<nobr>Oct 10, 2008</nobr>

House Committee Signals Intent to Revamp Retirement Landscape

Using the current financial crisis as a starting point, the House Education and Labor Committee expressed concern over the retirement assets of American workers at an October 7 hearing. Although fewer than 10 Democrats and only one Republican member of the committee attended, the hearing garnered major media attention in national newspapers and on television and radio. While the intent of the hearing was to examine the effect of the financial crisis on retirement savings, the hearing ranged far afield as witnesses and Members called for significant reforms that would fundamentally change the vehicles in which employees can save for retirement.

At the end of the day, Committee Chairman George Miller (D-CA) made it clear that he did not believe that 401(k) plans were intended as a primary means to provide retirement security and, in fact, that they were not fulfilling that objective. Miller, who is also holding a second hearing in his home town of San Francisco on October 14, signaled his intention to open up the retirement debate next year on how best to provide retirement security.

Jack VanDerhei, research director at EBRI, cited EBRI data that shows a substantial decline in 401(k) assets resulting from the current financial crisis. He noted that the crisis likely would have a much smaller affect on younger workers retirements, while those closer to retirement will have a more difficult time recovering.

Revamping 401(k) Plans

Committee Chairman George Miller (D-CA) in his comments at the hearing and in a later CNBC interview (available at: http://www.cnbc.com/id/15840232?video=881204077) called for a major overhaul of 401(k) plans. Miller reiterated his position that 401(k) plans were not designed to support individuals in retirement and are failing to do so. In his CNBC interview, Chairman Miller specifically cited a plan advanced by Dr. Teresa Ghilarducci of The New School for Social Research during the hearing that would replace 401(k) plans with a guaranteed retirement account.

The proposal by Ghilarducci would:

• Establish a guaranteed retirement account;


• Create a special-purpose government bond that returns 3 percent annually as the only investment in the accounts;


• Include a mandatory 5 percent employee contribution;


• Partially offset the mandatory contribution with a $600 tax credit for each participant;


• Fund the tax credit by largely eliminating the current tax advantages in 401(k) plans; and


• Allow current 401(k) participants to swap their current accounts (at August levels) for government bonds in the guaranteed retirement accounts.

401(k) Plan Fees

Chairman Miller and Jerry Bramlett, CEO of BenefitStreet, also called for increased disclosure of plan fees in 401(k) plans. Bramlett praised Chairman Miller's bill on fee disclosure (H.R. 3185), which ERIC opposed. Bramlett mentioned the problem of "hidden fees" that drain workers retirement accounts. Dr. Peter Orszag, Director of the Congressional Budget Office, echoed Bramlett's concern in response to a question raised by Rep. Souder (R-IN) regarding risk. Souder questioned whether it was true that employees seeking higher returns in their 401(k) plans necessarily took on higher risk. Orszag said that was true, except in two cases with regard to 401(k) plans:

• Employees who fail to diversify their accounts, particularly with regard to employer stock, take on much higher risk levels without higher returns, and


• Employees who invest their 401(k) accounts in actively managed funds take on higher risk but fail to see higher returns, in part due to higher fees in those funds.

Dr. Orszag noted that a key characteristic of the 401(k) plan is that, by design, the investment risk falls on the participant and not on the plan sponsor.

Mandated Investment Options

Rep. Rob Andrews (D-NJ) asked witnesses about the prevalence of "safe" investment options for 401(k) participants, such as government bonds. Several witnesses responded that such investments may not only be not safe, but unwise for many participants. They expressed concern that workers would be exchanging investment risk for inflation risk that may ultimately leave them without sufficient retirement income.

Rep. Andrews pressed the panel to discuss whether it made sense to mandate that 401(k) plans include a government-bond investment option. Most members of the panel said that doing so likely would not make much difference, since most plans already include such an option. The discussion of mandating specific plan investment options echoed discussions earlier this year over a provision in H.R. 3185 that would have mandated plans include an index fund.

Other 401(k) Plan Changes

Rep. Andrews also expressed concern over the recently released Department of Labor regulations regarding the provision of investment advice to 401(k) plan participants under the Pension Protection Act (PPA). Mr. Bramlett agreed, arguing that the financial system has become bloated on the backs of 401(k) plan participants. He argued that only independent investment advice can eliminate inherent conflicts of interest and that such advice can be provided to participants for mere "pennies." Neither of them defined "conflict," however.

Rep. Yvette Clarke (D-NY) asked witnesses about recent increases in participants making hardship withdrawals and loans from their 401(k) accounts. She asked whether it might make sense given the current economic climate to allow employees to withdraw funds without penalty so they can better weather the decline in the housing market and resulting credit crisis. The panel noted that those penalties were created by Congress to help ensure that 401(k) assets were used for retirement in exchange for the tax advantages in 401(k) plans. Dr. Ghilarducci recommended that, if Congress were to take that action, it should eliminate the tax advantages on 401(k) plans going forward.

Reversing the Defined Benefit Decline

Chairman Miller, Rep. Andrews, and other Committee members also lamented the decline of the defined benefit pension system. Dr. Christian Weller, senior fellow at the Center for American Progress, laid the blame for the decline in DB plans largely at the feet of Congress and accounting boards. He cited PPA changes which shortened the period for smoothing of assets and liabilities, limitations on pre-funding pension benefits, and the application of mark-to-market accounting as sharply increasing the volatility of pension plan assets. Dr. Weller called on Congress to revisit aspects of the PPA to:

• Increase the defined benefit plan funding target to 120 percent of liabilities, and


• Implement a 20-year period for smoothing of assets and liabilities.

Mr. VanDerhei also testified that pension accounting changes and the PPA have made offering DB plans less attractive, citing increased volatility and the impact of the current financial crisis on plan assets and liabilities as putting additional pressure on defined benefit plan sponsors.

Other witnesses, including Dr. Orszag, cited employee's past failure to recognize the value of DB plans as one reason for the decline, and suggested that recent events might lead employees to value such plans more highly and cause more companies to look at offering them. Mr. Miller echoed this belief later during his CNBC interview.

Looking Forward

ERIC expects the committee to look at many of these issues in the coming year including how Congress can create incentives for employers to return to the defined benefit system. Chairman Miller clearly intends to examine the defined contribution system and is likely to propose major reforms to 401(k)s as the current crisis has helped to clarify some of the fundamental concerns regarding employees' ability to prepare adequately for retirement.

ERIC's Retirement Security Committee meeting in November will address these and other issues as we prepare our legislative agenda for the incoming Congress. Contact Mike Chittenden, mchittenden@eric.org, or Kathryn Ricard, kricard@eric.org, if you have any questions or comments regarding the hearing.

Witness Testimony

Chairman Miller's CNBC Interview

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