Occupational Pension Schemes (Collective Money Purchase Schemes) (Amendment) Regulations 2023

Lord Palmer of Childs Hill Excerpts

Tuesday 13th February 2024 Grand Committee

[The Parliamentary Under-Secretary of State, Department for Work and Pensions (Viscount Younger of Leckie) (Con)]

My Lords, I am pleased to introduce this instrument. Subject to your Lordships’ approval, these regulations will make two small technical amendments to the landmark Occupational Pension Schemes (Collective Money Purchase Schemes) Regulations 2022 to ensure that they operate in accordance with our published policy. The instrument clarifies requirements on trustees of authorised collective money purchase schemes, more commonly known as collective defined contribution, or CDC, schemes.

I will first set out the context. The Pension Schemes Act 2021 provided the statutory framework for CDC schemes in the UK. The guiding principle of our approach has been to ensure that it protects the interests of members. The Government believe that CDC schemes have an integral role in the future of pensions in this country. CDC schemes offer members a seamless transition from saving to receiving a regular retirement income.

We know that many people do not want, or feel ill equipped, to make complex financial decisions at retirement. The Government want to ensure that as many savers as possible can take advantage of the numerous benefits of CDC. By pooling longevity and investment risk across the membership, CDC schemes can shield savers from much of the uncertainty faced by members of DC schemes. This also allows the scheme actively to target higher investment returns for their members than a DC scheme through increased investment in growth-seeking assets. This in turn can lead directly to greater investment in vital UK infrastructure and the technologies of the future, such as transport and renewable energy. That is why the Government have provided the legislative framework for single or connected employer CDC schemes to be set up in the UK. The CDC regulations came into force on 1 August 2022.

Throughout the development of our policy, the Government have been engaging with stakeholders on how best to deliver CDC schemes in the UK and inviting challenge and scrutiny. In that vein, we have been helpfully advised that two areas of the current framework do not meet our published policy intent. CDC schemes can succeed only if there is confidence in this new type of provision. That is why it is important that we provide immediate clarity. This instrument ensures that, from the start, prospective schemes are set up to work as we intend.

I will now take noble Lords into the detail of this instrument. With regards to the first amendment, the existing regulations make provision in relation to the annual actuarial valuation and benefit adjustment process for CDC schemes. This means that each year benefits are reviewed and adjusted where required so that the value of assets held is in balance with the projected costs of benefits. This protects members from the need to fund a surplus and means that reductions to benefits are not deferred and stored up. Doing so would have a detrimental impact on future years and younger members, which would be unfair. It is important that CDC schemes follow strict rules around benefit adjustment to ensure that all members, without bias or favour, are subject to the same adjustments.

It is important that a balance is maintained between the value of the available assets of the scheme and the amount needed to provide the target benefits to members on an ongoing basis. If, for example, the value of the assets is lower than the amount needed to pay the benefits, the scheme may be required to make a cut to benefits to regain that balance. Conversely, if the value of the assets is more than the amount needed to pay the benefits, the trustees will be required to pay an increase to the members.

The policy intention is to provide that, where a cut to benefits must be made, the trustees of the CDC scheme can smooth the impact of the cut on members over three years. This is called a multiannual reduction. Regulation 17 currently provides that, if a subsequent annual valuation that occurs during a multiannual reduction shows that an increase in benefits is required, the trustees, having taken advice from the scheme actuary, will be required to apply that increase in addition to the planned reduction for that year under the multiannual reduction that is in effect.

I appreciate that this is quite complex, so let me provide an example of how it is intended to work in practice. In a period of extreme economic downturn where equities fall significantly in value, it is possible that a CDC scheme would have to make a cut to members’ benefits. Regulation 17 enables the trustees of the scheme to mitigate the impact of this market volatility on member benefits by spreading the overall cut over three years. To use an easy example, if the overall cut necessary were 6%—my maths is not too good, but here we go—the members’ benefits could be cut by 2% a year over the three-year period.

This mechanism helps to reduce volatility and ensures that current and future benefits remain relatively stable. It contrasts with individual DC schemes, where there is no pension-smoothing mechanism. Members of these schemes would have experienced a significant reduction in the value of their retirement savings immediately, which for savers closer to retirement may be unrecoverable. The intention of Regulation 17 was that, where a market recovered during the period of such a reduction, increases in benefits resulting from subsequent annual valuation would offset, in whole or in part, planned cuts under a multiyear adjustment before being applied as an increase to future benefits in the normal way. This would have the benefit that any bounce-back immediately after a period of very poor performance could help to smooth outcomes and avoid cuts, which would then be unnecessary, while maintaining the principle that the costs of current and future benefits remain in balance with the value of scheme assets.

If we did not do this, the benefit of the recovery would instead be likely to go to future pensioners. This would run against our principle that, as far as possible, all members—current pensioners, those who are currently accruing benefits and those who are not contributing but have rights to a future pension from the scheme—should all share in upsides and downsides at the same time.

The instrument also makes a consequential change to Regulation 19. Any variation to a multiannual reduction as a result of offsetting an increase against must be reported to the Pensions Regulator, ensuring proper oversight.

I turn to the second of these amendments, which addresses an issue that may arise where a scheme winds up and the value of members’ accrued rights are transferred to suitable pension schemes or alternative payment arrangements. A key element of the wind-up process is calculating the share of the fund for each person who is a beneficiary at that time. The scheme rules may provide that the person may be a member or a successor of that member. Potential successors will be determined by the scheme rules, but could include a spouse, a child, a cohabitant or a person financially dependent on the deceased beneficiary. That share of the fund is applied to the scheme’s assets at the end of the winding-up to produce the beneficiary’s pot, which is then used to discharge the scheme’s obligations to the member by transfer to another scheme offering flexi-access income drawdown.

I ask noble Lords to imagine a scheme that has provided for these categories of people to be a beneficiary under its rules. If a member of that scheme dies during the winding-up process, their benefits are reallocated to the deceased’s stipulated beneficiary. They are not reallocated among the collective. The policy intention has always been that, if the beneficiary dies during the winding-up period, the pot allocated to them would not be extinguished but would instead be reallocated among their successors, where a scheme’s rules provide for that. This instrument therefore amends Schedule 6 to the regulations to ensure that the deceased member’s accrued rights in wind-up may be discharged in this way.

In conclusion, CDC schemes are an important addition to the UK pensions landscape and, when well designed and run, have the potential to provide a good retirement outcome for members. The effect of this instrument will be to provide clarity for schemes moving forward by more accurately reflecting the intent of the regulations that it is amending. I commend it to the Committee and beg to move.

[Lord Palmer of Childs Hill (LD)]

My Lords, I thank the noble Viscount for his clarification of the papers, which is very welcome—as usual. This is a statutory instrument with a more than usually snappy title, which will probably be more noted than some of the things in the instrument.

This statutory instrument is good news. It helps pave the way, as I understand it, for the introduction of the UK’s first collective defined contribution pension scheme, which I believe is by the Royal Mail. Collective defined contribution schemes in various forms are common in Scandinavia, the Netherlands and Canada. Work on these risk-pooling arrangements started during the coalition years when we, the Liberal Democrats, worked collaboratively with the Labour Front Bench and the Communication Workers Union to get the Royal Mail to implement the first scheme of this sort. I believe that it has not yet gone live, although perhaps the noble Viscount can tell me more about that.

The next developments of CDC, in my view, are, first, the extension of multi-employer or industry-wide CDC—when does the Minister expect to publish the next consultation on this?—and, secondly, the development of retirement-only or decumulation-only CDC schemes, so that a person could take his or her own pot and pool it with other people’s. Any comments on that would be gratefully received.

These regulations tidy up some issues that are causing practical problems. The main part is to do with what happens each year, as the noble Viscount said, when a scheme reviews whether it has enough money to meet its target pension payouts. As things stand, if the scheme is short, it can reduce planned pensions. But what happens if, a year later, it thinks that things are better? What these regulations appear to make clear is that the first thing you do is reduce or eliminate the planned pensions cuts. I think this was covered by the Minister’s comment about “a smoothing mechanism”.

One thing that comes out of this SI is that, as so often, there seems to be a lot more valuation work for actuaries. I am sure they will be very grateful. I am very grateful for the guidance in the papers and the elucidation from the Minister. I think the principles are right and we on these Benches agree with the instrument.

[Baroness Drake (Lab)]

I thank the Minister for setting out the intent of these regulations so clearly and for arranging a briefing session with DWP officials engaged with CDC, who also provided a very helpful briefing document. It probably has reduced the number of questions that my noble friend and I have—although I suspect the Minister will take very little comfort from that observation.

The regulations amend the Occupational Pension Schemes (Collective Money Purchase Schemes) Regulations 2022, in two key ways. In the first instance, they amend how reductions to members’ benefits in a CDC scheme can be smoothed following a fall in the value of assets held. Given the Government’s opposition to any buffer fund in a collective DC scheme to manage volatility and assets, intergenerational fairness or cuts in benefits, clarity on how the legally permitted smoothing mechanisms operate is indeed important.