A Times article about an airline it thought was in a Royal Mail “strike threatened” situation – it wasn’t and there is no CDC scheme.

It is interesting that DB is creeping back into debates.  I am surprised that there hasn’t been pressure for a more flexible approach to indexation and NPA (normal pension age)  to reduce the risk of DRCs (Deficit Reduction Contributions) and more pressure on the ludicrously strong Code.

Much as I have been a supporter of CDC and indeed Defined Ambition as concepts, I don’t like the RM (Royal Mail) design and it had led to the concepts going down a very fine alley.

 I am surprised there hasn’t been more argument for even more different ME (works for me)  CDC, but perhaps I haven’t been close enough to it.

This is a mail I received yesterday which helped me pass my time waiting for my operation. The italics are my guesses for the acronyms!

But the thought is that of someone who cares for pensions and recognises the importance of collective pensions for the lives of ordinary people, whose retirements are not being best served by Defined Contributions (no need for italics!).

Your thoughts please.

Before I respond privately, I will respond publicly to see if I can get views from readers as I’ve been getting recently (thanks).

My thoughts on this are that people who work have different needs from their employers. For those who get a pension from an organisation they have no association with, paying them as part of a contract but no more, then there is no loyalty, the employer could change and a new contract put in place. What point is a pension based on a fraction or percentage of salary paid many years in the future, that is meaningless.

If pension is paid as a promise, it needs to be paid either on an investment base (unguaranteed CDC) or on a covenant basis (guaranteed DB) basis.  If you get £100 paid into a plan where the contribution is guaranteed (DC) and the benefit is a pension (CDC or DB) then the promise must be based on the contribution , the age and maybe one or two things about the person getting the promise.

This is not what is happening at Royal Mail where the assumption is that staff paid when they are 22 will be there to pick up the benefits (or at least see a salary related benefit as meaningful). This I think is what my “e-mailer” means by not “liking” the RM system of calculating the benefit people get. Royal Mail ended up mimicking a defined benefit career average salary basis where salary is the basis of benefit not the contributions made.

The RM scheme is right for RM employees but they’re not like most of us. Most of us move jobs get lots of pension pots and need a pension scheme which we can transfer our money into so we get a simpler pension in retirement than a garden full of pension pots!

Tribute to Royal Mail workers btw!

I agree with my e-mailer , unless the amount paid on a DC basis is what is attained on a “with profits” basis then the benefit is meaningless for all but those who stick around or are close to retirement.

The with-profits approach I have in mind is very simple. For example, you get £100 paid into your pension and the pension scheme promises a guaranteed (DB) or investment estimated (CDC) benefit in the future. It may be a pension paid at today’s rate (say £5 per month) or in tomorrow’s rate – based on how long you have to wait till you get your pension starting.

Both DB and CDC schemes can set the amount promised to you when you get the contribution paid at a “challenging” or “easy” basis. That £5 per month can become £8 pm or £3pm depending on the trustees and the people setting the rates (who are likely to be commercial).

The challenging promise will be a hard one to keep. It could be paid at a lesser rate.  This applies to CDC  in particular – we do not want to get into a “rate promise war” as with profits policies did in the latter years of last century.

We need also be wary of  the easy basis  that some DB schemes are  likely to take, so that the guarantee isn’t too expensive. My correspondent refers to “deficit reduction contributors”, you don’t need to pay those if you don’t promise much.

I know it is more complicated than this, but this is how I explain it to myself. I want to explain the two ways that DC might be replaced over time by CDC or DB. I am considering this whether the exchange is made early in your career (whole of life) or late in your time working (at retirement). The benefit people are keen on CDC late in the day and  talk about “decumulation only” – where the CDC starts when you are “at retirement”, the actuaries talk about “whole of life” replacing DC as a savings scheme, starting as young as 20 or when you join the company/scheme.  Either way you are buying into a pension for the rest of your life.

The exchange is that a retirement income at a stated rate is paid to you in exchange for you giving up an investment account which gives you a “pot”. Each contribution earns you a relatively low amount of pension (the bit you can rely on either on a guarantee or on the say so of the scheme) while the eventual payment will be based on how your contribution has done when invested (CDC) or over the minimum return expected by the DB plan. The DB plan might pay more than guaranteed , the CDC plan can pay you more or less than the expected amount – depending on how challenging the promise set the investment manager was at outset.

This may be a bit hard to follow to you, but it’s easy enough for me as I was around in the eighties and nineties (and a bit into the 200o’s) when with profits was very popular. I know what can go wrong and it is this. If unscrupulous promises are made and can’t be met many years later, the pension is reduced and people are disappointed, this happened with endowments where people had to make up the shortfall to pay off mortgages and it happened with pensions where the employer or the self-employed person had to pay in money to get the pension they wanted and expected.

I don’t want to give people the idea that a pension promise under CDC is easy to meet, it isn’t. It means meeting targets (which is why a lot of my CDC blogs come with a target logo- like below). Personally I think that a CDC approach is ok so long as you trust the investment brand to deliver and that means trusting the pension- its trustees, its managers and the employer who has chosen it. I don’t think you’d enter one of these if your union or your employer or the Government did not think it was meeting regulations and likely to improve the employer’s brand with its staff or the union’s take up from its staff.

I do not think we take things on trust any more, we want to see numbers and hear ideas and be aware of what is coming out by way of charges before we allow others to manage our money. At least we do if we mean by “our” the money of ourselves and those we are looking after. We know that sooner or later , one of these DB schemes will screw up and we’ll be fully or partially saved by the PPF and we know that CDCs that screw up will pay out less than expected like the old with-profits plans so we’d better benefit from good management and good controls. But I think we have learned to take some risk sharing.

I also think that many of us would like to take “less than all” and be in CDC – where we insure each other and share the best results we can get. People will argue that this isn’t done fairly – but they are free to opt-out and take all the risk themselves.

Right now , those of us in DC plans are taking all the investment risk and we’re taking the longevity risk if we buy annuities or if we don’t. We are not – if in DC – behaving mutually, we are relying on our own decisions and our own judgement and frankly it scares me rotten (naughty word omitted).

So after a long blog (because it’s Sunday morning and I know  hope you’ll be up late), I come to the conclusion that most of us want to be in a collective scheme (either DB or CDC) and not a DC plan – where we are the boss and that CDC and DB are answers – at least at retirement and probably on a whole of life basis.

I think we’ve done with DC – as Royal Mail have done. As we are not Royal Mail (unless we work for them or someone where we are likely to stay there all our life), we will need something that harks back to with-profits but isn’t. We do not want another with-profits failure like we did in the first decade of this century, we want something that works better because it is more open and more understood. Hence this and many other blogs from me.