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The Mutual Fund Scandals Will Affect The Insurance Busines

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It appears that the after-hours trading scandal that is tearing apart the mutual fund industry is spilling over into the life insurance industry.

Both variable annuities and variable life insurance will be affected. That has implications not only for those in the senior market but for all marketers of these products.

This is a time for insurers, money managers and distributors of variable insurance to take a long, hard look at their practices and procedures to ascertain if they have problems, and to institute remedial action, no matter how painful.

The life insurance industry always has prided itself on being “squeaky clean” in its compliance with Securities and Exchange Commission requirements. Moreover, the issue of compliance with the “forward-pricing” requirements of the Investment Company Act of 1940 is so fundamental to the regulatory structure of regulated investment companies that no one could contemplate that anyone could misunderstand them.

Because of their reputation as good corporate citizens, life insurers always have enjoyed a relationship of trust with the SEC. Any breach of this trust that is demonstrated by the investigations of after-hours trading will require severe remedial action if that trust is to be restored.

When selling variable annuities and variable life, the industry also engages in a relationship of trust in dealings with other peoples money. These funds often represent life savings, which will most certainly form an important element in the retirement security of customers. Therefore, it is not morally acceptable to take short cuts that may give some investors an unfair advantage over others who have placed trust in the industry and its products.

Everyone involved in the manufacture, sale and money management aspects of the variable insurance business should immediately investigate their operations to ensure they are compliant not only with the letter of the law but also with the spirit.

Granted, the insurance business is competitive. But no amount of competitive advantage in obtaining sales can justify betraying the trust reposed in the industry by its customers.

To be sure all legal requirements are met, we recommend supplementing these internal investigations with inquiries performed by outside experts such as independent accounting firms and outside law firms. Even those within the industry who have done nothing wrong should have independent verification of that fact for the public record.

These internal and independent inquiries should go into some detail. The chart on this page gives examples.

Remember that it is just as important to follow internal rules as it is to comply with federal laws and regulations. In most instances, internal rules have been adopted to ensure that good and fair business practices are followed.

These internal rules may be the method by which a firm implements the “spirit” of the law, rather than just obedience to its letter.

In a separate but related issue, another practice has come to the attention of the SEC staff. This is: Some insurers may be providing “active” asset allocation services to variable annuity and variable life customers without having the required registered investment advisor formally involved with the transaction.

“Active” asset allocation refers to more than mere formulaic periodic rebalancing. It involves the determination and timing of the implementation of the formulas that will be used, based on the investment advisors perception of market conditions.

Even the use of asset allocation models developed by service providers not affiliated with the insurer may require a formal relationship between customer and service provider.

Therefore, we believe any inquiry into investment practices should also include a look at the asset allocation programs. This examination should check to be sure that the programs meet all requirements under the Investment Advisers Act of 1940 and the Rules of the SEC published under the Act.

We hope the investigations resulting from this scandal will reveal that the life insurance industry is, in fact, “squeaky clean,” as noted above. But the burden of proof is on the industry to demonstrate to regulators and customers that the trust it always has enjoyed is justified.

If violations are found, the industry must take immediate action to remedy the problems. Otherwise, it may be a long time before the business can again enjoy the trustful relationship it always has had with the staff of the SEC.

Norse N. Blazzard, JD, CLU, and Judith A. Hasenauer, JD, CLU, are attorneys in the Pompano Beach, Fla., office of Blazzard, Grodd & Hasenauer, P. C. , E-mail: [email protected].

Reproduced from National Underwriter Life & Health/Financial Services Edition, November 14, 2003. Copyright 2003 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.


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