Government following through on promise to promote CDC as an exciting new option for savers and UK plc

The DWP has this week published its response to the consultation on expanding collective defined contribution (CDC) provision to multi-employer schemes with “unconnected” employers (in effect, its consultation on opening the door to industry-wide schemes and commercial providers of CDC arrangements, including CDC master trusts).

The key headlines from the response are these:

• The Government is pressing ahead with the expansion of “whole-of-life” CDC (i.e. arrangements which offer accumulation and decumulation in one vehicle) to multi-employer schemes with “unconnected” employers.?
• It plans to consult on the required changes to regulations in the autumn.?In line with our expectations and the (generally) supportive consultation responses, the DWP’s response highlights that much of the regulatory architecture for individual and connected employer CDC schemes (contained in the Pension Schemes Act 2021 and the Occupational Pension Schemes (Collective Money Purchase Schemes) Regulations 2022) will apply to multi-employer schemes with “unconnected” employers.
• The consultation is clear that the Government wishes to explore the opportunities presented by decumulation-only CDC arrangements.?But the tenor of the response is very much that these, and the attendant risks, require further consideration.?It’s encouraging to see the DWP’s commitment to continuing engagement with the Pensions Regulator, the FCA, PRA and the pensions industry as part of this.?There will undoubtedly be significant learnings around the explanation and promotion of products and selection risk which the FCA and individual DC providers can offer.?While relevant to whole-of-life CDC arrangements, these issues may be particularly salient for decumulation-only arrangements where savers are moving their retirement pots from an arrangement which they understand (in theory, at least) to a new form of pension provision.

Interestingly, the Government decided to publish the response as part of an impressive suite of consultation and briefing materials released in the immediate aftermath of Jeremy Hunt’s Mansion House speech on 10 July 2023.

In one sense, this was unexpected.?

Much of the buzz around CDC has rightly been about providing better outcomes for pension savers (relative to more traditional, “individual DC” arrangements), while offering more certain costs to employers (relative to defined benefit arrangements), and not the potential opportunities for UK plc which could be opened up by the investment of pension savings in growth assets (an overarching theme of the Mansion House speech).

On another level, linking this latest CDC consultation response to the Mansion House speech makes good sense.?

There is justifiable scepticism in some quarters as to whether the proposal to unleash DB and individual DC schemes to invest in growth assets, such as unlisted equity and infrastructure, will lead to the scale of investment which UK plc needs (one recent analysis, by the Institute of Public Policy Research, put a c.￡500 billion total on the level of public and private sector “underinvestment” in the UK relative to its G7 peers in the period 2006 to 2021 (Now is the time to confront UK’s investment-phobia |?IPPR)).?Will an individual saver really want to risk their hard-earned DC retirement pot on a fund which invests in untested green technology??Is the investment of a sufficiently large chunk of DB schemes’ assets in infrastructure feasible given the trust law and regulatory context in which DB scheme trustees operate?

Clearly, UK CDC investment will take time to bear fruit in practical terms, given the market does not yet exist.?But in theory, and given the current regulatory environment for DB and individual DC, CDC arrangements arguably offer a more realistic and compelling vehicle through which to invest for long-term growth.?This is due to a combination of features which are typically inherent to CDC schemes: the pooling of investment and longevity risk; the longer time horizon to invest (in a typical individual DC arrangement, most of the investment risk is only taken pre-retirement and significant de-risking starts 10-15 years pre-retirement); and the “non-guaranteed” nature of CDC benefits (benefits can ultimately be scaled back if, e.g., projected investment returns are not realised).

For the detail-lovers, there are a handful of other points worth drawing out from the consultation response:

• It is encouraging to see the DWP continuing to press the theme of transparency in scheme design and member communications.?This issue will only become more important as the CDC market is opened up to commercial providers.?Indeed, to my lights at least, transparency must be a fundamental tenet of both the regulatory regime and the market given that CDC benefits are not “guaranteed” (to the extent that even DB benefits can be said to be guaranteed, given the scope for an underfunded scheme’s sponsor to go bust and a PPF haircut to apply). ?Two important means of promoting transparency noted in the consultation response are:
• The DWP proposes to bring those marketing and promoting CDC schemes within the fit and proper persons requirements which apply to, e.g., CDC trustees.
• Rather than require multi-employer CDC schemes to produce materials used for marketing schemes on a basis prescribed in regulations, the DWP is exploring with the Financial Reporting Council “how its Technical Actuarial Standards would play a role in ensuring that appropriate assumptions are used in the actuarial work in relation to marketing of multi-employer CDC schemes” and “what actuarial standards could be put in place with regards to the actuarial assumptions which must be used in providing illustrations for multi-employer CDC schemes”.
• The DWP agrees that an amendment is needed to clarify its policy intention in the scenario where a multi-annual reduction (where the impact of the benefit reduction is to be smoothed over three years) is initiated following poor investment performance and there is a subsequent positive bounce-back in investment, so as to allow the CDC scheme to take that bounce-back appropriately into account in its benefit adjustment process.?This amendment will be included in the draft regulations the DWP aims to consult on later this year.
• The DWP also confirmed its intention to amend the relevant regulations to make clear that, during the wind-up of a CDC scheme, the accrued rights of the dependants and survivors of members, or survivors of dependents, can be transferred to a flexi-access drawdown arrangement. ?Again, the proposed amendments will be included in the consultation scheduled for later this year.
• An interesting possibility highlighted is the need for minimum capital requirements for those establishing trust-based decumulation-only vehicles.?The DWP plans to liaise with the FCA and PRA on this issue.

This is a fascinating time for CDC, and UK pensions more generally, and we await the DWP’s follow-up consultation on the proposed draft regulations with interest.

Slaughter and May is advising Royal Mail on the establishment of its new CDC scheme, scheduled to be the first of its kind in the UK.