SEC Further Fogs Fuzzy Insurance Annuity Market

If industry leaders and insurance company executives don’t show a little more gumption, backbone, creativity, innovation and leadership than they have a history of doing, then the worst of all results could happen.

On June 25, the SEC announced its intent to propose a rule (151A) that will classify many of the annuity products issued by insurance companies as investments. If the ruling is implemented as proposed, then the sale of impacted annuity products will be supervised in exactly the same manner as stocks, mutual funds and bonds. This means that only those who are registered representatives with FINRA broker dealers or Registered Investment Advisors will be able to sell these annuity products. It is more than an understatement to suggest that such a ruling could have a cataclysmic impact on the traditional insurance industry and its distribution system.

However, the logic that led the SEC to such a ruling is so tortured that it strains credibility to imagine it will be implemented as proposed. (But then again, there is no rule of nature that says government bureaucrats must follow the laws of logic.)

For over 70 years the SEC has operated under the fundamental philosophy that an “investment” was identified based upon the “potential” for the consumer to lose money on their purchase. If there was the possibility the consumer would suffer the loss of any principal invested, then the product was, ipso facto, an investment. If the product purchased contained a guaranteed return of principal it was considered an insurance product exempt from securities regulations.

Over time, hundreds of rulings have been offered up to clarify the distinction between an investment and an insurance product, i.e. if an insurance product is sold in a manner that suggests it is an investment product then it will be deemed an investment product. However, the fundamental “risk” versus “guarantee” test has remained the primary determinant in classifying a product as either insurance or investment.

Now, the SEC has changed or at least severely warped these rules. In making its announcement, the SEC creatively and capriciously departed from the traditional definition of investment products to now encompass the sales practices of the individual selling the product. Specifically, the SEC cited instances where annuities had been allegedly improperly sold to senior citizens. The sin of the sale was in not properly disclosing potential charges if the annuity product were surrendered. This created the potential for the annuity buyer to suffer a “loss of principal” if they were to surrender the policy prior to maturity.

The convoluted logic of this approach creates a flawed syllogism:

Investment products have potential for loss of principal.
Surrender charges applied to an annuity create potential for loss of principal.
Therefore: Annuities are investments.

Of course, the fallacy here is that with an investment product the investor has no control over the potential loss of principal. They must accept the risk of what the product does or does not return. However, with the annuity it is the action of the purchaser, not the market, that determines if there is a loss of principal. If the purchaser of the annuity never surrenders the annuity there will never be a loss of principal. (The SEC also did not take note that all annuity surrender charges systematically decline and ultimately disappear. In fact, with most annuities in as short as three years, even if the policy is surrendered, there is no loss of principal.)

Of course, annuity buyers should be made aware of the impact of actions they may take, but the SEC seeks to rectify the “problem” of surrender charge disclosure by having these annuity products sold and supervised by FINA member broker dealers under securities law. To say the least this is the proverbial use of an elephant gun to kill a flea. And besides, when it comes to fraud, failure to disclose and inappropriate sales practices, I would put the record of insurance agents up against stock brokers anytime. Try comparing the total loses consumers have suffered as a result of inappropriate sales of investment products with the total loses from annuities policies and see just which group needs better supervision.

There is no question that there should be clear and full disclosure of all facets of a financial product – investments and annuities alike, however, insurance products such as annuities are better supervised by insurance regulators not the investment community.

So what is going to happen?

Well, it is almost impossible to predict the actions of bureaucrats in power, but it is safe to say this proposed ruling will cause more flinging of mud and feathers than in a mixed martial arts brawl. Lawyers and lobbyists (no strangers to mixed martial arts) are jumping with glee!

The fact is, I am optimistic as to the outcome. I believe ultimately this will serve more as a warning from the SEC to insurance companies to clean up their actions than to actually have annuities declared investments. I come to this conclusion because the SEC proposal is so outrageously flawed that even the SEC has to recognize that, from both a legal and logical standpoint, the ruling cannot be implemented as proposed. In other words, the reaction of “you’ve got to be kidding” is what the SEC expected and wanted.

The SEC has its own politics to deal with – its relationship with the investment community – and this ruling is a way of doing so, while knowing all along it will not be implemented. It is a little like a senator submitting a bill exempting all his state’s citizens from paying income taxes, knowing all along that there is no way it will pass. Yet, he can go back to his state and brag about what he is attempting to do for his constituents.

There will certainly be a fierce fight and changes will be implemented, but the key will be how the insurance companies and industry leaders respond to this proposed SEC rule. If industry leaders and insurance company executives don’t show a little more gumption, backbone, creativity, innovation and leadership than they have a history of doing, then the worst of all results could happen. Much to the surprise of everyone – especially the SEC – this stupid, ill-conceived, ill-logical rule will become a reality.

9 responses to “SEC Further Fogs Fuzzy Insurance Annuity Market

  1. Gregor MacGregor

    After seeing Dateline I for one applaud the SEC’s move toward more regulation of the insurance industry particularly annuities. It was clear from that thorough report that, in general, insurance agents are sneaky, greedy, evil people that often pray on societies most vulnerable group, the elderly. I will be 77 next month and to think that I could have been duped out of my life savings by one of these snake oil salesman makes my blood boil. By enacting stricter laws to prevent these tricksters from taking my money, I think the government is moving in the right direction. Hopefully with a fellow senior citizen at the helm of this great nation (fingers crossed for this November) we can once and for all regulate the financial industry so that duping the elderly out of their hard earned savings will be a thing of the past. God bless and good luck.

  2. Our apologies. There was another excellent posted response to this article which was inadvertently deleted. Our apologies. Please repost if you can.


  3. Mr. MacGregor. Do you really believe that every insurance agent is evil? Do you really believe that multi billion dollar insurance companies can operate with impunity and rip off the general public? The industry provides each consumer with piles of suitability and and full disclosure forms with each and every application. The FACT is that annuities have been safely funding retire
    ments for decades.

    You probably don’t trust your banker, lawyer or accountant either. Why don’t you just stick your money under your pillow and allow the current 4-5% inflation eat your lunch!

  4. I second Mike and to take it a step further if I could, I’d hunt you down and gut you like a veal calf. I’ve worked too damn long in this industry to have some half demented old coot accuse me of theft or swindle. Now go back to stuffing your money under your mattress and screaming at kids in your yard or so help me I’ll kick you in the back so hard bloody diarrhea will come out your eyes,

  5. If you believe the Dateline show is indicative of every sale, I would consider you to be very naive individual. The same show could be done misrepresenting Mutual Funds and many other investments sales.

    In my opinion that is about power, control and money. Wall Street is upset that $123 billion has moved out of their hands.

    IMO FINRA has some misleading information on their site.

    “Is it possible to lose money in an EIA?
    Yes. Many insurance companies only guarantee that you’ll receive 90% of the premiums you paid, plus at least 3% interest.”

    I would like to know what State or insurance company that doesn’t guarantee 100% of the premiums paid. Is the FINRA site trying to say, you are guaranteed to earn 3% on 90% of the premium paid? If so, they sure have a funny way of presenting it. It worries me that FINRA, the watchdog of the Reg Rep that makes sure Reps dot their “i” and cross their “t” has such a cofusing statment. I doubt there is a State Department of Insurance that would allow an fixed annuity to be filled saying, “only 90% of your principal is guaranteed.”

    I saw the Dateline program. Is Dateline’s cut and edit presentation method now used to develop law? If so we as a society are in trouble. If I remember there was a gentleman that may have been with the SEC make a blanket statement at the end of the Dateline show. His statement was (paraphrase here) in a CD you can not lose principal. I would suggest that the gentleman should visit the SEC site:

    The gentleman will find this on the site about losing some of the original deposit:

    “That means you would have to sell the CD at a discount and lose some of your original deposit –despite no “penalty” for early withdrawal.”

    There is so much misinformation being transmitted, from Dateline to the securities people, it all seems to point to something other than consumer protection is at hand.

    Perhaps the only way to find out who started this will be through the courts. I would love to ask the question to Dateline, “who first approached you to do a show on FIA’s?” Ask FINRA,, when were you first approached by someone from a brokerage about the problem with FIA’s and how many others approached you about the problem” “Did they voice any financial concerns?”

    You get the gist of the questioning that could take place. Maybe there is no smoke or fire but something fishy seems to be afoot. With $123 billion in sales, if the FIA was so egregious, I would think there would be a lot of class action going on today.

    Why is FINRA the only available SRO? Isn’t that a form of a monopoly? Especially if you want to do business you “have” to join.

  6. I agreed with you

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  9. Whether or not you or for against the bill, you should be examining your options.

    For retail agents, you should really consider affiliating with an indexed annuity friendly broker dealer .

    BGAs and FMOs should educate themselves on available wholesale broker dealers

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