Going Dutch: what’s the appeal of CDC?
After much industry discussion, the appearance towards the end of October of a DWP consultation demonstrated that the Government is serious about the introduction of Dutch-style Collective Defined Contribution (CDC) schemes. Political messages have, up to this point, been somewhat mixed. CDC had formed part of Steve Webb’s Defined Ambition project, and when this was unceremoniously dumped three years ago, many commentators believed that future discussion of CDC would end too.
However, a key development was the groundbreaking deal made between the Royal Mail and the Communication Workers Union. This saw the establishment of a CDC arrangement as a replacement for a closed Defined Benefit (DB) scheme. Nothing like this had been agreed in the UK before, and primary legislation would be necessary to incorporate key characteristics of CDC into UK pensions law.
The key appeal of CDC lies in the extent to which it offers a viable compromise between traditional DC and DB provision.
Firstly, the scheme is deemed to be DC in that the formal benefit promise consists of fixed rates of contribution from the employer and membership.
However, contributions are allocated not to individual member pots but instead invested in a single fund, as with DB schemes.
Member benefits are provided in the form of scheme pensions rather than through annuitisation or drawdown. Crucially, these benefits are not guaranteed but are based on ‘target’ benefits calculated on a basis which reflects a member’s service and earnings levels as well as their contribution history. Benefits can, if necessary, be scaled back both before and after retirement if there is a funding strain. Research by Aon has suggested that CDC benefits paid to Dutch pensioners are significantly higher than benefits paid in the UK through conventional DC.
Perhaps the single greatest appeal of CDC is that it offers, for the first time, equitable risksharing between the scheme’s sponsor and membership.
Whilst benefits are not guaranteed, the Dutch experience has been that there is reasonable stability, and, in any event, the unpredictable factors associated with traditional DC decumulation are avoided altogether.
CDC is not universally welcomed and has its critics. Many are concerned at the possibility of cross subsidies seeing younger members paying the benefits of pensioners at the expense of their own prospects. Others fear the kind of funding problems which have come to plague DB schemes.
Many also believe it is too late for the private sector as most DB schemes are closed with DC already in place to replace them and perhaps CDC is more suited to the public sector.
We are perhaps at the beginning of a new chapter in the provision of workplace pensions in the UK. However, will CDC appeal to employers? Time will tell.
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