Don't fall into financial pitfalls because of the new 'quickie' divorce laws

Divorce can be a terrible time and the longer it takes the more pain it can cause. So, the news that no-blame divorces are expected to come into force this year will please those whose relationships have broken down.

Couples will soon be able to be divorced within six months. Under existing rules, unless someone can prove there was adultery, unreasonable behaviour or desertion, the only way to obtain a divorce without a spouse’s agreement is to live apart for five years.
From the autumn, divorcing spouses will only be required to make a statement that the marriage has broken down. It should lead to a fairer and more transparent divorce process for people. But rushing into a quickie divorce can be a costly disaster.

Julie Kitson, Director of Jarrovian Trusts & Estate Services, part of Jarrovian Group, comments: “Though the new law may be good for those looking for a speedy divorce, they need to be aware that it could lead to potential loss of tax breaks or affect them in other ways financially. Once they are no longer legally married it could mean those who don't agree their financial split prior to obtaining a decree absolute could lose valuable tax breaks.”
Ending a financial relationship is sadly not as simple as just sharing assets between couples. There are lots of unforeseen financial implications to consider, such as tax and pensions, as well as the more obvious assets, such as the family home or savings. Anyone not planning properly for these tax considerations could end up losing out quite considerably.

Kitson adds: “There are a number of key tax issues that it’s essential anyone getting divorced thinks about. They range from main residence tax relief on selling or transferring the family home to loss of exemptions, such as capital gains tax and inheritance tax.”

For instance, any assets passed between spouses — even property - are normally free of capital gains tax (CGT). They are made on what is known as a ‘no gain-no loss’ basis which means no CGT is due. However, if spouses have permanently separated, the no gain-no loss treatment only applies until the end of the tax year of separation.

Kitson says: “If people don’t transfer their assets to their spouse before the end of the tax year in which they separate then a tax bill could fall due, and depending on the assets, it could be sizable. It means once they agree to separate, they need to sort out assets pretty quickly, especially if it’s towards the end of the financial year at the beginning of April.”

People divorcing need also be aware of potential Inheritance tax (IHT) implications. Although the IHT implications on divorce are limited for most couples - any transfers of assets between spouses before the decree absolute are exempt from IHT and transfer after this can escape an IHT charge on the basis that they are not intended to confer a gratuitous benefit (for example as a result of a Court Order). However, care should be taken if transfers are made after the divorce is finalised as they could, in some circumstances, be regarded as a transfer of value rather than being exempt.
Property and pensions are two of the biggest assets a couple often have which must be considered as part of a divorce. Accrued pension benefits, in particular, can be worth a lot, especially if one partner has been raising a family and not built up a retirement pot. That’s why courts often balance its value against the family home and award the person without a pension a great percentage of the property.
But it’s worth bearing in mind that a transferring ownership of a family home qualifies for relief from CGT, because it is regarded as a person’s principal private residence (PPR). But again, that is for a limited time.

If a spouse transfers their share in the family home to their ex-partner within the tax year of separation, it will be on a ‘no gain, no loss’ basis. In fact, they generally have until nine months after the end of the tax year to make the transfer free of CGT but delay it any further and there could be a large tax bill. There is a possibility that this period can be extended indefinitely if relevant conditions are met — although this may not suit both parties.

Kitson says: “It can be heart-breaking when a relationship breaks down but if your situation has reached the point of no return, it’s essential to get expert advice as soon as possible to ensure you understand your tax position and don’t end up with a costly hidden surprise.”

PAUL SMITH ASSOCIATES
8th March 2021