annuities have brought the product under the harsh glare of the US
Securities and Exchange Commission which proposes classifying them
as securities, a potential development that is drawing strong
opposition from insurers and industry bodies. Charles
US life insurers are lining up in opposition to a proposed
Securities and Exchange Commission (SEC) rule that would grant it
oversight of certain indexed annuities.
In June, the SEC moved to amend how the terms ‘annuity contract’
and ‘optional annuity contract’ are interpreted under the federal
Securities Act of 1933. Under the rule changes, indexed annuities
would be treated as securities if amounts payable by the insurer
are more likely than not to exceed amounts guaranteed under the
Regulators have been closely watching annuities, especially after
discovering that Citizens Financial Group in Providence, Rhode
Island, had sold inappropriate variable annuity contracts to
elderly clients from October 2003 to March 2005. Fines were imposed
on the company, and federal and state regulators vowed closer
scrutiny of the industry.
“Working with our state regulatory counterparts, the SEC has made
cracking down on fraud in this area a top priority,” SEC chairman
Christopher Cox said in a statement.
Indexed annuities are hybrids, offering the protection of a fixed
annuity with the upside potential to take advantage of market
returns. Indexed annuities invest in an underlying index. If the
index returns are flat or negative, the contract is credited with a
guaranteed interest rate. When the index performs positively, the
investor participates in the gain subject to a cap.
First introduced in 1995, equity-indexed annuities have grown from
$14 billion of sales in 2003 to $25 billion in 2007, with more than
$123 billion invested in the products today, according to the
Federal authorities and the North American Securities
Administrators Association charge that growth of the market has
been accompanied by insufficient regulation of unscrupulous
marketing practices. According to the SEC, among complaints made to
state securities regulators, cases involving annuities represented
65 percent of the caseload in Massachusetts, and 60 percent of the
caseload in Hawaii and Mississippi.
Indexed annuities often carry the highest commission rates of all
investment products available to consumers, averaging 10 percent to
12 percent of the purchase price. The insurer recoups the
commissions by imposing surrender charges that can last up to 20
years, meaning consumers will be penalised for accessing their
money during that period (resulting in loss of principal).
The high commissions invite unscrupulous sales practices from
agents who have been accused of selling these complex products to
seniors who were unaware of the provisions and penalties in the
contracts. Another criticism is that agents lack proper training
and education to sell the products.
The SEC proposed Rule 151A comes after a year of highly publicised
lawsuits. Allianz Life, the top seller of indexed annuities,
settled with the state of Minnesota in 2007 for $10 million over
the unsuitable sale of indexed annuities to seniors; for example,
some insurers sold products with 15-year surrender periods to
customers as old as 85. Actions are pending against other insurers,
including American Equity Investment Life, also a top 10
Significant short-term impact
A report by TowerGroup analyst Rachel Alt-Simmons highlights the
pushback from the life insurance industry, and predicts a
significant short-term impact on sales because if the rule passes,
the agent sales force will have to qualify for licenses to sell the
products and affiliate with registered broker-dealer firms.
That reality is drawing concern from the 60,000-member National
Association of Insurance and Financial Advisors, whose board of
trustees voted to oppose the proposed Rule 151A. The National
Association for Fixed Annuities (NAFA) also has formally opposed
the rule, describing it as redundant and unworkable.
“NAFA is opposed to Rule 151A because it is contrary to the
exemption provided under the Securities Act for insurance products
that are subject to comprehensive regulation and are not subject to
a risk of loss,” NAFA wrote in a statement detailing its
“The current regulatory environment, based on individual state
insurance regulations, is sufficient to protect consumers, and to
add federal oversight would create duplicative, unwarranted and
harmful bureaucracy. Subjecting these items to federal oversight
would be inappropriate, as the SEC regulates investment products
whereas indexed annuities are insurance products.”
Some annuity providers are working to head off further regulation
by taking steps to better educate investors. For example, MetLife
in New York has stepped up efforts to train bank compliance people
about its products so they understand how an annuity is appropriate
for various client needs and how to fully disclose product
Some states have gotten into the act as well, passing their own
laws aimed at cracking down on annuity fraud. Florida enacted the
John and Patricia Seibel Act, which increased penalties for unfair
annuity sales practices to as much as $250,000, from $100,000. The
National Association of Insurance Commissioners (NAIC) said in May
it had created a Suitability of Annuity Sales Working Group to
recommend standards for the industry on who is responsible for
The issue ultimately boils down to what Alt-Simmons described as a
“classic battle between state and federal entities for regulatory
control over the insurance industry”.
“Since US Treasury Secretary Henry Paulson proposed additional
insurance industry reform under the Optional Federal Charter and
additional consumer protections related to the subprime crisis in
other industries, consumers’ demand for increased and consolidated
regulation is growing,” Alt-Simmons said.
For their part, state insurance commissioners note that 33 states
have adopted legislation based on the NAIC’s Suitability in Annuity
Transactions Model, and that 22 states have adopted the NAIC
Annuity Disclosure Model Regulation. In a letter to SEC Chairman
Christopher Cox, the NAIC also notes that 17 life insurers have
joined a pilot project sponsored by the American Council of Life
Insurers and the Iowa Insurance Department to use a template
disclosure form for annuity sales in all states.
In its letter to the SEC, the NAIC requested a 90-day extension of
the SEC’s prescribed comment period on the new rule, which
currently is due to expire this month.