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Are Legislative Changes Ahead For Life Products?

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The current economic crisis has seen huge increases in government expenditures to stimulate the economy. As per usual, increased expenditures cause politicians to seek new sources of revenue to ameliorate the inevitable deficits that result.

This is causing the two of us to wonder if the long predicted change in the tax structure of life insurance products–to tax the inside build-up of cash values–may see daylight in the next few months.

Another issue is stirring too. Proposals are surfacing for total restructuring of the regulatory oversight of the entire financial services industry, including at least annuities and perhaps life insurance products as well. There is talk of creating some type of super regulatory agency to oversee banks, asset managers, brokerage firms and life insurers and their products for the public. The recent financial services industry scandals merely add fuel to this race to impose new forms of regulation.

Annuities may be safer from potential tax changes than traditionally thought. Apparently, Congress has finally realized that annuities facilitate secure retirements.

Certainly, no one has a sense of security when it comes to government sponsored retirement programs like Social Security. People are finally understanding that they are responsible for their own financial security and the risk of living too long can only be hedged by ownership of a life contingency annuity. Meanwhile, the annuity industry is pushing not only to continue the current tax treatment, but to obtain even greater tax incentives for people to provide for their own retirements.

Life insurance products have been somewhat obscured by the success of annuities for the past 15 or so years. Yet, life insurance provides an essential element in financial planning that cannot be provided by any other product.

The fact that a person has to die to obtain the primary benefits provided by the tax-favored tax treatment of life insurance should be sufficient to prevent attempts at meddling with the product’s taxation. It seems morbid to tax people on the life policies they use to protect their loved ones in the event of untimely death. However, the long-standing estate taxes prove that morbidity does not always trump the need for government revenue.

Profound changes in the regulatory structure of life insurance at the federal level may be inevitable.

Many years ago, it would have been considered heresy to suggest that federal regulation of life insurance might be superior to state insurance regulation. Yet today, a substantial number of insurance executives would welcome federal regulation–to put an end to the chaos of 50+ state regulatory bodies administering the process. This is particularly true when factoring in politics.

Unfortunately, too many state insurance regulators use their positions to “bootstrap” themselves into higher political office, and so pillory insurers to gain political capital with voters. In addition, there is little uniformity from state to state with respect to insurer regulation or policy form approval. This results in insurers being required to have multiple versions of products and procedures.

Supposedly, federal regulation would cause a more even-handed regulation of insurers and their products.

There is, however, a downside to federal regulation. Under the current system, if a single state or a small number of states prohibit some product or practice, an insurer still has numerous other states in which to do business. If the federal government prohibits some product or practice, it cannot be done anywhere.

In the past 50 years, there have been good facets to the Securities and Exchange Commission’s regulation of variable insurance products.

There have also been some notable lapses. One example is the after market closing trading problem of a few years ago. Also, politicians and the media often hold the SEC to a standard beyond its statutory mandate. The primary element in current federal regulation of variable products is the requirement for adequate disclosure. It is arguable that the disclosure required for these products has resulted in more deforestation than effective provision of information to consumers. It is not fair to confuse disclosure with actual supervision.

More practical supervision of variable products has come from the Financial Industry Regulatory Authority’s oversight of sales practices. Unfortunately, with variable products, the demarcation between regulation by the SEC, FINRA and the states has often been cloudy, leaving insurers and agents confused as to where responsibilities lie. The SEC proposal to require registration of certain types of fixed annuities will undoubtedly exacerbate this confusion.

While no one can predict what will happen with changes in the tax structure of life insurance products or the regulation of the industry, it is inevitable that something will change–and sooner rather than later.

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


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