Americans will get new protections for the trillions of dollars that moved out of their 401(k)s and into individual retirement accounts, under Labor Department regulations released Tuesday.
Savers move close to $1 trillion each year out of their 401(k) employer-sponsored plans into IRAs. The number has grown as more people retire or change jobs.
While 401(k) workplace retirement plans have strict rules requiring any financial advice to be in the best interest of individual savers under a 1974 law called Erisa, those rules haven’t historically applied once nest eggs were rolled over into individual retirement accounts.
The new regulation would extend Erisa’s fiduciary requirements to all advisers, brokers and insurance agents who provide advice on IRAs, including rollovers. The change starts going into effect on Sept. 23, though it may face legal challenges. The industry will then have another year to fully comply, the Labor Department said.
Proponents of extending the fiduciary rule to IRAs contend that many savers aren’t fluent in finance and don’t necessarily understand the incentives and potential conflicts of interest different types of advisers have when pushing particular products. Insurance agents, for example, can earn hefty commissions for selling annuities.
“The Labor Department is concerned that when a person is moving what might be their entire 401(k) account into an IRA they should be receiving advice that’s in their best interest,” said Fred Reish, an attorney who specializes in employee benefits.
Among other things, the new regulation will require advisory firms to have policies and procedures to manage conflicts of interest and ensure they are receiving reasonable compensation.
With the peak of the baby-boom generation in or approaching retirement, rollovers of money from 401(k)s to IRAs are a big business for financial-services companies, which make money on the products and services they recommend. In 2022, investors moved $770 billion into IRAs from 401(k)-type retirement accounts, up from $404 billion in 2013, according to research and consulting firm Cerulli Associates.
When it proposed the regulation in October, the White House said the measure would increase retirement savers’ returns by between 0.2% and 1.2% a year, potentially boosting retirement savings by up to 20% over a lifetime.
“This is about basic fairness,” President Biden said, when he announced the proposed rule in October. “People are tired of getting played for suckers.”
Detractors in the financial industry have argued the rules will make it more burdensome and risky for financial-advisory firms to work with retirement savers and could reduce the number of advisers willing to work with investors, especially those with smaller accounts.
A decadelong debate
The Biden administration’s rule follows failed attempts by prior administrations to impose Erisa’s fiduciary standard on a wider spectrum of transactions by financial advisers dealing with IRAs. Earlier versions were struck down in court or narrowed.
There might be another wave of lawsuits to block the effort, said Allison Itami, an attorney specializing in employee-benefit programs at Groom Law Group.
The deadline to impose the changes might not give the industry enough time to comply, some in the financial-services industry said.
“It will require extensive work to get into compliance, including technology system updates, record-keeping, training and disclosure practices, and other policies and procedures,” said Jason Berkowitz, chief legal and regulatory affairs officer at the Insured Retirement Institute, a trade association for the annuities industry that has been critical of the proposal.
Berkowitz said the Labor Department “should have taken longer to review concerns by critics, including some members of Congress and industry.”
The agency’s timeline was likely designed to ensure the regulation cannot be overturned if President Biden is voted out of office in November, attorneys say. Under a legislative mechanism known as the Congressional Review Act, Congress can kill regulations rolled out during the final months of the previous administration.
The Labor Department responds that it took into account the nearly 20,000 comments it received on the proposal from industry groups and individuals.
Broker and insurance commissions
The new regulation is likely to have the greatest impact on insurance agents, especially those who work independently, said Micah Hauptman, director of investor protection at the advocacy group Consumer Federation of America.
The current standard for insurance agents is generally weaker than what the Securities and Exchange Commission imposes on brokers and investment advisers when handling sales of mutual funds and other securities in rollovers, he said. Insurance agents are regulated under state insurance laws.
The rule might prompt insurers to introduce annuities with lower costs and commissions and shorter surrender periods that should produce higher returns, Hauptman predicts. He said insurers will have to scrap sales incentives, including trips and dinners, for agents selling annuities as part of a rollover recommendation.
Under Erisa, sales commissions are normally prohibited because they might provide incentives for advisers to favor one investment over another to get a higher paycheck, said Reish.
The Labor Department regulation allows brokers and insurance agents to receive commissions on IRA investments they recommend, provided they adhere to conditions including a fiduciary standard and acknowledge their responsibilities to act in a client’s best interest in writing. The new regulation would require insurance agents to adhere to a similar standard, Reish said.
The Insured Retirement Institute said there is no need for the proposed regulation since under the state laws that regulate them, insurance agents are required to act in the best interest of customers.
The change will also ensure better protection for small 401(k) plans that hire advisers to provide one-time recommendations on plan investment options, said Hauptman. In the past, such advisers have had a financial incentive to favor higher-cost investments that pay them more in commissions or fees. Under the proposed regulation, such advisers would have to serve as fiduciaries, likely leading to lower-cost investment recommendations with higher potential returns for small plans, Hauptman said.
Write to Anne Tergesen at [email protected]
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