School Retirement Plan Editorial
It’s Time To Get Serious About 403(b)/457(b) Retirement Plans
The perfect storm is developing in the 403(b) world, only this storm has the potential to wreck serious harm on the 403(b) industry, not the employees the industry portends to serve. The outcome of this perfect storm could very well spell the beginning of the end for the current inefficient distribution method of the 403(b) retirement plan. It is time the school districts and county office of educations around the country began taking these back burner retirement plans seriously. The education community has the opportunity to take back a retirement plan that was started as an employee benefit, but has largely become a subsidy for the financial services industry.
What are the events that are precipitating this Perfect Storm?
A Movement Begins
The first event isn’t really an event, it is a movement that began in 2000 when a teacher by the name of Dan Otter started a website called www.403bwise.com that allowed a community of like minded educators to congregate in one place and speak out against 403(b) abuses in the industry and simultaneously provide unbiased education about retirement plans available to school employees. Dan eventually teamed up with myself to write “The 403(b) Wise Guide,” a manual on how to effectively utilize the 403(b) retirement plan. The book has sold over 10,000 copies and led to a second book solely authored by Dan called “Teach and Retire Rich.” These two books have had the effect of educating the educators and have started a “Great Awakening” among them about how best to save for retirement.
The IRS Issues New Regulations
The second event is the Proposed IRS regulations for the 403(b) which are scheduled to become final January 1st, 2007. These regulations are far reaching and require the employer to take control of the 403(b), whether the employer wants to or not. The new regulations require the employer to monitor all transfers, distributions, loans, and to create a plan document that governs how the plan will be run. While the employer is currently obligated to do many of these things already most don’t, but they won’t be able to get away with not complying anymore.
The new regulations are serious and will create a compliance nightmare if school districts continue to offer a long list of providers. The 403(b) industry is scared of these regulations and is fighting them. The spokes group for the 403(b) financial services industry is the National Tax Sheltered Accounts Association and they have attempted to hire a lobbyist to fight these regulations, though they couldn’t come up with the money from their members, mainly insurance agents. However, insurance companies themselves are taking the battle to congress and they are a powerful lobby. My hope is that they don’t get their way. The new regulations will be tough to comply with under the current way of operating, however they will be simple if a new way is adopted.
The third and most disturbing event is the series of third party administrator (TPA’s) failures over the past 18 months. These TPA’s were responsible for accepting money from school districts and forwarding it to the 403(b) vendors the educators want to invest in. The TPA’s were also responsible for keeping the plan in compliance. Horizon Benefits Administration, NEBSonline, and Plan Compliance Group have not only failed over the past 18 months but are all facing criminal investigations, lawsuits, and worst of all they (allegedly) stole money from school district employees. The latest, Plan Compliance Group has taken school districts across the country for over $3 million. School districts across the nation are sending money to TPA’s with very few checks and balances in place to prevent this theft and they are paying for this mistake out of their own pocket.
Not only are districts sending money to TPA’s who may not be financially viable they are sending money to financial services companies that don’t actually have their own products (I dub them “403(b) Intermediaries”). There are many “payroll slots” in school districts where money is sent to a financial services firm and that firm deposits the money to their own corporate accounts before sending the money onto another 403(b) vendor. These companies either don’t have a 403(b) product or their own or they offer their product alongside of others. Though this is common practice in the industry it is dangerous for three reasons.
First, the IRS clearly states in publication 571 that “Generally only your employer may make contributions to your 403(b) account” through a salary reduction agreement and “this agreement allows your employer to withhold money from your paycheck to be contributed directly into a 403(b) account for your benefit” (emphasis added). Thus the IRS requires school districts to make contributions directly to your 403(b) account; they cannot be made through an intermediary that is not a direct agent of the district. What this means is that money withheld from an employee’s paycheck should not be going to a company that simply re-forwards the money to another entity (presumably a 403(b) vendor). This appears to be a violation of IRS rules and regulations.
Second, even if it isn’t a violation of IRS rules and regulations to send money to an entity that is not the product vendor it should be a practice that is frowned upon as the district has absolutely no control of the entity it is forwarding the money too. If the entity a district forwards money too goes bankrupt or just steals the money before sending it to the actual provider the employee has lost money. Presumably the school district should have exercised better fiscal control and will in the end reimburse the employee for the losses incurred by the intermediary. School employees and school districts are financially exposed to these “403(b) intermediaries” and should not forward money to them. In fact, a district should research vendors before allowing them on an approved vendor list to ensure that the vendor actually offers a product and that school employee money will go directly to that product (as required by the IRS). Districts are not currently doing this and are left exposed. Districts should be actively policing and auditing their vendors.
The third reason these “403(b) intermediaries” are dangerous is because they act as a middleman in the process and drive up the cost of products and make compliance nearly impossible for a school district. How is a school district supposed to monitor loans, hardships, and other distributions when it doesn’t even know who has their employee’s money?
If you take the above three events and combine them with the fact that 403(b) products on the whole benefit the financial services industry more than the employees they are suppose to serve you have a situation of The Perfect Storm.
This Perfect Storm will combine to force the pendulum to swing from an industry in favor of financial services companies (and agents) to an industry that favors the end user, the participant. There are many ways this can happen, but I believe the best way is for school districts to combine with other school districts (combine buying power) and to move toward a fiduciary based Single Vendor System.
A Single Vendor System would solve all the above mentioned problems and if done right could save hundreds of millions of dollars annually while improving the 403(b). This system I envision is one that has been rejected outright by the leaders of the NTSAA (the trade organization that represents the 403(b) industry) because they believe it will hurt the agents who are their members. School districts, their unions, and their employees must come together for once on this issue and stand up to the financial services industry that controls the 403(b) and find a better way.
There is a better way; the winds of change are beginning to blow.
Scott Dauenhauer, CFP, MSFP