CDC is a novel form of retirement provision under which employers pay a fixed rate of contribution into the scheme and members are paid pensions with variable increases.
A change in law expected to allow employers to establish their own CDC arrangements is due as early as next year.
Unlike traditional, or individual, DC arrangements, where each member builds up a pot of savings that they may invest as they choose, under CDC each member is due annual retirement income but the savings are invested collectively.
Members are not required to make investment decisions, or decisions on their benefits as they retire.
Another difference informing the claimed superior performance of CDC is that investment risk is pooled and shared between members.
Willis Towers Watson’s work on the proposed Royal Mail CDC scheme informs a new guide which argues that, while in individual DC arrangements members typically reduce investment risk as they approach retirement, the pooling of risk in CDC allows its members to hold onto higher risk, higher returning assets for longer.
The guide's claimed 70 per cent improvement in pension compares to a DC pot annuitised at retirement.
Explaining the claimed outperformance by CDC of traditional DB arrangements, the guide states that DB schemes tend “to be constrained by having to protect from the risk of a sponsoring employer being unable to make good any deficit, and as a result most DB schemes hold lower proportions of return-seeking assets than a typical CDC scheme.
“Because of this, based on our analysis, for a given level of contributions, a CDC pension would typically be expected to be higher than that of a DB scheme, on average by around 40 per cent.
"For those employers with particularly low-risk DB schemes, CDC pensions could be twice the size or even more,” the guide states.
However, the guide makes clear that member communication will be of particular importance to CDC schemes, as pension levels must be variable in order that pension costs be fixed.
This means both that benefits will have to be calculated in a way transparent to and deemed fair by members, and that members will have to understand that pension levels, and their rate of increase, “may go down in some years and may be smaller than expected across retirement as a whole."
Commenting on the release, Simon Eagle, senior director and head of UK CDC at Willis Towers Watson, said: “One of the most compelling features of CDC is that, because pension levels are gradually adjusted to deal with experience, the scheme can afford to target higher investment returns than in most other pensions vehicles without short-term fluctuations in pension cost for the employer or pension level for the members.
"This means that, for a given amount of contributions, for each £10,000 payable from an insured annuity bought with a DC pot, or £12,000 payable from a DB scheme, the CDC scheme would pay £17,000. This helps provide employees with adequate pension levels.”
He added: “Initially, employers will only be able to access CDC if they provide it through their own trust.
“For CDC to become prevalent in the UK we would need further regulation from the government enabling CDC master trusts, so that an employer’s scale is no longer a constraint.
"In today’s flexible world of work, industry master trusts could be an especially effective way of providing CDC pensions, as members could continue to accumulate retirement contributions in the same scheme when changing employer.”
Legislation enabling the creation of CDC schemes forms part of the Pension Schemes Bill, is due to be debated in Parliament this week.
Benjamin Mercer is a reporter at FTAdviser's sister publication Pensions Expert