Why collective pensions won’t work in the UK

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The Queen's Speech this week is expected to include plans to introduce 'Dutch-style' collective defined contribution schemes (CDCs) in the UK.

These would give workers the option of saving into ‘collective’ pension schemes which, according to ministers, could boost incomes up to 30 per cent. 

Rather than being run individually, savings would pooled with those of thousands of others.

While proponents of the scheme say that its lower costs would boost final incomes, Tom McPhail, head of research at Hargreaves Lansdown, isn’t so sure the scheme is right for the UK. 

He explains why here:

1. CDC didn’t work before

We used to have collectivised pensions in the UK, called With Profits funds. However investors now shun these investments because of their complexity, lack of transparency, and poor management.

2. They are unfair

With the best will and skill in the world actuaries won’t be able to distribute money fairly between generations, between social groups, and between individuals. In particular CDC schemes will benefit the affluent, who tend to live longer than low earning workers. By contrast, the individual pension accounts we currently have in the UK allow individuals to buy enhanced annuities if they are in ill health, or have a lower life expectancy.

3. They are inflexible

Steve Webb has had his CDC policy stewing on the back-burner for the past couple of years; at the last minute, George Osborne has unveiled his ready-to-eat microwave pension policy of giving everyone their money back and not surprisingly it is proving rather popular. The Budget has introduced sweeping freedoms to how people draw their pension, which would not be open to those in CDC schemes. Any employer who decided to implement a CDC scheme would have to explain to employees why they can’t take part in the freedom everyone else enjoys.

4. We don’t have a collectivised labour market

In the Netherlands, where CDC schemes are prevalent, the labour market is more heavily unionised and employers work together more. In the UK, employers simply don’t make pension decisions in conjunction with other employers. Employers might be persuaded to embrace these schemes but ironically, the Department for Work and Pensions (DWP) has just abolished the commission and consultancy charging system which might have been used to pay the pensions industry to promote these schemes to employers.

5. There is no demand

None of the employers we speak to are talking about CDC. They are talking about auto-enrolment, the impending charge cap, the impact of the Budget, and getting employees engaged. Meanwhile over in the Netherlands, employers are looking to the UK model of pension provision and wondering whether they should adopt our approach.

Are there any potential benefits?

Potentially there are some benefits:

• Larger pools of money could result in lower charges. However, this would require CDC schemes to achieve a scale we doubt employer demand would support. Furthermore if the money is not well invested this could easily offset the small reduction in costs.
• CDC schemes might also allow members to keep invested in equities for longer, rather than locking into an annuity at retirement. However, since the Budget, pension savers can do this anyway.
• CDC schemes would keep more actuaries in jobs, perhaps why most are so in favour of their introduction.

So what is the alternative?

Under the current DC pension framework, investors can take a tiered income, with their basic state pension providing a secure base; an annuity tailored to their individual needs, circumstances and life expectancy topping it up with additional secure income; and a flexible drawdown style fund invested in equities providing a top up income and maximising investment returns.

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