What is a CDC pension and how could it change the pensions landscape in the UK?
Des Hogan, EQ's Market Engagement Director, takes a closer look at what exactly a CDC pension is, and how it could change the pensions landscape in the UK.
Market Engagement Director
What is a CDC?
CDC is a new type of pension scheme into which employers and employees pay a fixed rate of contributions to the scheme, and members are paid pensions with variable increases (and possible, but rare decreases).
The Pension Schemes Act 2021 that received Royal Assent back in February provided the primary legislative framework for CDC schemes in the UK.
What makes CDC different from DB or DC pensions?
CDC offers employers a feasible and attractive alternative to the two current pension scheme options of defined benefit (DB) pensions or defined contribution (DC) pensions. CDC pension contribution costs are fixed, so employers’ pension budgets will not need to vary year on year. As a result, CDC gives employers the benefit of cost certainty with no likelihood of the funding deficits we see in many DB schemes. It also gives members the real prospect of a higher average pension in retirement than they would expect in DC pensions.
The pension scheme is revalued annually to ensure the increases can be paid. These valuations give the member a clearer indication of their potential pension at retirement which can help members plan with better accuracy.
What is the benefit to members?
The member pensions are targeted but not guaranteed as you would see with a traditional DB scheme, and the pension scheme is revalued annually to ensure the increases can be paid. These valuations give the member a clearer indication of their potential pension at retirement than in a typical DC pension scheme and therefore it can help members plan their retirement with better accuracy.
There are other significant benefits for members:
As the scheme is invested in a large collective investment fund, investment volatility is smoothed out so that member pension levels (both pre and post-retirement) are relatively stable.
CDC is a simpler pension for members than DC, as they don’t have to decide where to invest, either before or after they retire. The CDC board of trustees make these decisions with the support of investment experts.
Members don’t run the risk of running out of money in retirement as they would from pension drawdown because the pensions are paid based on the value of the CDC fund which is valued every year.
When the member has retired, the fund is still managed and invested by the CDC trustee board. This takes the worry away from CDC pensioners as they don’t have to make investment decisions as they grow older and when they may be less capable of making the right choices.
What is the industry view on CDC?
Recent pension industry research suggests that CDC pensions, with the same contributions, will provide a significantly higher pension than DC. This is because more investment risk can be taken due to the collective nature of the CDC Fund and because investment management fees will be lower due to the larger size of the CDC fund.
Who is CDC for?
CDC schemes will initially be suitable for larger single employers - employers with workforces over 5,000 employees. However, with further changes to legislation, multi-employer CDC schemes or master trusts are likely to become available, making CDC more accessible for smaller employers.
EQ is at the forefront of this exciting development in pension scheme provision in the UK.
We will be keen to share our experience and practical insight with interested employers as we progress with implementing the first CDC pension scheme in the UK.