It’s become fashionable to hate on the upper-middle class; Slate’s Reihan Salam made an entire column out of it. We’ll never get true “middle class economics,” the theory goes, because the upper-middle class cherishes their federal benefits, and will lash out if anyone tries to take them away. This came to a head over the flameout of President Obama’s proposal to end the tax break on 529 college savings accounts, most of which goes to families making over $200,000 a year, and target that money toward lower-income families who need more help with education expenses. Amid an outcry, the White House had to pull back that idea within days.
But what about policies to stop those at the very top from robbing the upper-middle class, along with everyone else? There’s an imminent fight looming with that profile, over whether financial advisers should be prohibited from cheating their clients when working with over $11 trillion in retirement savings.
The Department of Labor is scheduled to advance the “fiduciary rule,” which would legally require advisers who offer individual investment advice for a fee to act in their clients’ best interest. Right now, they are subject to a lower “suitability” standard, where the broker must reasonably believe the recommendation is suitable for their client. This standard is vague and easily gamed by the industry. The new proposal would be the first update to the rule in 40 years and would finally cover employment-based retirement accounts like 401(k)s, which didn’t exist in 1975.
The upper-middle class is disproportionately represented in these plans. While 69 percent of households making over $200,000 a year have an Individual Retirement Account (IRA), only 21 percent of households below the median income of $50,000 a year have one, according to a report from the Investment Company Institute. This matches government data on retirement accounts offered at work.
The lack of a fiduciary rule for these accounts subjects investors to being ripped off. Under current law, IRA and 401(k) advisers can recommend products in which they have a financial stake, making the whole advisory process more like a racketeering effort.
Financial advisers can get back-door payments from the providers of the products they recommend. So they steer savers into high-cost actively managed funds (which perform worse than low-cost passive index funds) and complex, expensive annuities, or recommend rollovers from cheap 401(k) plans into high-fee IRAs. They also create “churn” through constant buying and selling of stocks and funds, earning a new fee on each sale.
Essentially, investment advisers prey upon their clients’ lack of financial knowledge to reach into their accounts and skim off the top. This self-dealing is routine, as brokerage firms are often organized with the sole purpose of pushing clients into these products. “The situation we have now is a mess,” said Marcus Stanley of the coalition Americans for Financial Reform.
The White House outlined the true cost to retirement account holders in a leaked memo, showing unusual strength against a Wall Street-led scam. Citing numerous academic studies, Jason Furman and Betsy Stevenson of the Council of Economic Advisers write that investors lose between $8 billion and $17 billion a year in their investment accounts, money siphoned directly into the pockets of advisers, because of excess fees and lower returns. IRA and 401(k) holders can expect to lose 5 percent to 10 percent of their returns over the life of the account, or 1-3 years’ worth of retirement withdrawals.
Furman and Stevenson point out that the Labor Department rules are actually less stringent than companion rules in other countries, which ban all kickback payments from investment providers and advisory firms and prohibit other conflicts of interest. In facts, experts like the Center for Retirement Research at Boston College believe the government’s new rule doesn’t go nearly far enough. But this hasn’t stopped Wall Street firms from waging a years-long battle to preserve their nice profit center.
The Labor Department first proposed the rule in 2010, but pressure from finance lobbyists and their allies in Congress led them to withdraw it. The industry argument was that they would have to shut down unprofitable divisions and deprive millions of savers professional investment advice, basically saying that they cannot help clients unless they’re allowed to steal from them.
The indomitable Phyllis Borzi, an assistant secretary at the Labor Department, tried to re-submit the rule in 2014, but industry pressure and White House concerns forced a second delay. The date was re-scheduled for this January, and the leaked memo suggests that the White House is finally on board. But last month, trade groups made personal appeals to top presidential advisors Valerie Jarrett and Jeffrey Zients. The rule has not yet been sent to the White House’s Office of Management and Budget for administrative review. A call to Labor Department spokesman Mike Trupa was not returned.
You can expect Wall Street to employ Congress in this fight as well. In 2013 the House passed a bipartisan bill that would have delayed Labor Department action until the Securities and Exchange Commission, which has overlapping jurisdiction and is seen as more Wall Street-friendly on this issue, wrote its rule first.
That bill never made it through the Senate. But with Republican control of both chambers, lobbyists will surely take another run. Orrin Hatch, new chair of the Senate Finance Committee, wants to combine a bill expanding “starter” 401(k) plans for small employers with a provision shifting jurisdiction on the fiduciary rule from Labor to the Treasury Department. Treasury would need to start over, delaying the rule for years and putting it in a venue more susceptible to Wall Street pressure. Treasury would also have to consult with the SEC on the rule under Hatch’s legislation.
Financial advisers wield significant power in Washington, as the industry delivers plenty of campaign contributions, and local brokers live in practically every district. The Securities Industry and Financial Markets Association, a large trade group, has a letter signed by 183 members of Congress, including 118 Democrats, attacking the Labor Department rule. On the other side, a coalition of union groups and financial reform advocates that supports the Labor Department’s rule, called Save Our Retirement, simply doesn’t have the resources to compete.
Our retirement system is bad enough, even if clean. Plans based on the rise and fall of the stock market, instead of defined-benefit pensions, shift risk to the individual and weaken retirement security. But the idea that people have to tolerate conflicted advice in order to save for their golden years is ludicrous.
President Obama wants to expand employer plans to lower-income and part-time workers and allow everyone to save in a stock account, but we don’t need a Wall Street solution to the retirement crisis. In a perfect world, the government would significantly expand Social Security, using the tax advantages for IRAs and 401(k) plans to fund a bigger universal payout.
At the absolute minimum, we can do something to stop financial managers from pulling money out of the $11 trillion retirement account kitty. The upper-middle class should play a vital role in this fight, since it’s largely their money being stolen. But this matters to anyone who wants to experience a dignified retirement someday, and anyone who cares whether the financial sector will be able to hold onto a policy of legalized theft.
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