Collective Defined Contribution (CDC) is a recently introduced pension scheme – becoming the third type of pension scheme available in the UK, alongside Defined Benefit (DB) and Defined Contribution (DC) schemes.
Similar CDC schemes are already in place and proving popular in several other countries, such as Canada, Denmark and the Netherlands; it was introduced in the UK by the Pension Schemes Act 2021, and the first regulations came into effect on 1 August 2022.
How Does A CDC Scheme Work?
A CDC scheme enables both the employer and employee to contribute to a pension fund in a way that differs to DB and DC schemes. Instead of individual pension pots, employees and their employers pay into a collective pot that’s shared with other people. This larger sum is then invested in stocks and shares, which is said to have the potential to improve retirement returns for individuals.
When you retire, you’ll then receive a monthly pay out that provides you with a regular and reliable source of income for life. The amount that you receive will depend on your age, your contributions and the investment performance.
Guy Opperman, the Minister for Pensions, commented:
“CDC schemes have the potential to transform the UK pensions landscape.
“We have seen the positive effect of these schemes in other countries and it is abundantly clear that, when well designed and well run, they have the potential to provide a better retirement outcome for members, and can be resilient to market shocks.
“I have no doubt that millions of pension savers will benefit from CDCs in the years to come.”
What Are The Advantages Of A CDC Scheme?
Because it’s a larger pot shared between members that can be spread out over a wide range of investments and the income isn’t guaranteed, it reduces the risk and cost for both individuals and employers. It can have individuals in both accumulation and decumulation, which allows the scheme to provide an investment strategy that’s more long-term. The scheme also spreads the longevity risk (under- or over-spending) across its members and pays a monthly income for life based on average life expectancy, meaning individuals shouldn’t need to worry about running out of money.
Specifically for employers, it gives them the ability to offer employees a decent pension through more predictable costs, whilst minimising ongoing risk and liabilities. It could prove most beneficial for larger organisations with over 2,000 employees.
What Are The Disadvantages Of A CDC Scheme?
CDC schemes won’t work for everyone – some individuals may find themselves worse off. Because the longevity risk is shared, those who die younger will end up subsidising the pensions of individuals who outlive them. The benefits of shared longevity risk could also be in jeopardy if individuals with a lower life expectancy transfer their full proportion of the collective fund out of a CDC scheme. In addition, because income isn’t guaranteed, there is the risk of an individual’s returns falling.
Where Can I Find Out More?
This new type of pension scheme gives individuals more choice when it comes to their retirement, but it’s important that you find the most appropriate and effective type of pension for you and your specific circumstances. Speaking to an accountant or a financial advisor about your pension and saving options is the best place to start. If you’re already a Warr & Co client, please feel free to contact us online and a member of our team will be in touch. If you’re not yet a client, be sure to take advantage of our free no-obligation consultation. You can also read further information about CDC pension schemes via the Gov website and the research briefing.