The Department for Work and Pensions launches ‘Delivering collective defined contribution pension schemes’ consultation.
In November 2018 the Department for Work and Pensions (DWP) launched a consultation entitled ‘Delivering collective defined contribution pension schemes’ (CDC). CDC schemes would represent a third pension scheme option for employers alongside traditional Defined Contribution (DC) and Defined Benefit (DB) schemes.
Contributions to a CDC scheme are paid on a DC basis but instead of each member having their own ‘pot’ within the scheme, all the contributions are pooled and the scheme provides a target income at retirement, payable from the scheme itself. This is not the same as the pension promise under a defined benefit scheme. If there is any underfunding then this would be addressed through reducing member benefits, for example, through lower indexation, or reducing pensions in payment.
The pool of member funds means that there is risk-sharing and an element of cross subsidy, in a similar way to that operated in DB schemes. The exact way any risk-sharing would work depends on the individual CDC scheme. But ultimately the risk falls to the members and not the sponsoring employer. Employers do not have to underwrite any shortfall, and schemes may establish a form of ‘capital buffer’ to address this risk.
Measures were included in the Pension Schemes Act 2015 that would have introduced a new ‘shared risk’ scheme into the statutory definitions of the categories of pension scheme that can be offered in the UK, but in October 2015, the Government announced that these intended reforms were put on hold pending completion of the Government’s other pension reforms (automatic enrolment).
The DWP has now launched consultation seeking input from the pensions industry to help it refine its proposals. CDC schemes have been used in the Netherlands and Denmark, and recently the Royal Mail has announced it would like to develop a CDC scheme as an option for its employees.
The consultation confirms that both primary and secondary legislation would be required, but that the majority of the legal and administrative requirements that apply to occupational pension schemes could also be applied to CDC schemes, including seeking registration with HMRC and authorisation from the Pensions Regulator. However, the changes would also need to accommodate the unique nature of CDC schemes, combining elements of both DB and DC schemes as they do.
There are many challenges, which we hope will be addressed in the consultation, for example, managing intergenerational risks, both in terms of investment and longevity. The potential pressure on employers to top up ‘under-funded’ schemes and perhaps the greatest challenge of all, developing communications for members to understand what they are buying into, especially if and when benefits are being pared back. In addition, clarity would be needed on many practicalities, such as transfers in and out, charges, compliance with auto-enrolment and tax treatment.
The DWP consultation runs until 16 January 2019. Existing legislation cannot accommodate CDC schemes as envisaged, so primary and secondary legislation will be brought forward as soon as parliamentary time allows.