Staying Within Bounds
Does the new fiduciary rule create a fine line between
education and advice?
Reported by Rebecca Moore
Chad Carmichael, a principal at North Highland and leader of the company’s retirement community, in Charlotte, North Carolina, notes that in the rule’s investment education section, it clearly calls out retirement calculators and tools and says, as long as they stay away from specific investment advice, they are excluded.
The rule states: “Again, without acting as a fiduciary, firms and advisers can provide a variety of questionnaires, worksheets, software and similar materials that enable workers to estimate future retirement needs and to assess the impact of different investment allocations on retirement income, as long as the adviser meets conditions similar to those described for asset allocation models.” It also says such “interactive materials can even consider the impact of specific investments, as long as the specific investments are specified by the investor, rather than the firm/adviser.”
For asset allocation models, the rules says, “Without acting as a fiduciary, firms and advisers can provide information and materials on hypothetical asset allocations as long as they are based on generally accepted investment theories, explain the assumptions on which they are based, and don’t cross the line to making specific investment recommendations or referring to specific products (i.e., recommending that the investor purchase specific assets or follow very specific investment strategies).”
Yet, one thing the rule leaves unclear, Carmichael says, is how the particulars of individual investment lineups or employer-sponsored retirement plans may bring general recommendations or education under the rule’s provisions. If, for example, a tool recommends the participant invest in a stock fund and the plan offers only one, is that specific advice?
Chris Jones, chief investment officer (CIO) of Financial Engines in Sunnyvale, California, says the conflict of interest rule does not apply to his firm’s model at all—the firm already considers itself subject to a fiduciary standard. Financial Engines provides personalized investment advice—discretionary and nondiscretionary—for retirement, as well as forecasts based on savings and investments and recommendations for how participants can improve their retirement readiness. Jones explains that the advice might tell participants the impact of saving up to the employer match or it could be specific investment recommendations. Financial Engines provides managed account services as well as online advice.The reason this model is not affected by changes to the DOL rule, according to Jones, is Financial Engines is independent, has no product or manager relationships and has always acted as a fiduciary. Financial Engines receives a fee—based on a percentage of account balances—and never commissions.
“The reason the rule exists is so all entities providing investment advice act in the best interest of clients,” Jones says. “If a firm or adviser is receiving commissions or giving advice on proprietary products, that is a prohibited transaction under the Employee Retirement Income Security Act [ERISA]. The rule is not banning commissions but now has created a best-interest-contract [BIC] exemption to facilitate that, as long as the firm or adviser agrees to act in the role of fiduciary.”
Room for Interpretation
There is room for interpretation as to whether these tools cross the line into advice, Carmichael believes, as does David Levine, principal with Groom Law Group, Chartered, in Washington, D.C. “There is a little bit of a granular area—there’s more than meets the eye,” Levine says. Many providers of retirement planning tools believe the education they provide can remain unchanged under the final regulations, but this may not be the case, he says.
The rule is specific about investment advice, but it also says an “investment recommendation” could fall under the category of investment advice, Levine notes. The rule gives a broad definition of “recommendation,” which he thinks will be further clarified in a future Labor Department Q-and-A.
In the rule, recommendation is defined as “communication that, based on its content, would reasonably be viewed as a suggestion that the advice recipient engage in, or refrain from taking, a particular course of action.” As Levine sees it, advisers and advisory firms may need to revisit their software and calculators to make sure they adhere to the rule.
First of all, as to tools that educate about the general importance of saving, planning for financial needs, and overall financial wellness—e.g., those available from HelloWallet, Dave Ramsey and LearnVest—the DOL says it recognizes their value, and retirement plan sponsors may even use plan assets to pay for them, Levine notes.
However, it gets messier, he says, when looking at tools that model how current assets will grow. The DOL was going to make it a fiduciary act to recommend certain types of investments to participants but changed the rule so that modeling tools may mention a fund currently in a plan’s investment lineup. However, they must also mention all other funds in the lineup that have the same risk and return characteristics. Similarly, interactive questionnaires or worksheets will have to discuss the different funds in the same risk/return category.If an adviser’s or advisory firm’s retirement readiness tool gives advice at the fund level, it may have to review its output, Levine says. The conflict comes when one looks at how fees are charged. “Is there money flow that is somehow related to investments? Will a recommendation of investments somehow generate income for the adviser?” he queries.
Carmichael says advice is very specific—for instance, if you invest in this mutual fund, you will achieve returns to meet your retirement goals—whereas guidance is: If you are in your 20s, you should invest in stocks.
Assisting Advisers With Compliance
Carmichael says he is part of a team working to develop solutions for advisers to navigate the fiduciary rule. North Highland has one called Fiduciary Foundations that helps firms develop disclosures, showing them what language they should and should not use, among other things.
Since the final rule was published, Advicent, MoneyGuidePro and ProTools, in partnership with Pershing, have developed solutions to help advisers build portfolios that are in their clients’ best interest and not in conflict with the DOL rule. Nationwide and Principal, in collaboration with Groom Law Group, now provide education about the new fiduciary rule. Also, the LIMRA LOMA Secure Retirement Institute developed a number of resources to help financial service companies adapt to the rule.
Capital One Investing, Ascensus and Paychex have introduced new fee models for advisers. In addition, a new partnership between Vertical Management Systems, Envestnet and United Retirement Plan Consultants is aimed at helping advisers streamline fiduciary, recordkeeping and compliance services through one scalable platform in compliance with the DOL’s conflict of interest rule.
Jones says, “Helping people understand their financial future is an important part of financial planning. The DOL changes have largely focused on entities giving specific advice but not calling it advice. That will be curtailed under the new rule; advisers will have to act in the best interest of participants. We strongly believe this requires fiduciary standard of care.”
Is Additional DOL Guidance Needed?
Recently, Corporate Insight conducted an analysis of retirement readiness calculators and found their assumptions and inadequate inputs “disconcerting.” It also called the action steps suggested, or the lack thereof, “alarming.”
Corporate Insight analyzed the retirement calculators of 12 financial institutions—six of them retirement plan recordkeepers and six not—and despite inputting the same data points for each, found exceptionally different results. The monthly income projections ranged from a high of $6,013 to a low of $3,772—a 60% spread—and the differences between the monthly income goals were even wider, ranging from a high of $9,029 to a low of $4,892, an 85% spread.
Nine of the tools provide a gap analysis, but these, too, vary significantly—from a high of $4,597 to a low of $1,120 a month—a whopping 310% spread.
Corporate Insight says only a few of the calculators provide actionable advice, rather than promoting the company’s own products. The firm also says, it is misleading to ask people, as some of the calculators do, to determine how much savings they will need by the time they retire, instead of asking for a percentage of final income. Two of the calculators show projected income in future dollars, which could lead users to assume they will have more than enough money saved, when that will not be the case.
The biggest driver of the income projections is investment return assumptions, according to Corporate Insight. Some of the calculators do not let users change the returns pre- and post-retirement, three do not allow for salary growth, two omit Social Security benefits, and one fails to account for inflation. Life expectancies also differ.
Chad Carmichael of North Highland notes that the Department of Labor (DOL)’s conflict of interest rule protects retirement plan participants from being exploited when given investment advice, but giving advice in that way differs from tools saying how much one will need in retirement. He adds that assumptions used for these tools are important, but they are not addressed in the DOL’s conflict of interest rule.
According to Chris Jones of Financial Engines, forecasting one’s future returns on investments is complicated. There are a wide variety of models and levels of sophistication, he says. “Some use historical rates of return, and those on the other end, like us, use very sophisticated Monte Carlo analyses, so it’s not surprising to see a wide range of outcomes,” Jones observes. “The problem with saying ‘here is the right way to do it’ is the market could evolve to the lowest common denominator. If the DOL mandated assumptions that should be used, it would not be fair to firms trying to be accurate.”
David Levine, with Groom Law Group, Chartered, says, “I don’t think we need to have specific assumptions mandated. These are still educational tools. Providers of these tools need to be careful to caveat and display assumptions. Participants need a good understanding of [them].”