Statement of the
Investment Company Institute

On the Pension Security Act:
New Pension Protections to
Safeguard the Retirement Savings
Of American Workers

Submitted to the Subcommittee on
Employer-Employee Relations Committee
On Education and the Workforce
U.S. House of Representatives

February 13, 2003

Current Law Restricts the Delivery of Advisory Services
The Pension Security Act

The Investment Company Institute (the "Institute")¹ is pleased to submit this statement on pension security to the House Subcommittee on Employer-Employee Relations. The U.S. mutual fund industry serves the retirement savings and other long-term financial needs of millions of individuals. By permitting individuals to pool their savings in a diversified fund that is professionally managed, mutual funds play an important financial management role for American households.

Mutual funds also function as an important investment medium for employer-sponsored retirement programs, including section 401(k) plans, 403(b) arrangements and SIMPLE plans used by small employers, as well as for individual savings vehicles such as the traditional and Roth IRAs. As of December 31, 2001, about $2.3 trillion in retirement assets, including $1.2 trillion in IRAs and $1.1 trillion in employer-sponsored defined contribution plans, were invested in mutual funds.² In addition, the mutual fund industry provides a full range of administrative services to employer-sponsored plans, including trust, recordkeeping, and participant education services.

Retirement security is of vital importance to our nation's future. The Institute has long supported efforts to enhance retirement security for Americans, including efforts to encourage retirement savings through employer-sponsored plans and IRAs, simplify the rules applicable to retirement savings vehicles, and enable individuals to better understand and manage their retirement assets.

The Institute commends the efforts of the Subcommittee to enhance retirement security for all Americans. The critical reforms set forth in the Pension Security Act legislation being considered by this Subcommittee would advance this goal in a number of important respects. As discussed in greater detail below, the Pension Security Act would expand participant access to professional investment advice that is subject to uncompromising legal standards and designed solely to help them achieve their savings goals. As a result, individuals would have available to them the tools they need to appropriately invest their retirement assets. The Pension Security Act also would enhance disclosures provided to participants about their plan accounts, as well as expand diversification rights with regard to employer securities. We urge Congress to swiftly enact these and other important reforms fundamental to retirement security.

I. Investment Advice For Retirement Plan Participants
The need for professional investment advice among retirement plan participants is particularly acute. Because participants in self-directed retirement plans like the 401(k) are responsible for directing their own investments, it is critical that they have access to information, education and advice that will enable them to prudently invest and diversify their retirement savings. Reforms in this area reflected in the Pension Security Act will help equip participants to appropriately invest their retirement assets, while imposing stringent participant protections that would require investment advisers to act solely in the interests of participants and beneficiaries.³

A. Current Law Restricts the Delivery of Advisory Services
Many retirement plan participants who direct their own account investments seek investment advice when selecting investments in their plans. Today's pension laws, however, significantly and unnecessarily limit the availability of investment advice. Indeed, ERISA severely limits participants' access to advice from the very institutions with the most relevant expertise and with whom participants are most familiar. As a result, many 401(k) participants are unable to obtain investment advisory services through their retirement plans. Clearly, existing rules have stifled access to professional investment advice-to the detriment of plan participants.

The reason that many retirement plan participants do not have access to investment advice is that ERISA's prohibited transaction rules prohibit participants from receiving advice from the financial institution managing their plan's investment options. This is often the same institution that is already providing educational services to participants.⁴

Under ERISA, persons who provide investment advice cannot do so with respect to investment options for which they or an affiliate provide investment management services or from which they otherwise receive compensation.⁵ The restriction applies even if the adviser assumes the strict fiduciary obligations under ERISA-which, among other things, require them to act "solely in the interest of participants and beneficiaries"-and even if an employer selects the investment adviser and monitors the advisory services in accordance with its own fiduciary obligations. Indeed, the per se prohibition applies no matter how prudent and appropriate the advice, how objective the investment methodology used, or how much disclosure is provided to participants.⁶

Because of current legal constraints, the investment advisory services available to plan participants have largely been limited to "third-party" advice providers. Notwithstanding the presence of these third-party advice providers, however, relatively few 401(k) plan participants have investment advisory services available to them through their retirement plans. The Department's advisory opinion issued to SunAmerica⁷ on the provision of advice did little to rectify this problem. The ruling essentially reiterates preexisting restrictions on the provision of investment advice to plan participants-restrictions that limit participants to third-party advice providers. Indeed, in a statement issued contemporaneously with the advisory opinion, Assistant Secretary of Labor Ann Combs expressed strong support for legislative reform consistent with the investment advice provisions of the Pension Security Act. Clearly, the availability of advice from third-party providers has not sufficiently addressed participants' needs.

B. The Pension Security Act
Recognizing this important public policy concern, the House of Representatives passed legislation to expand the availability of advice on multiple occasions-most recently as part of last year's Pension Security Act of 2002 (H.R. 3762).

The Pension Security Act would expand and enhance the investment advisory services available to participants. In particular, the legislation would allow advice to be obtained from the institutions most likely to be looked to for such services by participants and employers-the financial institutions already providing investment options to their plans. Participants, therefore, would be able to receive advisory services from their plans' providers as well as third-party advice providers. Similarly, employers would be permitted to arrange for investment advice through a provider with which they are familiar, thereby eliminating the costs and burdens associated with selecting a separate vendor.

This legislation would enable pension plan participants to access sound investment advice from qualified financial institutions already known to them, while maintaining strict requirements to assure that they are protected from imprudent and self-interested actors. These requirements include subjecting advice providers to strict fiduciary standards under ERISA and extensive disclosures of any potential conflicts of interest to participants.

First, only specifically identified, qualified entities already largely regulated under federal or state laws would qualify as "fiduciary advisers" permitted to deliver advice to participants under the bill.

Second, such advisers would have to assume fiduciary status under the stringent standards for fiduciary conduct set forth in ERISA. This, among other things, would require advisers to act solely in the interests of plan participants and beneficiaries, shielding them from imprudent or self-interested advice.

Third, employers, in their capacities as plan fiduciaries, would be responsible for prudently selecting and periodically reviewing any advice provider they choose to make available to their plan participants. Thus, participants would be afforded an additional layer of protection by virtue of the employer's responsibilities as a plan fiduciary.

Fourth, the legislation would establish an extensive disclosure regime. Specifically, the "fiduciary adviser" would have to provide timely, clear and conspicuous disclosures to participants that identify any potential conflicts of interest, including any compensation the fiduciary adviser or any of its affiliates would receive in connection with the provision of advice. Additionally, any disclosures required under the securities laws, which apply to similar advice provided outside of the retirement plan context, also must be provided to participants. It is important to note that these disclosure requirements are but one part of the broad panoply of investor protections.

Fifth, any advice provided could be implemented only at the direction of the advice recipient. Participants, therefore, would be free to reject any advice for any reason.

Finally, plan participants would have legal recourse available if a fiduciary adviser violates the standards set forth in the bill or ERISA. For instance, under section 502 of ERISA, a plan or participant could seek relief in federal district court to redress the adviser's violation of its fiduciary duties. Similarly, the Department of Labor has authority under ERISA section 502 to file suit against a fiduciary adviser in violation of ERISA and take regulatory enforcement action, including the assessment of civil penalties for any breach of fiduciary duty.

In short, there is little question that many plan participants seek and are in need of professional advice. The Pension Security Act would greatly expand the availability of these advisory services, while maintaining rigorous protections against parties that fail to serve participants' interests.⁸

II. Other Retirement Security Initiatives
In addition to meeting participants' need for professional investment advice, the Pension Security Act would require enhanced disclosures to be delivered to workers about their retirement plans. Quarterly statements containing the value of plan investments and a prominent reminder about the benefits of diversification would help participants better assess their retirement savings portfolio and modify their investment strategy appropriately.

The Pension Security Act also would provide greater diversification rights to participants with retirement assets invested in employer securities. By allowing workers to divest out of company stock in a much shorter period of time, the legislation would enable participants to minimize the risk of large losses in non-diversified investments-losses that could impair the ability to save adequately for retirement.

We therefore recommend that Congress enact these important reforms addressed by the Pension Security Act.

Finally, we recognize that efforts to enhance the retirement security of our workforce also must include initiatives to create savings opportunities for all Americans. Toward this end, the Administration has proposed the creation of Retirement Savings Accounts, Lifetime Savings Accounts and Employer Retirement Savings Accounts-three new retirement and savings vehicles that will both enhance the ability of Americans to save for their future and simplify the current rules governing retirement plans. The Institute strongly supports savings and simplification initiatives that would bring long-term savings and investment opportunities within the reach of every working American.

III. Conclusion
Empowering individuals with professional investment advice, enhanced disclosures and greater diversification rights, as well as stronger savings incentives, would promote greater retirement security for all Americans. We urge swift enactment of such reforms.

The Investment Company Institute is the national association of the American investment company industry. Its membership includes 8,935 open-end investment companies ("mutual funds"), 559 closed-end investment companies, and six sponsors of unit investment trusts. Its mutual fund members have assets of about $6.382 trillion, accounting for approximately 95 percent of total industry assets, and over 90.2 million individual shareholders.

² Mutual Funds and the Retirement Market in 2001, Fundamentals, Vol. 11, No. 2, Investment Company Institute (June 2002). These figures represented about 49 percent of all IRA assets and 44 percent of all 401(k) plan assets.

³ See section 404 of ERISA, which sets forth the stringent duties of ERISA fiduciaries.

⁴ Current Department of Labor guidance permits plan service providers to provide "educational" services, but not actual "investment advice" without violating the per se prohibited transaction rules of ERISA. See Interpretative Bulletin 96-1, in which the Department of Labor specified activities that constitute the provision of investment "education" rather than "advice."

⁵ See generally section 406 of ERISA for the prohibited transaction rules.

⁶ Although the Department of Labor is authorized to provide exemptive relief from these rules, the limited exemptions issued by the Department to certain financial institutions have proven to be wholly inadequate, as they have included conditions that severely limit the ability of these firms to provide advisory services to plan participants. For example, under one approach adopted by the Department, advice may be provided if the institution agrees to a "leveling of fees" it or an affiliate receives from each investment option in the 401(k) plan. This makes little economic sense, however, because advisory fees for various investment options may differ widely from one fund to another, given that the underlying costs differ for each, depending on the type of investments the fund is making.

⁷ Department of Labor Advisory Opinion 2001-09A.

⁸ The participant-protective safeguards and the overall approach of the Pension Security Act stand in stark contrast to an alternative proposal set forth in last year's Senate bill, the "Independent Investment Advice Act." That bill would not have expanded the types of advisers that may provide investment advice to participants; rather, it would only have provided fiduciary relief to employers when selecting and monitoring an investment adviser to provide advice to participants. Under that bill, participants largely would be limited to the advisory services of third party advice providers already allowed under current law-which, as noted above, effectively has restricted the availability of investment advice to a small percentage of participants.