What if Dave Ramsey were held to a fiduciary standard?

By Michael Markey

Commentary October 22, 2015 at 07:20 AM

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In the past I've called Dave Ramsey out for his fictitious advisor titles, his bad math and for the fact that it's possible he would've been better off buying the permanent insurance he hates so much, not for the rate of return, but due to the fact that he's continued to carry life insurance past the financially relevant time determined by HIS definitions and assumptions.

I've called for Dave to be regulated and to be held accountable. And, of course, regulation is a very hot topic these days. While there has been much debate on how the proposed Department of Labor (DOL) Conflict of Interest rule would change those already regulated, no one seems to have discussed how the proposed rule may regulate those who currently fall under no regulatory supervision.

This column's purpose isn't to support or oppose the rule, but rather to illustrate, with specific rule citations and examples from The Dave Ramsey Show, how I believe this rule would define Dave as an advisor and thus how he would be regulated as a fiduciary.

To get started, here are a few main points that would make this regulatory oversight possible.

1. The proposed rule expands the term "advisor" to encompass a wider group of advice-givers. An "advisor can be an individual or entity who can be, among other things, a representative of a registered investment advisor, a bank or similar financial institution, an insurance company, or a broker-dealer."

A few things to note: First, the implicit foundation of this rule is to regulate "advisors" (investment advice-givers) as fiduciaries if they have the potential to receive a financial benefit. Second, the definition of advisor now includes "among other things" which immensely increases the spectrum of advisor(s).

Under this new definition, Mr. Ramsey potentially qualifies to be regulated as a fiduciary. He gives both individualized advice to his callers AND is indirectly compensated from this advice in not just one, not just two, but at least three ways: by the sales of his books, columns and apps; by the sale of advertisements; and by the sales of leads to his Endorsed Local Providers (ELPs). People pay Dave, through all three of these sources, based on the perceived level of knowledge Dave demonstrates while giving specific individualized advice to his callers.

2. The proposed rule modifies/eliminates the current five-part test to better clarify and define who is held to a fiduciary responsibility. More specifically the elimination of the "on a regular basis" and "pursuant to a mutual agreement" clauses should diminish the "evasion of fiduciary" responsibility from those who should be held as such.

The regular basis clause of the test is inconsistent with the intent of the rule. There are major financial decisions that only require the use of an advisor on a singular basis. (For a case study, see my previous column.)

3. The proposed rule eliminates the pursuant to a mutual agreement. When a caller asks for Dave Ramsey's advice, aren't they asking Dave to listen to their situation? Aren't they asking questions to see how their situation may be different from others? Do they assume — other than when they ask a permanent life insurance question — that they're getting individualized advice? I think so.

Moreover, should each caller have to enter into a written mutual agreement, or be read a two-minute disclosure, to make this assumption? Do people really read disclosures, or listen to them intently? This is a big piece of the proposed DOL rule. People DON'T read disclosures like they should and therefore we can't fix everything by putting an * at the bottom of each page.

4. The proposed rule updates the fiduciary cloak to cover participant-directed investments. When the Employee Retirement Income Security Act of 1974 (ERISA) was passed, the 401(k) did not exist and IRAs had only been newly created. ERISA's initial intent, among other things, was to lessen conflicts of interest, unnecessary fees or costs, and unsuitable recommendations by individuals or entities that the investor is likely to believe is acting or should be acting in the investor's best interest.

Dave's advice in action

OK, enough citations of the rule. We can come back to them if you wish. But now, it's time for the good stuff. Here are a handful of recent examples from The Dave Ramsey Show that help demonstrate that the advice Dave gives should be subject to a fiduciary standard.

September 2^nd, 2015. A $200,000-income 60-year-old calls in to The Dave Ramsey Show and wants to know if she should use $75,000 of her and her spouse's $100,000 in retirement funds to pay off debts. The interest rates on these debts are all under 5 percent. Dave advises the caller to take it and pay off debt ONLY if they are not going to use debt again. Then aggressively save.

Seriously, Dave? This couple has $200,000 of income. You think the reason they CAN'T save is because they have $75k of debt against 200k of annual income? What about asking what toys they're spending money on or how much they spend on vacations or where, exactly, all this money is going to?

Dave says he doesn't care about the interest rates. He says the payments are holding them down.

That's fundamentally not true. Stupid spending is holding them down! A real planner would have them cash flow these debts so they can feel the pain and gratitude of accomplishing something they should easily be able to do.

September 15^th, 2015. Dave tells a caller to always roll out of a 401(k) into an IRA. The IRA company will do all the work and send in the paperwork, he says.

Wrong! Most 401(k)s require their own paperwork. And, what about the differences between a 401(k) and an IRA?

The lower age of withdrawal eligibility?
The potentially lower fees?
The potential tax advantages of employer-given stock within a 401(k)?
The increased bankruptcy protection of 401(k) dollars?

These things don't matter, apparently. And we wonder why new regulations like the proposed DOL rule exist. Was Dave acting as a fiduciary here? What are his ELP referral fees worth if he never suggests anyone visit these ELPs?

What's one of the biggest prospecting markets? If you said prospects looking to manage 401(k) plans from previous employers, you're right. Many people don't know what to do with these plans. Offering advice in this area is a great lead source for Dave's ELPs. How many listeners out there might be in the same situation as that caller? It's easy to imagine the potential financial implications of this advice.

September 17^th, 2015. Just in case you thought Dave made a simple error when advising his September 15^th caller, on this show he tells a female caller who just lost her job to roll over her 401(k) into an IRA. She was thinking about cashing out to pay off debts, but Dave tells her she'd have to pull $20k to get $13k. And how does Dave suggest she avoid this? Roll over her account, of course. How to do a rollover? "Go see my ELP." I wonder how that'd look as a bumper sticker campaign?

September 23^rd, 2015. Dave says there's an unearned income tax credit. He makes a big deal about how it's called "unearned income." The truth, of course, is that it's not called "unearned," it's called "earned." Dave doesn't even know what this tax credit is called. He goes on to talk about how 48 percent of the population doesn't pay any federal tax. Hmm. Is Dave helping people with facts and math, or just stirring up emotions?

September 24^th, 2015. A guy calls in and asks about funding a Roth 401(k). He and his spouse make $180,000 per year. Dave notes that 90 percent of their account will be growth, so they'll want it to be tax-free in retirement. In an IRA, it will all be taxable, so you won't have as much, Dave says.

This advice suggests a very disturbing truth: Dave either does not understand the difference between average annual and compound annual growth rates, or he simply does not care.

If 90 percent of this account will be growth, then is the math between a Roth IRA and a traditional IRA different? Sadly, no. Maybe this couple can get their balance to $2,000,000 by retirement. Ninety percent growth means $200,000 of contributions. If they're in the 25 percent federal tax bracket, then the $2,000,000 would ultimately be worth $1,500,000 to the couple.* (Note that I'm ignoring the taxable consequences of a lump-sum distribution considering these are retirement dollars.)

OK, if we can put $200,000 of pre-tax dollars in a retirement vehicle, then how much could we put post-tax while we're in the 25 percent federal bracket? Easy: $150,000. This amount times the same 10x multiplier equals … drum roll … $1,500,000. The math, you see, is the same.*

We could even argue the tax could be less with the IRA contributions if our couple moved from a cold state (a state with state income tax) to one of the nice, warm ones without state income tax … but then I'd be going too far, right?

September 30^th, 2015. The Roth 401(k) question is asked again, and again Dave Ramsey doesn't know his math. He says that a retirement account will be 97 percent gains, not contributions. He tells the caller they could have about $4,000,000 in retirement dollars, and that an IRA would mean $1,000,000 in taxes. The caller had asked what a Roth would mean to him, so our clever friend says a Roth means a million bucks to you.

I love it when Dave gives multiple examples to prove the same point. Please note how quickly these confirming examples occurred. It's not as though I had to be a sleuth to do this. I just had to listen.

Of course, the math again is the same. Four million of pre-tax contributions and gains at a 97 percent growth rate equals approx. $120,000 of contributions — or, in other words, the ending balance will be about 33.3 times the contributions. And, as Dave says, the $4,000,000 after $1,000,000 of tax is only $3,000,000.*

Now to do some lightning quick math: $120,000 of pre-tax contributions would equal approximately $90,000 of post-tax contributions. $90,000 times a 33.3 multiplier equals (no drum roll this time — sorry) $3,000,000.

October 15^th, 2015. A guy asks whether to cash out his retirement to pay off taxes. The guy filled out his tax return incorrectly and owes money to the IRS. He's offering the IRS a compromise, but they don't seem to be budging; they want the cash NOW. What advice does our hero give? He says to just send in an amended return, which will get rid of the tax burden. Of course, it doesn't work that way. Why would anyone pay their taxes if they could just send in an amended return the next year?

A few other things to note: This caller is only in the 15 percent tax bracket, but Dave tells him he'd pay 45 percent in taxes. And, (thankfully) Dave says he's not a tax expert, so the caller should use an accountant. Where could he find such a tax expert? You guessed it: Use a Dave Ramsey ELP.

Applying the fiduciary standard

At this point, I think a Ramsey follower is probably saying, "Oh, come on. Dave is a good guy. He's just trying to help people. Why are you accusing him of such bad things?"

This isn't a character attack. It's just math. And, yes, I believe Dave is giving advice and should, at minimum, be held to the "Best Interest Contract Exemption," which states:

Investment advice is in the "Best Interest" of the Retirement Investor when the Advisor and Financial Institution providing the advice act with care, skill, prudence, and diligence under the circumstances then prevailing that a prudent person would exercise based on the investment objectives, risk tolerance, financial circumstances and needs of the Retirement Investor, without regard to the financial or other interests of the Advisor, Financial Institution, any Affiliate, Related Entity, or other party.

As we've discussed, the proposed DOL rule does not limit "advisors" to those holding any particular licensing, and thus the DOL would have the power to regulate any advisor who gives specific advice and who is compensated for the advice. Although there are "carve-outs," or groups exempt from this rule, I don't think The Dave Ramsey show would qualify. The carve-out below describes how TV and radio entertainers and generalists would not and should not be affected by this rule.

"Paragraph (a)(2)(ii) of the proposal avoids treating recommendations made to the general public, or to advice to no one in particular, as investment advice and thus addresses concerns that the general circulation of newsletters, television talk show commentary, or remarks in speeches and presentations at financial industry educational conferences would result in the person being treated as a fiduciary" (21940)

Here's why entertainers like Ramsey might not qualify for this exemption: Dave hosts a radio show, which allows individual callers to ask him specific questions. These questions range from "Should I get married?" to "Should I contribute to a Roth IRA, or should I roll my 401(k) into an IRA or into a new 401(k)?" Dave should lose the exemption for these reasons:

His advice is "individualized and specifically directed to the recipient." (21936)
He is indirectly compensated by his Investing Endorsed Local Providers (investing ELPs). Communication would "generally constitute fiduciary investment advice if the advisor receives a fee or other compensation." (21935)
In case of a "direct or indirect fee in connection with [the] advice, the advice recipients should reasonably expect adherence to fiduciary standards." (21940)
No longer can advisors (remember the expanded translation) "continue to the practice of advertising advice or counseling that is one-on-one or that a reasonable person would believe would be tailored to their individual needs." (21940)
Dave claims to be "America's trusted source for financial advice."

In conclusion

The ambiguities found in some of the residing language within the DOL proposal worries me. I think it can be mended. I hope, however that some form of the proposal containing the language spotlighted here survives the impending SEC beating and future amendments so that entertainers like Dave Ramsey can no longer evade the pursuit of regulatory oversight.

Nearly all of you reading this, are licensed, hardworking, honest and genuine people, who wish nothing more than the best for your clients and your communities. There are inherent conflicts of interest that will always exist, and that will become continually hard to protect against. But would it be so bad to have something — finally something — that would declare to the public that, even when used for entertainment, bad math leads to bad advice and bad advice leads to bad decisions?

I will leave you with two final questions: How many listeners do you think know Dave Ramsey isn't licensed? How many listeners who seek the counsel of an ELP realize that the ELP is expected to follow the guidelines Dave preaches?

As always, thanks for walking down this path with me. If you see something you'd like us to address from American's "favorite" finance coach, please email my editor at [email protected].

* The asterisks in the Roth conversation are designed to show two things. One, people don't pay attention to disclaimers. Two, the points comparing a Roth account and a Traditional account were not to indicate there are not merits with a Roth account. We must use individualized analysis and consider points specific to the couple's investment horizon, taxes, and future earnings.

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