1.There are two main types of private pension in the UK:
a)defined benefit (DB), which promises members a specified regular pension income in retirement paid from a collective fund; and
b)defined contribution (DC), in which employer and employee contributions accumulate in an individual investment pot, which is used by the employee to purchase a pension product on retirement.
2.In DB schemes, the sponsoring employer takes the ongoing funding risk: if the scheme has insufficient assets to meet its pension promises, the employer must make additional contributions. DB pensions have been in steady decline. Sponsoring employers have found meeting their pension obligations difficult in the context of increased life expectancy, low interest rates and the decline of some traditional industries. In 2016, 1.3 million employees were actively contributing to a private sector DB scheme, compared to 3 million a decade previously. Many companies have sought to reduce financial risk by closing schemes to the accrual of further pension benefits. Alan Rubenstein, former chief executive of the Pension Protection Fund (PPF), which pays reduced pensions in the event sponsoring employers become insolvent, said “we now all recognise that we are moving towards an endgame for defined benefit pensions”.
3.Closed DB schemes are typically superseded by DC arrangements, and new private pension schemes are now almost exclusively DC. Membership of DC schemes has expanded dramatically in recent years following the introduction of automatic enrolment in 2012. Nearly 10 million employees have been automatically enrolled into pension saving. Guy Opperman MP, the Minister for Pensions (the Minister) described this as a “success story on a level and a scale that is beyond anyone’s wildest hope and aspiration”—an assessment with which we agree.
4.In a DC scheme, the individual saver shoulders the risk that their investment falls in value or doesn’t perform as hoped. DC saving is also, in effect, a tax-advantaged individual savings vehicle rather than a pension. When an individual decides to start drawing a retirement income they must identify a suitable retirement income product from a range of options. Those include:
5.Individuals, many of whom will have been saving passively, can find making an appropriate choice of retirement income product difficult. Drawdown options are currently twice as popular as annuities. Annuities have offered poor value in recent years given low interest rates. The regular income generated is also dependent on the value of the pot at the point of purchase, which can leave it at the whim of market conditions. Drawdown may provide higher total returns and the pot remains invested, meaning it is less dependent on market conditions at a single point in time. But the individual bears ongoing investment risk and could exhaust their pot, particularly if they live longer than they expect (this is known as longevity risk). Research suggests that a high proportion of DC savers aspire to a predictable, regular income in retirement—one survey found that over two-thirds of DC savers counted themselves as either “certainty seekers” or “steady spenders”—without having to manage risk on an individual basis.
6.The UK pension system is therefore polarised between declining DB schemes underwritten by employers and offering guaranteed regular incomes, and growing numbers of individual DC savings pots subject to risk and uncertainty. It is in the context of these challenges that we decided to examine collective defined contribution (CDC) pensions.
7.CDC pensions, which are not yet available in the UK, have received increasing interest as a means of retaining some of the benefits of DB and DC pensions while addressing some of the problems of each. The term CDC has been applied to a variety of existing and theoretical schemes with different characteristics. Their shared fundamental features are:
CDC offers a target benefit rather than a promised benefit. The primary tool for addressing underfunding of the pension target is through reducing the benefits (through lower indexation or cutting pensions in payment) to ensure that the scheme’s assets and liabilities remain aligned. As a result, risk is borne by the scheme’s members without recourse to an external sponsor.
8.CDC schemes are a major part of the pensions landscape in the Netherlands and Denmark.
The two countries are widely recognised as having among the best pension systems in the world.
1 Written evidence from Mark Rowlinson ()
2 ONS , table 3
3 Written evidence from KPMG (). The proportion of private-sector DB schemes that are closed to future accrual increased from 12% in 2006 to 39% in 2017. See PPF fig 3.2 Distribution of schemes by scheme status and year, p11
4 Defined Benefit Pensions White Paper inquiry (Alan Rubenstein)
5 Written evidence from Barnett Waddingham LLP ()
6 TPR June 2018
7 (Guy Opperman)
8 Written evidence from B&CE Ltd (), Barnett Waddingham LLP ()
9 (Hilary Salt); Barnett Waddingham LLP ()
10 Written evidence from B&CE Ltd ( and Unite the Union (). The reports published as part of our contained recommendations aimed at ensuring that DC savers are equipped to make well-informed choices and are well served by the pensions marketplace.
11 Financial Conduct Authority (FCA), , July 2017, para 1.7
12 TUC blog (30 Oct 2017) “”; TUC blog (14 Nov 2017) “”
13 Aon (Dec 2014) . Cited in written evidence from Royal Mail Group () Also written evidence from TUC () and Unite the Union ().
14 Written evidence from First Actuarial (), KPMG LLP ()
15 Written evidence from First Actuarial ()
16 Vews differ as to whether CDC can be classed as a form of “defined ambition” scheme [eg KPMG ], in that it aims to pay out a target benefit but with no guarantee, or whether the two terms are mutually exclusive: The Pension Schemes 2015 Act categorises “defined ambition” as synonymous with “shared risk” schemes which share risk between members, sponsoring employers and potentially third parties. For the purposes of this report, and in line with the 2015 Act, the term “defined ambition” is not applied to CDC, as CDC involves risk-sharing among scheme members only.
17 accessed June 2018
18 Presentation by Bastiaan Starink (Tilburg University, Netspar and PwC) to Pensions Workshop at Cass Business School, 9 April 2018
19 , David Rowley, PensionsExpert 3 April 2012
20 , accessed June 2018
21 , accessed June 2018
22 The most prominent global ranking of national pension systems, the , has placed Denmark and the Netherlands first and second in the last three editions (2015 to 2017). Both countries scored an ‘A’ grade in 2015 and 2016, meaning a “first class and robust retirement income system that delivers good benefits, is sustainable and has a high level of integrity.” Denmark and the Netherlands also rank 2nd and 4th in the 2016 .
Published: 16 July 2018