Brokers who give retiring workers bad advice about what to do with their 401(k) plans should expect some headaches: U.S. securities regulators are taking a closer look at what happens when investors roll their workplace balances into private individual retirement accounts.
The Financial Industry Regulatory Authority and the U.S. Securities and Exchange Commission are reviewing firms' practices for advising customers about so-called rollovers. The SEC said Thursday that the issue is one of its 2014 examination priorities, after Finra announced its own plans Jan. 2.
Brokers should recommend a rollover only after thinking about several factors for the investor, such as low-cost funds available through some 401(k) plans and differences in fees between the two types of accounts, Finra said.
Violations can lead to fines, suspensions or being thrown out of the industry.
Finra's announcement marked the second time in less than a week that the regulator sounded an alarm bell about retirement plan rollovers. It also published guidance to the industry on Dec. 30.
The regulators' concerns come as retirement plan rollover practices are being subjected to greater public scrutiny. Americans have roughly $21.7 trillion in retirement accounts, according to the Investment Company Institute. %VIRTUAL-article-sponsoredlinks%That covers all types of retirement accounts, including $5.6 trillion in employer-sponsored retirement plans, assets that could be lucrative for brokers who convince clients to invest them in securities through an IRA.
A report last year by the U.S. Government Accountability Office concluded that the financial industry generally encourages employees to roll over their 401(k) assets into IRAs without determining whether the move is in an investor's best interest.
Brokers aren't the only ones facing scrutiny on these issues. Most major financial companies manage 401(k) plans for employers and often offer advice to employees about the particulars of their plans.
The U.S. Department of Labor is also developing a rule that would establish more stringent ethical responsibilities for advisers who counsel workers on rollovers.
"This area is an area where disclosure, the quality of advertising and supervision of the investments that are made, is absolutely critical," Richard Ketchum, Finra's chairman and chief executive, said in an interview. "We've seen evidence in which they're not always handled well," he said.
Among the problems: promoting so-called "no-fee" IRAs to investors, a practice Finra warned the securities industry about in July. The term could mislead investors, who typically pay fees in some way to maintain an account, Finra said. For example, the costs of a "no-fee" account may be disguised in a higher commission instead of highlighted as a separate charge. Nonetheless, the advertising strategy could lure investors into a rollover that may ultimately be more costly than staying in their employers' plans.
Finra hasn't yet pursued any enforcement cases involving retirement plan rollovers, a spokeswoman said.
Finra's interest in rollover practices coincides with efforts by some investors to recoup money they say they're owed because of a broker's rollover advice that wasn't suitable for them.
One case, on behalf of six retirees of the former Niagara Mohawk Power, now a part of National Grid USA, a subsidiary of National Grid (NGG), alleges that an ex-broker for LPL Financial advised them to cash in their pensions when they retired and roll the money over into investments that he would manage, according to Joseph Peiffer, a lawyer in New Orleans who is handling the case.
The retirees, who transferred their funds between 2007 and 2009, collectively lost "millions" of dollars when they might instead have locked in monthly pension payments for life, Peiffer said. LPL settled a similar previous case for $390,000, according to a regulatory filing. An LPL spokeswoman declined to comment. A National Grid spokesperson wasn't immediately available to comment.
The former broker, Jeffrey Cashmore, now runs an investment advisory firm in Williamsville, N.Y. He said he was unaware of the present case but that he counseled Niagara Mohawk retirees about staying in their plan.
Finra suspended Cashmore for 30 days in 2012 and fined him $5,000 for allegedly providing misleading materials to customers. Cashmore denied misleading clients and settled with Finra because he thought the terms would be confidential, he said, adding that he still advises many Niagara Mohawk retirees.
The vast majority of workers are allowed to leave their money in a 401(k) even when they leave a company. It's often a cheaper alternative, but one that many workers don't know is available to them.
It is one point that Finra wants brokers and their firms to get across. Brokers can stay out of trouble by making sure that investors are well-educated about their choices before they roll over their retirement plan money, as well as additional fees a rollover may cost, say lawyers and compliance professionals.
Some of the largest brokerages automate disclosures about those choices in the online system investors use to set up a rollover. At Bank of America's (BAC) Merrill Lynch unit, for example, one disclosure advises investors who are leaving one company for another to consider the new company's plan.
Many smaller firms, however, will have to beef up their disclosure practices, said John Gentile, president of Ascendant Compliance Management in Salisbury, Conn. All firms will have to train advisers to ensure the conversations they have with clients are consistent with the firm's disclosures and Finra's expectations, Gentile said.
Finra can easily check up on brokers who promise clients more fund choices than their company plans, or funds with lower fees, Gentile said. "They will get out the prospectus for each and compare," Gentile said. "Brokers have to be totally up front."
6 Costly Retirement-Saving Setbacks
Wall Street Watchdogs Target Bad IRA Rollover Advice
For the best chance of maintaining your lifestyle in retirement, aim to contribute 15% of your salary, including any employer match, to your 401(k) or other savings account throughout your career (see What's Your Retirement Number?). Most people fall short of that benchmark. The average employee contribution to a 401(k) is 6% to 8%.
Saving 15% may seem like lifting weights at the gym for several hours. Try it anyway, says Stuart Ritter, a financial planner and vice-president of T. Rowe Price Investment Services. "Kick your contribution level up to 15% for three months. At the end of the three months, you can lower it, if necessary." But rather than dipping back to single digits, go with 10% or 12%, he says. "People find they can settle on a much higher amount than they were contributing before."
Procrastination is another risk: With each year you neglect to save, you lose an opportunity to fuel your accounts and to let compounding keep the momentum going.
So powerful is the effect of saving early that you could have less trouble catching up if you take a several-year break-say, to pay for college-than if you wait until midlife to start. At that point, says George Middleton, a financial adviser in Vancouver, Wash., "the amount of money you have to put away can be ungodly."
Still, you can make headway, especially if your kids are grown and you have fewer expenses. Say you're 55, earn $80,000 a year and have nothing saved for retirement. You put the pedal to the metal by setting aside $23,000 in your 401(k) each year for the next ten years. That $23,000 combines the annual maximum for people younger than 50 ($17,500 in 2013) plus the annual catch-up amount for people 50 and older ($5,500). If your employer matches 3% on the first 6% of pay and your investments earn an annualized 7%, you'd amass $434,700 by the time you reached 65.
For some investors, a bad case of the jitters became a bigger derailer than the recession itself (see How to Learn to Love [Stocks] Again). "People got very nervous and became more conservative, so when the market came back up, they had less of their portfolio participating in the rally," says Suzanna de Baca, vice-president of wealth strategies at Ameriprise Financial.
You can get back in (and stay in) by investing in stocks or stock mutual funds in set amounts on a regular basis. Using this strategy, known as dollar-cost averaging, you automatically buy more shares at lower prices and fewer shares at higher prices-an antidote to market-driven decisions. Once you decide on your mix of investments, use automatic rebalancing to keep it that way, advises Debbie Grose, of Lighthouse Financial Planning, in Folsom, Cal.
Most financial planners recommend that your portfolio be at least 80% in stocks in your twenties, gradually shifting to, say, 50% stocks and 50% fixed-income investments as you approach retirement. But formulas don't cure panic attacks. "Set your risk at the level you're willing to withstand in a downturn," says Middleton.
Amassing hundreds of thousands of dollars for retirement is challenge enough, but parents are also expected to save $80,000 to $100,000 per kid to cover the college bills. In fact, half of parents don't save for college at all, and the average savings among those who do runs about $12,000, according to a 2013 report by Sallie Mae, the financial services institution. Faced with a shortfall, two-thirds of families say they would use their retirement savings to pay for their children's college education, if necessary.
Don't wait until your kid is 17 to discuss how much you'll contribute. Have a conversation early about how much you can afford to give, says Fred Amrein, a registered financial adviser in Wynnewood, Pa.
A Roth IRA can be one way to save for both college and retirement, although it won't get you all the way to either goal. You can contribute up to $5,500 a year ($6,500 if you're 50 or older) in after-tax dollars, and the money grows tax-free. You can withdraw your contributions for any reason, including college, without owing tax on the distribution. You will pay taxes on the earnings (unless you're 59 1/2 or older and have had the account for at least five calendar years), but you won't have to pay a 10% early-withdrawal penalty if you use the money for qualified higher-education expenses.
Leaving the workforce, even temporarily, deprives you of current income and makes it tougher than ever to save for retirement. You might even find yourself tapping your retirement accounts to cover day-to-day expenses. You'll owe taxes on distributions from a traditional IRA plus a 10% penalty if you're younger than 59 1/2.
The best way to avoid that dismal situation is to have an emergency reserve that covers at least six months or even a year of living expenses, says Jim Holtzman, a certified financial planner in Pittsburgh. He acknowledges, however, that "that's easy to recommend and hard to implement." Avoid further disaster by hanging on to health insurance: If you can't get coverage through your spouse, look into keeping your employer-based coverage through COBRA. You can extend that coverage for up to 18 months, although you'll pay the full premium plus a small administrative fee. As of January 2014, you'll also have access to coverage through state health exchanges.
Married couples who depend on each other's earning power need life insurance to cover the gaps when one spouse dies. You can get a rough idea of how much coverage you'll need on each life by calculating what you each contribute to annual living expenses and multiplying that amount by the number of years you expect to need it, says Steve Vernon, of Rest-of-Life Communications, a retirement consulting firm. (For advice on how to do a more precise calculation, see How Much Life Insurance Do You Need?)
If you have a pension, you'll have the option of choosing a single-life benefit, which ends at your death, or the standard joint and survivor's benefit, which pays less while you're alive but keeps paying (typically at 50% to 75% of the benefit) for the rest of your spouse's life. Your spouse is legally entitled to the survivor's benefit and must sign a waiver to forgo it. Don't be tempted by the higher-paying single-life option if your spouse will need the survivor's benefit later.
Decisions you make in claiming Social Security are similarly key. If you're the higher earner (typically, the man), "you will really help your spouse by delaying Social Security as long as possible," says Vernon. The benefit grows by about 6.5% to 8% a year for each year you delay after age 62, when you first qualify, until you reach age 70. If you die first, your spouse can qualify for a survivor's benefit up to the full amount you were entitled to, depending on the age at which she files.