Despite the lack of any real detail, Barnett Waddingham welcomes the government’s commitment to CDC (Collective Defined Contribution) schemes alluded to within the Queen’s Speech today.
The proposed system, which mirrors the system that has operated in the Netherlands for some years, should provide improved pension outcomes for individuals and greater stability of contributions for employers compared to defined benefit (e.g. final salary) schemes.
Some have questioned whether CDC is really the best approach we can manage. The main criticisms are around the way in which pooling of funds can lead to younger members subsidising older members (in periods of sustained low investment returns), or those on higher incomes benefiting more than those on lower incomes (because they have a longer life expectancy). However, this cross-subsidising is the very mechanism that leads to the improvement of expected outcomes all round. Does it matter if lower income individuals are benefiting slightly less, so long as their own outcome is materially better than under the current defined contribution (DC) approach? Provided this is not a deliberate feature of the system (which it isn’t), I believe it is entirely acceptable.
The Queen’s Speech also reaffirmed the government’s promise for new DC flexibility and this will further improve the outcomes for CDC schemes, as growth assets can be held for longer, instead of needing to start matching annuity pricing bases in the run-up to normal retirement age.
The legislation necessary for CDC to operate is expected to come into effect in time for use by employers who face the end of contracting out rebates through open defined benefit schemes from April 2016. We look forward to assisting employers in the design of suitable pension arrangements for the future.