Variable Policy Riders Differ, So Analyze Them Before Filing

Judith A. Hasenauer

Lets face it, the variable product business today is ultra competitive. Insurers constantly search for new ways to differentiate their products in hopes this will gain them more “shelf-space” with distributors.

Hanging riders or endorsements onto a product is one of the methods insurers use to add additional features to their products.

While these extra options make the product more appealing to distributors and consumers, the technicalities involved in adding them can be more complex than some people assume.

As we shall see, this is particularly so in the variable product domain. But before looking at that, lets review why riders are so prevalent.

The practice of using riders and endorsements is well established in the customs and laws of the life insurance industry. For decades, insurers have considered these add-ons to be useful tools that enable them to “modularize” products and also expedite the otherwise cumbersome process of filing products with state insurance regulators.

The newer segment of the insurance industry–the variable product providers–is no exception. In fact, in recent years, variable insurers have been using riders and endorsements in an ever-increasing manner. In many instances, they use variable riders and endorsements to provide additional benefits, guarantees, or other features to make the variable product more appealing.

The majority of such features are “general account” obligations of the issuing insurance company. As such, they fall into the legal classification of “insurance.”

However, it is possible for insurers to use riders and endorsements that are not pure “insurance.” Rather, they could be construed to be “securities.”

If such features are incidental to the variable insurance product and if the prospectus contains adequate disclosure describing the features, these riders and endorsements should pose no problem for the insurer in regards to registering the product with the Securities and Exchange Commission.

However, it is possible that certain riders or endorsements may present more challenges in this area. These would be riders and endorsements to variable products that would themselves qualify as “securities” (as opposed to “insurance”) and that are so independent of the variable insurance product that they cannot be construed to be “incidental” to the variable policy in question.

In such cases, the rider or endorsement may have to be separately registered with the SEC as a stand-alone security. Failure to do this may invite the risk that the insurer could be determined to have sold an unregistered security.

For example, if a rider or similar addition to a variable product results in the imposition of a new surrender charge or the extension of an existing surrender charge, the SEC interprets such a situation as requiring an application for exemption from Section 11 of the Investment Company Act of 1940.

These applications for exemption are not routine. Applicants can expect the SEC to conduct a detailed review and analysis of the application before granting such exemptions.

Therefore, applicants for these types of exemptions should be prepared to present convincing justification for the request. It is not inconceivable that a request might be denied, if the SEC staff determines that it is not in the policy owners best interest.

This demonstrates the need for insurers to analyze all riders, endorsements and similar modifications used with variable insurance products very carefully.

Developers should be sure the features they provide are incidental to the variable insurance product and are not themselves stand-alone “securities” that should be subject to separate registration.

Careful analysis should also be undertaken to determine if any such riders or modifications require exemptive relief.

Norse N. Blazzard, JD, CLU, and Judith A. Hasenauer, JD, CLU, are principals in the Westport, Conn. and Ft. Lauderdale, Fla. law firm of Blazzard, Grodd & Hasenauer, P.C. You can e-mail them at Norse.Blazzard@BGHPC.com.


Reproduced from National Underwriter Life & Health/Financial Services Edition, September 2, 2002. Copyright 2002 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.