Collective DC (CDC) may become default option at retirement according to a new report for Aon, which predicts these schemes will ‘transform’ the retirement landscape.
The investment consultant says that CDC decumulation-only option offer retirees higher incomes than an annuity, but with more certainty than drawdown, while not requiring ordinary investors to make complex decisions around investment, sustainable withdrawal rates or longevity.
The report points out that at 65-year old can, on average, expect to live to the age of 86. However, they face a 50 percent chance of their actual lifespan lying somewhere between age 80 and age 93. Regardless of the size of their pension pot at retirement, this means they have a very real challenge when deciding how to budget for this uncertainty, and balance the pace at which they spend their retirement savings against how long they might live.
Aon partner and head of collective DC Chintan Gandhi says: “This is where CDC can help, as it can provide what the majority of pension savers want in retirement: a target, inflation-linked income, which is payable for life and does not require them to make complex financial and investment decisions.”
Aon associate partner and collective DC specialist Madalena Cain adds: “Aon’s research shows how retirement outcomes might look like from a CDC decumulation solution, as compared with annuity purchase and, in particular, income drawdown.
“We conclude that CDC provides, on average, higher outcomes in retirement than annuity purchase, while also providing the certainty of an income for life that drawdown cannot.
“We also note that we may see demand for CDC to become a default decumulation option – which is something that does not currently exist at an industry level in DC. However, the value of a decumulation default is widely recognised in a culture where pension savers currently have to become financial and longevity ‘experts’ at the time they retire.”
Aon adds that unlike an annuity purchase and income drawdown, CDC does not need to be an ‘all or nothing’ option at retirement. Perhaps the greatest value CDC brings as a decumulation solution, is when it is used alongside existing options at retirement – in particular alongside income drawdown.
The report points out that retirees could, for example split their pension pot by taking 25 percent as a tax-free cash lump sum and using 60 percent to buy a CDC pension, with the remaining 15 percent being put into drawdown, providing flexibility and/or potential inheritance benefits for their partner and/or children.
Gandhi says “For this sample retiree, it may strike a sensible balance between cash up front, flexibility during retirement, and the comfort of knowing they will have an income that supplements their state pension and lasts until the day they die – and without having to make complex decisions in retirement. Their combined lifetime income in retirement can then be used to budget and to enjoy the retirement they have worked so hard towards.”