When financial advisers are paid through fees and commissions that directly depend on which investment products their clients choose, the advice they provide is “conflicted”—what is best for the adviser may not be best for the client. This creates incentives for advisers to steer their clients into investments that provide larger payments to the adviser but are not necessarily the best choice for the investor. Every year, retirement savers lose $17 billion acting on advice from financial advisers who have conflicts of interest.
The map below shows how much retirement savers lose annually in each state as a result of receiving conflicted advice. Annual losses from conflicted investment advice range from $24.2 million in Wyoming to $205.3 million in Iowa to just over a billion in Texas and to nearly $1.9 billion in California.
Note: The map shows the annual costs to retirement savers of the underperformance of IRA assets that are invested in products for which savers received “conflicted” advice (advice provided by financial advisers whose earnings depend on the actions taken by the client). If it were fully implemented, the conflict of interest (“fiduciary”) rule would require that financial advisers act in the best interests of clients saving for retirement. Underperformance of investment returns in which savers received conflicted advice can be due to a wide range of factors, including high fees, high trading costs, poor market timing, and increased risk exposure without increased returns.
This fleecing of retirement savers should be illegal. Financial advisers, like lawyers and doctors, should be required to act in the best interests of their clients. That’s what the “conflict of interest” rule—also known as the “fiduciary” rule—does. Set to go into partial effect June 9, the conflict of interest rule would require financial advisers to act in the best interests of clients saving for retirement.1
But this rule is under threat from the Trump administration, which has demonstrated that weakening or rescinding the rule is a core priority. In the second week of his presidency, Donald Trump directed the Department of Labor to prepare an analysis concerning the likely impact of the rule—despite the fact that the department had already completed a roughly six-year, exhaustive vetting process.2 This vetting process produced a nearly 400-page economic analysis on the likely impact of the final rule. The analysis was published one year before the rule would go into effect, and it incorporated feedback from four days of hearings, more than 100 stakeholder meetings, thousands of public comments, and a detailed review of the academic literature. The analysis found that “adviser conflicts are inflicting large, avoidable losses on retirement investors, that appropriate, strong reforms are necessary, and that compliance with this final rule and exemptions can be expected to deliver large net gains to retirement investors.”3
To have time to conduct the additional examination, the Department of Labor delayed the implementation of the rule by 60 days, from April 10 to June 9. This delay hurt retirement savers, and not just during the period of the delay. In the proposal to delay the conflict of interest rule, the department noted that the losses that retirement savers would incur from being steered toward higher-cost investment products during the delay “would not be recovered, and would continue to compound, as the accumulated losses would have reduced the asset base that is available later for reinvestment or spending.”4 The 60-day delay will cost retirement savers $3.7 billion over the next 30 years—and this estimate is an undercount because it considers only individual retirement accounts, not other investment vehicles subject to potential conflicted advice, such as 401(k)s.5 The table below shows how much retirement savers in each state will lose as a result of the 60-day delay.
Alexander Acosta, who became Secretary of Labor on April 28, originally said that he was hoping to further “freeze the rule,” but has since said that he couldn’t find a legal way to do so, stating that while the department “should seek public comment on how to revise this rule,” department officials “have found no principled legal basis to change the June 9 date while we seek public input.”6 The fact that there will be no added delay in the near term is very good news. Further delay of the rule would have been a huge win for the financial industry and a huge loss for retirement savers all across the country, with every additional week of delay costing retirement savers $431 million over the next 30 years.7
However, while the rule’s fiduciary standard will take effect on June 9, key compliance provisions built into the rule’s exemptions have been further delayed to January 1, 2018. Moreover, the department has stated that it will not enforce the rule between June 9 and January 1.8 This means the loopholes that allow financial advisers to take advantage of savers are not fully closed, and retirement savers will continue to be harmed.
Further, it is far from certain that the rule will in fact become fully applicable on January 1. The department has made it clear that—as requested by the financial industry—it is considering proposing additional changes to the rule and delaying it beyond January 1.9 Thus, we can expect further attempts to weaken and delay the rule in coming months. These actions would further harm retirement savers, who need a fully applicable and vigorously enforced rule to protect their savings from the large losses caused by conflicted advice. As the administration takes its next steps, the cost estimates provided in the map and the table show what is at stake for retirement savers.
The high cost of conflicted advice to retirement savers
|Annual cost to retirement savers from “conflicted” financial advice (in millions)||What the 60-day delay to the “fiduciary” rule already will cost savers over the next 30 years (in millions)|
Note: The data in column one quantify the annual costs to retirement savers of the underperformance of IRA assets that are invested in products for which savers received conflicted advice. Conflicted advice is advice provided by financial advisers whose earnings depend on the actions taken by the client. Underperformance of investment returns in which savers received conflicted advice can be due to a wide range of factors, including high fees, high trading costs, poor market timing, and increased risk exposure without increased returns. The data in column two quantify the losses retirement savers will incur over the next 30 years because the administration imposed a 60-day delay of the conflict of interest (“fiduciary”) rule, which requires that financial advisers act in the best interests of clients saving for retirement. [See extended notes.]
Both sets of state breakdowns are based on a single methodology. In particular, we used Survey of Income and Program Participation (SIPP) data to calculate the state distribution of the market value of IRA accounts in which investors hold stocks or mutual funds. We then applied that distribution to the national figures provided in this table. In these calculations, we used the latest complete panel of the SIPP, the 2008 panel. The questions related to the market value of IRA accounts were asked in waves 4, 7, and 10.
One may wonder why the cost of the 60-day delay is not simply the annual cost of conflicted advice divided by 6. Though the two measures are based on similar assumptions, the first is the current (annual) cost of past investment decisions negatively affected by conflicted advice, while the second is the future (30-year) cost of investment decisions negatively affected by conflicted advice during a delay in implementing the rule.
- The two measures have in common a narrow focus on rollovers into IRAs, ignoring, among other things, costs associated with conflicted advice aimed at 401(k) participants and plan administrators. They also both assume, per the academic literature, that investment returns are one percentage point lower net of fees in high-cost funds recommended by conflicted advisors. Finally, both measures assume that savings rolled over into high- or low-cost funds remain in these funds.
- The simplifying assumption of inertia on the part of savers has little effect on our estimate of the annual cost of investments in high-cost funds due to the shorter time frame. The effect on our estimate of the cost of delay is potentially larger but theoretically ambiguous. On one hand, it assumes that implementing the rule will have no effect on existing IRA investments—only on new rollovers—which will tend to underestimate the beneficial effect of implementing the rule and the negative effect of delaying it. On the other hand, it assumes that there’s no trend toward lower-cost investments that would continue even in the absence of the rule, which will tend to exaggerate the benefits of implementation and the cost of delay. On balance, we believe that implementing the rule will significantly speed the shift to lower-cost investments and that our measure underestimates the negative effect of delaying the rule.
Sources: The $17 billion figure is from The Effects of Conflicted Investment Advice on Retirement Savings (White House Council of Economic Advisers, February 2015); the $3.7 billion figure is from Addendum: Methodology for Estimating the Losses to Retirement Investors of Fiduciary Rule Delay (Economic Policy Institute, March 17, 2017); state breakdowns are based on Survey of Income and Program Participation (SIPP) data from the U.S. Census Bureau, 2008.
1. Employee Benefits Security Administration, Department of Labor, “Definition of the Term ‘Fiduciary’; Conflict of Interest Rule-Retirement Investment Advice” [final rule], Federal Register vol. 81, no. 68, 20945–21002 (April 8, 2016).
3. Department of Labor, Regulating Advice Markets: Definition of the Term ‘Fiduciary’ Conflicts of Interest–Retirement Investment Advice; Regulatory Impact Analysis for Final Rule and Exemptions, April 2016.
4. Employee Benefits Security Administration, Department of Labor, “Definition of the Term ‘Fiduciary’; Conflict of Interest Rule-Retirement Investment Advice; Best Interest Contract Exemption (Prohibited Transaction Exemption 2016-01); Class Exemption for Principal Transactions in Certain Assets Between Investment Advice Fiduciaries and Employee Benefit Plans and IRAs (Prohibited Transaction Exemption 2016-02); Prohibited Transaction Exemptions 75-1, 77-4, 80-83, 83-1, 84-24 and 86-128” [proposed rule], Federal Register vol. 82, no. 40, 12319–12326 (March 2, 2017).
5. Heidi Shierholz, “EPI Comment on the Proposal to Extend the Applicability Date to the Fiduciary Rule,” letter to the U.S. Department of Labor Employee Benefits Security Administration, March 17, 2017.
6. National Association of Plan Advisors, “Acosta Looking to Freeze DOL Fiduciary Regulation,” NAPA Net, May 10, 2017; Alexander Acosta, “Deregulators Must Follow the Law, So Regulators Will Too: As the Labor Department Acts to Revise the Fiduciary Rule and Others, the Process Requires Patience” [opinion], Wall Street Journal, May 22, 2017.
7. Heidi Shierholz, “EPI Comment on the Proposal to Extend the Applicability Date to the Fiduciary Rule,” letter to the U.S. Department of Labor Employee Benefits Security Administration, March 17, 2017.