CDC strategy and implementation

CDC schemes combine:

• for members, a target pension at retirement and an income for life after retirement, like a defined benefit (DB) scheme; with
• for employers, the cost certainty of a defined contribution (DC) scheme.

Like a DC scheme, benefits are funded by a regular, fixed contribution from employers and employees but, unlike a DC scheme, the investments are managed collectively. Members share risk, enabling CDC schemes to invest in growth assets for much longer than either a typical DB or DC scheme.

A Collective Defined Contribution (CDC) pension scheme combines the structure of a DB scheme with the cost certainty of a DC scheme.

Benefits are funded by a regular and fixed contribution rate, but the investments are managed collectively. This allows members to share risk and achieve better outcomes at retirement than traditional DC and potentially DB arrangements.

Members accrue a target benefit, in the form of a pension (that can be commuted to a lump sum) payable from the scheme. Importantly, this benefit is not guaranteed. Every year, the trustee reviews the funding level. If the scheme is under or over funded, the trustee can adjust benefits, usually through amending the target for future pension increases. The process follows:

1. Members and employers pay in a defined contribution.
2. Contribution converted to 'target pension'. Conversion terms set annually and vary by age (younger members build up more pension).
3. Scheme valuation every year. If surplus, future target pension increases go up. If deficit, they go down. One-off cuts and uplifts possible for large surplus or deficit. Experience reflected in full with no buffer.
4. Funding level is rebased each year to 100% (by adjusting the pension increases) so no surplus or deficit emerges. Conversion terms set the following year.

Some of the benefits of CDC for members include:

• Targets far higher benefits, up to 50% more per £ spend. Collectivisation allows an investment strategy that targets growth returns for longer.
• Improved member experience, relative to DC - no difficult member investment decisions (eg choice of funds, annuity vs drawdown) are required.
• Easier to administer from a member perspective, so less chance of poor member decisions leading to poor retirement outcomes.
• More intergenerationally fair than DB as CDC structure allows for age related benefit build up (avoiding cross-subsidies).

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Some of the benefits of CDC for employers include:

• Certainty on the costs to the scheme provided by fixed contribution rate with no risk of future deficits (as future indexation adjusted annually to balance the scheme).
• Employers are free to choose contribution rates (subject to DC auto-enrolment requirements).
• Support from trade unions, who have been closely involved in the development of CDC schemes.
• The higher expected benefits provided by CDC are attractive to members. This could aid recruitment and retention and help with workforce management.

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