The DOL asks the Tough Questions about Your 401K

Hearings began concerning your 401(k) and the Department of Labor proposal to change the rules that currently apply to brokers. Now it’s okay to not know that there were hearings taking place at the DOL. It’s even okay that you may not have known that the DOL is even concerned with brokers. And if you didn’t know the role brokers play in your retirement plan – thinking of course that they were only traders of securities on an individual level – that’s fine too. But what the DOL is proposing is both significant and insignificant and worth noting nonetheless.

So I thought I’d give you a brief overview of what is happening, why some are enthusiastic about the change and others much less so. The DOL wants brokers and investmentconsultants to comply with the fiduciary standard of care as outlined in ERISA. This standard of care is worth noting and probably something you thought was already part of the whole package in your plan. For the vast majority of us, the 401(k) is benign tool, important but so nuanced in so many ways as to be opaque. We use it and hope for the best. (Not saying that’s the right approach but for most of us, it’s true.)

But there are people like me and institutions like the DOL who think that you should know otherwise. So we encourage you to listen to the background noise. This noise, currently being conducted as hearings has had a steady stream of industry professionals testify that they like the proposed rule changes and that they don’t.

The rules that the DOL would like to enact consist of the following: offering ERISA covered advice. This sounds simple enough but the reasons so many firms are fighting the rule changes is in large part due to the cost, which many have claimed would be passed on to the clients and then to the end-user of the plans, us.

Along with disclosure of conflicts of interest, Helen Kearney of Reuters reported recently “The standard would limit brokers’ ability to recommend their firms’ proprietary investment products to employers and prohibit them from collecting commissions from product sponsors.” Those objecting most vehemently to the rules are the smaller firms that do not offer compliance departments as part of the services they provide. And it is also quite possible that their clients don’t want to pay for that extra level of protection.

To offer fiduciary care comes with a cost. To act as such, the investment adviser/broker essentially stands with the company should their be any problems with the plan. The proposal would require that these brokers tell the company upfront that there may be conflicts of interest and the products they are selling them are the products their firm has instructed them to sell. This might not be the best analogy to use, but it is similar to buying a store brand which tends to be cheaper and a national brand, which tends to cost more. The product itself might be the same in many respects, but the differences, albeit small are there.

The biggest fear these firms have is rejection. If clients walk away, then what? That might be more ghost in the machine thinking but for some brokers who peddle in-house products, believe in commissions and don’t necessarily want to shout this fact from the mountain tops, they are balking at the notion.

Small companies usually deal with smaller brokerage houses in their 401(k). In these cases, the fees they receive are smaller than a Wells Fargo or Merrill Lynch might charge its clients. Those smaller brokers would be jeopardizing their fee base, received in addition to their charges for services are as part of the products they recommend, even if those products are the right ones for the client. So they might be forced in light of the DOL  rules to increase the fees they charge to these small businesses.

But these folks shouldn’t fear the worst. If they are doing their jobs and that, by definition is tailoring their products to the client, suggesting that if they include them in their plans, they will more likely than not, increase plan participation, they should have no worries about losing clients. And that, after all of the dust settles, is what they are supposed to be doing.

Smaller companies often use third party administrators to help with the heavy lifting and the legal issues. They can in many instances help the client choose which funds might be best.

So many brokers do not, under the proposed DOL rules, need to accept the fiduciary standard of care to stay in business. But you can bet that this will be the selling point the largest firms will begin advertising they have to offer.

According to Brian Graff, executive director and CEO of the American Society of Pension Professionals & Actuaries: “players in the retirement industry who are more formally regulated with extensive compliance departments will comply with the rules, and those less formally regulated who know there is no practical enforcement of the rules, will choose not to comply.” It looks as if it boils down to your plan’s decision over whether to buy the store brand or the national brand. Do get the same thing or do you get what you pay for?

In a post-pension world, You are richer

What does the world really look like? Is the post-pension times we live in actually a more profitable retirement environment? Are we better off thirty-five years removed? 

Despite the metaphors surrounding what retirement planning is supposed to be: a three legged stool, a three pronged approach, whatever visual cue you need to make sense of the process, your retirement is or at least should be, a lopsided financial affair. It should be something that works as a part of whole but not in any sort of equal sense. Social Security and the state of your financial affairs at the time you decide to quit working is really only supposed to be a small part of the retirement plan. In truth, the most prudent people who plan their retirement do so without any consideration of income from any outside source.

Not so in the years following the Great Recession. The vulnerabilities are now something we have seen first hand and many of us have recoiled in horror. Instead of relearning where we went wrong, we looked for the safest rock to hide under. Perhaps that is why, when the latest report from the Investment Company Institute was released this past November, your defined contribution plan or for most of you, your 401(k) was given equal stature amongst the other two "legs" of the retirement stool.

Social Security was designed to help keep those without from becoming destitute in retirement. Not surprisingly, the report points out this use of the program by those who are the least fortunate, the lower paid worker, as more reliant on those benefits than the higher paid worker. As they look at a post-ERISA world (the 401(k) actually came nto being in 1981), they conclude that this has always been the case and if it has, then so be it.

But the study wasn't designed to be much more than a good-old-boy pat-on-the-back. The ICI sees the distance between the demise of the pension as the sole means for retirement among workers in 1974 as a trip worth traveling. Coming out on the other end of that journey finds the lobby arm of the mutual fund industry rather satisfied. they point out that the median income from a defined contribution plan per person in 2009 was $6,000; in those same 2009 dollars, the same median was $4,500 in 1974.

It is not surprise that many of the remaining firms in the private sector still maintain them. But these plans are not considered a reason to work at these companies when it comes to the younger workforce. Pension breed company loyalty while 401(k)s allow workers to shift jobs when a better offer is available. On the other hand, pensions often leave this same group of workers with no retirement benefits, essentially, at least according to the ICI report, when vesting rules and the timing of benefit accural are used as a rodbloack to getting those benefits for time worked.

But during the time frame they used to conduct the comparisons (1975 to 2009), Social Security now makes up a larger share of retirement income even among those who had assets and other income sources. Based on per capita income at either end of the spectrum, with the lowest income group using just 2% of what the study calls asset income with an 85% reliance on Social Security compared with what the higher income group employs (20% assets and 33% of income from Social Security).

While the ICI celebrates the success of the defined contribution plan that replaced the private sector pension and they point out that those with DC plans are doing better than DB plan recipients in the past, one simple fact remains: we aren't doing enough.

While the answers seem clear: you need to invest more - probably much more than you would be comfortable in making, live smaller now while you are working, and hope that your health, inflation or taxes doesn't take a toll on those accumulated finances. In the face of such daunting news, you could expect a pull back. Instead of increased focus, we would get more ennui. Instead of an emphasis on better educated investment and financial decisions, we should expect more use of what we assume of are set-it-and-forget-it investments such as target date funds.

To answer the question in the title: was your 401(k) intended to be complimentary for retirement? I believe the answer was no. It should have been the investment savior, a Wall Street miracle. Trouble is, now many people. financial professionals included are looking for a way to provide the same guaranteed income that those long-shunned pensions provided. And when they do, we will wish it was 1975 all over again because it will come at a much higher cost than we imagined.

Paul Petillo is the managing editor of Target2025.com/BlueCollarDollar.com 

Retirement Planning and the PBGC

As we approach the new year, we will no doubt hear the verse “auld lang syne”. The reference to the phrase, thought to have first been coined by Robert Burns (1759-1796), actually translates into “once upon a time”. When we begin the discussion on pensions in the book, we look thoughtfully back to an era when the obligation to employee was more than simply wage-based, it was a lifelong agreement with the firm.


Guy Lombardo played this song on a 1929 radio broadcast forever associating it with the passing of the New Year.




David McCarthy, author of numerous papers and as the book notes, a lecturer at the Oxford Institute of Ageing, at Oxford University (what the book doesn’t say is that he has since changed that position and is now a lecturer in the Finance group at the Tanaka Business School) studies the role of pensions in business.

His belief that pensions have an important life cycle is the cornerstone for much of his work. When the Employee Retirement Income Security Act of 1974 altered the way companies treated pensions – which are not an obligation under the law, the interaction, not to mention the relationship the employee may have had with the employer, changed forever as well.



The life cycle Dr McCarthy wrote of saw workers entering into an agreement with their employer when they were the most vulnerable cash-wise but had the most to offer from a human capital point of view. Pensions, through their conservative nature offered these employees a beginning at a future they might have ignored otherwise. When the human capital was at its lowest point, the pension was there to help.

Pensions unfortunately do not come with property rights. If a company is sold, dissolved through bankruptcy, or simply goes out of business, the employee can run the risk of losing most of their pension. This was the argument made for the 401(k) plan and was used by President Bush as the basis for his privatization of Social Security.



There are some safe guards in place. The PBGC, or Pension Benefit Guaranty Corporation insures against total loss but has not only a limited reach (companies need to participate in the program by paying premiums for the insurance guarantees.)

Here’s a recent example of how the PBGC works with smaller, lesser know companies.

”Tom's Foods filed for Chapter 11 protection in April 2005. In October 2005, it was purchased by Charlotte-based Lance Inc. for $40.2 million plus the assumption of some company liabilities. The transaction did not include the pension plan.”

Also noted in the article by Steven Taub for CFO.com was this comment about the transactions: “because Tom's Foods missed nearly $4.5 million in required pension contributions and the pension plan will be abandoned as a result of the sale of substantially all of the company's assets.” PBGC has guaranteed no interruption in pension payouts for current retirees and guarantees the pension for those that have vested.

How much pension you receive should your former employer face such events depends on when you retire. Recently, the PBGC, which was created by ERISA, raised its maximum pension payout for those retiring at 65 years old in 2008 to $51,750 (that is a 4% increase over the previous limit of $49,500 for plans ending in 2007.)

The maximum amount of payout for an individual who retires at 75 is $157,320 with a guaranteed benefit of $12,938 for those who retire at 45.

There are ways to check to see if your pension is at risk of being under funded. One is to ask for a health record of your plan. Troubled plans usually rely on optimistic projections of the underlying investments or worse and secondly, because of poor performance of the company leaving the plan with no funding to meet its obligations. Those obligations by the way are a result of actuarial tables used to determine the life span of the workers. If you sense your company is in trouble, plan for the worst – even if your pension payout is guaranteed.