SEC rule labels indexed annuities as securities

By Philip Porado | December 29, 2008 | Last updated on December 29, 2008
2 min read

In a shot that will no doubt be heard beyond the U.S. borders, the Securities and Exchange Commission voted earlier this month to begin regulating indexed annuities as securities products.

Indexed annuities promise purchasers a fixed payout, but that sum can increase based on the performance of the underlying securities portfolio. The December 17 Commission vote puts to rest a decades-long debate that pitted insurance regulators in all 50 states against their counterparts in state securities departments over whether dependence on the performance of an underlying index of equities means the products are, in fact, securities.

According to new SEC rule 151A, the answer is a definitive yes. Under the new regulatory scheme, the SEC and the Financial Industry Regulatory Authority (FINRA) will share oversight with state securities regulators and require additional disclosure to clients who explore or buy the products. The regulatory transition will take two years and will become fully effective on January 12, 2011.

U.S. securities regulators at all levels have had their hands in the regulation of indexed and other annuities for many years. Indeed, starting in the late 1990s, NASD Regulation (now FINRA) made solid efforts to quash the practice of broker-dealers needlessly switching variable annuities in the accounts of elderly customers under a loophole in Internal Revenue Service code. Those switches were performed solely to generate extra commissions, and state securities departments supported and assisted NASDR’s examinations of firms that churned annuities. But the SEC’s decision formalizes the oversight.

The decision comes as a blow to insurance regulators, which had been ramping up oversight in an attempt to stave off formal securities-based regulation of these products. Interest groups south of the 49th expressed disappointment and noted the rule may ultimately limit consumer choice.

Since Canadian securities regulators sometimes take cues from their southern counterparts, the rule change could mean it’s time for those with oversight of insurance production up here to redouble efforts and demonstrate that Canada’s rules are up to par. That becomes especially important, given the heavy sales of guaranteed minimum withdrawal benefit products that were introduced to Canada just a couple of years ago.

The SEC did respond to some industry comments by adding language to prevent the rule from capturing traditional fixed annuities. It also sandbagged a proposed requirement to make product issuers determine whether the amounts payable under the contracts would likely exceed the guaranteed payouts three years prior to the issue date. As adopted, the rule will require the determination be made only six months prior.


Philip Porado