Report outlines the pros and cons of collective DC
UK defined benefit (DB) scheme members could see higher and more stable pensions if the country learned from the Dutch approach to collective defined contribution (CDC) plans, according to the Pensions Institute.
In a discussion paper comparing the legislative and regulatory framework for the Netherlands’ DB and CDC schemes with the UK’s DB plans, the paper’s authors Philip Bennett and Hans van Meerten suggested the Dutch experience could “usefully inform the thinking on the legal and regulatory framework for a UK CDC scheme”.
The UK government announced in March this year that it was looking at how to implement CDC, following moves by the Royal Mail in partnership with the Communication Workers Union to launch such a plan.
However, the government department responsible for pensions indicated this week that it was not seeking to legislate for CDC.
First introduced in the Netherlands in 2004, the CDC underwent an “extreme stress test” during the financial crisis of 2008-09, offering “valuable learning opportunities” for UK legislators and regulators, Bennett and Van Meerten wrote. However, the credit crunch also brought up issues of “intergenerational fairness”, the authors warned.
Within a CDC plan, the employer contribution was fixed either as a percentage or a specific amount, which has led “to the conclusion that the younger employee’s employer contribution is supporting the older employee’s target benefits”, wrote Bennett and Van Meerten.
Yet the smoothing effect, achieved by the pooling of assets as well as mortality and longevity risks, could lead to higher annual benefits for scheme members, said Bennett.
“The CDC scheme is between the two extremes [of DB and defined contribution plans],” he said. “Yes the income could go down, but the volatility should also be damped down – and it should be more stable.”
Under the terms of existing Dutch schemes, members bear responsibility for any underfunding risks, rather than the employer. Unlike the UK, the Netherlands has no Pension Protection Fund that could step in to provide compensation in the event of company insolvency.
A lukewarm reception
In a written submission to the UK parliament’s Work and Pensions Select Committee, which conducted a recent consultation on the CDC concept, independent consultant John Ralfe claimed that the structure seemed “to require successive generations of new members, each able to pay the previous generation, if necessary – suspiciously like a Ponzi scheme”.
In its submission, Willis Towers Watson offered qualified support for CDC but added: “We would not advocate one which compelled employers to replace defined contribution [DC], DB or risk-sharing designs with CDC, nor one which led to accrued DB benefits being converted to CDC target benefits without members’ consent.”
However, the mooted scheme has received support.
“If there were a CDC, then the employees would have more income security after retirement and employers would not have to take on open-ended risk,” said Alwin Oerlemans, chief strategy officer at APG.
Yet concerns remain about further complicating an already-complex UK pensions system.
“Existing legislation gives you enough tools and flexibility, so why people are looking to add another system is something that has me scratching my head,” said Ralph Frank, head of Cardano’s DC business.
“In DC, it is the member that bears the risk of shortfall. In DB, it is the employer – and with CDC it supposedly sits somewhere in between.
“For me, it’s like being pregnant: either you are or you aren’t. It needs to be clear who bears what part of the ultimate risk.”