Is the New Executive Order for 401(k) Accounts a Good Thing_ _mixdown === [00:00:00] Hi, I'm Ed Slottt. And I'm Jeff Levine. And we're two guys who just love to talk about retirement and taxes. Look, our mission is simple to educate you the saver, so that you can make better decisions because better decisions on the whole lead to better outcomes. And here's how we're going to do that. Each week, Jeff and I will debate the pros and the cons of a particular retirement strategy or topic with the goal of helping you keep more of your hard-earned money. At the end of each debate, there's going to be one clear winner you. A more informed saver who can hopefully apply the merits of each side of the debate to your own personal situation. Decide what's best for you and your family. So here we go. Welcome to the Great Retirement Debate. Hey everyone. Jeff Levine here with Ed Slott and welcome back to the latest episode of The Great Retirement Debate. And Ed and I are coming to you today with a very special episode of the Great Retirement Debate based on some new news we just saw. Ed, uh, why don't you let everybody know what our special topic [00:01:00] is for today? Well, earlier in August, uh, the president signed a new executive order allowing alternative investments in your 401k, including crypto. So our topic for today then is, is the new executive order on 401ks a good thing, and Ed, I think we should just start with a quick recap of what this executive order was. Uh, for those who are looking to read the full text of the executive order, you can go to the White house.gov and look at the briefing room there. It's called Democratizing Access to Alternative Assets for 401k Investors. So a bit of a mouthful there. But effectively what this executive order is, it's designed and it instructs the Department of Labor to reduce the regulatory burden that, uh, at, at least according to the White House's terms that exist today for fiduciaries and plans, that has largely limited access within 401k accounts to non-traditional investments. So, specifically cited in the executive [00:02:00] order are things like private equity, real estate. Cryptocurrencies and so forth. So those are typically not investments you see within a 401k or other qualified plan. And largely the reason for that ED, as you know, is erisa, right? ERISA requires that fiduciaries act in the best interest of participants, and oftentimes these alternative investments carry higher fees. They may have higher risk, hopefully for more return. But that higher risk and higher fees has often led to fiduciaries not adopting these. So the goal of this executive order is to really instruct the Department of Labor to clear the path, if you will, and make it easier for fiduciaries to feel comfortable adding these sorts of investments to a plan. Does that about sum it up? That's basically it. The other big point is a number. 12.2 trillion in 401ks that private equity would like to get a little slice of, so we have to [00:03:00] watch if it's right for you. Mentioned the term investors. These are employees that I call. More participants than investors. I was speaking, I did a, a media interview for somebody who works for a major newspaper, the writer obviously, and he said, well, I really don't know what's in my 401k. Is it good for me? He's writing the article about it. Mm-hmm. And I said, well that doesn't make, he said investors like me. And I said, well, I don't know if you qualify as an investor here we are more a per uh participant sitting on the sidelines. 'cause you don't really know what your 401k is invested in. I think that's true for a lot of people. Not that they can't, but that they just don't pay attention to it. Right, Ed? Right. Well, you're talking about something that's allowable to, let's call it, for the most part, unsophisticated as to these transactions. Unsophisticated employees having to make [00:04:00] decisions on very sophisticated investment types like private equity deals. So I guess I would start with, it seems like you're a little bearish on this. Is that, is that fair to say? Well, I, I worry it depends where you are. I think it, uh, one of the factors you have to look at is your time horizon. If you're much younger and you can take more risk, you have more years to recover and see how these things play out. One of the features of some of these private equity deals is that the money is tied up long term. If you are near or in retirement and you want. Access to your money, it may be tied up. So that's something. Uh, the other things here are the transparency. A lot of this, because they're not regulated, they're not as transparent. But the other side of that coin is, uh, publicly traded stocks feel they're overly regulated and can't generate these kinds of returns. So there's two sides to this coin, but most people will. I would say most people, you can tell me if [00:05:00] you disagree. Most employees may not have the knowledge to evaluate these kinds of investments. Are you've mentioned before, are they riskier? Uh, why is private equity, which really deals up until this, with wealthy, sophisticated investors looking to take more risk for higher returns, why are they looking to get into the $12.2 trillion market and what I think it's, it's. 12.2 a trillion dollars market. I know I gave it, you answered your question there. That's called a softball. Yeah. Yeah. You know, I really struggle with this one because I, I like you, me too. I, I, I very much see two different sides of the coin. On, on one hand, I believe very firmly that more choice is generally a good thing for people, right. Giving people the freedom to choose what is best for them. And there is right now, a, a, a very. Uhland set of investments, if you will, in a lot of plans. Now that said, bland investments for a lot of [00:06:00] clients and a lot of participants do just fine, right? The market is at all time highs. Just tracking the stock market alone would probably be good enough for most people if they put away a significant percentage of their wealth each year, a significant percent of their income. In other words, they do the right thing, they save. Tracking the market over time has been pretty good for folks. Now, having said that, there used to be a lot more companies going public, so there used to be a lot more options. Today, private markets have really become more sophisticated, so companies can stay private longer, they can raise capital, and as you pointed out, these private entities don't have the same oversight and and regulatory requirements as a publicly traded company. So a lot of businesses today that are really, really big and profitable entities want to try and stay private for longer. Investors are dying to get their hands on some of the equity here, and the only way to do that is through the [00:07:00] private market. So things like private equity can be very, very attractive for certain individuals. But I also go to the other side of the coin where I say. Does the average person understand what a two and 20 is? If you're listening to this and you're going, I have no idea what a two and 20 is, well, that is a sign to me that you probably should either not be investing in private equity, or you should only be doing so with the help of a knowledgeable advisor because that is a two and 20 is the fee structure of many private equities. What does that mean? It means it's going to charge 2%. Each year on whatever you have invested. So let's say you have a hundred thousand dollars of your 401k invested, it's gonna be a $2,000 fee, plus 20% of the profits. So if the investment makes, you know, let's say 10% for the year, well 20% of 10%. Another 2%. That's a $4,000 fee on what was a hundred thousand dollars investment at the beginning of the year. Now, it's fair to say that if you're making [00:08:00] money and the returns are great, well then it's worth it. And that's why a lot of high net worth individuals are comfortable with the two and 20 structure because at the end of the day. It's not really how much you pay, but how much you get to keep after fees and taxes. And if the return is high enough, then it can be worth it. But higher fees are a higher barrier to overcome. And plus, as you pointed out, things like private equity, things like real estate, these are a lot less liquid. And so individuals who may need liquidity, could be, uh, you know, in a, in a risky position if they invest too much of their capital in these sorts of investments. So for me, what I see here is on the whole, I like the idea of potentially more choice, but I think it means that participants are really going to have to spend more time meeting with their financial advisors to figure out what is the right. Allocation for them within their plan. Oftentimes these are kind of left to the side and only thought about at retirement, and that [00:09:00] is not good enough, especially if you're gonna look at some of these more exotic or less traditional investments. Well, part of this executive order is, uh, directing the Department of Labor oversight with oversight here to provide safe harbors Protect employers, because you talked about financial advisors, but plan sponsors the company. The employers may back off. They don't want liability. They don't wanna see their employees lose money, so they're putting in protections against lawsuits and liability also. A lot you don't even really know. I've been looking at articles on this, what the private equity is investing in, because what I've seen just recently as this topic came up, a lot of private equity are investing in other private equities who are investing in other private equities, who are investing in other private equities and on and on. There was a recent article on a. On, uh, August 14th. I dunno if you saw this, where [00:10:00] they talked about private equity, buying up other private equities at deep discounts and then marking the value up so you don't even know what it's worth. You don't even know the cost. So I don't know if you saw this piece in the Wall Street Journal. This was August 14th. This is a copy of the cost basis, uh, for you to figure out what your cost is. There are 1,095 different costs. On this particular part, uh, private equity deal 'cause they buy up other private equities. So how do you know what you're, I mean, you talk about people getting up to speed on this. Uh, this is the Wall Street Journal, the most pro investor type publication in the world. And they're putting out a full page on this stuff. Uh, I think you have to be more careful. And I'm also thinking down the road, let's say you did this in taking into account the, uh, how to figure out the cost and the value of these things. You're in a 401k and then you take other good advice from your advisor [00:11:00] and you say, you know, I'd like to convert that to a Roth. Uh, what's the value? I don't know. It's one of these thousand numbers. I'll tell, I'll tell you where I see a big problem with this, ed. I, I, you know, I, I'm gonna put on my crystal ball here for my, I'm gonna look into my crystal ball or put on my, uh, Johnny Carson hat here for a moment and look into the future. And I'm gonna say that even if they release this executive order, plans are gonna be very slow to adopt a lot of these things. Oh yeah. For a lot of reasons. One is it's probably gonna be a lot more operationally burdensome for plans to do so. Two, I think fiduciaries will still be worried about the fees and the potential risk. 'cause remember, as a fiduciary, people may not know this. You are. Personally liable, not just professionally, but you are personally liable. Now, you can get insurance, there's fiduciary insurance out there, but you are personally liable. Do you want to put yourself on the front lines of being one of the first fiduciaries to bring these sorts of investments into the plan? And I'll say one more thing, ed. This, uh, [00:12:00] is a complete reversal of policy that was issued under the previous administration, under the Biden administration. There were actually warnings about including things like cryptocurrency and 401ks, so like almost everything else in our world today, this has become a hyper politicized issue. What if you add it to the plan and in three or four years, the administration turns over? And we have a different, uh, you know, a different group at the head of, uh, the White House who says, you know what, actually all those rules that were changed a few years ago we're rolling them back. And now it's really risky again, to have this, you can't even get rid of these investments in your plan very easily because of the, uh, of the illiquidity of many of them. So it could be very, very challenging for folks. And again, you have to look and say. What's going to be the case, not just under this administration, but what about a future administration? When you're looking at what are the rules and what are the regulations and how much risk is there to [00:13:00] bring these things into the plan? So ultimately, for me, ed, if it could all go perfectly, if everyone had perfect knowledge about these investments, if plans did their due diligence and they sought out the lowest cost options in these investments, and if. Participants were working with knowledgeable advisors who could help them determine the best allocation for them, taking into consideration their risk and return profile, their uh, time horizon, the fees associated with these investments, the illiquidity on. If all of those things could be true, then I think this is a good thing. My concern is I'm not sure all of those things will actually come to pass, and if any of those are not actually. Uh, reality, I worry that participants will find themselves in a position that they were not really, uh, understanding the true nature of their investments. Yeah, I go back to the fees are private equity companies, uh, willing to literally cut their fees has to be at leased in half to even [00:14:00] get into a 401k I would think. Uh, uh. Be tough because they've got a lot of non 401k money and I don't know how you go to everyone and say, well, if you invest in a 401k, your fee is this, but if you invest anywhere else, it's double. I think they would've a really hard time doing that, so yeah, I don't, I don't see that. Plus they say they get their investors better returns outside of the 401ks because as you said, they're illiquid. They, they're meant for long term, not easy to sell, and that's how they make money. But people coming into retirement wanna liquidate that in retirement of, in fact, they're subject to RMDs. At some point the money has to come out. So how do they reconcile the two to have an, uh, an investment that is only good when it's for the long term, but make it available. Short term for 401ks. Then I also wonder why, besides the obvious $12.2 trillion big juicy stakes sitting in 401ks that they want to [00:15:00] get their hands on is the private equity market saturated and they're looking for new sources of funds, and this is a pretty big source of funds. So are they. I don't know, but just something to throw out there. Are they unloading their dogs maybe on the 401k that their wealthy, sophisticated investors have passed on those deals We don't know. There's a lot of concern about there, about things like that. I have read a bunch of articles about, uh, who will actually be the winners and who will get the bed better deals and who won't. Uh, look ultimately for, for me, I think that, you know, private equity has done really well for a lot of people over the years. It becomes another option. There's a reason why so many wealthy folks invest in it, and it's not because they lose money, right. There are all sorts of risks that the typical investor is not familiar with, and that's why private investments for years have been limited largely to individuals who are either sophisticated or have high net worth because they can [00:16:00] afford or have the knowledge to be able to take on that greater risk. Any final thoughts here before we wrap up our discussion on this executive order? Yeah. Uh, on that point, they can afford to take those risks. But, uh, as a final thought, it's probably a good idea to, as the executive order says, democratize this and open the door for all kinds of investors. Employees, but as you said, the employees have to really know what's going on, and I don't think that's the case for most employees. So they'll do exactly what you said. They'll turn to their advisor. The advisor may not be able to evaluate these deals because of the lack of transparency and what goes in and, and what, what the underlying businesses are. So they'll be worried about liability, the employee. So that's the advisors, the fiduciaries, like you say, and the, and the plan sponsors. Everybody will be worried. I think it's gonna take a learning curve. It's probably good the door is open [00:17:00] and you see what happens. But I wouldn't rush in, uh, unless you're a younger person and you have time to see it through, but into retirement. Maybe what's going to happen, I don't know if this is going to happen, but to protect themselves. Many companies may say, well, it's gonna limit you to 2% of this, or something like that, just to protect everybody. Yeah, and I think that's good advice, even if the companies don't do it right, is come up with a proper allocation. And when you go into alternative investments or things that are a little bit less traditional with a greater risk, just be prepared to accept a greater, uh, you know, a greater loss. In some cases, it may be best to say, if I lose all of this. Am I still okay? But you know this executive order Ed is all about democratizing access to alternative investments. You and I are about democratizing information and education to consumers, so that's why we're here. Remember, the whole purpose of the Great Retirement debate is so that there's one winner of each of these debates, and that's you. A more [00:18:00] informed, more knowledgeable consumer who has more information at their fingertips. Ed and I firmly believe that more informed individuals make better decisions that right, and better decisions on the whole lead to better outcomes. So Ed, thanks so much for this, uh, this breakdown of democratizing access to alternative assets for 401k investors, or as we started this by saying, is the new executive order on 401ks good or not? Well, you can make your own decision, but there you have it, Ed. Thanks so much and we'll see you all real soon for the next episode of the Great Retirement Debate. Jeffrey Levine is Chief Planning Officer at Focus Partners. This podcast is for informational and educational purposes only, and should not be construed as specific investment accounting, legal or tax advice. Certain information mentioned may be based on third party information, which may become outdated or otherwise superseded without notice. Third party information is deemed to be reliable, but its accuracy and completeness cannot be guaranteed. The topic discussed and corresponding arguments are those of the speakers and may not accurately reflect those of focus partners.