Why collective defined contribution pensions aren't a magic bullet

interactive investor's Alice Guy comments on collective CDCs.

Interactive investors comments on the consultation outcome, "extending opportunities for collection defined contribution pension schemes."

Alice Guy, Head of Pensions and Savings, interactive investor says: “Due to the huge success of auto-enrolment and the demise of final salary pension schemes we now have situation where thousands of older workers are moving into unknown territory with many pensioners responsible for making their own decisions in retirement. It’s therefore great to see the government’s current focus on pension savers moving into the retirement phase of their pension journey.

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“However, the focus on CDCs is an unfortunate distraction. Recent rises in gilt yields mean that annuity rates are more attractive than they’ve been for years. But despite recent increases, only a minority of pension savers take them up, and there’s no evidence that CDCs will be any different. In reality, if you’re an older worker who has saved into your pension for years, it’s very difficult to give up the freedom to use your pot as you wish, especially with the risk that you’ll could end up with the raw end of the bargain you don’t live to a ripe old age and you’ll have nothing to pass on to your loved ones.

“In Holland, CDCs are causing headaches for the government, with incomes in retirement often not matching up to expected levels. There are also concerns that sharing risks between the generations isn’t fair, especially with an ageing population where young pension savers are increasingly subsidising older and retired workers.

“CDCs could be part of the solution in the UK, but they come with many drawbacks. They’re notoriously complicated to explain to investors, and in a world where most pension savers don’t take advise, they come with considerable risk that people will make uninformed decisions that could affect their retirement wealth. They are superficially similar to final salary schemes, but in reality, there’s still considerable investment risk which is born by the scheme members and income isn’t guaranteed.

“By definition, sharing risk between different members means some scheme members will miss out, perhaps those with health problems who will not be able to draw from the scheme for many years.

“Instead of focusing on CDCs, the government need to tackle the systemic problems in the pension system. There is currently a huge problem with engagement, with the majority of pension savers not understanding their risk level, how much they need to save, their pension charges, and if they are ready for retirement.

“The experience of the Netherlands shows that CDCs are not a magic solution. In fact, there are no easy solutions when it comes to retirement saving and regulators need to be clear about the drawbacks of CDCs as well as the advantages.”