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Should You Change Your Retirement Portfolio?

Author: Jacob Smith

The Department of Labor's new rule defining who is a fiduciary under both the Employee Retirement Income Security Act of 1974 (ERISA) and the Internal Revenue Code of 1986 could have an enormous impact on you and how you save for retirement. At its core this rule requires virtually all financial advisors who provide you with investment advice about retirement to act only in your best interest. (For more, see A First Look at the Finalized Fiduciary Rule.)

Previously, many advisors merely had to adhere to the suitability standard, which meant the investment should be suitable for someone in your situation, but not necessarily the one with the fewest, lowest fees. This left plenty of wiggle room for advisors to recommend funds that paid them healthy commissions and cost you more than you needed to pay.

The rule is a reminder that you should look at your current retirement portfolio to see whether you have any investments that looked good once but wouldn't pass muster now, especially if you have retired. If you have investments on which you have already paid upfront fees and whose recurring fees are reasonable, you probably don't need to make any changes. However, you may have some investments that regularly charge pricey fees, especially high-risk ones that can bring great reward. Sit down with your advisor and discuss whether you should stay in these funds or seek other, safer ones to protect yourself better in retirement.

The Scope

A grand total of 21 million retirement plans and IRAs representing 60% of U.S. households could be affected. These plans hold a staggering $14 trillion in assets. To comply with the new rules, 2,800 financial firms will be required to distribute 86 million written disclosures and notices the first year. The reporting part alone will cost an estimated $69 million.

Breaking Down the Rule

The new rule applies to investments in 401(k) plans, IRAs and other tax-deferred accounts such as a health savings account (HSA). If you are receiving other types of financial advice, it's up to you to ensure that the advice follows a fiduciary standard. This means that the person providing advice must act only in your best interest, including making prudent recommendations, charging reasonable fees and making no misrepresentations to you regarding his or her recommendations.

Additionally, your advisor must not accept payments or commissions that create a conflict of interest. There are exemptions within the DOL rule, and, if your advisor complies with the stipulations of the exemptions, there is some flexibility. Finally, your advisor must tell you that he or she is acting as a fiduciary and thus is bound by this rule. (For more, see Choosing a Financial Advisor: Suitability vs. Fiduciary Standards.)

The Timeline

The issuance date of the new rule is June 7, 2016, but it will not be applicable until April 10, 2017. The actual final rule, including full implementation of all exemptions, will not be effective until Jan. 1, 2018. This is to allow financial firms time to adjust to the rule (and exemptions). While this could cause some confusion for investors, the Department of Labor decided on this phase-in approach following a great deal of input from the financial services industry.

Talking to Your Financial Advisor

If your financial advisor already adheres to a fiduciary standard – as an SEC registered advisor, for example – there may be little or no need to change anything about your retirement plan. You are already getting advice that is in your best interest. If your current advisor was not previously required to adhere to that standard – or you don't know – this is where things can get tricky.

Here are some things to consider prior to meeting with your financial advisor:

  • Dual Registration – Many financial advisors have dual registration as brokers – subject only to the suitability standard – and also as fiduciaries. With dual registration an advisor can change hats, depending on the role.
  • DOL Guide The DOL's guide for consumers includes a series of questions to ask of your advisor (or a potential advisor) along with suggestions designed to ensure that he or she adheres to a fiduciary standard.
  • Don't Jump to Conclusions Just because your current advisor hasn't adhered to a fiduciary standard in the past does not mean that the advice you have received has been bad or that your advisor hasn't acted in your best interest.
  • Increased Costs Be aware that the new rule may result in increased costs as financial advisors seek to make up lost commission revenue or pay for the cost of implementation.
  • Lower Fees The requirement to act as fiduciaries will likely pressure financial advisors in general to recommend lower cost index funds, ETFs and other investments with lower fees.
  • Refunds Nothing about the new rule provides for refunds of fees or commissions paid in the past. In other words, the rule is not retroactive. Broadly speaking, your advisor has to follow the fiduciary standard beginning April 10, 2017.
  • Wiggle Room The final rule is 58 pages long and being phased in over time. It includes exemptions that are also being phased in. This leads to complication, which leads to interpretation and the inevitable discovery of loopholes.
Making Changes

Your financial advisor may suggest changes to your account, for example moving from actively managed funds (which tend to charge higher fees) to index funds, ETFs and other types of investments. Many advisors will likely take a proactive approach, contacting clients and beginning the process of informing them about how or if the new rule will change the relationship between advisor and investor. Passive vs. Active Managment: Which Is Best? reviews some of these issues in more detail.

If such is the case with your financial advisor, great. He or she should review your portfolio, detail any suggestions for changes and explain why these changes are in your best interest. But it might be up to you to initiate contact and set up a meeting. The net result should be the same: a review of your portfolio followed by suggestions for change and an explanation of why those changes are a good idea. (For more, see How to Change Your Retirement Plan.)

Breaking Up

If for any reason you decide that now is a good time change financial advisors, it's important to locate your next one before cutting ties with the your current person. Use the DOL guide mentioned above to make sure you will be working with someone who adheres to a fiduciary standard. Once you've made your choice, review your current portfolio with your new advisor and get to work building retirement wealth. Worth magazine goes into more detail regarding the steps to take when changing financial advisors.

The Bottom Line

While the new DOL fiduciary rule is clearly designed to help investors, it is not a perfect instrument. The phase-in period, necessary to avoid chaos in the financial services industry, creates its own confusion as well as opportunities for fudging on the part of unscrupulous financial advisors. Whether you need to make any changes to your plan will depend to a great extent on whether you believe that your current advisor has acted in your best interest – fiduciary or not.

The new rule does not in and of itself mean you must make changes. The rule does mean that from here on out you and your financial advisor will be sitting on the same side of the table when it comes to deciding which investments are best for you and most likely to benefit your long-term retirement goals moving forward.

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