NAIC REVISITS
ANNUITY SUITABILITY MODEL
FROM THE STATES
David Giusti

David Giusti is a Director of Client Services, State Net Financial Services Division (Washington, DC)

THE NATIONAL Association of Insurance Commissioners (NAIC) is considering revisions to its Suitability in Annuity Transactions Model Regulation. The original model, which was adopted in 2003, was only geared toward policies sold to persons over the age of 65. In 2006, amendments were adopted to extend protections to all consumers regardless of age. Given that a conflict of interest exists when sales representatives are heavily compensated for annuity sales, the goal was to protect consumers from deceptive marketing and fraudulent sales practices.

The existing model mandates transparency during the sales process, but allows customers to decide what financial products would work best for them. Once the model was adopted, most state regulatory bodies pursued rules to require representatives selling annuities to clearly disclose the investment risks, early withdrawal fees, and amount of sales compensation that would be received. With most existing state regulations, the decision of determining which policy is most appropriate is in the hands of the consumer. It appears this responsibility is now being shifted to the insurer as the new model sets forth a process that only allows suitable annuity products to be sold.

Suitability involves matching a customer's profile, financial status, and investment objectives with the appropriate policy. The revised NAIC model prohibits insurers from issuing annuities sold by a third party, unless it is determined the sale is suitable based on the information provided. To accomplish this, insurers must direct those selling the policies to collect and submit specific information from the consumer, then independently review the annuity applications to make sure the policies are appropriate.

On May 26, a discussion draft was issued and input was solicited from industry representatives. The Suitability in Annuity Sales Working Group held meetings in mid-June to hear testimony and discuss the comments that were received. Based on the feedback that was gathered, an exposure draft is expected to be issued later this summer and the NAIC hopes to finalize revisions by the end of this year.

The revised NAIC model prohibits insurers from issuing annuities sold by a third party, unless it is determined the sale is suitable based on the information provided.

Industry opposition

So far, the financial services industry is adamantly opposed to the changes that are being considered by the NAIC. They contend that the additional oversight will be problematic because the cost of verifying the suitability will drive legitimate sales agents out of the market. They also point out that compliance with the revised model will have a negative impact on customers because of the onerous purchasing process and expected increase of fees.

The industry believes the restructured rule sets forth an unreasonable system of training, monitoring, and supervising those who sell annuities. Standards and continuing education requirements are established for both suitability training and product specific training. A supervision unit that is independent from those who sell and market annuity products would also be required to verify satisfactory completion of the training and file annual reports to senior management.

Those who oppose the revisions point out that the mandatory training and testing would be a burdensome fix for a problem that isn't apparent. The original model hasn't been in place for very long and was only recently adopted by several states. The financial services industry contends that not enough time has passed to evaluate whether the steps that were already taken by several states is working. After most insurers spent a lot of time and resources to comply with the original rule, the new rules would significantly change the way annuity sales are regulated.

More confusion?

If states begin implementing the new rules, the result could be less consistency and more confusion. In fact, the Ohio Insurance Department drafted an opposition letter that warned the pursuit of the new model could have a detrimental impact on achieving uniformity throughout the states. The patchwork of standards may prompt additional federal regulatory oversight of insurance and the preemption of state powers.

Most insurers maintain that the current model provides the necessary oversight and believe states should be given time to work with original rules before modifications are made. Since a handful of states have not yet adopted the original model, they want the NAIC to focus its energy on encouraging those regulatory bodies to adopt the first model. Additionally, they are also hoping the states pursue better enforcement techniques and work within the existing framework by issuing interpretive guidelines that provide clarity.

Annuities can be sold through a variety of distribution channels, but each process is regulated differently. Although annuities as insurance products are still regulated by the states, federal lawmakers are taking action to monitor certain products. The Financial Industry Regulatory Authority (FINRA) regulates variable annuity products, so its authority overlaps with certain existing state suitability rules. Furthermore, indexed annuities will soon be regulated by the Securities and Exchange Commission (SEC) when Rule 151A goes into effect in January 2011.

Investors should have the same protections whether they purchase the policy from an insurance agent, bank, or investment broker. While regulators should make sure insurers are taking reasonable steps to prevent unfair sales practices, considering the current instability of the financial marketplace, future flexibility must be considered before any regulation is adopted.