Is your #DC plan a #DB plan?


If not, it is not up to scratch.

Most people accruing occupational pensions these days are accruing benefits under a defined contribution (DC) arrangement. The benefit value is the accumulated value of the contributions over time, with investment returns less fees and taxes.

If you are in such a DC scheme, you should ask yourself if the scheme is a DB scheme. It may sound as if I have been imbibing a little too freely at the drinks cabinet to make such a statement. DB schemes are most assuredly not DC schemes, so what is this nonsense about a DC scheme being DB?

The issue is fundamental to investment and saving. No-one can prepare to fund a retirement income in a DC scheme without knowing what the benefit is meant to be. It is the nature of the benefit, in desired amount, duration and resilience that governs how much to save, how to invest and when to retire. Benefits funding retirement are liability cash flows. They need to be met, at the right amount and at the right time, otherwise the retiree may suffer hardship. In DB schemes, the benefit is defined in advance and the scheme sponsor and management contribute and invest to reduce the probability of not meeting the defined benefits to an acceptably low level. There are consequences in the event that the liability cash flows are not met from the action of employment law and prudential law governing occupational pension schemes. In the case of a DC scheme, there are also consequences of not meeting the liability cash flows – they are not the same as the consequences in the DB scheme’s case, but nonetheless, they exist and cause hardship.

There is something wrong with a system of DC schemes that requires employees to decide how much to save, how to invest and when to retire but will not advise the poor sods how to work that out. In fact, under the Australian system, it is generally illegal to advise people anything about financial decisions. Most of the rules and regulations that govern Australian superannuation focus on the accumulation phase and relatively trivial matters such as what must be disclosed to members (so much that they cannot absorb much of it at all) and a myriad of rules about fees that is mind-numbing. 

Real progress will be made when the mindset changes from wealth accumulation to investing to meet a defined set of cash flows. Your DC scheme should be treated by you as a DB scheme.

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