Disclosure: The Riddle Wrapped in a Mystery Inside an Enigma

W. Scott Simon is a principal at Prudent Investor Advisors, a registered investment advisory firm. He also provides services as a consultant and expert witness on fiduciary issues in litigation and arbitrations. Simon is the recipient of the 2012 Tamar Frankel Fiduciary of the Year Award.

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Back when I was but a mere pup, I met a girl. I really liked her. Her looks, her demeanor, the way she smiled: It was all there, as they say, in one perfect package. I was totally smitten.

After being together in some social settings, the time came when we found ourselves alone at night in the mountains overlooking the Pacific. The moon was full, lighting up the landscape, and the summer air was balmy. We talked all night under that big, bright moon. Man oh man, it was like a movie.

As we parted the next morning with the sun just coming up over the horizon to light her face, the girl looked into my eyes--did my heart just skip a beat?--and uttered these words: "I sort of have a boyfriend." (Cue the sound of a needle sliding across a spinning record.)

Now, folks, that's what I call a conflict of interest. That girl's disclosure told me all I needed to know.

But disclosures of conflicts made by many financial services providers tell you just about nothing--actually, less than nothing because they often create greater confusion for those to whom they are directed. And just like the disclosure that girl made of her conflict, the disclosures made by such companies don't mitigate the conflicts.

In a BBC broadcast from London on Oct. 1, 1939, Winston Churchill (still more than seven months away from becoming prime minister of Great Britain) likened the Soviet Union to a "riddle wrapped in a mystery inside an enigma." That's how I regard disclosures of conflicts of interest made by many providers of financial services. You know, those providers with yawning conflicts that they seek to paper over with a (relatively) few confusing words of disclosure. Their attempts to bridge with disclosures the unbridgeable--vast inherent conflicts in their business models--beg the question whether the unbridgeable should ever be allowed anywhere near retirement plans and their participants in the first place.

The Fiduciary Wars now raging at full pitch in Washington, D.C.--with participants from 25 panels expected to testify next week over the course of four days before the Department of Labor's (DOL) Employee Benefits Security Administration (EBSA)--are, at base, about the Golden Goose of IRA money. The overriding issue the folks in D.C. are grappling with is how to bring business models that are rife with inherent conflicts of interest into accord with a best interest/sole interest fiduciary standard. In short, how do you fit a square peg into a round hole?

At the July 16 meeting of the Investor Advisory Committee of the U.S. Securities and Exchange Commission, Judy Mares, deputy assistant secretary at the DOL's EBSA, is reputed to have said that there is now $3 trillion in defined benefit plans, $5 trillion in defined contribution plans (such as 401(k)s) but $7 trillion in IRAs. Ten thousand Baby Boomers retiring every day over the next 17 years will add another $2 trillion to IRAs. That's a pretty fat Golden Goose.

Brokers and insurance agents are salivating over this gusher of IRA money and are fighting to ensure that their access to it remains unfettered in accordance with the way they have traditionally done business, which is innately conflicted to the vast detriment of investors. Indeed, many investment products are sold within this conflicted, hidden underworld to plan participants and retail investors through independent and affiliated distributors with their myriad intertwined commission structures. In her opinion in Tussey v. ABB, Inc. early last month, Judge Nanette K. Laughrey could have been describing this underworld when she noted "the powerful draw of self-interest when transactions are occurring out of sight and are unlikely to ever be discovered."

What might a disclosure riddle look like? One example comes courtesy of an insurance company that is the bundled services provider for a relatively large K-12 school district's 403(b), 457(b), and 401(a) plans. This kind of disclosure--common among providers in this marketplace--appears in the Services Agreement the insurance company entered into with the school district:

The School District acknowledges that the Insurance Company has disclosed to the School District through the Services Agreement and related documents that the School District confirms it received and understands:

(a) The nature of the Insurance Company's business relationships with each issuer of a funding vehicle that may be used in the School District's 403(b) plan;

(b) A description of the Insurance Company's receipt of compensation payable by each funding vehicle;

(c) A description of the Insurance Company's receipt of all other compensation payable in connection with the Services Agreement; and

(d) A description of the charges, fees, penalties or other adjustments that may be imposed under the funding vehicles.

I would venture that not one in a hundred experienced ERISA attorneys could completely unravel this disclosure riddle. So how is, say, the typical school administrator or plan sponsor or nonprofit trustee able to do so? The asymmetrical information advantage enjoyed by the vast bulk of those servicing the retirement plan industry (and, even more so, the retail investor marketplace) is stacked so much in their favor as to be off the charts. And few seem to want to actually acknowledge that big, festering, conflict-ridden sore that's so central to the delivery of financial services in America today other than to stick on the Band-Aid of disclosures.

Or how about this disclosure riddle (taking up only two pages!) from an insurance company offering a flexible premium fixed index deferred annuity? Not to worry, though, a friendly insurance agent--whose livelihood depends directly on his or her ability to make sure that you buy--will be glad to help you unravel all the ins and outs of this disclosure riddle.

The author is a freelance contributor to Morningstar.com. The views expressed in this article may or may not reflect the views of Morningstar.