The NASD is attempting to rein in what it says are abusive sales practices of equity-indexed annuities (EIAs) and deferred variable annuities. In a recent notice to members, NASD voiced its concern about inadequate supervision by brokers of associated persons' sales of EIAs that are not registered as securities.
There has been considerable debate about whether all EIAs should be classified as securities. Some EIAs do not have to register under the Securities Act of 1933 because they are deemed insurance products within the act's Section 3(a)(8) exemption. The problem, according to NASD, is that many brokers consider all unregistered EIAs to be insurance products and not securities, so the sales of these products by associated persons, or insurance agents, is considered to be an outside business activity under what's known as NASD Rule 3030.
Because EIAs are complex, NASD worries that insurance agents may not fully understand them, and are therefore marketing and selling them inappropriately. With EIAs, an insurance company usually guarantees a stated interest rate and some protection from loss of principal, and provides an opportunity to earn additional interest based on the performance of a securities market index, according to NASD. Unregistered EIAs typically do not allow the investor to participate in the dividends accumulated on the securities represented by the index. Other features that contribute to EIAs' complexity are the products' minimum guarantees and fees and expenses, including surrender charges, premium bonuses, and multiple premium payment arrangements. Not to mention the fact that investors may wrongly assume that EIAs provide the same returns as index mutual funds, NASD says.
While NASD says it's not taking a position on which EIAs are securities, because of the uncertainty as to whether an unregistered EIA may be a security, NASD wants brokers to adopt "special procedures" under Rule 3030 with respect to EIAs. For instance, brokerage firms must require all associated persons to inform them when they intend to sell an unregistered EIA. Moreover, NASD says "all recommendations to liquidate or surrender an unregistered security such as a mutual fund, variable annuity, or variable life contract must be suitable, including where such liquidations or surrender are for the purpose of funding the purchase of an unregistered EIA."
As for deferred variable annuities, the NASD is proposing a new rule, Rule 2821, that would require a suitability obligation, principal review and approval requirements, as well as supervisory and training rules tailored specifically to transactions in deferred variable annuities. Carl Wilkerson, VP and chief counsel of the American Council of Life Insurers (ACLI), told NASD in a September 19 letter that the new rule is unjustified, and "contradicts Congressional anti-trust standards by targeting a single product among thousands in the marketplace without justification."--Melanie Waddell
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