What is a CDC scheme?
The concept of a Collective Defined Contribution (CDC) scheme (sometimes referred to as Defined Ambition) was previously raised by former pensions minister Steve Webb in 2012. A CDC scheme is halfway between a Defined Benefit (DB) and a Defined Contribution (DC) scheme. In a DB scheme the employer bears the risk whereas in a DC scheme the member bears the risk. In a CDC scheme there is more of a balance with regards to risk.
CDC schemes are common in the Netherlands, Canada and Denmark but are not yet available in the UK. The hope is that the introduction of CDC schemes in the UK could address some of the concerns in the pensions landscape.
How does a CDC scheme differ from other pension schemes?
Unlike in a DB scheme, the amount of pension that will be paid on retirement from a CDC scheme is not guaranteed. Instead, there is a target level of pension that is based on a long-term, mixed-risk investment plan whilst the cost to the employer is fixed. By conducting regular valuations and reviewing the funding position, the target retirement benefits can be adjusted accordingly.
A CDC scheme differs from a defined contribution scheme as the member does not have an individual pension pot. The assets are pooled in a collective pot and retirement benefits are paid from the pool of assets. Members do not bear all of the longevity, inflation and investment return risk in a CDC scheme as they would with a conventional DC scheme.
Why are CDC schemes in the news?
The Government published a consultation paper on CDC schemes in 2013 which presented a number of ideas as to how a CDC scheme would work. Following the consultation, the Pension Schemes Act 2015 introduced CDC schemes as a distinct pension category, but regulations to bring them into force are yet to be introduced. More recently, in November 2017, the Work and Pensions Committee launched an inquiry into CDC schemes. The purpose of the inquiry is to look into the merits of the idea, the potential benefits to savers and the legislative and regulatory framework needed to implement CDC schemes. The aim of a CDC scheme is to create greater certainty for members than is provided by pure DC schemes, but at less cost for employers than DB schemes.
What has the industry response to the inquiry been?
The response so far has been fairly positive. Those in favour of CDC schemes argue that they provide greater assurance of retirement income and more efficient pooling of costs and risks among members than a traditional DC scheme without imposing the burden of a pension promise to employers. A study by Aon Hewitt estimates that CDC schemes could provide higher average incomes than current DC schemes. However, a counter argument is that CDC schemes may further fragment the pensions landscape and there may be a lack of demand.
Are there any plans to introduce CDC schemes in the UK?
Following discussions between Royal Mail and the Communication Workers Union, an agreement in principle has been reached which includes introducing a CDC scheme. If the proposals go ahead, this would be the first CDC scheme in the UK. However, further legislation is needed before CDC schemes can be introduced.
Whilst the introduction of CDC schemes may not assist with issues such as a lack of engagement by employees, there is agreement across the industry that DB schemes are becoming increasingly unaffordable to employers and the current individual DC approach and contribution levels will not provide most people with an adequate level of income in retirement. CDC schemes may not be the silver bullet, but they could be a step in the right direction.
This blog post was written by Patricia Bailey. For further information, please contact:
Michael Collins, partner, Pensions
T: 0121 234 0236