Outspoken, controversial independent advisor Ric Edelman has written an exposé on everything employees always wanted to know about 401(k)s and IRAs — but were too naïve to ask. Workers need answers, insists the unabashed consumer advocate and ubiquitous marketer.
In “The Truth about Retirement Plans and IRAs” (Simon & Schuster Paperbacks), the CEO-chairman of Edelman Financial Services enlightens readers on such “secrets” as hidden 401(k) fees and demystifies plans’ hazy undersides. Mainly, though, he shows employees how to quit sabotaging their future retirement by providing them with practical strategies for investing and generating income during the hoped-for golden years.
Long a candid critic of the financial services industry — taking to task brokerages, product providers and advisors alike — Edelman, 55, has created a jumbo national practice starting with one office he opened two months after the 1987 crash that has grown to 35 today, with more than 100 advisors and a total of 425 employees. Helping the mass affluent market, EFS manages $12 billion in assets for more than 23,000 clients.
Serving up personal finance know-how is how Edelman, thrice named by Barron’s the nation’s No. 1 independent financial advisor, built his business from the get-go.
Extroverted, forthright and provocative — charging, for example, that “deceptive business practices [are] pervasive in the retail mutual fund industry” — and unconventional in the way he has structured his vast practice, Edelman is a financial advisor other financial advisors love to, um, pick on.
With his long-running radio program, television shows, appearances on “Oprah” and New York Times bestsellers, it’s safe to say some advisors are downright jealous.
Born in Philadelphia, bred in Cherry Hill, N.J., Edelman began as a journalist writing for a variety of trade publications; eventually, he focused on finance. Betting he could earn much more working in the industry than reporting on it, he reinvented himself as a financial advisor.
Following a brief stint with a small broker-dealer in 1986, he and wife Jean — who’d been picking up back-office procedure at PaineWebber — along with a partner opened their own firm. Four years later the partner left, and Edelman Financial Services was born.
In a move to expand nationally, in 2005 the entrepreneur sold a majority stake to the publicly traded wealth management firm, Sanders Morris Harris Group, chaired by George Ball, former E.F. Hutton president and Prudential-Bache chairman-CEO.
Seven years after that acquisition came a management buyout wherein Lee Equity Partners bought a majority interest in what had become the Edelman Financial Group. Edelman is CEO and second-largest owner; Ball continues as chair.
Nowadays, Edelman spends more time running the firm than advising clients, though he still works with a batch of folks who have been with him for about 25 years and occasionally takes on new accounts.
ThinkAdvisor recently interviewed Edelman, who spoke from EFS headquarters in Fairfax, Va. On the phone, his dry humor jibed with a New Yorker magazine cartoon tucked into his new book. Husband (working with laptop) to wife: “If we take a late retirement and an early death, we’ll just squeak by.”
ThinkAdvisor: What do you do for a living?
Ric Edelman: Consumers think I’m in the service business, but I’m in the product business. The service I provide is giving good advice about the product. Because I’m in the product business, Wall Street is in the manufacturing business. Like any other manufacturer, it will manufacture a product that it knows people are willing to buy, which has nothing to do with whether or not people ought to buy it.
How else does the system work?
Wall Street makes a lot of money manufacturing the product, and then they pay very high levels of compensation through the distribution system to get people to sell the product. Whether or not the product actually delivers on its promises isn’t Wall Street’s concern at all.
That’s too bad.
It’s very much too bad! But the problem begins with the consumer. When they say they want a product with a high return, for example, they don’t realize they’re setting themselves up for disappointment by chasing last year’s high return. We all know that past performance doesn’t guarantee the future. But when consumers tell Wall Street what they want, Wall Street is happy to oblige.
What’s the upshot?
Just because they get what they want doesn’t mean they’re getting what they need.
You write that “the financial services industry is the most profitable in the world.” What makes that possible?
Leverage. Unlike other industries, we’re not trading hours for dollars. We’re being paid on the size and duration of the assets. If you invest $1 million with me and if that money is invested with me next year, I earn the same money even though I might not be doing as much work. When a shoe salesman sells you shoes this year and next year sells you another pair, he’s not making money on two pairs of shoes. But in our industry, we make money on both pairs. No other business on the planet operates that way.
Many people don’t trust financial advisors and therefore won’t use them. What’s your take on that?
The overwhelming majority of advisors are trustworthy. So it’s not so much that investors are going to get ripped off by crooks or that advisors are incompetent. But most people don’t believe they’ll have a good experience with an advisor and refuse to hire one, or they feel they don’t have enough money to attract their attention. The biggest issue is that, because they don’t have an advisor, they aren’t maximizing their potential.
What’s problematic for consumers concerning their 401(k) plans?
Employees aren’t contributing early enough or aren’t contributing enough money. The average American worker has about $65,000 saved in a retirement plan. This is a crisis for the country!
Do advisors pay enough attention to 401(k)s and IRAs in working with clients?
They pay a huge amount of attention — but all with the expectation of eventually capturing the rollovers. This is a major source of new assets for the advisor, and that’s why the entire financial services industry actively targets the rollover marketplace.
The title of your book implies deception about 401(k)s. Are employees being lied to?
The biggest lie is the borrowing provision. The very word, “borrow,” is the inherent lie. Employees aren’t borrowing — they’re withdrawing. The money is actually removed from their account. So it’s no longer there, growing in value. A great percentage of workers have taken out “loans” and don’t understand the impact to their account. They think it’s harmless; but it’s devastating. And what about the tax picture?
They don’t realize that they’ll end up incurring double taxation: When they repay the loan, they’re repaying it with after-tax dollars; when they withdraw the money in retirement, they have to pay taxes all over again.
What else are consumers in the dark about when it comes to retirement plans?
The cost of the investments are largely hidden from them. Two-thirds of consumers believe that their 401(k) is free. But the vast majority of 401(k)s use retail mutual funds, which have an annual expense ratio of about 1-1/2%. Since most workers have no idea what their plans cost, they don’t understand the importance of keeping costs low.
What’s another stumbling block?
Employees’ lack of understanding about how to properly choose investments for their plan. The fundamental elements of investment management are unknown to most of them. They don’t know how to select the investments or create an asset allocation model. They don’t understand the principle of compound growth.
Can’t they get help?
Advisors are generally not allowed to provide advice. And the people who often do provide the advice are selling the product that’s in the plan, which might be expensive annuities and limited mutual fund choices.
But can’t advisors give behind-the-scenes advice?
Very often. We do that, to the degree we’re allowed under the law. But that’s very different from having a formal program with unrestricted access on a one-on-one basis. And because advisors aren’t compensated for giving advice, many fear the liability of doing so. So the rules hinder us.
Very. I know more about my clients than anyone else, often even their spouse or physician. But I’m not allowed to give advice about their retirement plan at work! That’s silly. And considering that the majority of people have most of their money in retirement plans, it’s an unfortunate aspect of the regulatory environment [imposed by the Department of Labor].
Anything being done to try to change this?
[The Employee Benefits Security Administration] is working hard to improve the rules so that consumers have greater access to independent advice. But, of course, the industry is opposing it: plan providers don’t want independent advisors commenting to plan participants about the investments because that could threaten their business.
What misconceptions do workers have about IRAs?