The Department of Labor’s (DOL) proposed fiduciary rule could discourage small
business owners from offering simplified employee pension plans (SEP) and
SIMPLE-type individual retirement accounts (IRAs), a new report from the U.S.
Chamber of Commerce contends.
The report, “Locked Out of Retirement: The Threat to Small
Business Retirement Savings,” was written by Brad Campbell, counsel at Drinker
Biddle & Reath LLP and former assistant secretary for employee benefits
security at the DOL. Campbell notes that 99% of U.S. employers are small
businesses, and that through SEP and SIMPLE-type IRA plans they have helped
generate $472 billion in retirement savings for more than 9 million U.S.
households.
Under the proposed fiduciary rule language, the DOL permits
advisers to large plans with 100 or more participants or $100 million or more
in assets to not be a fiduciary, while an adviser to a small plan must be a
fiduciary, Campbell notes.
“Because an adviser to a small plan is not carved out of the
rule, the adviser who is trying to market retirement savings vehicles to a
small plan is considered to be providing investment advice and must determine
how to comply with the rule,” Campbell writes. “The adviser must either now
provide advice for a level fee, or, if the adviser has variable compensation,
he or she must comply with the many conditions of an applicable prohibited
transaction exemption.”
Furthermore, even providing a small business with marketing
material containing sample investment lineups for SEP IRAs or SIMPLE IRAs
“could constitute investment advice, as could providing an individual account
holder with certain educational materials that reference the specific
investment funds that are available to him or her,” Campbell says.
“Consequently, small businesses may find it even harder to offer retirement
plans than they do today. Advisers will have to review how they do business,
and likely will decrease services, increase costs, or both.”
In addition, the new fiduciary rule would make it cumbersome
for advisers to recommend SEP and SIMPLE IRA investments that use proprietary
investment products—and the rule could discourage advisers from helping
participants set appropriate asset allocations, Campbell says. “Some advisers
may choose to exit the SEP and SIMPLE IRA marketplace in light of the costs and
risks of compliance with the new rule,” he says.
A full copy of the report can be downloaded from the Chamber
of Commerce here.
For retirement plans and planners, the benefits industry has
become much more integrated lately. After moving from defined benefit (DB) to
defined contribution (DC), plans are now looking at taking the best features of
both. From health insurance during one’s career to care costs in retirement, holistic
programs are looking at health savings accounts (HSAs) to complement the
401(k). From participant inertia and the rise of automatic features, sponsors
are asking themselves how their financially illiterate participants can achieve
financial wellness.
Whatever a retirement plan’s stated goal, economic
independence for participants is universally agreed upon. In this arena,
though, many savers tend to be their future-selves’ own worst enemy. Spending
on current wants often trumps future needs, and even the financially savvy are
likely to be distracted by short-term goals such as home ownership and tuition
savings.
One way to address this is to align participants’ interests
with the plan’s and, by extension, the company’s—by adding an employee stock
purchase plan (ESPP) (see ESPPs Another Way to Help Workers Save for Retirement).
A best practice for employers offering an employee stock
purchase as well as a 401(k) plan is to “emphasize the value of ownership,”
says Dave Gray, vice president of client experience at Charles Schwab.
Employees may not realize that the equity award program is meant to create a
sense of ownership, he says, “and that ownership is at two levels: sense of
ownership in the company and … their future.”
Along with the 401(k), Gray believes stock options should be
presented to workers as one of the two key drivers that employees are going to
leverage to determine their financial future. “The communication starts there,”
he says. “The other piece that we think is critical is that the communication
and underlying services support integration.” Stock ownership and retirement
savings benefits are often viewed in silos and communicated in silos, he notes,
but from the employee’s perspective, they are two components of the
individual’s total financial wellness.
NEXT:
ESPP vs. DB and DC.
“What makes these plans unique and interesting is that this
is a way that companies can compensate employees attached to the company stock
price,” says Emily Cervino, CEP, vice president of marketing at Fidelity Stock
Plan Services. This allows corporations that make ESPPs and employee stock
ownership plans (ESOPs) available to participants to align the interests of
their employees along with the interests of their shareholders, plus giving
their employees incentive and an interest in the company’s success, as well.
“The fact is that employees have lots of savings needs,”
Cervino says. “Retirement is obviously a very important savings need, but there
are lots of other short- and mid-term savings goals that employees have, like
paying for college tuition or buying a home. So, having a path for saving for
those other goals can be a really good way to help employees have a more
diversified savings package.”
Adds Gray: “Employees should be educated on the interplay
between 401(k) assets [and] the stock plans they may be able to participate
in.”
“The thing that’s unique about ESPPs is that these are
broad-based plans, which means that all employees at a company generally are
eligible to participate in the plan,” she continues. “And these plans can be
very beneficial for employees. In general, and there’s a huge amount of variety
in these plans, these are plans that allow employees to purchase company stock
at a discount—a discount that, at times, can be pretty substantial—and to
purchase it conveniently through payroll deductions.”
If that sounds like a retirement plan, she says, “that’s
where the similarities end.” For one thing, all stock purchases are post-tax.
Depending on the type of plan, there may be some tax advantages on the shares
purchased, but the rules governing that can be confusing (see myStockOptions.com Expands Tax Return Guidance).
To get those tax benefits, Cervino says, participants have
to hold onto their shares for two years from the time of their enrollment in
the offering and one year from the time of purchase. “You have to meet both of
those requirements,” she adds, and the most common plan is a six-month plan.
“So, employees enroll in the plan, accumulate payroll deductions for six
months, and then they purchase shares. In a plan like that, that means
employees have to hold the shares for 18 months after they purchase them.”
NEXT:
Supplementing the retirement plan.
Most importantly, stock purchase plans are not designed to
serve as a retirement savings vehicle, Cervino says, but they can supplement a
retirement plan. “The availability of an employee stock purchase plan appears
to be an effective way that companies can help their employees insulate their
retirement savings.”
For example, she says, “We looked at clients that offered an
ESPP with a 401(k) [and at clients that] offered a 401(k) and no ESPP. In that
study, we analyzed the loan rates against the 401(k) plan. Where companies
offered employee stock purchase plans in addition to a 401(k), we found lower
loan rates across the board, regardless of company size.” The difference was
especially notable among small companies with fewer than 500 employees: 9% of
workers took out new 401(k) loans when an ESPP was also available, versus 14%
at employers that only had a retirement plan. The percentage of participants
with an outstanding loan was also lower at smaller companies with an ESPP, 14%
versus 23%.
This makes sense, Cervino believes, because stock plans have
a lot of liquidity associated with them. “Most plans don’t have any
restrictions,” she says. “So, having an alternative savings path for employees
that provides a liquid form of investment can help employees resist the
temptation to take a loan against their 401(k).”
An earlier study from Fidelity found that more than half
(57%) of participants with an ESPP intend to use those assets for retirement
saving or later investment. Participants in stock plans also reported being
strong savers overall, saving an average 18% of income among their retirement,
personal, stock and other accounts.
“We have done a little bit of client-specific analysis on
401(k) and ESPP participation,” Cervino says. “Where we have done it, on a
client-specific basis, we have found that participants who are participating in
the ESPP are by and large maxing out their 401(k) match.”
If stock plan savers are more engaged with their finances
overall, sponsors may look forward to stronger participant outcomes, and
employers, too, may get a better work force out of making stock options
available (see More Employees Value Stock Purchase Plans).
NEXT:
ESPPs vs. company stock investment options.
“We have seen one other development in this space with
regard to company stock,” she says, as companies are re-evaluating whether to
offer stock on their investment lineup. The PLANSPONSOR 2015 Defined
Contribution Survey found that while many large and mega plans offer employer
stock in their retirement plan—21.2% and 43.4%, respectively—fewer than one in
10 micro, small and mid-sized plans include stock in their investment
options—1.4%, 3.2% and 8.3%, respectively.
“Where companies are no longer offering company stock as an
investment option, it means that there is no longer an easy path to employee
ownership,” Cervino notes. “So, we have had some interest in employee stock
purchase plans as an alternative path to employee stock ownership where it’s no
longer available through the 401(k).”
However, one challenge to be wary of, Gray
warns, is that the asset allocation of most 401(k) plans does not take into
account participants’ equity holdings outside the plan. “If you have a large
position in stock ownership, it may actually be presenting the wrong view as to
how you should be invested in your 401(k),” he says. A more personalized advice
and/or default solution could account for participants’ equity balance. “The
key is ownership and integration,” he concludes. “Make that not only part of
communication, but actually make it a part of the solution.”