Secretary of Labor Thomas E. Perez
U.S. Secretary of Labor Tom Perez
Brookings Institution Public Meeting,
"How Should Retirement Investment Advice Be Regulated?"
October 16, 2015
[as prepared for delivery]
Good afternoon and thank you so much. Martin, I appreciate that generous introduction. And Josh, thanks so much for your service and for making this happen today. It's an honor to be here to talk about one of the most important steps we can take to enhance retirement security for millions of people.
First, I want to take a step back to provide some context for why the Department of Labor's rulemaking in this space is so urgently needed. As everyone in this room is aware, we're in the middle of a huge shift in the retirement paradigm. Quite simply, this isn't your father's or your mother's retirement. For much of the 20th century, the path for so many Americans was this: after working 40 or so years for the same company, around the age of 65 you retired with a commemorative pen and a concrete pension. And because it was a defined benefit pension, the only thing at risk of running dry was the ink in the pen.
But to quote the learned philosopher Bob Dylan: "the times they are a changin'." That world is gone. The Ozzie and Harriet world of defined benefit plans has been replaced by the Modern Family era of IRA's and 401k's. If you ask a millennial if she has a defined benefit pension...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. In 1975, private-sector employee participation in defined contribution plans was less than half that in defined benefit plans. By 2013, it was five times more.
With defined contribution plans as the principal retirement savings vehicle, consumers are responsible for managing their own assets and making high-stakes decisions that will impact their financial security for the rest of their lives. And to do so, they have to master a complex and confusing landscape, with hundreds of products about which they know very little if they don't have a finance degree.
What they need is someone who can help them navigate this terrain. They need retirement advice they can trust. They need to work with someone whom they know is acting in their best interest.
The problem is that after ERISA was passed in 1974, regulations governing retirement advice were written under that old paradigm in 1975. And they haven't been updated since. In the early 1980s the earliest data we have the retirement market was about half a trillion dollars, mostly in defined benefit plans. Today, that same market is $17.4 trillion, with more than $13 trillion in defined contribution plans and IRAs. But we're operating under anachronistic rules that were written when IRA was your elderly uncle and 401k was a road in the rural Midwest.
So what our proposal would do is establish a very basic, common-sense principle. If you want to give financial advice, you have to put your client's best interests first and not your own.
If you think about it, this is really no different than the widely-accepted standard we apply when it comes to other important life decisions that demand informed and unbiased advice. Here's how I like to think about it: When you go to the doctor or when you consult with an attorney, you know that they are obligated to give you medical treatment and legal advice that's in your best interest. You wouldn't expect anything less. So why shouldn't you expect and why don't you deserve the same from the professional you've hired to help you prepare for retirement?
Many financial advisers are fiduciaries and do embrace that high standard. But the majority are not fiduciaries, and do not follow this high standard even though, I might add, in some cases their marketing suggests that they do. The highest bar they need to clear under the current rules is a suitability standard.
But you wouldn't accept a mere suitability standard from your physician. When they're making a life-or-death call involving you or your spouse or your child, you don't want them choosing from among several "suitable" options. No, you want what's best for you and your family, not just what's suitable.
Without a best interest standard, it's too easy for advisers to benefit from indirect payments and hidden fees. It's too easy for working families to be unwittingly victimized by the corrosive power of fine print. I don't want to take too much time today, but I could share heartbreaking stories of families that saw their nest egg vanish because they put their faith in an adviser who may have given "suitable" advice, but who wasn't pursuing their best interest. In all, according to conservative estimates by the Council of Economic Advisers based on data on a subset of the overall market, conflicted investment advice costs IRA investors some $17 billion a year.
When you look at all of the peer-reviewed, empirical academic studies that have been published on this, they overwhelmingly support our fundamental position: that conflicts of interest are harming America's savers, to the tune of billions of dollars. Various studies have found that investors fare worse when advisers are conflicted, and worse still when their conflicts are larger. The more extensive the conflict, the worse the consumer does. Advisers often steer investors who start with low-cost investments into pricier alternatives that on average perform worse. The stakes get higher each year as hundreds of billions roll out of ERISA-covered plans into potentially more vulnerable IRAs. The evidence is more than adequate that prompt and decisive action is necessary. By contrast, I'd add that most of the industry-commissioned research reaching the opposite conclusion does not meet equally rigorous analytical standards.
Now let me reiterate something I have said many times: I do not believe that financial advisers wake up every morning with malice in their hearts. I don't think it's constructive or accurate to frame this issue around a white hat-black hat narrative. To be sure, there are a few rogue actors out there. But this isn't about bad people doing bad things; it's about good people operating under a structurally flawed system where the incentives of the adviser are not properly aligned with the best interests of the customer.
I think Bob Seawright of Madison Avenue Securities, makes an important point when he speaks of a confirmation bias that can convince the adviser that the option that's most lucrative for him and her is the one that's right for their client. The goal of our rulemaking is to re-align the interests of the consumer with those of the adviser.
Now, when we started doing our outreach as we were developing the proposed rule, some stakeholders' initial reaction was: "Problem, what problem?" The status quo is working just fine, they said. But as our conversations evolved, I am heartened that there was a gradual but growing recognition among many about the importance of an enforceable best interest standard.
Some people have said that they support that standard in principle, but that operationally speaking it will be too difficult to implement. But the fact is that a substantial segment of the market has already found a way to abide by it and do quite well for themselves. We've heard and understand these concerns about logistical challenges during the comment period, and we remain flexible on the question of how best to make this work. We want to set parameters, not suffocate industry. The objective here is to provide guardrails, not a straitjacket.
We know there's no one-size-fits-all template here. We believe there should be flexibility for industry to discern the best way, given the unique attributes of their business, to implement a best interest standard while staying toward the center of the road, safely between those guardrails.
That's why the proposal includes various carve-outs and exemptions, to give industry that flexibility. Flexibility is also baked into the cake of the proposed best interest contract exemption, which is designed to accommodate existing business models while still protecting consumers.
I've been encouraged throughout this process by support from the financial services industry, the men and women who are providing retirement investment advice and believe that they can do the right thing for their customers while doing the smart thing for their business. Industry leaders large and small have come forward to say that the best interest standard is practical and necessary. Jack Bogle, the founder of Vanguard, has been one of our most outspoken advocates. He's been at this game longer than most of us have been alive 64 years! and he built an enormously successful business around a client-first approach. He has said that when you look at Vanguard's success, "it's proof that it's possible to serve clients well, while minimizing conflicts of interest."
At the other end of the scale, we've also heard from a lot of smaller, more entrepreneurial firms that often serve customers with lower net worths and more modest portfolios. They're on board too, rejecting the argument that our proposal will slam the door on small savers.
For one thing, it's important to remember that low and middle-income folks have little margin for error. They're less able to absorb financial loss resulting from hidden fees or lower returns. Also, their entry point into the IRA market -- rolling over funds from job-based plans is particularly vulnerable to conflicts of interest. By reducing the impact of conflicted advice, by creating a climate of accountability and trust, our proposal would encourage small savers to consult with financial advisers.
Successful firms like Wealthfront, the Garrett Planning Network, Financial Engines and Personal Capital are there to occupy this important market niche. They already do so quite profitably, and they do so while embracing and adhering to a fiduciary standard. When I talk to these firms and I tell them about the argument that our proposed rule will make it nearly impossible to serve small investors, you know what they tell me? "Give those small savers my phone number. I can help them grow their assets... and make a decent living doing it."
It is important to remind ourselves that this is a multitrillion dollar market. Industry can and will adapt in order to serve it. Many industry players already have the model in place that puts their clients first. I believe our rulemaking can serve as catalyst for innovation in the industry, as more firms devise new tools and strategies assisted by modern software and other technology-based tools to accommodate even those with only a few thousand dollars to invest.
I am very proud of the way that we at the Labor Department have approached this rulemaking. At every step, we've taken an inclusive, careful approach and the final rule will be stronger for it.
Given the importance of the matter at hand, we've proceeded with the utmost caution and deliberation. The Department has been at this for five years now, and when I became Secretary a little more than two years ago, I made a commitment to slowing down the process to make sure we get it right. During my confirmation process, I heard a considerable amount about the need to proceed carefully, and we have done just that.
We built a big table and invited everyone to pull up a chair. Our approach has been one of a keen ear, an open mind and a healthy dose of humility.
We didn't just check boxes, go through the motions and pay lip service to people's views. We listened.
We listened in 2011 when we heard from many stakeholders that our initial proposal was flawed, and so we withdrew it and went back to the drawing board.
We've listened throughout the last few years as we solicited input from the broadest possible range of stakeholders: financial industry groups, financial services firms large and small, companies offering retirement plans to their employees, civil rights groups, consumer organizations and more.
Our outreach even took us across the pond. I personally traveled to the UK, to listen to and learn from regulators in the UK about their experience and their approach to this problem.
We listened attentively to our colleagues at the Securities and Exchange Commission whose expertise and assistance were absolutely essential to the completion of a sound proposal. While the partnership with the SEC was helpful, we believe and SEC Chair White agrees that the Labor Department is well within its jurisdictional authority in proposing this rule, that there is no need for us to wait for the SEC to act first on these questions. Former SEC Chair Arthur Levitt also agrees. Calling ours "a balanced proposal," he adds: "I don't think we can afford to wait... to implement the fiduciary standard. It started at the Department of Labor and that's where it should end... to get it on the books before it's too late."
We appreciate the substantial input we received from the SEC. And there are examples of their input throughout the proposal in the questions we asked, as well as the way we crafted the proposal. For example, our definition of "best interest" directly adopts a standard set out in the 2010 SEC's own staff report on a best interest standard. At the same time, as Chair White herself has publically recognized, we are two different agencies pursuing two different statutory mandates.
Because we listened to all these parties because our outreach was robust and comprehensive; because we captured such a diversity of voices and views the process produced a pragmatic proposal that people could respond to.
For example, having heard from industry how disruptive such a step would be, we did not propose a ban on commissions like the one instituted in the UK. Large plans with sophisticated fiduciaries made the case that they needed greater flexibility in dealing with advisers, so we included the seller's carve-out for them in the proposal. In response to feedback, we also further clarified the line between financial education and advice so that in our proposal, employers, call center employees and other financial professionals would preserve their rights to provide general investment education without becoming fiduciaries.
Commenters on our original proposal wanted to see the exemptions as well as a more rigorous economic analysis, so our new proposal contained a significantly more rigorous economic analysis, and we proposed exemptions at the same time as the rule.
Some stakeholders were concerned about a provision in the 2010 proposal pertaining to Employee Stock Ownership Plans. In response to that feedback, that provision is not a part of the current proposal.
Of course, the release of the proposal was just one phase of the listening. We've spent the last six months listening to feedback about the proposal, taking more than 100 meetings with stakeholders of all kinds.
When people said that they needed more time to review the proposal, we listened again and extended the comment period by a few weeks. I testified in June before a House Education and Workforce subcommittee and in July before a Senate HELP subcommittee. In August, the Labor Department reopened the comment period and hosted four days of public hearings, where we opened the floor to an array of perspectives.
The second comment period remained open until September 24, giving everyone plenty of time to review the transcripts from those hearings. This is one of the longest comment periods of any rule I have been involved with almost six months on top of at least 18 months of informal outreach. All told, the number of comments and petitions received on the rule and its exemptions comes to 391,621.
We're now spending the months ahead evaluating all the comments and giving them full consideration. There have been many constructive suggestions for improvements. Among many other things, we've heard concerns about potential burdens associated with the point-of-sale disclosure, data retention and the mechanics of implementing the best interest standard. I can't say right now exactly what the outcome will look like on these issues or any other comments and suggestions we have received. But I am confident that we will be making changes to improve and clarify our proposal, addressing legitimate concerns that have been brought to our attention. That is what notice and comment rulemaking is all about.
At the end of the day, I'm confident that we'll come out of this process which has been extraordinary in its openness and its breadth of dialogue with a strong, balanced rule that both protects and empowers consumers while preserving a sound business climate for financial advisers.
Over the last six years, the nation has experienced a remarkable economic recovery. Unemployment, which had climbed above 10 percent, is now back near 5 percent. We're in the middle of the longest streak of private-sector job growth on record: 13.2 million jobs over the last 67 consecutive months.
But in so many ways, the economy is still out of balance. While we've put the Great Recession in the rearview mirror, while we're no longer experiencing the kind of financial meltdown that wiped out so many people's hard-earned life savings, still millions of folks are struggling to find the economic stability they need. And the current outdated regulations governing retirement advice are contributing to that instability.
To create shared prosperity and an economy that works for everyone, we need to make this fix. To ensure that working families don't spend their golden years burdened by economic anxiety, we need to give them the assurance that their financial adviser is putting their interests first. If we don't, then we're not holding up our end of America's basic bargain the promise of retirement with dignity after a lifetime of hard work.
What are the pillars of a middle-class life in America? A good job that pays a family-sustaining wage; an education that gives you the skills and knowledge you need to succeed; a home that provides a safe roof over your head (and perhaps allows you to build a little wealth as well); affordable health care that's there when you need it. 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.
The conflict-of interest rule is one of the most important steps we can take to fortify that all-important fifth pillar. I am grateful again for all of the people who have engaged with us on this critical question, who have brought so much insight and expertise to the big table we've built. This is one of my top priorities as Labor Secretary, and it will remain so throughout the final 462 days of this administration. Thanks so much for your time today.