Norman Stein calls for an end to conflicts of interest in investment advice (July 8, 2013)

Norman Stein calls for an end to conflicts of interest in investment advice (July 8, 2013)


At a briefing for Congressional staff on the harmful impact that H.R. 2374 would have on retirement security, PRC Senior Policy Advisor Norman Stein detailed the need for unconflicted investment advice in retirement plans and called for the defeat of the bill. For more information, read the Pension Rights Center’s July 8, 2013, letter opposing H.R. 2374.

I’m speaking today both as an academic—I teach tax and benefits law at Drexel University—and as Senior Policy Advisor to the Pension Rights Center—a 37-year-old consumer advocacy organization dedicated to protecting the rights of employees, retirees and their families in retirement plans.

I’ll be discussing the threat proposed legislation, H.R. 2374, poses to the Department of Labor’s ability to move forward with its regulatory process to ensure that Americans receive unbiased investment advice about how to invest their assets in 401(k) plans and individual retirement accounts.

Our nation is experiencing a looming retirement crisis. The Center for Retirement Research estimates that we have a $6.6 trillion retirement savings gap—the difference between what people have already saved for retirement and what they already should have saved.

This is an enormous savings shortfall and it is compounded by permitting salespeople with serious conflicts of interest to advise people how to invest their 401(k) and IRA money.

So this issue is not just academic. It’s about protecting real workers, real retirees, and their families from real harm.

To understand why investment advisors are permitted to give retirement advice despite serious conflicts of interest we need to go back in history a bit.

For those of you who may be new to these issues, ERISA is the pension reform law that Congress enacted in 1974. It sets high standards for the people who run retirement plans and for the people who give investment advice that affects retirement savings.

ERISA says unambiguously that people and firms that give investment advice to people in retirement plans are fiduciaries and that fiduciaries cannot generally have disabling conflicts of interest. This is not a new idea. It has been the law for close to half a century.

But in 1975 the Department of Labor adopted a regulation that artificially constricted the meaning of investment advice. That regulation said that ERISA only makes an investment advisor a fiduciary if the advice is continuous and there is mutual agreement that the investment advice will be the primary basis for making investment decisions.

So under this narrow definition, an investment advisor can shed his fiduciary status simply by saying that any advice I give you is not intended to serve as the primary basis for your investment decisions.

Why was the definition so narrowly constructed?

Well, the world in 1975 was a very different world than it is today. Steve Jobs was still tinkering in his dad’s garage, e-mail meant mail in envelopes, Jennifer Aniston was in first grade, and more pertinent, the 401(k) plan had not yet been invented and only a few thousand individual retirement accounts had been opened.

Few plans gave individual participants the responsibility of making investment decisions—instead, plan assets were generally managed by professional money managers and they were the ones who received investment recommendations from brokers and others. These money managers had the experience and sophistication to evaluate investment recommendations and to identify the conflicts of interest of those people who made the recommendations.

The world has changed in the intervening decades. Today, some 60 million workers participate in 401(k) plans and assets in IRAs exceed $5 trillion dollars, with the majority of the IRA money flowing from roll-overs from employer-sponsored retirement plans.

The people participating in 401(k) plans and IRAs are, for the most part, everyday people without extensive investment training or experience. As a result, they are highly dependent on the advice offered to them by the investment industry.

Unfortunately the recommendations they receive are sometimes infected by serious conflicts of interest. Some brokers, hiding in the shadows of the 1975 regulation, guide their clients toward investments that maximize the broker’s commissions and other compensation, regardless of whether the client might be better served by other investment options.

And here this gets a bit personal for me. My brother and I recently went over my 85-year-old mother’s investment portfolio with her. Her investment adviser had her primarily in a mutual fund invested 46 percent in stock and 35 percent in junk bonds, a ridiculous level of risk for an octogenarian. So why was my mother in this risky fund? Well, it paid her broker an extremely high sales fee and continued to pay his firm fees for each year my mother remained in the fund. I suspect that these payments may have clouded her broker’s judgment.

It is thus good, necessary, and fitting that the Department of Labor is looking to update its 38-year-old rule to address current reality.

Of course, no one yet knows what a new regulation will say, but we do know that representatives of the investment industry and consumer advocates, such as the Pension Rights Center, will have ample opportunity to review and comment and engage in dialog with the Department of Labor when it does propose new rules.

Congress should defeat H.R. 2374 and allow the Department of Labor to do its job of protecting the retirement savings of American working men and women.

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