Government IRA – Frying Pan to Fire (2016 May)

by Barry A. Liebling

If you work for a company and have a 401(k) retirement plan you might decide to switch to an individual retirement account (IRA). There are many firms and investment advisors that would be pleased to handle your IRA. Some will do an excellent job, and some will be sub par. And if you are not satisfied you can always switch from one IRA plan to another (and from one institution to another).

But things are about to change. Recently the Department of Labor enacted a new rule that requires financial advisors who sell and manage IRA accounts to be fiduciaries – that is, act in the “best interests” of their clients. The definition of “best interests” will be determined by the government, and there will be legal penalties for failing to comply.

According to the The Wall Street Journal the new rule will make it significantly more expensive for investment companies to manage IRA accounts for middle income customers. Consequently, firms will be less likely to seek out these customers and will focus instead on higher net worth individuals. And, not coincidently, the new strict fiduciary rules do not apply to IRAs that are managed by state governments – which will be exempt from penalties. The clear intention of the Department of Labor is to move IRA money from the private sector to state-run government agencies. To add force to the initiative states will be informing employers that their safest legal policy is to urge employees to put their IRAs in government hands. The “Secure Choice” plan run by the state of California has informed companies that if they move workers to government-run IRAs they will “have no liability or fiduciary duty for the plan.”

As expected, The Wall Street Journal does not approve of this shift toward state-controlled IRA accounts. The official reason for the new Department of Labor ruling is that individuals with IRAs were (sometimes) not getting the best return on their investments. The Journal points out that when the investment advisor is the government (as in the California example) the portfolios will be heavily weighted toward government bonds – which have a lower yield than private company investments. So citizens with IRAs managed by the state will probably make out worse than those who stick with private advisors.

And there are more problems with the notion of shifting the management of IRAs to the government. According to boosters of the Department of Labor regulation, private investment advisors – who are not formally fiduciaries – have a built-in conflict of interest. Instead of recommending investments that are best for their client they might push products where they make the highest commission. That concern has some plausibility. But if the potential for conflict exists among private sales people it surely must apply to a greater degree among government bureaucrats. An IRA manager employed by a state might be motivated to make investments that are advantageous to the government – to the detriment of the IRA owner. Note that a private advisor is always worried that if his clients are unhappy they will switch to another supplier. The government-paid advisor has no corresponding concern.

Of course, Department of Labor planners are well aware that public employees are subject to conflicts of interest. They know that for every instance that a private advisor might work against the interests of an IRA client, there is a similar situation where a government agent might bring about harm. But the concern over conflicts is not the essential rationale for the planners’ scheme. The real prize is to transfer as much money under individual control to government management as possible.

The Wall Street Journal focuses its critique on insufficient returns to IRA investors. But there are additional problems with the policy. The more IRA money the government controls, the more the investment environment is distorted.

When making investment recommendations how much importance will a state-employed IRA advisor attach to the political profile of a private company? Will firms that contributed money to particular candidates be given special considerations? How much will a company be helped if it endorses the latest leftist agenda (Think of global warming, sustainability, class, gender, and ethnicity)? Conversely, to what extent will government IRA advisors discourage investments in companies that fail to support the politics of expanding the government?

It gets worse. Suppose a state government agency has major IRA investments in a company that is going through hard times. Will state officials do special favors for that company in an attempt to rescue the IRA investments its agents are responsible for making? How much pressure will individual IRA clients put on their government representatives to make things right?

Moving IRA money from private companies into the hands of government bureaucrats is a move in the wrong direction – like going from the frying pan to the fire.

*** See other entries at in “Monthly Columns.” ***

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