Government gives green light to CDC pension schemes

The government has confirmed the launch of Collective Defined Contribution pension schemes in a new consultation.

Related topics:  Later Life
Rozi Jones
18th March 2019
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"There are huge challenges in automatically enrolling individuals into a scheme with such complex design features."

CDC schemes, which are already popular in Denmark and the Netherlands, pay out a regular income from a collective fund rather than producing an individual 'pension pot'.

Last year, Royal Mail reached a deal with the Communication Workers Union which sought to launch CDC pensions in the UK.

The government has today confirmed that it will "introduce CDC provisions slowly", starting with the Royal Mail scheme and building on this.

Several studies have shown that CDC schemes could offer more generous and predictable benefits than individual DC provisions by pooling risks, such as around life expectancy.

However some industry experts, including Aegon's Steven Cameron, warned that there are "huge challenges in automatically enrolling individuals into a scheme with such complex design features".

The government agreed that communicating the variable nature of the pension income in a CDC scheme will be a "huge challenge for schemes", adding that "misunderstanding around the nature of CDC benefits will be the single biggest risk a scheme will face".

However the government stressed that it is "very alive to this issue, and fully recognise the challenges it poses".

Pensions minister, Guy Opperman, said: "The UK has a world-class occupational pension system. But there is always opportunity for further innovation and improvement. I believe CDCs can be part of that improvement.

"CDC schemes will provide employers with new options for managing their pension obligations, with benefits for workers and employers alike. As I said in the forward to the original consultation, CDC schemes are not a catch-all solution to concerns around retirement outcomes. But I am confident that well designed and run CDC schemes can offer advantages for some employers and employees in the UK. Looking at the consultation responses, it has been heartening to see how many respondents – including employers, trade unions and pensions commentators - agree with this Government’s proposals."

Steven Cameron, pension director at Aegon, commented: “Royal Mail clearly has the best intentions and we hope the scheme will deliver good outcomes for its members.

“However, the industry is divided on the relative merits of CDC, which originated in the Netherlands. Supporters point to them offering greater certainty to individuals compared to Defined Contribution with the potential to pool investments and reduce charges. Critics point to the complexity of explaining the scheme’s benefits to members and their incompatibility with pension freedoms. Individuals are told what their ‘target benefit’ is but this is not guaranteed and it is likely that actual benefits will be different from the initial target, making planning difficult. Most worryingly, there is a very significant risk that monthly pension income once in payment could fall. There is also the potential for one generation of members to subsidise another.

“At Aegon, we are open to new pension scheme designs being explored, but despite our parent company being based in the Netherlands, we are not convinced ‘going Dutch’ with pensions will be right more broadly within the UK. There are huge challenges in automatically enrolling individuals into a scheme with such complex design features. CDC won’t offer members a choice of investment funds and importantly may not provide access to the pension freedoms which have proved highly popular in allowing people to draw down from their pension flexibly. While we believe individuals may be allowed to transfer out to access freedoms, the terms for doing so are far from clear.

“We wish the Royal Mail every success with their scheme, but it is imperative that before enabling other employers or master trusts to go down this path, full consideration is given to how to address the many challenges CDC present, including to member understanding and security.”

Pete Glancy, head of policy, pensions & investments at Scottish Widows, added: “CDC has the potential to be the ‘Marmite’ of the pension world. The smoothing and pooling of risks will be attractive to some employees, but potential restrictions in terms of pension freedoms will be unpopular with others. To succeed, it may be necessary to allow people to select their own pension scheme, like in Australia.

“Employees could select from a range of schemes including CDC and traditional DC. Employees who select a CDC arrangement could retain that arrangement as they move from job to job. Within the current Auto Enrolment framework, the most immediate opportunity for CDC could be in decumulation, where employees become individuals at retirement and pooling of risk could be attractive to some scheme members.”

The government has not yet laid out advice rules for CDC schemes, however Steve Webb, former pensions minister and director of policy at Royal London, said it is likely to be several years before a scheme is up and running.

He added: "If others employers want to use a different model, this could need new primary legislation and we would probably be talking about the mid 2020s before further schemes could be in place."

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