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Regulation and Compliance > Federal Regulation > SEC

SEC: Annuity Move Reasonable

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The U.S. Securities and Exchange Commission has filed a court brief defending its decision to regulate some equity-indexed annuities as securities.

The SEC argues in the brief that its decision is based on a “reasonable interpretation” of the term “annuity contract” under the applicable section of federal securities laws.

The SEC submitted the brief in response to a federal court suit initiated by EIA issuers and marketers, and by state regulators. The plaintiffs are challenging an SEC regulation, Rule 151A. The regulation, approved in December 2008 and set to take effect Jan. 12, 2011, would impose federal oversight on some EIAs.

The suit, American Equity Investment Life Insurance Company, et al, vs. SEC, Number 09-102, was filed in January in the U.S. Court of Appeals for the D.C. Circuit. Oral arguments in the expedited case are scheduled for May 8.

The brief submitted by the SEC refers in some places to the National Association of Insurance Commissioners, Kansas City, Mo., which filed a companion suit in February that has been consolidated with the suit by underwriters and marketers of the product.

The SEC charges that the NAIC “lacks standing” to be a party to the suit and has published a consumer guide that acknowledges that EIAs expose holders to investment risk.

The petitioners claim in their lawsuit that the SEC is exceeding its authority in seeking to regulate certain EIAs, because a provision of the Securities Act of 1933 specifies that these instruments are insurance and not securities, and therefore are subject to state, not federal regulation.

In their suit, the EIA issuers and marketers argue that they believe they will prevail because the SEC rule “squarely conflicts with two Supreme Court decisions on which it purportedly was based.”

The SEC, in a brief submitted by William Shirley, a senior SEC lawyer, argues that federal regulation of annuities is not “unambiguously precluded” by the federal securities law.

As a result, the SEC says, it had authority under a Supreme Court decision, Chevron U.S.A. Inc. vs. Natural Resources Defense Council Inc., to determine whether regulation of EIAs comes under its authority.

Chevron is a 1984 decision which grants deference to a federal agency’s interpretation of its own statutory mandate to decide whether it has authority to regulate an entity or product.

In its brief, the SEC argues that the securities laws do not define “annuity contract,” and that the “Supreme Court has made clear that the only contracts unambiguously covered by that term are the traditional fixed annuities that existed when Section 3(a)(8) was enacted [in 1933].”

“Because indexed annuities did not exist in 1933 and confront purchasers with investments risk that traditional annuities do not, they are not unambiguously covered by Sec. 3(a)(8),” the SEC argues.

The SEC also says the SEC “reasonably concluded that indexed annuities described by Rule 151A expose purchasers to investment risk that the Securities Act was intended to address through disclosure to investors and, therefore, are not the sort of annuities that Congress intended to leave exclusively to state regulation through the Sec. 3(a)(8) exemption.”

“The Commission reason that an indexed annuity in which the payout is more than likely not to be derived from the future performance of a securities index exposes an annuity purchaser to a significant investment risk, because his or her securities-linked return is not known in advance,” the SEC says.

“This determination is consistent with case law, longstanding Commission interpretations, and common understanding of investment risk,” the SEC says.

In addition, the NAIC lacks standing because “it has not identified an cognizable ‘injury in fact’ that its members (insurance regulators) or their constituents will suffer as a result of Rule 151A (which does not preempt any state law), and has not provided an ‘affidavit or other evidence’ demonstration a ‘substantial probability of such an injury, as this court requires,” the SEC says.

An NAIC Buyer’s Guide published as part of NAIC’s Annuity Disclosure Model regulation, “states that indexed annuities present a level of investment ‘risk’ that falls between the two extremes of variable annuities (which are securities) and traditional fixed-rate annuities (which are not securities),” the SEC says.

“The Commission’s (and NAIC pre-litigation) view that purchasers of indexed annuities face investment risk makes sense,” the SEC says. “Such risk exists because someone who invests in an indexed annuity does not know in advance how much he or she will receive under the contract, which depends on the fluctuating performance of a securities index.”


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