Where is the line between selling a financial product and providing investment advice? That question is at the heart of a debate over a new proposal that aims to protect Americans’ retirement savings.
Since 1975, the government has required pension fund advisers to meet a fiduciary standard, which means putting their customers’ needs first and limiting conflicts of interest. But the standard applies only to those who supply advice “on a regular basis.”
Today, many Americans get their most important financial advice once: when they retire and must decide where to invest their accumulated tax-free savings from 401(k) or similar plans.
Last year, an estimated $779 billion was moved in such “rollovers.” That’s a tempting target for salespeople who promise they’re acting in the customers’ best interest but in fact are just trying to earn themselves a fat commission.
The Department of Labor, which regulates pensions, wants to address this. Its new proposal would expand the definition of “investment advice” fiduciaries to include those who make a recommendation about a retirement account — even if it’s just once — in return for compensation. The department estimates that sales of just one type of product, fixed-index annuities, chip away as much as $5 billion from retirees’ savings each year.
Consumer organizations are enthusiastic about the proposal. But the financial industry has blocked similar efforts in the past, and they’re keen to do so again.
One industry objection is that the rule will reduce consumer choice, but that may be a good thing if it eliminates “choices” that rip off investors. A 2020 study found that sales of variable annuities are driven more by the size of brokers’ commissions than by investor demand. It also found that a previous fiduciary rule proposal in 2016 led insurers to offer more low-expense products while the sale of the highest-cost variable annuities fell 52%.
The industry also argues that a new rule isn’t needed because regulators have already started requiring that securities firms and insurers act in a retirement account holder’s “best interest,” a slightly looser standard than a fiduciary. But the department’s goal is to create a single standard for retirement advice no matter what type of product is being sold — from stocks and bonds and mutual funds and annuities to real estate and crypto and collectibles. Not all of those are covered by current regulations.
The rule’s future is likely to be decided in court. In 2018, the US Court of Appeals for the Fifth Circuit vacated a similar proposal that sought to expand the definition of investment advice fiduciary. The court decided that rule was arbitrary and exceeded the Labor Department’s statutory authority by stretching the fiduciary standard to apply to situations that weren’t envisioned by Congress.
This new proposal aims to overcome that objection by applying the fiduciary requirement only when investment recommendations are made “in circumstances in which the retirement investor can reasonably place their trust and confidence in the advice provider.” There are three tests for this: Does the adviser have discretionary authority over the investor’s holdings? Is the adviser in the business of making recommendations and indicating that they’re tailored to the investor’s best interest? Does the adviser say they’re acting as a fiduciary?
Put another way, the rule would require that salespeople who present themselves in terms that sound like a fiduciary would need to meet the actual standard — and couldn’t get away with a small-print disclaimer. They’d still be free to pitch products, so long as they make clear they’re not acting as a fiduciary.
That’s clearly a desirable outcome. For the good of aging Americans, the new rule should stand.
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