Fiscal Hawks Should Love Cheaper Retirement Plans
I wanted to spend a bit of time on the Labor Department’s proposal to place a fiduciary obligation on those who manage or provide investment advice on retirement plans. These include individual retirement accounts and 401(k)s (including 403(b)s). The new rules require the broker or adviser to “operate in the best interest of the client.”
I don’t want to rehash all of the reasons why this is a very good idea -- I did that last year in an article with the headline "Find a financial adviser who will put your interests first." Instead, I want to explain why fiscal conservatives should rally around this idea as a way to hold down taxes.
I first discussed the lack of a fiduciary duty in 2013. The context was a proposal in the U.K. that was going to cap retirement-plan fees. Those rules were passed, and starting in April, annual charges on British workplace pension plans with automatic enrollment are capped at 0.75 percent.
The conservative ruling party in the U.K. did this to save future taxes, as you will see below.
The proposed fiduciary rules are not an explicit fee cap, but they would require that “any fees and costs paid by the client be reasonable for the services provided.” It is probable that the "best interests of investors" will mean that fees will be reduced from today's often-excessive levels. If you doubt this, then perhaps you might explain why Wall Street has spent millions of dollars lobbying against the fiduciary standard. They KNOW just what the net result will be -- lower fees to brokers and advisers.
The fiduciary debate has been going on for many years. In 2011, the Securities and Exchange Commission published a report titled "Study on Investment Advisers and Broker-Dealers," which recommended that ALL financial advisers be subject to a uniform fiduciary standard. Placing $1.7 trillion in retirement accounts under the fiduciary standard is an incremental move (most of the rest of the $5 trillion in retirement accounts already is under that standard). That is less than 4 percent of the total U.S. stock and bond markets. That seems like a reasonable compromise.
But what about taxes?
In the U.K., the pension-fund fee cap proposal came not, as you might imagine, from the left-wing Labour party; rather, it was the brain-child of the right-wing Tories. Why? The conservative party has figured out that shortfalls in retirement savings ultimately will be picked up by the government. Pensioners -- who like their U.S. counterparts vote in greater numbers than the young -- won't tolerate an impoverished retirement. Hence, high pension fees today simply mean higher government spending in the future
And that means tax increases.
I wish that U.S. fiscal conservatives understood the obvious reasoning behind this. As my Bloomberg View colleague Matt Levine noted yesterday, there's about “$1.7 trillion in individual retirement accounts invested in funds that pay brokers to recommend them. The people who invest in those funds could improve their performance by about 1 percentage point a year by switching to other funds that don't pay brokers.” That means there is $17 billion a year -- compounded -- that won’t be in Americans’ collective retirement accounts 30 years from now. Over time, that adds up to trillions of dollars in increased future government spending -- and higher taxes.
Again, this is old news. The Vanguard Group has done numerous studies on the impact of fees on returns, and found that compounded over time, they are quite substantial. In general, the fees on many funds in the typical retirement investment vehicle are too high.
The Brits understand this. We should take a page from their conservatives, and lower our future tax burden.
(Corrects to delete reference in 10th paragraph and footnote to U.S. Senator Orrin Hatch's position on Labor Department plans to craft fiduciary rules for individual retirement accounts.)
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