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Pension reforms given go-ahead

Pension reforms given go-ahead

Category: Pensions

Updated: 24/04/2017
First Published: 27/06/2014

This article was correct at the time of publication. It is now over 6 months old so the content may be out of date.

Plans to radically overhaul the UK pensions system have been given the go-ahead, it was confirmed yesterday, with Pensions Minister Steve Webb set to proceed with his reforms.

So-called defined ambition pension schemes will comprise a key part of the proposed changes. Legislation is passing through Parliament which will see the most common form of workplace pension, defined contribution schemes, able to be developed into those that are run on more of a shared risk basis.

But just what does it mean? Well, defined ambition pension schemes will mean employers share the risk with employees, with this style intended to offer more certain outcomes (and therefore retirement income) for workers as well as reduced costs for employers.

Collective pension arrangements based on risk-pooling models can also be developed. These collective defined contribution (or CDC) schemes are popular in the Netherlands and, as the name suggests, work on a collective basis. Unlike with traditional schemes the employee makes his contribution to a collective fund rather than an individual one, with the resulting income being derived from that shared pot.

This type of pension is meant to spread investment risk among workers – and even across generations – but even though the Department of Work and Pensions found that 28% of employers would welcome the move to risk-sharing arrangements, it's been met with some criticism too.

"This is a moderately good idea being delivered at a particularly badly timed moment," said Tom McPhail of Hargreaves Lansdown, with employers already having to adapt to auto-enrolment and savers being met with new pension freedoms.

There's the possibility that risk sharing in CDC pensions could lead to improved payouts in retirement, as well as eliminating the decision-making process over how to draw an income as the scheme provides that income throughout, but this needs to be offset against the risks involved.

The funds could underperform and lead to poor returns for members, with it potentially an unfair system where some members could be subsiding the pension pots of others. It's also largely incompatible with new budget freedoms, and employers may be faced with a decision on auto-enrolling their employees into a CDC scheme – where they have a guaranteed income – or one where they can take all the money should they choose, as the new reforms have allowed.

An additional criticism is that CDC schemes discourage individual engagement in pension planning, as everything is effectively decided for them. Time will tell whether this form of saving will become prevalent, but as Tom McPhail adds, "we have yet to come across a single employer who has confirmed that they definitely intend to introduce one of these new schemes for their employees".

What next?

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