Lawyer: Why FIA Sellers Can Challenge the DOL on Fiduciary

By John Hilton InsuranceNewsNet

James Jorden, shareholder of Carlton Fields Jorden Burt, said he cannot find any reasoning for adding FIAs to the BIC.

The Department of Labor did what everyone expected with its fiduciary rule: came out swinging, took in comments and criticism with a smile, then backed off in the final rule.

It’s classic, tried-and-true policymaking. So how does that explain the DOL’s curious decision to take an opposite tack with fixed indexed annuities?

While the department’s preliminary rule left FIAs in the Prohibited Transaction Exemption 84-24, the final rule was a different story. It was published with FIAs moved into the much tougher Best Interest Contract Exemption.

Even after studying the move for 24 hours, Washington, D.C. attorney James F. Jorden was still confused.

“They don’t cite any basis for saying that or any study that demonstrates the necessity,” said Jorden, a shareholder of Carlton Fields Jorden Burt. “Frankly, the DOL’s analysis is flawed and it’s just not supportable.”

The issue is whether FIAs should be regulated as an insurance product of a security.

“Inherent in the purchase of a security is the prospect of loss,” Jorden explained. “Inherent in the purchase of an annuity is no loss and inherent in the purchase of a fixed indexed annuity is no loss. So clearly this product is more akin to a fixed annuity than a security.”

The DOL’s only explanation is that FIAs are a “complicated” product, but that does not mean they should be regulated as a security, Jorden said. A DOL spokesman did not return a message seeking comment.

The DOL stance on FIAs is similar to a 2008 Securities and Exchange Commission effort to regulate all indexed annuities as securities. After a long fight, Rule 151A was thrown out by a U.S. Court of Appeals, leaving indexed annuities under state regulation as an insurance product.

The District of Columbia Circuit Court of Appeals ruled that the SEC failed to analyze the rule’s impact on the indexed annuity market that the commission sought to regulate.

One could argue the DOL is guilty of the same misstep, Jorden said.

“They believe one is more complicated than another and that is not a sound basis,” he said. “There are potential arguments for overturning this, on that basis, as well as on the basis of there is no sound argument for distinguishing between these (fixed and fixed indexed annuities).”

InsuranceNewsNet Senior Editor John Hilton has covered business and other beats in more than 20 years of daily journalism. John may be reached at [email protected].

Gail Leonard

The DOL included these products because the indexes are complicated to the average client – plus, the commissions on these products range anywhere from 6 – 10% – higher than most variable annuities sold today. If the adviser does not have to sign a Best Interests agreement, then what is stopping them from loading everyone up with these long-term, high-commission-paying products; most of which have surrender charge periods of ten years?
- Dave Arey, CLU, ChFC, FLMI, CEBS
  
  It seems to me that the final DOL reg seeks to address what the DOL considered to be “conflicted advice”. I think Gail slightly understates the commission range of FIAs. Consider the following from The Motley Fool web site:
  
  “According to Chris Lloyd of the FinancialCounsel website, average commissions stand at 10.4 percent, with 80 percent of fixed-indexed annuity sales garnering commissions at 9 percent or higher. Furthermore, according to the AnnuityIQ website, agents often earn commissions for fixed-indexed annuities that are approximately twice as large as those earned from selling traditional fixed annuities.”
  
  “Issues may arise when brokers or agents choose to push fixed-indexed annuities on investors instead of other annuities because of the higher commissions. The design of these annuities does not make them advantageous to all investors. Agents may prioritize their own income by recommending fixed-indexed annuities instead of recommending other shorter and less-complex investments that could be more appropriate for the investor. In contrast to agents or brokers, financial advisers who assist investors generally earn management fees — not commissions. This removes the propensity for conflict of interest. ”
  
  See more at: http://wiki.fool.com/What_Commission_Is_Paid_on_a_Fixed-Indexed_Annuity%3F#sthash.e21kum3R.dpuf
  
  John Hilton’s argument that a FIA is more akin to a fixed annuity than a security is, it seems to me, logical but quite unrelated to the DOL’s intent to address conflicted advice that stems from the sale of commission-based products in the IRA marketplace. One can argue that the DOL is misguided or has no authority or is wrong but I think with the reg being finalized that that “foursome has teed off”.
  - Peter Sloan
    
    Did you really just quote Motley Fool?
    
    As is responded to another similar article:
    
    Just because the DOL calls a FIA a security – for all practical purposes – makes about as much sense as declaring a “wall safe” a security. Fixed Indexed annuities are life insurance product. I suppose you could argue that term life insurance is “insurance,” but that whole life insurance is a “security,” because it is a more complex product.
    
    The fact remains that the Federal Government is once again chipping-away at “States Rights” as they did under the SEC’s attempt several years ago to declare Fixed Indexed annuities “securities.” That attempt failed after a long drawn-out battle.
    
    Now comes the political operative of the Obama Administration – The Department of Labor – trying to force Federal oversight of an insurance product that is clearly not a “security.” The insurance commissioners of each state, are the overseers of insurance. If it walks like a duck it must be a horse, for purposes of rationalization.
    
    Notice to The Individual State Commissioners of Insurance Regulation:
    
    To quote the Character in “Blazing Saddles (1974)”
    
    Governor William J. Le Petomane:
    
    Holy underwear! Sheriff murdered! Innocent women and children blown to bits! We have to protect our phoney baloney jobs here, gentlemen! We must do something about this immediately! Immediately! Immediately! Harrumph! Harrumph! Harrumph!
    
    I didn’t get a harrumph outa’ that guy!
    
    Peter Sloan
    - Dave Arey, CLU, ChFC, FLMI, CEBS
      
      I quoted the Motley Fool to provoke a bit. But I much prefer your quoting from Blazing Saddles. It does a much better job of provoking and it gets to the point…the DOL has hyperbolically over stated its rationale for this regulation.
      
      What ever the source (Motley Fool or otherwise), the commissions paid on FIAs are generally higher (and not particularly well disclosed to buyers) than are the commissions paid on the sale of fixed or variable annuities. The overly simplistic premise upon which the DOL has justified its conflict of interest final regulation — that variable, non-disclosed commissions are BAD; asset-based. transparently disclosed fees are GOOD — is (I think) false.
      
      Life insurance companies producing FIAs and agents that sell them in the IRA marketplace can and likely will argue that FIAs are not securities and so the DOL treating them like variable annuities is inappropriate. That’s what John Hilton is trying to do with this article…FIAs are not securities and that somehow provides the grounds for overturning this reg (with regard to FIAs). Good luck with that.
      
      As an aside, where in this final reg are you drawing from to support your statement that “Now, never losing money in the market is a right.”
- Peter Sloan
  
  Insurance commissions have always been higher than securities commissions. Long term insurance products are not securities. Stay on your side of the isle and stop trying to regulate-away your competition. The takedown of 1-2% per year on a clients account is at least 10-20% over ten years and some hedge funds take-down 20% of the profits – assuming the brokerage wants to “move” the assets at their own cost. You guys have the feed-bag on. Those in glass houses shouldn’t throw stones. Agents and brokers of insurance products are self funded and can’t charge by the hour or nibble away at the client’s account like the stock brokerage firms do. All they can do is make a good case for why the products are suitable. Even once the sale is made, the clients have multiple opportunities to cancel. After rigorous scrutiny by the insurance companies’ back office, as to suitability, the client still has 20-30 days to return the “policy” – notice I said policy.
  
  Conversely, once a trade is executed it is done. Generally, no second chance.
  
  Peter Sloan
  - Dennis E. McCarty FIC, LUTCF, Insurance Consultant
    
    Mr. Sloan,
    I appreciate your comments on the subject at hand. I am amazed how brokerage firms and so called Financial Planners believe that Insurance Advisors are not worthy of commissions we are paid for the sound planning we do, especially when we are paid once for the pleasure of helping our clients secure their retirement dollars and then required to service their plan(s) throughout their lifetime without any further compensation. Interesting to me is why the Investment Brokers and FP’s continue to be compensated on their clients account value each and every year whether or not the clients funds increase in value or decrease because of market losses? To be paid on a clients account value when they lose money seems to me to be not only counterproductive to the client but a theft of unearned fees for poor performance and service to the client. How ethical is that? When discussing with a client a Fixed or FIA product the first and most important question for me to ask is ……What are your future plans for these funds? If their use is for Guaranteed Retirement Income that they cannot outlive a Fixed Annuity or a FIA with an Lifetime Income Rider is what I will share with the client……..not because of the commission but because of the future need for the client! If this is not the answer the client shares with me I DO NOT recommend either product for my client. Other products can meet other needs for the clients dollars. At one time in my 35 year career I had a Securities license and found that with all the funds available to the consumer it was extremely difficult to recommend what was best for the client over the long period of time. I am certain that an Investment Broker can never be correct in their recommendations 100% of the time , unless they have an inside track, and that my friends is illegal as we all know. When markets change for the worse most people become concerned about their future and whether or not they will outlive their money, or whether they will have any money period. With a Fixed or Fixed Indexed Annuity we minimize, if not eliminate, that concern. Why is that a BAD thing in a world of volatility, and why should we not be paid for doing what is right? Not all Advisors are in it for the commissions!
- Dan Barnard
  
  Look to see this carved up and overturned by the Courts, Indexed annuities always survive and thrive against legislative initiatives. The SEC tried and failed in a similar attempt to power grab. This was rammed through becasue it is a political issue in the last year of the current administration. Ultimately, nothing in reality will change. Where is the public outcry against Indexed annuities? Why is there no cost basis ananlysis to back up the DOL claim that this product needs to come under their regulation? Why is there not a conversation of the fees Securities Firms charge each and every year 1-4% as compared to one time Indexed annuities commissions? Does the DOL need to start regulating the sale of aluminum siding and European sports cars to retirees too?
- Wayne Gregoire
  
  Fixed indexed annuities are principal guaranteed products. Which falls under insurance products the fact that they are complicated is no reasoning to put them into another category. Take it one step further indexed universal life is much more complicated than indexed annuities they have an added component of Life Insurance shouldn’t the Department of Labor categorize fixed indexed life insurance as a security then. To the average consumer any insurance or financial instrument however designed is complicated. It seems like the Department of Labor is placating to Wall Street which goes back to 151 a congress and the courts classified fixed indexed annuities as insurance product because people they are Insurance products which provide guaranteed lifetime income and safety as part of a balanced plan
- Wayne Gregoire
  
  Fixed indexed annuities are part of a balanced retirement plan providing safety of principal safe growth and lifetime guaranteed income the client can not out live. It’s not whether or not Securities are bad or fixed indexed annuities are bad it’s about what the best tool for the job is. Commissions are never a thought process for me it’s does the product fit would you try and build a house with just a screwdriver no you require different tools for different jobs. Investment advisors make 3 – 5x what an agent would make selling any annuity over 20 years. Those fees come directly out of the client’s pocket whether or not they have made money or not seems to me that in a year the market correct 10 or or 20% constitutes stealing in my opinion. No one is talking about the fact that commissions are paid by the insurance company not the customer. I have spent 35 years providing valuable advice to my clients. This process is about protecting a client’s assets and providing guaranteed income no other product on the planet can do that. Again it’s about an entire plan with multiple tools to serve the clients multiple needs. Most of the advisors I speak to who sell just securities do not even do a total planned all they ever want to do is take the pile of money put it in the market take a withdrawal or a doubt and hope the client doesn’t run out of money that’s called Monte Carlo planning and is an outdated model
ERISA Attorney

While I am generally not a fan of government regulation, I have to take issue with Attorney Jorden’s legal analysis. The DOL rule is not similar to the SEC’s attempted action in 2008. Unlike the SEC, the DOL is not attempting to regulate all indexed annuity sales. Instead, it is regulating transactions with qualified retirement plans and IRAs which, pursuant to ERISA, fall within a federal preemption.

There are many prohibitions on selling products under ERISA. For example, ERISA generally prohibits a plan fiduciary from causing the plan to purchase real property owned by the fiduciary. Obviously, the DOL has no authority to regulate real property transactions outside of the retirement plan or IRA context. However, within those parameters, it certainly does.

Therefore, it does not matter whether an indexed annuity is considered a security or an insurance product. It also does not matter if the product can or cannot lose money. If the seller will receive any compensation for selling any product to a plan, plan participant, or IRA owner, it is a prohibited transaction under ERISA. As a result, the transaction is only permitted if an exemption exists.

You may have an argument that the DOL exceeded its rulemaking authority under ERISA to interpret what specific transactions fall within the exemptions are currently set forth under the statute. However, arguing the DOL is attempting to regulate indexed annuities is a non-starter.
- Peter Sloan
  
  “1) You may have an argument that the DOL exceeded its rule-making authority under ERISA to interpret what specific transactions fall within the exemptions are currently set forth under the statute. 2) However, arguing the DOL is attempting to regulate indexed annuities is a non-starter.”
  
  As to your point:
  
  1) I think you just made the case.
  
  2)And you if think for one minute that this isn’t back-door regulation, you need to go back to your history books. If Glass-Steagall were still in-force, this would never have happened.
  
  The Government has shifted it’s healthcare initiative toward Wall Street. Healthcare is a “right.”
  
  Now, never loosing money in the market is a “right.” When this house of cards comes down, it’s going to make the thunderous sound of bricks falling; not paper.
  - AdvisdorGuy
    
    In answer to the question, the right will fall when the plaintiffs bar (the real winner in this) starts cranking up the law suits under a best interests standard…”So mr. Advisor, is it your testimony that it was in my client’s best interests to place any portion of his/her retirement funds into an equity market that subjected my client to even the remotest POSSIBILITY of negative returns, now that my client has retired?”
    
    I’ve been thinking about this since the ruling came out and, frankly, I think this could be a boon for indexed annuity sales and even VA sales as long as they have guaranteed lifetime withdrawal features. When would it NOT be in a clients best interests to GUARANTEE at least some, if not all of the minimum amount of income needed in retirement.
    
    While the new rule does suck, and while it will cost more for my fee based clients for whom I already act as a fiduciary, and while I may no longer be able to serve smaller accounts because of the massive increase in E&O coverage and compliance costs that are surely to follow, we may see that FIA’s will provide the insulation from litigation advisors will be looking for, not the cause of it.
    
    Ultimately it will be the ambulance chasers that will determine how this will all turn out.
- Wayne Gregoire
  
  People it’s not about being held to a higher standard none of us in this business would ever argue against that. It’s about a standard that cannot be met. the best interest contract exemption is the equivalent of playing Russian roulette with 5 bullets in the chamber and one empty one for anyone who recommends a fixed indexed annuity. The Standard is open-ended and the determination of whether or not an advisor sold the best product will be made by an armchair quarterback looking back at the transaction and picking it apart just as a replay in a football game. It’s pretty clear here…. if the runner had gone left instead of right he would not have been tackled and he would have scored that touchdown, the advisor will lose every single time. So what’s the determining standard! if I sell an income Rider that has $3 less a year in income than another income Rider I am now liable because technically it wasn’t the best contract . The lawyers should send a big fat gift basket to the federal government and the Department of Labor thanking them for Paving the way for their future business model providing them with huge financial gains. I’m sure they are preparing the outline for all the class action lawsuits they will file , not to mention e&o insurance will now cost $5,000 for an insurance agent who sells fixed index annuities. In the end this new regulation will cost the consumer because insurance companies will have to price their products based on the cost of Defending all the lawsuits. Putting fixed indexed annuities in a category designed for securities is the equivalent of your mother saying because I said so this is a textbook example of government overreach.
A. Real Einstein

Products are not subject to the Fiduciary standard , people are.
All products sold into IRAs are subject to the new rules. It does not matter whether it is a security or not.
- Wayne Gregoire
  
  Exactly Einstein professionals who spent 35 years in the business like I have are already holding themselves out to that standard it’s not about the standard it’s about the fact that you cannot defend yourself from it