In late January 2009, the clouds obscuring the 401(k) advice landscape momentarily lifted. That’s when the U.S. Department of Labor issued final regulations for the Pension Protection Act of 2006 that vastly liberalized the rules governing investment guidance in the workplace.
But, within days, a regime change occurred. The Obama-ites put the last-minute Bush regulations on hold, intending to put a new spin on them. Where the Bushies were inclined to loosen the reins on commission-based advisors in the workplace, the new Secretary of Labor, Hilda Solis, now talks about adding “automatic annuities” to plans as an exit strategy.
Companies that provide 401(k) education and advice are now waiting for further instructions from the DOL. Among them is Ernst & Young, the accounting and consulting firm. Besides advising Fortune 100 companies on designing 401(k) plans and choosing vendors, E&Y also offers telephone help-lines and general financial education that put it on the front line of what has become a participant education battlefield.
| Regulatory Timeline on 401(k) Participant Advice |
|---|
| 1996: DOL Interpretive Bulletin 96-1. Clarifies the distinction between non-fiduciary participant education and fiduciary investment advice.
2001: DOL Advisory Opinion 2001-09A. Allows investment provider to give participants investment advice via an ‘independent financial expert’ using ‘objective criteria.’ 2001-2006: Retirement Security Advice Act, Independent Investment Advice Act. Two legislative proposals that did not pass. 2006: Pension Protection Act. Allows auto-enrollment, creates QDIAs, and allows advisors with conflicts of interest to offer participant advice under controls. 2007: Field Assistance Bulletin 2007-1. Provides guidance on allowing a ‘fiduciary adviser’ to render advice with an unbiased computer model or with ‘fee-leveling.’ January 2009: DOL Final Rules. Liberalizes restrictions on advice from advisors with conflicts of interest. Put on hold by Obama administration. December 2009: DOL Announcement on ‘Automatic Annuities.’ Secretary of Labor Hilda Solis announces interest in income annuities as a default distribution option in defined contribution plans. |
“It’s one of the best-kept secrets that a large accounting firm does this,” said Lynn Pettus, national director of the firm’s Employee Financial Services Practice, which runs a telephone call center in San Diego and offers educational websites and online calculators. “We’ve been in financial counseling and rank-and-file education for about thirty years.”
To shed light on the state of participant education, Pettus and colleague Hall Kesmodel published a paper last September under the auspices of the Pension Research Council at The Wharton School. The study, “Impact of the Pension Protection Act on Financial Advice: What Works and What Remains to Be Done?”
Their paper makes timely reading for anyone who wants a better grasp of the current state of participant education, an overly politicized realm that is related to the retirement income market as Serbia was related to World War I. That may be an exaggeration, but not a huge one.
Here’s why: Plan participants desperately need neutral advice on converting their savings to lifelong income. Financial services providers desperately want access to the multi-trillion rollover market that participants as a group represent. Plan sponsors are stuck in the middle with fiduciary responsibility and costs. The stakes and the potential for paralysis are immense.
Unresolved problems
Pettus and Kesmodel aren’t entirely disinterested observers. Their paper advocates what E&Y sells: holistic financial advice as opposed to specific advice on choosing investments. But they do a good job of summarizing the existing legislative and operational landscape as well as unresolved problems in participant education. Some of those problems are:
Many participants prefer not to confide in a computer. The computer models that are now used to provide automated investment and financial guidance increasingly rely on the input of detailed personal financial information from plan participants.
But few “are inclined to input the required personal information (from all of their various accounts) to obtain investment advice, and even fewer understand advice tool outputs and investment concepts,” Pettus and Kesmodel write. (For more on issues surrounding consumer use of online planning tools, see this week’s RIJ cover story, “The Trouble with Calculators.”)
Programs lack distribution advice for older participants. “Decisions facing today’s plan participants approaching retirement include: when to commence defined benefit pension benefits; whether to elect an annuity or a lump sum; when to begin Social Security benefits; determining the appropriate level of cash reserves versus invested assets; whether to pay off their mortgage; and ordering and timing account withdrawals to minimize taxes,” the paper said.
“With so many more people nearing retirement, the thought is, ‘We’ve built these assets, and now that I have these funds, what is the distribution process?’” Pettus said. “In the past, we’ve always talked about financial planning as accumulation. But now how do we manage the drawdown?”
Retirement isn’t always a participant’s top priority. Only 30% to 45% of plan participants say that saving for retirement is their long-term savings goal, especially when compared to college tuition, home ownership or automobile purchases. Studies show that ‘don’t have enough money’ was a much more common reason (23%) for not contributing to a workplace savings plan than dissatisfaction with investment options (4.3%) or plan complexity (2.2%).
Kesmodel believes that, generally, people who have credit card debt or who lack a ‘rainy day fund’ for routine cash crises should probably remedy those issues before worrying about their 401(k) plan, let alone take risks with their investments.
“The broader picture is that you shouldn’t pile every dollar into your 401(k),” he said. “And if you have credit card debt and no rainy day fund then you shouldn’t be in the stock market.”
QDIAs aren’t a panacea. While the PPA allowed managed accounts and TDFs as qualified default investment options in employer-based retirement plans, Pettus and Kesmodel believe these solutions may raise as many questions as they answer. Participants may need significant education in choosing one of several default options. TDFs proved not to provide adequate protection from a default option not know how to choose among advice tools and QDIAs.
Employees’ average tenure is only four years. While common sense suggests employees work longer at big companies, the average job tenure in America is only 4.1 years. Financial education is likely to be fragmented at best. And, according to one study, 43% of older workers with at least $50,000 juggle more than six separate checking, saving and investment accounts.
Universe of options still unexplored
Even when the DOL gets around to re-tooling the PPA regulations to suit Secretary Solis, the PPA didn’t have anything to say about showing participants how to convert savings to income, the E&Y authors point out.
“The PPA is focused on investment advice and fund selection in 401k, but that’s a small piece of the puzzle,” Kesmodel told RIJ. “PPA failed to consider that there are much broader issues at play here with respect to ensuring that participants have a secure retirement.”
The E&Y paper concluded that “future advice might need to include income product selection (e.g., managed pay-out mutual funds vs. annuities)” and that “employers will also confront a decision on how (or if) to automate this payment process and whether to provide employees with pay-out options inside or outside the plan, and/or educate participants on the universe of options beyond the plan for managing retirement income derived from their 401(k)s.”
That could happen in 2010, if Solis follows through with an announcement last December that one of her priorities for this year is to work with I. Mark Iwry, an advisor to the Treasury Department, to make it easier for companies to offer “automatic annuities” as an option for people retiring from defined contribution plans.
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