Those of us who have been in the defined-contribution industry since the ’90s cringe at the sales tactics used and fees charged back then. There were surrender charges, hidden fees, claims that the plan was free, and high-priced annuities sold by brokers who weren't acting as fiduciaries, with some working for the provider.
The 401(k) system under the Employee Retirement Income Security Act has come a long way, remedying most of the egregious practices through competition, litigation and innovation. Fees have become more reasonable, participation and account balances continue to improve, and new features like student loan debt repayment and emergency savings go beyond retirement planning issues.
But when it comes to defined-contribution plans, many teachers are still stuck in the past, in an even worse situation than a legacy 401(k). ERISA does not apply to the 403(b) plans used in public K-12 schools, which means there is no plan sponsor fiduciary overseeing their retirement plan, leaving teachers to fend for themselves.
The pandemic has exacerbated the situation, with 69% of teachers feeling financially stressed, up from 32% before the Covid-19 outbreak, and 55% considering leaving the profession, according to a Fidelity study.
Most of us have a soft spot for teachers, but my concern about this is more personal.
My oldest daughter, passionate about social justice and helping people, joined Teach for America after college, working for a charter school in economically challenged districts. In trying to help her navigate through three non-ERISA 403(b) plans run by insurance providers known for their annuities, I was horrified.
One broker, who worked for the provider, bragged to me that the plan was free because the school paid the fees. He later admitted that was false, because the sub-TA and wrap fees paid by my daughter were used to subsidize the provider’s costs. Luckily, she did not have to pay surrender charges because she was in the plan long enough, but she was forced to pay a mandatory 90-basis-point wrap fee on top of fund costs for the provider’s managed account program.
The problem is largely a result of the multivendor systems common in teachers’ supplemental retirement plans. Brokers descend on unsophisticated teachers at work and sometimes at home, mostly offering high-priced annuities.
Dan Otter, founder of 403bwise, remembers being approached after hours in his Southern California classroom by a broker who asked, “Do you care about your financial future?” She already had paperwork filled out for him to sign, which included high-priced annuities. Luckily, he refused and eventually selected Vanguard.
Why does the multivendor system still exist, and is there any reason not to go with a single vendor? There are states like California and Texas that require schools to offer any willing vendor. Some unions support the multivendor system, arguing that teachers have more choice and are more likely to have an “adviser” providing “guidance.”
Mark Luckinbill, executive director at the National Tax-Deferred Savings Association, wrote in an email that “403(b) and 457(b) are most often supplemental (no employer match, supplement[ing] a pension plan and often Social Security) retirement plan offerings, and not generally considered the primary retirement plan of a public school employee.”
The multivendor system “can result in higher employee participation rates, due to more financial advisers and product and service providers having relationships with, and access to, schools to deliver plan education,” he wrote.
Others claim that many teachers would have no supplemental retirement savings if not for the current system, which they acknowledge may be flawed.
All of that may be true. But in 2016, The New York Times estimated that teachers using annuities have 20% to 50% less in savings than if they used mutual funds. While access to pension plans is great, many younger teachers, like my daughter, do not stay in the system long enough to reap the benefit. Regardless, there is no excuse to continue to offer substandard retirement plans if there are viable alternatives. Finally, automatic enrollment has proven to be a more effective way to boost participation than education, at a vastly reduced cost.
While teachers unwittingly assume that their 403(b) plan provider has been vetted by the school because they are on an approved list, the pandemic has made matters worse through phishing emails from brokers that create the illusion that they work for the school district, Otter said.
But there is hope, and progress is being made.
Bucking the trend, Delaware transitioned to a single-vendor model in 2016, with record-keeping, administration and fund fees explicitly detailed. Its record keeper hired four certified financial planners who do not receive commissions, offering mutual funds and a brokerage account for those who want more choices. They cannot convert teachers into retail clients.
“Teachers are so essential, especially now,” Delaware State Treasurer Colleen Davis said. “We wanted to cut out bad actors preying [on them].”
Many other districts are moving in the same direction, though some are concerned about taking on more obligations.
It took a lot of work initially to prepare and issue a request for proposals, said Daniel Kimmel, financial operations program manager at Delaware’s Office of the Treasurer. But now “there is 80% less work because our TPA manages much of the duties we had performed,” he said. The treasurer's office used a consultant to help them through the RFP process.
Other progress is being made. A 2009 regulation requires “sponsors” of non-ERISA 403(b) plans to report on all assets in the multivendor system. Some DC record keepers that work with governments and school districts are more than willing to move to a single-vendor plan and offer the many advantages of 401(k) plans.
Most of NTSA’s members benefit from the multivendor system, but the organization has helped to lower fees and bring more transparency to it. As part of the American Retirement Association, there is hope that NTSA, with the support of the enlightened members of the National Association of Plan Advisors, will encourage their members to make improvements to benefit teachers. Shouldn’t that be the goal even if, as with the 401(k) industry, there will be some attrition of brokers and providers unwilling to change?
Fred Barstein is founder and CEO of The Retirement Advisor University and The Plan Sponsor University. He is also a contributing editor for InvestmentNews’ RPA Convergence newsletter.
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