A few months back, I had the opportunity to attend and testify at a pre-notice public discussion regarding the contemplated additions to the California Code of Insurance Regulations, Title 10, Subchapter 5, Subchapter 3, Article 12.6 titled “Annuities Sales to Seniors,” and Section 2546 titled “Duty of Good Faith and Fair Dealing Owed to Prospective Purchasers of Annuities who Are Age 65 and Over.”

These regulations are not being promulgated through the California legislature. Rather, they are being issued pursuant to the new Insurance Commissioner’s power to interpret the “Duty of Good Faith and Fair Dealing.” Whether or not this power will be sufficient to issue these regulations remains a viable legal question. My sense from the meeting is that these questions and concerns will continue and those in the field will have to remain diligent with respect to documentation.

Specifically, the proposed changes to section 2546 in relevant part are set forth as follows:

Duty of Good Faith and Fair Dealing Owed to Prospective Purchasers of Annuities who are Age 65 and Over.
(c) In taking into account the interest of the prospective insured and giving that interest at least as much consideration as the insurer does to its own interest, the insurer must consider the prospective insured’s circumstances, including, but not limited to:

  1. The prospective insured’s income
  2. The prospective insured’s age
  3. The prospective insured’s liquid net worth
  4. The percentage of liquid net worth that the prospective insured’s total expenditure to purchase the annuity will represent in relation to his/her total liquid net worth
  5. The prospective insured’s investment objectives
  6. The prospective insured’s health status
  7. Whether the prospective insured has funds, exclusive of the proposed annuity, sufficient to finance his or her health care needs, residential care, long term care or other similar expenses.

(d) A breach of this duty of honesty, good faith, and fair dealing constitutes a violation of Article 6.3 of the California Insurance Code (California Insurance Code 6785 et. seq.).

Section 2546 (c) would take the underwriting out of the field and put it in an insurance company’s office. Under the current law, annuities are underwritten in the field by insurance agents who are in the best position to fully understand an individual’s investment needs and objectives.

Both sections (c 6) and (c 7) are subjective because they charge agents with determining an individual’s health at the time of the sale and in the future, thus creating greater liability for the insurance agent. It is virtually impossible to know what one’s health will be in the future or how much it could cost the insured to pay for said care.

Advisors are in the best position to determine a client’s needs and objectives. I feel it is up to each advisor to use a well-tailored evaluation form to evaluate a client’s needs and objectives prior to any sale of an investment product. Forms should be filled out completely. Advisors should pay particular attention to section c1- c5 above. These sections are not the law yet in California. However, in many states they are, and as a practical manner all advisors should know and understand how these sections relate to their clients.

Section (c 4) presents some interesting questions. What should a client’s total investable assets be in comparison to an annuity? Should you consider the equity in a home or other real estate assets?

Next month, I will discuss the more frightening possible outcome of the changes, which may eventually make it impossible to sell annuities to residents of California over the age of 65!

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