Fiduciary Rules Will Protect Retirement Accounts
Since the passing of the Employee Retirement Income Security Act (ERISA) in 1974, the Department of Labor (DOL) has had authority to protect tax-deferred retirement savings accounts. In April 2016, the DOL announced a new fiduciary rule that will have a huge impact on 401(k) and Individual Retirement Accounts (IRA).
The rule is designed to eliminate conflicts of interest by broker-dealers who are providing investment advice for retirement accounts. Previous rule loopholes allowed brokers to recommend products that put their own profits ahead of their clients’ best interest. An analysis by the White House Council of Economic Advisers found that conflicts of interest resulted in annual losses of $17 billion per year for U.S. investors.
Fiduciary Standard vs. Suitability
Since 1940, regulations established by the U.S. Securities and Exchange Commission have required that registered investment advisors meet a fiduciary standard when advising clients. The fiduciary standard requires them to put their clients’ interests above their own and to act in their best interest.
Broker-dealers, who are regulated by the Financial Industry Regulatory Authority (FINRA), had been held to a suitability standard. This lesser level only required that the broker reasonably believed that recommendations were suitable for clients. There was no requirement to disclose conflicts of interest to investors. Unscrupulous brokers could benefit from hidden fees or recommendations of investments with high costs and low returns without any retribution.
$7 Trillion In IRA Assets
The DOL fiduciary rule recognizes the importance of protecting consumers’ retirement accounts. Retirement savings for a growing number of baby boomers has shifted away from defined company plans into self-directed IRAs and 401(k)s. More than 40 million American have over $7 trillion in IRA assets that are not protected under the current ERISA or IRS rules.
Consumers were especially vulnerable to bad advice regarding rollovers because they represented such a large portion of their savings. The regulatory shift means that individual investors can now get unbiased advice that is critical to being able to afford retirement. This new rule only applies to retirement accounts. For all other investment accounts, brokers only need to meet the lower suitability standard.
In a perfect world, all financial advisors would adhere to a fiduciary standard and do right by their clients instead of acting in their own self-interest. Unfortunately, history has shown that industry regulations are needed to curtail unscrupulous behavior.