various policies so as to align them with your intentions. Your first instinct may be to remove your spouse as a beneficiary on your life cover and to nominate your minor children instead. However, this can give rise to a number of unintended consequences. In terms of our law, minors under the age of 18 do not have the legal capacity and are therefore unable to inherit lump-sum payouts or other assets directly, and the insurance payout will be administered by the Guardian’s Fund until your child reaches age 18. Interest earned on funds held in the Guardian’s Fund is low which will result in poor growth on your child’s capital. Further, the process of claiming from the Guardian’s Fund is laborious and may result in your child not having adequate access to money that was intended for his use.
A simple way of circumventing this is to set up a testamentary trust in terms of your will and to nominate the trust as the beneficiary on your life policy. You may also think that amending the beneficiaries on your retirement funds will ensure that your former spouse does not receive any benefit from them, however, this is not necessarily the case. In terms of Section 37C of the Pension Funds Act, it is the trustees of the fund who have the final say when it comes to how your retirement fund benefits should be distributed amongst those who are financially dependent, in part or in full, on you. If you are responsible for paying maintenance to your former spouse in terms of your divorce order, they may qualify as a financial dependant in terms of the Pension Funds Act and the trustees may apportion a share of your retirement benefit to them.
You may feel that opting to keep the family home as part of the division of assets will be in the best interests of the children but, emotions aside, it is important to understand how this will affect your liquidity. Immovable property is an illiquid asset, and you need to be sure that you have access to sufficient liquid assets over the short to medium term. If you are not adequately funded, you may find yourself in a position where you are forced to sell the family home for less than its value, possibly at an inopportune time. Before opting to keep the family home as part of the settlement, let your advisor run a number of scenarios for you so that you fully understand your options. If you were paid out the value of the home instead, what would the tax implications be? What investment returns could you hope to achieve? How would you draw down from the investment optimally?
Drawing up a post-divorce budget is critical to fully appreciate the cost of running a home without the benefit of cost-sharing. Further, you will need to give consideration as to how the costs of your divorce will be financed and, in this regard, it is always advisable to insist that your attorney provides you with estimated costs so that you can budget accordingly. Left unchecked, legal fees can accumulate rapidly and leave you heavily indebted. You will also need to ensure that you have sufficient cash to cover your living expenses throughout the divorce process, keeping in mind that you may need to pay deposits, incur transport costs, or buy new furniture, while at the same time fighting for maintenance from your spouse.
As is evident from the above, there are a number of critical financial decisions that you will need to take as part of the divorce process. At a time when emotions are running high, our advice is to seek counsel from an independent advisor who can guide you through the decisions you need to make to ensure the most favourable financial outcomes for you are achieved.