In an age where few people have guaranteed pension benefits, a new U.S. Department of Labor revamp of retirement savings regulations is aimed at stockbrokers on behalf of the middle-class savers, but business groups say the new rules will only create more confusion.
The fiduciary rules target the billions of dollars in fees paid annually by investors, especially when they transfer money out of their employer-sponsored 401(k) accounts into individual retirement accounts, which is typically done when people change jobs or retire.
While 401(k) managers are required to operate in the best interests of clients, those who manage IRAs have not been. The new rules purportedly were written to protect consumers who engage with financial-product salespeople who can earn more selling certain products, as those brokers will now have a fiduciary responsibility to clients.
“It’s intended to ensure that financial advisors are putting the interests of their clients first and foremost, as opposed to their own personal interests in terms of the investment advice they are providing on investment products,” states attorney Brian Anderson of the Madison office of DeWitt Ross & Stevens. “Some investment products pay more [in fees] to the advisors.”
Failed fiduciary
IRAs have not operated in a protected environment, but 401(k) plans already are covered under the federal Employee Retirement Income Security Act. ERISA has fiduciary rules built into it and requires anyone who provides financial advice regarding 401(k) plan investments to act as a fiduciary on behalf of plan participants. There have been class-action lawsuits alleging that 401(k) managers have violated their fiduciary duties because they were not paying attention to the costs and fees involved with the plans.
While many financial advisors are skeptical of the new rules, Brent Lindell, a financial advisor for Savant Capital, is sympathetic to the need for greater accountability and that’s based on the fiduciary history with 401(k)s. Since 2006, he notes that approximately 60 companies faced employee lawsuits over the lack of fiduciary care. “Currently, there are hundreds of millions of dollars of related litigation out there against employers,” he notes.
For stockbrokers, the rule essentially requires them to act as fiduciaries that serve in their clients’ best interests. It replaces the old standard, which only required brokers to offer “suitable” recommendations. That standard has drawn fire from consumer watchdogs who believe it failed to discourage excessive fees or incentivized investments with hidden commissions.
“The most significant impact of the new rule is to extend to the IRA world these fiduciary obligations on investment advisors,” Anderson says.
The Obama administration believes retirement advice offered by financial professionals with a conflict of interest costs American consumers $17 billion a year, much of it due to exorbitant fees, and cuts into their annual return on retirement savings by a full percentage point.
Jeff Zients, director of the White House National Economic Council, was matter-of-fact about the rule’s intent, telling reporters it addresses a business model that bilks hard-working Americans out of their retirement money.
Anderson says there has been a lack of clarity about broker compensation. For individuals who work with a financial advisor, “it’s kind of opaque in terms of how the advisor gets paid,” Anderson notes. The financial industry has taken advantage of that lack of knowledge and a lack of client willingness “to really dig into that,” he adds.
Some firms reward brokers for selling certain products the firms are promoting. “That lack of knowledge on the part of the consumer or the client who actually owns the investment is part of what’s going to change here,” Anderson states.
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The critique
Critics blasted the rules, saying they will result in fewer choices for middle-class savers. The U.S. Chamber of Commerce is considering a lawsuit to block the regulation, in part because it believes the rules will make offering retirement plans harder and costlier for small businesses.
David Hirschmann, head of the chamber’s capital markets division, is among those who think the rules are unworkable. He notes they create one set of rules for mutual funds, another set of rules for what to do with 401(k) plans when people change jobs, and another for choosing investment options within their 401(k)s. “How is this more clear and better for investors?” he wrote in a blog that appears on the Chamber’s website.
Hirschmann also believes the new rules will create two classes of savers — those who can afford to pay higher fees to have someone help manage their money and those who will lose access to wealth management advice because their accounts aren’t large enough to cover costs imposed by the new rules.
Other critics, noting the Labor Department also has proposed waivers from ERISA, believe the administration is trying to ratchet up the potential legal liability for private plans in order to steer consumers toward new government-run retirement plans that won’t have the same regulatory burdens that private employers do. One of their predicted outcomes is that it will result in the government raiding retirement accounts to pay for other programs.
Whatever unfolds, there is little doubt the rule will change the way the financial industry provides advice on retirement savings. One provision requires investment advisors who want to continue receiving commissions or other compensation to enter into a “best-interest contract” with clients in which the adviser pledges to put the clients’ interests first.
Since an initial draft of the rule was published last year, the Department of Labor received more than 3,000 public comments, and Labor Secretary Thomas Perez notes some industry concessions were made as a result. They include the streamlining of paperwork, the curbing of disclosure requirements, and modifications that give investment advisers more flexibility to promote their own products.
In another concession, the administration agreed to give brokers more time to adjust to the rule. Its original proposal set forth an eight-month implementation period, but the final rule phases in compliance on several provisions by April 2017. The deadline for full compliance is Jan. 1, 2018.
Balancing act
Anderson believes the new rules strike an appropriate balance in protecting consumers, ensuring that investment counseling is still an attractive profession, and ensuring that consumers have access to investment advice when they need it.
Instead of class-action lawsuits, he also believes the rules will lead to more legal action by individual investors who feel they are not well served. That won’t happen overnight, he adds, but investors will hold investment advisors accountable based on the best-interest standard that will be part of the aforementioned contracts.
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