State Retirement Arrangements for Small Business Employees

After posting "Public-Private Retirement Plans and Possible Fiduciary Gaps," a senior legal expert kindly informed me that Connecticut's legislation draws extensively from U.S. federal pension law. (ERISA does not directly apply to most government plans and the U.S. Department of Labor has proposed a safe harbor that would exempt states from being tagged as ERISA fiduciaries.) Interestingly, a word search for "fiduciary" in the Public Act No. 16-29 document comes up empty. Specifically, as laid out in Section 6, entitled "Board Duty To Act With Prudence And In Interest of Participants," the Connecticut Retirement Security Authority board of directors are to act with the "care, skill, prudence and diligence under the circumstances then prevailing that a prudent person acting in a like capacity and familiar with such matters would use in the conduct of an enterprise of like character and with like aims" and solely "in the interests of the program's participants and beneficiaries."

Regarding legal redress, my understanding is that individuals who allow their employers to deduct three percent of their taxable wages to be placed in an "age-appropriate target date fund" or similarly allowed investment will not have the right to sue individual members of the Connecticut Retirement Security Authority Board nor will they have the right to sue the State of Connecticut. They will have to rely on authorized directors and the Attorney General to properly oversee selected service providers and take corrective action to improve things going forward. However, even if participants can demonstrate economic harm, they would not be able to recover past damages.

Programs offered by other states vary. One would have to research dozens of legal documents to compare and contrast governance, investment opportunities and conflict of interest avoidance mechanisms. Interested parties can visit the Pension Rights Center's State-based retirement plans for the private sector or the AARP's State Retirement Savings Resource Center. I am not sure how often these websites are updated.

I remain skeptical and am not alone. Michael Barry, president of the Plan Advisory Services Group, explains his reservations in "Are State Plans the Answer?" (Plan Sponsor, November 2015). Paul Schott Stevens, president and CEO of the Investment Company Institute, gives a thumbs up to private initiatives such as expanding multiple employer plans or MEPs to include smaller companies. Another way forward would be to simplify 401(k) plan regulations to encourage employers to better help their workforce save for retirement. See "State-Run Retirement? Better to Go Private" (Wall Street Journal, February 7, 2016).

My lack of enthusiasm for these state-run programs has more to do with philosophy and a desire to encourage economic growth. Here is some food for thought.

  • Small businesses around the world are drowning in a sea of regulations. According to an article in Small Business Trends, there is an inverse relationship between company formations and the number of pages in the Federal Register. These "little engines that could" create jobs are not leaving the train station, discouraged by too many rules.
  • As any free market economist can handily demonstrate, unintended consequences often occur, resulting in added expense and unwelcome behavior. Instead of spending X hours per month on growing sales and profit, a small business owner that is obliged to complete paperwork may now forego hiring new employees or cut back on existing perks.
  • Some of the states that are setting up retirement programs for private company workers have a poor track record as evidenced by underfunded pension plans for municipal staff.
  • Unless one is convinced that small company employees are unable or unlikely to set up an IRA on their own, these state-involved arrangements are not needed. CNBC reports that "Employees participating in auto enrollment tend to contribute less than people who sign up for 401(k) plans on their own, often because their employers set a low default contribution level."
  • It's not clear to me that individuals will have a better level of consumer protection by being part of a state-run program versus setting up an IRA account directly with a reputable financial institution. So far, no one has convinced me to the contrary.

I'm all for encouraging individuals to save for the long-term but I seriously wonder why government has to be involved with every decision someone makes. Hopefully I will be proven wrong and these state programs for private company employees will succeed.

Note: I welcome insightful essays and commentaries on this and other relevant pension governance topics. If you would like to be a guest contributor, please email contact@fiduciaryleadership.com with your idea or write-up.

Fiduciary Rule and Small Businesses

Given the newness of the U.S. Department of Labor ("DOL") Fiduciary Rule, many still have questions about both content and implementation. One such inquiry arose during a workshop I was asked to create for members of the CT chapter of the National Institute of Pension Administrators ("NIPA"). During our discussion, an audience member wondered out loud if small businesses would be sufficiently overwhelmed that they decide to jettison plans to offer benefits to employees. The reasoning is that compliance costs could dwarf any perceived upside associated with creating retirement arrangements for workers.

As we celebrate National Small Business Week from May 1 through May 7, 2016, the issue of disproportionate impact is certainly relevant. As with any regulation, there are winners and losers. Critics have been vocal about what they see as flaws. Last June, the U.S. Chamber of Commerce released a report entitled "Locked Out of Retirement: The Threat to Small Business Retirement Savings" that predicted a fallout for small business owners who "provide roughly $472 billion in retirement savings for over 9 million U.S. households" via SEP and SIMPLE-type IRA plans. Its author, Drinker Biddle & Reath LLP attorney Bradford Campbell, wrote that "Main Street advisors will have to review how they do business, and likely will decrease services, increase costs, or both." As the U.S. Department of Labor Fact Sheet points out, the final rule covers IRAs, 401(k) plans and many other types of employee benefit plans, some of which were already regulated pursuant to the Employee Retirement Income Security Act of 1974.

Talk about deja vu. Investment News just published an article about the Fiduciary Rule effect on small broker-dealers as relates to documentation and other elements of compliance. The author, Attorney Ross David Carmel, worries that the DOL Fiduciary Rule could be catnip to the plaintiffs' bar because it is vague, "with no definition of best interest or reasonable compensation." He adds that increased costs will likely be passed along to consumers. Of course, buyers of any services have the right to decline or go elsewhere if competitors are willing to sell.

Only time will tell how things materialize for companies that rely on IRAs and will therefore be impacted by the Fiduciary Rule. In aggregate, economic consequences could be large if small business compliance hits the bottom line hard. Statistics from the U.S. Small Business Administration website show that 28 million small businesses contribute 54 percent of U.S. sales.