Secretary of Labor Thomas E. Perez
U.S. Secretary of Labor Tom Perez
Brookings Institution, The Hamilton Project,
Forum on Promoting Financial Well-Being in Retirement,
June 23, 2015
[as prepared for delivery]
Good afternoon. Secretary Rubin, thank you for that kind introduction, for the invitation to join you today, and most importantly for your service over so many years. It's a privilege to be back at Brookings and specifically to speak to a forum of the Hamilton Project, which has done so much in less than a decade's time to contribute to so many of our most important public policy debates.
And I can't think of any more important than retirement security. The Labor Department is best known for its advocacy on behalf of workers, of course, but we're just as vigilant and aggressive when it comes to fighting for the interests of those whose working days are behind them. It's right there in our mission statement: "To foster, promote, and develop the welfare of the wage earners, job seekers, and retirees of the United States."
The retirement landscape has shifted dramatically in recent years, adding complexity and uncertainty to what used to be a very straightforward system.
This isn't your father's or mother's retirement. It used to be you worked for the same company for decades and then you'd retire with a handshake, a nice party, maybe a gold watch and, most importantly, a pension that you couldn't outlive. You got a check every month in the mail back then, there were pieces of paper called "checks" and they came in something called "the mail" and you didn't have to give it much thought frankly. Many times it continued paying your spouse after your death.
Times have changed dramatically. The Ozzie and Harriet world of defined benefit plans has been replaced by the Modern Family era of IRAs and 401ks. If you ask a millennial if she has a defined benefit pension... well, you might as well have asked her if she owns a typewriter. We've gone from 78 percent of workers with defined benefit pension plans in 1975 to only 33 percent in 2012.
401ks and IRAs vulnerable to market volatility and which make workers responsible, throughout their careers, for managing their own assets and making decisions that will impact their financial security for the rest of their lives.
So when the nation experienced a Great Recession and a meltdown of the financial markets... a lot of people's 401(k)'s became 201(k)'s. So many others, who found themselves out of work for six months or longer, were forced to deplete their retirement savings accounts paying steep fees and penalties in the process just to keep a roof over their family's head.
It's clear that even though we live in a defined contribution world, all too frequently, we're clinging to a defined benefit mentality. Our habits and our outlook haven't caught up to the reality Americans there are still behaving as if that check will automatically come in the mail when they're 65.
3-Legged Stool: First, Social Security
President Obama understands this problem, and across the administration we're all committed to working together to promote financial well-being in retirement.
The President has spoken often of retirement as a three-legged stool. The first leg is Social Security, and the president's belief in and support for this time-honored program is unflinching. We could focus the entire speech on Social Security, but in the interest of time, we won't.
The financial health of both Social Security and Medicare cannot be separated from the strength of our labor markets. In this way, the best thing for these programs is a growing economy that continues to create more jobs. During the recession, the trust funds suffered because fewer people were paying into the system. Today, a resurgent economy generating 12.6 million new jobs over the last 63 months has put the programs on sounder footing. Just about everything I do as Labor Secretary improving job training programs so people can advance their careers; fighting for higher pay by advocating for a minimum wage increase; advancing the economic interests of women by working to close the pay and participation gaps all of these have the benefit of funneling more money into the Social Security system.
Social Security will be further bolstered if, at long last, we pass comprehensive immigration reform. Moving people out of the shadow economy and onto the books will extend the solvency of the Social Security Trust Fund by two years and reduce the 75-year shortfall by nearly half a trillion dollars.
So a strong economy in which everyone is participating naturally benefits Social Security. This is just another way in which, as the president often says, America is strongest when we field a full team.
Strengthening the Stool: Federal and State Efforts
The second and third legs of the stool, which need fortification, are personal savings and employment-based savings. We need to tighten the bolts on both of them, and both the federal government and state governments and the private sector can play a critical role. There's no magic bullet to fortify these legs.
At the federal level, the President took an important step forward with the establishment in 2014 of the MyRA program to help the 60 percent of people who have no job-based retirement savings vehicle at all. MyRA's are designed by the Treasury Department to help Americans kickstart their savings in a way that's simple, safe and affordable. If you enroll, money is automatically put into your MyRA account, as long as your employer uses payroll direct deposit. It's portable from job to job. The investment is backed by the U.S. Treasury. It costs nothing to open an account. And you can design it to fit your budget, contributing as little as a few dollars a month.
The president wants to go further with this idea. His 2016 budget proposal includes a plan to automatically enroll Americans without workplace retirement plans in an IRA, and he also has proposed tax cuts for small employers who offer the auto-IRA.
As with so many of the issues we work on at the Labor Department, including wage security and paid family leave, leadership at the state level is an important complement to our efforts. The synergy between federal and state initiatives is essential to progress, and retirement security is no different.
Several states are stepping up, playing their traditional roles as laboratories of public policy innovation, launching efforts to encourage state-based options for workers whose employers don't sponsor a retirement plan. California and Illinois in particular have stood out for their leadership, and others are following suit. Oregon has a bill on its way to the Governor's desk.
We've been in communication with a number of those states, learning more about their approach and providing technical assistance. What these states have told us is that they need to find new and creative ways to help their residents save especially people who don't have any other access to a job-based retirement plan. I'm excited about these state-level efforts, and I've met with a lot of the people working on them. We want to help them get to yes. I want to do more to encourage and facilitate them, to remove barriers preventing them from flourishing while preserving critical consumer protections. The action at the state level is one of the most important activities happening in the retirement space.
Financial Literacy and Education
Financial literacy and education are also critical to keeping the stool steady and standing. There has been a joint venture between government, businesses, nonprofits, and faith leaders. We need to help more people understand that the defined benefit pension safety net isn't waiting to catch them, that they need to take ownership of this themselves.
Many people are confused by their options or don't know where to begin, and there is an emerging body of data showing that certain populations are not saving nearly as much as they need to for retirement. Young people, for example, are not the most diligent savers. And there is research that shows alarming racial disparities in retirement account balances as well.
Across all income groups, African-American and Latino families don't have as big a nest egg as their white peers. That gap gets smaller as you move to higher income brackets. But even among people earning $120,000 or more, in 2010 Latinos had 72 cents and African-Americans 71 cents for every dollar saved by white households. We see it among federal employees too. Both Ariel Investments and the Office of Personnel Management have looked specifically at participation rates by minorities in the Federal Thrift Savings Plan. The OPM study found that even among workers at the same salary grade, minorities are less likely to contribute. And when they do, they contribute less money.
It is critical that we understand and address these disparities, especially as our nation grows more racially diverse, and as the millennial generation settles into the workforce. Ariel Investments and the Labor Department's own ERISA Advisory Council have a host of recommendations for closing these gaps, both for young people and for people of color including greater use of technology; enhanced efforts at financial education and outreach; using automation as much as possible; and taking advantage of social media and all available communications tools to get the message across.
In the technology space, there's a lot of innovative work being done to reach these groups. Just last Friday in the Washington Post, there was a story about a Boston-based venture called the Society of Grownups, whose goal it is to engage millennials on the importance of financial management through low-cost classes, chats and supper clubs. The Society of Grownups is owned by MassMutual but operates independently and doesn't actually sell any financial products. The idea is just to introduce this generation, in an unintimidating way, to "Financial Planning 101."
Tech companies are starting to focus on this market as well. I was just in Silicon Valley late last week and met with an entrepreneur there who runs a startup called ClearStreet. Her company uses technology to help people manage health care costs and otherwise build savings, manage finances and eliminate debt.
At a more rudimentary level, there's an app targeted to young people that automatically rounds up the cost of every purchase on your debit card and deposits the difference in savings. So if you bought a latte for $3.10, it charges you $4 and puts the rest away an elegant way to use technology to teach the importance of savings.
In the federal government, we're marshaling our resources to better educate low-income and minority savers about their retirement planning options as well. There is an interagency Financial Literacy Education Commission that is marshalling resources across the federal government. The Labor Department has partnered with the Consumer Financial Protection Bureau and the National League of Cities on an innovative effort to provide financial education to disadvantaged young people. We're making targeted technical assistance available to as many as 25 cities to help them integrate money management skills education into their youth employment and training programs. This is a really promising effort at reaching communities of color to head off a retirement crisis down the road.
We're partnering with non-profit organizations as well. I met with a man just this morning named John Hope Bryant. He's the CEO of Operation HOPE, which was founded in the aftermath of the 1992 LA Riots. It's America's first non-profit social investment banking organization. They call themselves "the non-profit private banker for the working poor, the underserved and the struggling middle class."
In addition to providing internships, apprenticeships and entrepreneurship training, they do remarkable work in economic education and financial literacy empowerment for young people, especially young people of color. John Hope Bryant speaks of what he calls "silver rights" the next phase of the civil rights movement, where underserved communities can attain "financial dignity," accessing to the resources they need to thrive in a free enterprise system.
CONFLICT OF INTEREST
But what happens when workers and families do all the right things when they're conscientious about saving, when they're frugal and prudent, when they smartly put aside immediate gratification to play the long game and still have the promise of a dignified retirement snatched from them unceremoniously? How can we keep them from being victimized by a broken, outdated set of rules governing retirement advice?
That's a question we've been wrestling with at the Department of Labor for a few years now. Let me explain what I'm talking about by sharing one story about a hard-working American family for whom things went horribly wrong through no fault of their own.
Merlin Toffel did everything right. He was a veteran of the United States Navy and an electrician. He and his wife Elaine raised their four kids in Lindenhurst, Illinois. They loved to travel, but they worked hard and took care to save wisely. Over four decades, they built up an impressive portfolio with Vanguard Merlin at the helm and Elaine, an accountant, keeping the books.
When Merlin was diagnosed with Alzheimer's and could no longer manage their finances, Elaine made an appointment at the local retail bank. The bank's investment broker told her to liquidate that impressive Vanguard portfolio, and sold them variable annuities to the tune of $650,000. Elaine trusted that advice; it was in her best interest... she thought.
But those variable annuities charged nearly 4 percent of the investment over $26,000 annually. And if the Toffels needed to access the money right away, as all too many families face when our patriarchs are in decline, a 7 percent surrender charge would cost them more than $45,000. In the end, the broker's conflicted advice cost a hard-working, middle class family more than $50,000.
The Toffels' story is tragic, but it is not unique. Conservative estimates by the Council of Economic Advisors place the cost of conflicted advice at more than $17 billion annually. Our economic analysis shows that, conservatively, the amount that savers would benefit from our rule and this is only based on a slice of the IRA market would be $40 billion over ten years.
For families like the Toffels folks who have done everything we ask of the American middle class the stakes could not be higher.
An Enforceable Best Interest
And so it's on behalf of hard-working people like the Toffels that the Labor Department recently published our proposed conflict of interest rule. The underlying principle is very simple and rooted in basic common sense: if you want to give financial advice, you have to put your clients' best interests first, and not your own. Completing this rule is one of the single most important steps we can take to assist people preparing for retirement.
If you think about it, the biggest decisions in life fall into one of three categories medical, legal or financial. These three categories of decisions can have profound consequences, and the need for informed, unbiased, transparent advice is absolutely essential. Both your doctor and your lawyer are obligated to look out for what's best for you. When you go to see them for a round of tests or for help on a child custody matter, you have every expectation that they're working for your best interests.
Many people assume the same applies with financial professionals, but that's not necessarily the case. My advisor is a fiduciary; he has taken legal obligation to put our interests first. Most are already doing the right thing, but others operate under no commitment to serve your best interests.
In many cases, their only obligation is to offer you a "suitable" investment option, not an option in your best interest. There's a big difference between something that is "suitable," and something that is in the client's "best interest." If you're an adviser operating under a suitability standard, once you narrow the options down to those that are suitable, you can recommend the one that is most lucrative for you even though that might mean a lower return for the client. Under a best interest standard, you would need to choose the one that is best for the client.
Now while there are undoubtedly some rogue actors, this isn't about bad people doing bad things. The crux of the issue is good people operating within a structurally flawed system; a market that sees the interests of the adviser and firm all too frequently misaligned from the best interests of the customer.
So the singular goal of the Labor Department's conflict of interest proposal is to align the two. Simply put, we want to create an enforceable best interest.
The existing regulation is completely anachronistic. It was put in place 40 years ago, back in the defined benefit pension days. Today, American workers have more than $7 trillion invested in IRA's and more than $5 trillion in 401(k)-type plans. Back when the original rule was written, the former had just been created and the latter didn't exist.
This is pretty important stuff, so we haven't gone about it hastily. In fact, precisely because the stakes are so high, we've gone about this rulemaking with great care, thoughtfulness and deliberation. The Labor Department has been at this for five years now, and when I became Secretary almost two years ago I committed to slowing down the process to make absolutely sure we get it right. The result is a reasonable, middle-ground approach.
In addition to updating the regulation for the 21st century to protect the savings of retirees like the Toffels, our proposal serves two other important principles. It allows for flexibility, so that industry can use its expertise to find the best way to serve its clients in innovative ways. And the proposal also responds meaningfully to input and feedback we solicited during a far-reaching, comprehensive, even historic outreach process.
To allow for flexibility, the proposal we published in April does not include detailed rules as to what advisers can and cannot do to serve their client. While it is undergirded by the unassailable principle that retirement advisers should make their clients' best interests paramount, we leave a lot of room within that framework for industry to figure things out. Because there is no one-size-fits-all template for serving clients' best interests. Our intent here is to provide guard rails, not to put anyone in a strait jacket.
That's why we provide various carve-outs and exemptions, to give industry that flexibility. The proposed exemptions from ERISA's prohibited transaction rules would broadly permit firms to continue common fee and compensation practices, as long as they adhere to basic standards aimed at ensuring their advice is in their clients' best interest.
At the heart of the proposal is the best interest contract that would govern the advisory relationship if the adviser is receiving fees or other compensation. It's an innovative approach designed to respect existing business models while protecting consumers and leveling the playing field for impartial advisers. This contract is rooted in Ronald Reagan's adage "trust, but verify." It memorializes what I hear from everyone I speak to in industry they all tell me that they believe they put their clients first every day. This principles-based approach obligates the adviser to honor the interests of the plan participant or IRA owner, while also leaving the adviser and employing firm with the flexibility and discretion necessary to determine how best to satisfy these basic standards in light of the unique attributes of their business.
Process: A Big Table
The proposal is flexible precisely because of the unprecedented collaboration and consultation that we've built into the process. The proposal incorporates the views of stakeholders across the board. We've met with representatives of all of the major financial industry groups, financial services CEOs large and small, and representatives of employers who offer retirement plans to their workers. I have also met with consumer advocates and civil rights organizations. We've also worked extensively with colleagues throughout the government, including and especially the Securities and Exchange Commission, whose expertise was absolutely critical.
Successful rulemaking can't happen in a vacuum. It must be the product of a robust conversation and capture a broad range of perspectives. We didn't just go through the motions and check the boxes. We listened. We built a big table and invited everyone to pull up a chair. You can see that, for example, in the best interest contract exemption.
You can see our responsiveness reflected not just in what the rule will do, but also in what it won't do. It won't ban commissions or other common payments for advisers, because industry representatives told us that would be highly disruptive. We also heard that large plans with sophisticated fiduciaries making investment decisions need greater flexibility in dealing with advisers. So we included a carve-out for them, commonly known as the seller's exception. We also elected not to restrict industry's role in all-important financial education. Employers, call center employees, and other financial professionals will retain the right to provide general investment education without becoming fiduciaries.
Industry Support and Small Savers
Throughout this extensive outreach process, there have been strong expressions of support from top financial services executives. Leaders like John Thiel at Merrill Lynch Management and Bank of America CEO Brian Moynihan have come forward to say a best interest standard is the way to go. They have questions about our implementation, and I welcome those.
Jack Bogle, the founder of Vanguard, has been one of our more outspoken allies. Here's a guy who's been in this business, with great success, longer than most of us have been alive 64 years! So he knows what he's talking about. And he has said clearly that a customer first approach is not only the responsible thing to do, but it's also good for business.
We've also heard from smaller, more entrepreneurial firms, many of whom serve people with lower net worth and more modest portfolios. Companies like Financial Engines, Wealthfront, Personal Capital and Rebalance IRA they all provide personalized advice, while embracing and adhering to a fiduciary model.
Christopher Jones, the Chief Investment Officer for Financial Engines, calls this rulemaking "an important step to ensure the quality and independence of the investment advice provided to 401(k) investors."
Bill Harris, the CEO of Personal Capital calls it "a no-brainer." He adds: "If it's not in the customer's best interest, it's not advice." Plus, Harris says, if you give best interest advice and do it well, "it will redound to the benefit of your firm."
When I talk to firms like these and tell them about the argument on the other side that our rulemaking will make it impossible to serve the small saver they say: Give those small savers my email address. The bottom line is that this is a multitrillion dollar market; there's just no way industry will walk away from it.
I believe, in fact, that the new rule will be a catalyst for further innovation in the industry, as more firms devise new tools and strategies assisted by modern software and new technology-based tools to accommodate even those with only a few thousand dollars to invest.
The experience with a similar proposal in the United Kingdom can be instructive here. Their proposal was a lot more stringent new standards and qualification requirements, as well as a ban on commissions. Advisors in the UK had to reexamine their business models, which, like ours, far too often had misaligned incentives. But in both countries, we know that the market can respond to these initiatives with new, innovative, and low cost ways to provide advice.
With that in mind, I actually traveled to the UK last year to meet with the regulators and learn firsthand what their experience has been. And one of the things I heard is that lower fee options have increased in popularity, while more expensive investment options which had previously provided a higher commission are being sold less frequently. As for access to advice, one of the critiques I've heard of the UK initiative is that 310,000 clients were dropped by their advisers because they weren't profitable so supposedly that meant small savers were left on the outside looking in.
But just like we don't measure employment by only looking at jobs lost, it's important to look at the second half of that statistic. During the same time that they lost 310,000 old clients, they added 820,000 new clients. I went to law school because I was no good at math, but that looks like a pretty healthy net increase to me.
The Comment Period
The conversation about our proposed conflict of interest rule continues to take place. We extended the comment period to accommodate requests from industry, members of Congress and other stakeholders. There will be a public hearing during the week of August 10, after which time the comment period will re-open for two weeks once the hearing transcript is published.
We will read every comment we receive. We've received incredibly helpful input so far, and we're eager to hear more. For example, on the best interest contract exemption, we've heard concerns that the additional data retention and point of sale disclosure requirements are too cumbersome, challenging to implement and won't provide significant benefits. And we've received feedback from those who take the opposite view. We hope to receive a lot more comments on this important issue. The reason those comments are so important is because they've already begun to sharpen our thinking about whether we should make changes to the exemption for example by eliminating any of those provisions I just mentioned, so that the proposal accomplishes its goals in the simplest, least burdensome way for all concerned.
The more voices that are heard the more open, inclusive and transparent the process the stronger the new rule will be at the end of the day.
In a rapidly aging society, retirement security has never been more important. As a nation, we've never confronted a situation like this, and at the moment we're not quite ready for it. Retirement itself is a relatively new concept. For most of American history, to say nothing of human history, you just worked until you died. Average life expectancy didn't even reach 65 until the middle of the 20th century; today, 10,000 people are turning 65 every day. Our fastest-growing demographic, believe it or not, is people over the age of 85. The public policy challenges and implications of this demographic shift are staggering to say the least.
To keep the promise of the American Dream and sustain a strong middle class... to ensure rising living standards and expanded opportunity... to ensure that people don't spend their golden years burdened by economic anxiety... we need to be creative about promoting and protecting retirement savings. We need to protect Social Security. We need to incentivize personal savings through smart and creative about financial education. We need to use federal and state policy levers to eliminate barriers to job-based retirement savings.
A good job, education, housing, health care these are some of the pillars of middle class life. But you can have all of those throughout your prime working years... only to see them eroded unless we've strengthened the fifth pillar: saving for your family's future and working toward a secure retirement.
We need to find ways to help working families build the wealth they'll need so they can stop working when they want to. And through our conflict of interest regulation in particular, we must hold up our end of America's basic bargain ensuring that for folks like the Toffels, their hard-earned retirement savings is there when they need it. Thanks so much for your time today. I look forward to working with you on these issues.