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Whether it's the conference floor or the taxi queue, any discussion on UK workplace pension arrangements usually starts with a single question, with two answers – DB or DC?
But recent years have seen a potentially seismic shift, introducing a possible third answer to that question: Collective Defined Contribution (CDC) schemes.
This quick guide to CDC lays out what makes these schemes different, and why they're being touted in some corners as the future of workplace pensions saving in the UK.
The basics
If CDC stands out as unique, let's quickly recap on what it stands out from: traditional DB and DC pensions, which have been the norm in UK workplace schemes for decades.
At its core, a defined benefit (DB) pension is a promise: a guaranteed income, payable for life. The amount of this income is calculated based on inputs like salary and length of service at time of retirement. That amount can be guaranteed because a sponsor (usually the member's employer) supports the scheme and bears the risk. A DB scheme can offer high levels of security in retirement, but the financial risk to the sponsor underwriting it has historically been significant.
A defined contribution (DC) pension is the quintessential pension pot. It's a pot of money to which members and employers contribute a percentage of salary. Funds are invested and generally grow over time, but there is no guarantee of a certain level of income. Risks like investment performance, inflation, and life expectancy rest with the member.
CDC schemes represent the cutting edge of UK pensions development – a workplace DC pension scheme, but not as we know it. The aim of these schemes is to provide greater security in retirement for members, without a corresponding increase in cost or risk shouldered by employers.
The dawning of CDC in the UK has been a long time coming. The legislative framework came in with the Pension Schemes Act 2021, but the very first of these schemes, the Royal Mail Collective Pension Plan, launched in October 2024 after being authorised by the Pensions Regulator in 2023. CDC schemes are now coming increasingly into focus, with the UK government's pension agenda looking to feature them, and their expansion, quite significantly.
Collective benefits
So how do they work?
CDC schemes are a type of DC pension, but with some aspects that appear similar to DB. Broadly, they look like the DC format, where contributions are made by employers and employees at a fixed rate. But those contributions are used to form a targeted income which, while not being guaranteed as in a DB scheme, represents a defined ambition of a certain level of provision in retirement. In other words, members build up a pension, not a pot.
The collective in CDC is aimed at alleviating some of the risks that individualised DC arrangements pose. A typical DC scheme is composed of a series of individual pots for each member, each unique and unlinked, weathering market turbulence on its own. CDC scheme contributions aren't paid into an individual, ring-fenced, and member-specific fund, but a collective fund for members of the scheme as a whole.
This collective format is aimed at allowing trustees to take greater risks in their strategies. By pooling assets and sharing risks, Trustees are able to look beyond individualised investment strategies to the possibility of greater returns over longer horizons, with greater ability to weather fluctuations in the market and a further potential to pursue, for example, less liquid asset strategies. It also allows for pooling of other risks, like longevity.
The hope is that this will mean that retirement pensions are greater than those provided under typical current DC arrangements, and will go some way to address the much-publicised “retirement crisis” of pensions sufficiency in the UK that is high on the government agenda.
Collective concerns
This isn't to say that CDC arrangements are without the potential pitfalls that come with any non-guaranteed pension plan.
An ambition, however lofty, is not a promise. While CDC schemes will target a certain level of pension that is increased through retirement, typically in line with inflation, the targeted or actual benefit will be adjusted each year based on financial conditions, and may even go down. Without the guarantee that underpins a DB pension, a CDC pension may still be less than hoped for depending on investment performance and financial conditions.
CDC schemes also lack some of the protections available to DB schemes – whether DB funding principles, employer debt legislation, or the ultimate fallback of the Pension Protection Fund, none of these will operate to safeguard CDC member benefits. They are, however, regulated by the Pensions Regulator.
Future
CDC features prominently in the UK government's pensions legislation roadmap.
The current regime allows only for single employers, or groups of connected employers, to participate in a single CDC scheme. Regulations have now been laid before Parliament to allow multiple unconnected employers, including as part of a commercial provider platform, to collaborate in opening and participating in CDC schemes.
This new system has the potential to allow wider participation in a market that, until now, has been the remit of organisations large enough to benefit.
Multi-employer schemes could allow for even greater economies of scale – smaller employers may now be able to participate in these schemes, benefitting from sharing both risks and resources.
Key takeaways
- CDC is a type of DC pension with some DB-style characteristics, with the potential to provide greater pensions in retirement than a traditional DC arrangement, with less financial risk being taken on by employers.
- CDC schemes can benefit from economies of scale, and pooling of risks and assets, but aren't underpinned by the guarantees that operate in DB pensions.
- The UK government is set to open up participation to unconnected employers, likely via platforms provided by commercial providers.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
