Part II of this blog post focuses on how pension plans are divided during divorce. You can read Part I on our site.
Pension plans are different than other assets divided during divorce because we are trying to calculate the present value of a future benefit (a benefit that will be received but has not yet been received). The process that goes into dividing a pension during divorce can be complicated. As a result, we have broken down each factor of the process to first show in a segregated way how a pension plan gets divided during divorce. We then show in an integrated way how the pension plan’s disparate factors connect to complete the whole of the process of dividing a pension during divorce. The attorneys at Fitch have the deepest respect for the enormity of time, effort and dedication it takes for clients to accumulate a pension and Fitch attorneys do their very best to provide detailed information, knowledge and transparency when it comes to valuing and dividing a pension plan during divorce. The following factors are used to calculate the present value of a pension plan:
1. Coverture Fraction.
A coverture fraction is a tool used by an appraiser to separate that portion of the benefits which was earned during the marriage, from that portion of the benefits which was earned outside of the period of marriage. The coverture fraction represents that portion of the value of the benefits attributable to the marriage. The numerator of the fraction represents the total period of time the pension holder participated in the plan during the marriage, and the denominator is the total period of time the pension holder participated in the plan as of the cut-off date. The following example illustrates the mechanics of a coverture fraction:
Marriage Date: June 30, 1978
Date Employment Started: January 30, 1970.
Cut-Off Date: June 30, 1998.
The total number of years of participation in pension plan during the marriage equals 20 (from June 30, 1978 to June 30, 1998).
The total number of years of participation in the pension plan as of June 30, 1998 equals 28.5 (from January 30, 1970 to June 30, 1998).
Therefore,20.00 Years = 0.7018 or 70.18%
28.50 Years
This means that 70.18% of the present value of the pension as of June 30, 1998 would be attributable to the marriage. For example: The total present value of the employee’s pension plan was $100,000.00 as of June 30, 1998. The $100,000.00 would be multiplied by 70.18% to give a value for the marital portion of $70,180.00.
In divorce, the pension valuation experts therefore usually require the following data to calculate the coverture fraction: the birth date of the spouse who is the participant under the pension plan, the date of marriage, the date on which the participant began to accrue benefits under the pension, and either the participant’s cutoff date (typically the date of the final divorce hearing) or the participant’s anticipated retirement date.
The numerator of the coverture fraction is the number of days the participant was employed during the marriage. The denominator is the total number of days employed until the participant is considered to have stopped working for purposes of the valuation. Assuming the participant is entitled to receive benefits as of the cutoff date, the denominator will be the cutoff date (typically, the date of divorce), after which time the non-participant spouse ceases accruing any claims against the plan in the context of divorce; or, it will be the participant’s retirement date if the participant must continue working until his or her retirement date in order to receive benefits under the plan.
Here is the trade-off: If the participant must work only until the cutoff date, the coverture fraction is larger, but the benefit is typically smaller; and, if the participant must work until the retirement date, the coverture fraction is smaller, but the benefit is typically larger.
2. Benefit Allocation.
The marital portion of the benefit is then allocated between the spouses through the process of equitable distribution. For example, suppose the benefit is $2,000 a month, and the coverture fraction is 50%. This is calculated as follows: of the $2,000 benefit, $1,000 would be considered marital property subject to equitable division; assuming an equal division of this particular marital property, dividing this $1,000 in half provides $500 to each party. The participant spouse would then receive the $500 on top of his or her preexisting share, giving him or her a $1,500 total benefit.
3. Factors Affecting Non-Participant’s Share.
The pension is an asset that has value – often the most significant value to be divided in divorce – and even more often of an amount that is unascertainable at the time of divorce. That ultimate value can depend on how long the participant works for the company, the future salary of the participant, and how long the participant lives. In most cases, the greater the number of years of employment during the marriage, the larger the non-participant spouse’s share would be; and, likewise, the fewer years the participant has worked for the company before the marriage or after divorce, the larger the non-participant spouse’s share would be. Taking these factors into account, and often as part of the overall divorce settlement process, the non-participant spouse can (a) receive compensation for a waiver of his or her share in the pension in the form of all or a portion of some other marital asset or combination of marital assets (an offset); or (b) seek division of the pension through a Qualified Domestic Relations Order or other approved procedure so he or she can collect a share of the retirement benefits when the pension is in pay status.
Conclusion
When all of the factors above are integrated the present value of the pension has been calculated. The attorneys at Fitch are happy to walk each client through the pension plan calculation and to provide both an audit trail of the calculation and a client report explaining how the present value of the plan was reached and the division of the plan was determined. Valuing a pension plan is a complex task that requires expert analytical skills.
Pension plan valuation is one of the many financial calculations that may be required during the divorce process – calculations that usually relate to an analysis of support issues or property division. In both of these areas, the Divorce and Family Law Attorneys at Fitch Law Partners LLP gather and analyze financial information to advise our clients in critical decision-making that intimately affects their post-divorce financial lives.