Kentucky District Court Rules That Index Annuities Are Not Securities
Is an index annuity a security? The question has been quietly kicking about ever since index annuities–which link their growth to increases in an equity or bond index–first made their debut in the mid-1990s.
The developers say index products having guarantees are not securities, but others have wondered if perhaps they might be securities anyhow.
Now, at least one official answer has emerged. It comes from a recent ruling from the U.S. District Court in Kentucky–a ruling that essentially says index annuities having underlying guarantees are not securities.
Given that sales of such annuities have been on a fast track in the past year, totaling over $8 billion by the end of the third quarter, the district courts finding is sure to draw industry attention because it supports what index annuity marketers have been saying all along.
Here is the background: In late September 2002, Chief Judge John G. Heyburn II of the United States District Court in the Western District of Kentucky in Louisville signed an order dismissing a lawsuit that involved index annuities. In so doing, the court said the products in question are “exempt from federal securities laws both under Section 32(a)(8) and Rule 151.”
Because of that, the court found no legal basis for the plaintiffs complaints of securities fraud and it dismissed the charges in the suit.
The decision, and the reasoning behind it, are important for the index annuity business, contends Joan Boros. A partner in the Washington, D.C., law firm of Jorden Burt, she closely follows the index annuity scene.
For one thing, had the decision gone the other way, it would have become a class-action lawsuit, Boros says.
More importantly, she says, the 18-page document is exceedingly thorough. It lays out various court decisions and related reasons why the products it examined are not securities. For example, the court not only analyzed relevant sections of federal securities law but also cited various Supreme Court and other key court decisions, she says. In addition, it “visited, examined and analyzed” whether the three-prong test under Safe Harbor Rule 151 applies.
In beginning its review of relevant cases, the court pointed out that the “threshold question in any action brought pursuant to the Securities Acts is whether a security exists.” Since the complaint was that the annuity contracts in question were securities, the court said it had to decide whether a fixed indexed deferred annuity is a security within the meaning of the federal laws.
The courts decision, that the products are not securities, has several important points for insurers, according to Boros.