Steve Webb: Why advisers need to get ahead of RCDC

When it comes to retirement finances, there’s a new kid on the block that advisers will gradually need to get their heads around. And it’s one that the Government is increasingly keen to promote.

But, pensions being pensions, even the name of the product seems designed to confuse.

The product I am talking about is known in full as Retirement-only Collective Defined Contribution, or RCDC for short.
To make sense of what it means and how it works, let’s break down the name into its component parts.

Starting at the end, we are talking about a Defined Contribution pension arrangement. Despite all the bells and whistles attached to it, fundamentally there are no promises and no guarantees associated with this kind of scheme.

Next, let’s look at the adjective ‘collective’.

For many years, in the DC space at least, the UK has been something of an outlier compared with the rest of Europe. In places such as the Netherlands and various Scandinavian countries, pensions operate on a ‘collective’ basis. Rather than each member having their own individual pot, under CDC, pension savings are pooled with other savers.

Instead of each individual having their own small pot, savings are brought together at scale

There are several potential advantages to this approach.

First, instead of each individual having their own small pot, savings are brought together at scale. This enables the trustees overseeing the scheme to operate more cost-effectively and potentially to invest with longer time horizons in a wider range of assets.

Modelling suggests that, in many cases, this can produce better outcomes for the member than a DIY approach.

A second big advantage is that longevity risk is also pooled. Instead of each individual having to cope with the uncertainty over how long they live, trying to manage a drawdown pot for an uncertain future, with CDC the scheme pays a pension for as long as you live.

The Government is now paving the way for CDC schemes that people will be able to join at retirement

Next, we look at the ‘retirement-only’ part of the description.

In the UK, we recently saw the first whole-of-life CDC arrangement being operated by the Royal Mail on behalf of its entire workforce. This will potentially cover postal workers from joining the company on leaving school to the end of their retirement.

Soon we will also have ‘multi-employer’ whole-of-life CDC arrangements, which will extend the benefits of CDC to people across whole sectors of the economy and not just those who happen to work for particular companies.

But none of this is much use if you are already coming up to retirement.

So, the Government is now paving the way for CDC schemes that people will be able to join at retirement, even if they haven’t been in such an arrangement before. In fact, the Government is very keen for people to be nudged towards such schemes.

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So, it has recently delayed new obligations on pension trustees with regard to post-retirement default options to make sure that RCDC is up and running and a viable option for them to consider.

But what do you get out if you join one of these schemes? Probably the best way to think about RCDC is that it is like a ‘soft’ annuity, but probably paying a better rate.

At retirement, you hand over some or all of your DC savings and in return the scheme says it will pay you a target level of pension. It will aim to increase that pension each year to cover at least some of the increase in the cost of living. And it will do all of this for as long as you live.

However, because this is not an annuity, there is no contractual guarantee.

It’s all early days and the only ‘live’ CDC scheme is the whole-of-life scheme offered by the Royal Mail

If investments go well, you should get everything you were promised and possibly more. But if things don’t go as well as expected, you may miss out on your inflation increase and, in extreme cases (such as a 1920s-style crash), could even see your pension cut in cash terms.

Once there are multiple RCDC schemes in operation, we may see some variations in things like whether or not you can transfer out at a later stage, or whether you might get a minimum guaranteed payout to counter the risk that someone joins the scheme and dies soon after.

For now, it’s all early days and the only ‘live’ CDC scheme is the whole-of-life scheme offered by the Royal Mail. But we will soon have industry-wide schemes and retirement-only CDC arrangements on offer.

Advisers who understand how these things work will be in a good place to help clients to whom all of this will be rather new and strange – but might also be attractive in some circumstances.

Steve Webb is a partner at pension consultants LCP and was pensions minister from 2010-15