Kutak Rock’s John Schembari provides a concise deep-dive into the Department of Labor’s proposed investment-selection regulations and the industry reaction after a roughly 60-day comment period that produced ~45,000 responses.
Jeffrey Snyder, Broadcast Retirement Network
Well, John, it’s always great to see you. Thanks for joining us this morning.
Absolutely, Jeff, great to be here. And I would assume that things are warming up in Omaha, Nebraska these days?
John Schembari, Kutak Rock
Things are warming up and we’ve got the College World Series here in town, so lots of visitors, it’s wonderful.
Jeffrey Snyder, Broadcast Retirement Network
Yeah, well, good for you. I always enjoy the College World Series. I always wish I could hit those baseballs, but no luck on my end in terms of coordination.
John, I’m so glad we could connect because I wanted to reach out. Last time we had you on, I think we talked about the new Department of Labor proposed regulations about investment selection. The comment period is now over.
And what have you heard? What are you hearing from your peers? What are you hearing from advisors?
What are you hearing from clients?
John Schembari, Kutak Rock
Yeah, so I think the last time we chatted, they had just opened up the comment period and that was back in March 30th. It was open for 60 days, so it ended in June 1, there June 1, June 2nd. The Department of Labor received right around 45,000 comments.
So it’s kind of hard to say exactly what all of those comments are, but there are certainly buckets that those comments fell in. The vast majority of the comments, I think are very favorable. Employers love the guidance.
They love the idea of a proposed safe harbor. They love the fact that the regulation was kind of written as a warning shot to plaintiff’s lawyers and the judges to protect fiduciaries. So that was super positive.
But not surprisingly, we had some not favorable comments as well. Organizations like AARP or the AFL-CIO, they were concerned that this regulation will open up 401k plans to very risky investments that are not well suited for the average participant. So valid concerns, maybe a little political because the regulation is asset neutral.
The regulation in no way endorses a certain type of investment. So we had that type of commentary. We had commentary from organizations that clearly had a personal interest in it.
So for example, like TIAA-CREF, they wanted to see more guidance on annuities in investments. Comments from Morningstar wanted to see more of a focus on the types of guidance that Morningstar issues, not surprisingly. Some of the record keepers that offer proprietary products had other comments in there.
Investment consultants, they loved it because one of the things in the proposed regulation is a strong suggestion that if fiduciaries don’t have an investment consultant, they might need to have one. So that was music to the investment advisors ears. And so they really, really liked that.
But overall, the commentary from fiduciaries, the people that I work with, was overwhelmingly positive.
Jeffrey Snyder, Broadcast Retirement Network
Yeah, I want to kind of follow up on something you mentioned, maybe some groups that thought that it was going to open things up to maybe products that they feel don’t belong or believe don’t belong. But this, and I think part of that maybe, I want to get your reaction to this, part of that maybe is how this rule has been portrayed in terms of marketing, in terms of press. It’s been often tied to private markets in particular, but to your point, the fiduciary, so in the case of the AFFL, CIO, or whoever is in charge of a particular retirement plan at 401k, they have the ultimate say, right?
In terms of what products or products they put in or don’t put into the plan.
John Schembari, Kutak Rock
Absolutely, yeah. The head of the DOL, Dan Aronowitz, I mean, he came out and said, they are in no way endorsing any type of investment. They are not endorsing private equity, private credit, cryptocurrency.
They do want to make it easier for fiduciaries to evaluate all types of investments. So the reason I think it was portrayed this way in the press, Jeff, was this all started from the Trump administration. So last year, the Trump administration says, we want to make it easier for 401k plans to invest in crypto and private credit, private equity.
And they told the DOL, make it easier for fiduciaries to do that. The DOL did their job, but they said, you know what? It’s kind of weird that you want a specific rule that makes it easy to do these sophisticated, unique investments, and for 50 years, we’ve never given any guidance on how to do a plain vanilla investment.
So the DOL said, you know what? The right thing to do is an asset neutral safe harbor that would apply to a decision to add crypto, private equity, a money market fund, an S&P 500 index, anything falls within this safe harbor approach.
Jeffrey Snyder, Broadcast Retirement Network
Yeah, I want to also go back. No, go ahead. You have an additional thought you wanted to make?
John Schembari, Kutak Rock
No, no, no, no, no. I think that part that it’s asset neutral just kind of gets lost in the media a little bit because it doesn’t fit a political agenda.
Jeffrey Snyder, Broadcast Retirement Network
Yeah, I think, and that’s not what we’re about. We’re about the facts, which is why I like to have you on. I don’t like to have anybody on the program that has a dog in the fight because then they’re gonna promote their thing.
Let me go back. I find it curious, one of the comments you made about investment advisors or the rationale, investment advisors would like this rule because it says more than likely you should have an independent fiduciary. Are there really plans out there that’s still, especially 401k, it’s subject to ERISA, 403b, that don’t have an advisor?
Because I would think in today’s environment, you’d wanna hire an advisor.
John Schembari, Kutak Rock
I would agree that I think you would wanna hire it. I see two types of organizations that are still slow to have an investment advisor. One’s gonna be your smaller plans.
If you’re gonna have maybe an under $10 million type plan, which there’s a lot of plans like that out there, they may not be able to afford or not justify having a good fiduciary advisor in place. The other type is the other end of the extreme and that’s large organizations. I’ve got a couple of clients that are insurance companies or banks and they have investment expertise in-house and sometimes they’re like, well, why do we need to go hire a third party when we know how to manage money?
And that’s a little bit of a conversation to have that just because you know how to manage money for an endowment, for an insurance company, doesn’t necessarily mean you know how to manage a 401k menu. Those are really two different skillsets. But some of those larger organizations are a little slow to accept the need for an investment advisor.
Jeffrey Snyder, Broadcast Retirement Network
Yeah, it’s interesting. I’m not gonna debate that. I could see the rationale that they provide.
I could also see the benefit that having an expert like yourself or someone outside that serves in a fiduciary capacity would bring. Okay, I wanted to ask you about, I think the last time we chatted, clients with whom you work, they’re already kind of doing this, right? So I would imagine they’re not gonna change, at least people that you talked to, they’re not gonna change their process because their process already involves what the Department of Labor is recommending or proposing.
John Schembari, Kutak Rock
Yeah, Jeff, that’s a great point. A big key focus of the proposed regulation is on process. And that’s something that I’ve been preaching to clients for as long as I’ve been doing this.
So that part won’t change, but there are gonna be some things that we are gonna change and improve. For example, most clients will have an investment policy statement that kind of helps them in the selection and the monitoring process. There’s probably gonna be some tweaks to that investment policy statement that specifically references the six factors talked about in the safe harbor.
Similarly, we’re gonna probably beef up the minutes of our meetings to use a lot of the language that is incorporated in the proposed regulations to kind of, again, further add some credibility to the process that we went through. We’re not gonna necessarily jump to that now while the regulation is still proposed. We’ll probably wait to make those tweaks until the regulation is finalized.
But even those good fiduciary committees that have been having a good process for years, I think there’ll still be some changes we’ll make going forward.
Jeffrey Snyder, Broadcast Retirement Network
Yeah, I think there’s, anecdotally, I think there’s some lessons to be learned and you can always, you know, it’s like being a professional athlete. You can always be better at fielding a baseball or hitting a baseball or throwing a football. Let me ask you about interests.
So we’ve already had this conversation about it. We’re separating the product-specific marketing and things that have been talked about from the rule. Do you get a sense from talking to clients, I don’t want you to out any particular client, that they’re interested in particular of adding some of these esoteric investments, these non, I’m gonna call them non-traditional, so they haven’t typically been in the plan.
Are they thinking about adding it or do you think it’ll just be a lot of due diligence done?
John Schembari, Kutak Rock
Yeah, this is certainly a little bit of a bias because they’re working with me, so a lot of the clients are gonna have my bias. Of course. It does not, in my view, it does not pay to be the leader out of the clubhouse on some of these alternative investments.
I think there is still, even when this regulation is finalized, there’s still a lot of work that needs to be done in the marketplace to develop these products and answer a lot of questions that we have on some of these types of investments. So right now, clients are just in the due diligence phase. They don’t have a lot of clamoring from their employees asking for these investments, so there’s really no reason to get ahead of it.
I think they’re waiting to see. Now, I do think products will develop, and I mean, I know that the large record keepers and money managers are itching to access the 401k market, so these products will develop over time, and I think we’ll start moving into that direction. Similarly, Jeff, not that long ago, nobody knew what a target date fund was, and that was an investment product that kind of had to be explained and sold to fiduciaries.
I think that’s gonna happen with private credit, private equity, some of these other types of investments, where they’ll need to be sold, and I think that’s a couple years away.
Jeffrey Snyder, Broadcast Retirement Network
Yeah, I do remember when I was around, when I had hair, when BlackRock and some of the others rolled out target date funds. This was not on my list of questions that I wanted to ask you about, but let me talk about structures. Do these regulations apply to structures?
And by structures, I mean mutual fund versus a separate account versus collective investment trust. So if I’m thinking about moving to a CIT from a mutual fund, it looks similar. There’s some differences, but does it cover that selection as well, or is that still to be addressed by our friends at Labor, SEC, and some of the other governing bodies?
John Schembari, Kutak Rock
No, I would say that’s still covered here, Jeff. I mean, when I say asset neutral regulation, it’s really asset neutral as far as type of investment and structure. So for example, if you’re just investing in publicly traded mutual funds, you don’t need to think a lot about the factors that the DOL proposed about valuation or liquidity or even complexity.
When you think about changing, going to a collective investment trust, well now, complexity becomes more of a factor that you need to think about, and maybe liquidity can become more of an issue. So I think the way the six factors are structured, they’re gonna be important for any type of investment, but certain factors will be more important depending on the type of investment and the structure that that investment takes going forward.
Jeffrey Snyder, Broadcast Retirement Network
So let’s talk, I wanna end the conversation on the process. So our friends at Labor got 40, 45,000 comments. I would imagine they have to sift through all those comments.
I don’t wanna be that person or that group of people, but in all seriousness, they have to sift through that. What’s the timeline to make the rule final? And do you have a sense for when the effective date of the rule would be?
Would it be immediate? Would it be January 1? Would it be 2027?
What’s your sense for all that timing?
John Schembari, Kutak Rock
Yeah, the Department of Labor’s keeping that really close to the vest.
Jeffrey Snyder, Broadcast Retirement Network
I bet.
John Schembari, Kutak Rock
And not surprising. I would say there’s maybe a 30 or 40% chance that this regulation is finalized yet this year, which would be incredibly fast by Department of Labor standards. I think it’s probably a 60, 70% chance that the regulation is not finalized until the first half of 27.
And then the effective date will probably be driven by when the regulation’s finalized. So if the regulation gets finalized on December 31st of 2026, it’s probably gonna have a one-year delay before it’s effective. But if the regulation gets finalized June 30 of 27, it could have just a six-month implementation date where it’ll become effective January 1 of 28.
So I think 30, 40% chance it’s passed this year with an effective date of 1-1-28. I also think it’s 60, 70% chance of it getting passed first half of 27, still with a 1-1-28 effective date.
Jeffrey Snyder, Broadcast Retirement Network
Yeah, it’s really hard to figure out what is being more kept to the vest, kept close to the vest. The Department of Labor proposed rules or the final rule or the MOU with the Iran. I’m trying to figure that out.
I think it could be pretty close. John, we’re gonna have to leave it there. Thanks so much for making time.
Welcome back from your vacation. And look, we look forward to having you back on the program again very soon, sir.
John Schembari, Kutak Rock
Thanks, Jeff. Take care.