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Regulation and Compliance > Federal Regulation > SEC

After Court's Nod On 151A, Views Differ On What SEC Will Do

By Arthur D. Postal

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Industry experts have different takes on what the Securities and Exchange Commission is going to do in the wake of a recent federal appeals court ruling that returned to the SEC for reconsideration of Rule 151A, a regulation that would have imposed federal oversight on fixed indexed annuities.

The marketing director of a firm which distributes the products says he doesn’t think the decision means that the SEC “is going to back off at all.”

“I still think there is a fight there,” said Gary Raggio, a national director of annuity marketing at Dunhill Marketing and Insurance Services, San Diego, Calif. “I don’t think we should be raising the flag in victory just quite yet.”

A panel of the U.S. Court of Appeals for the D.C. Circuit ruled July 21 in American Equity Investment Life Insurance Company, et al, v. the Securities and Exchange Commission, No. 09-1021, that the SEC had the authority to determine that the language of Sec. 3(a)(8) of the Securities Act of 1933 was ambiguous, allowing the agency to rule that FIAs were subject to federal regulation.

In that portion of its decision, the appeals court panel determined that the SEC did not need to show that investors could lose money on indexed annuities, but that the fact the product offered only variable returns was sufficient to constitute investment risk, said Frederick R. Bellamy, a partner in the Washington, D.C., office of Sutherland Asbill & Brennan LLP.

But, the court also returned the case to the SEC for reconsideration because the panel felt that the analysis of the efficiency, competition and capital formation component of the rulemaking was insufficient.

In a note to clients, Joan Boros, of counsel with Jorden Burt LLP, Washington, D.C., argued that complying with the court’s order is a “formidable and time-consuming task, and there is no assurance that the Court will find that the SEC’s follow-up meets the statutory standard.”

In her note, Boros said the job, among other things, may require the SEC to subject its review to still another round of public comment.

“In view of the current pressures on the SEC regarding proposed financial regulatory reform, is quite uncertain whether (and when) the SEC will choose to assume these tasks,” she said.

But, Bellamy disagreed. “I agree that there is no certainty as to what the SEC will do,” he said, but added that the SEC has a number of options.

He said that doing an analysis of the potential impact on efficiency, competition and capital formation through imposition of the rule “is a formidable task, but I don’t think it is as formidable as others think it is.”

For one thing, he said, the agency has the option to explain to the court why the analysis under Sec. 2b of the Securities Act of 1933 does not apply in this case.

“Through its decision, the court provided SEC that opportunity,” he said.

He said the court found that the SEC’s analysis of its justification for determining that FIAs were subject to federal regulation was reasonable.

Moreover, he added, it could be interpreted in several ways.

He said that if the decision was an interpretation of Sec. 3(a)(8), “it could have a very broad impact.”

The decision could also be read, Bellamy said, under the Chevron decision interpretation as “merely deferring to the agency and merely evaluating the reasonableness of the SEC’s action.”

Under this interpretation, the decision “could have a narrower impact, depending on what the SEC does.”

He explained that one of the principal arguments made by the industry and state insurance regulators was that since the insurer guaranteed against investment loss, that constituted a fixed rather than a variable annuity.

But the court disagreed, Bellamy said, “finding it reasonable for the SEC to determine that the unpredictability and the variability of the excess interest of the FIA was sufficient to exclude that product as a fixed annuity.”

As a result, he said, “it is still possible this rule could go into effect, and a lot of people should be preparing for that eventuality.”

Raggio of Dunhill Marketing agrees.

“I’ve never seen such a vehement attempt to venture into really what is the insurance industry,” Raggio said. “There is a line drawn between securities and fixed insurance products and I believe that line should be black. But, I think that line is grey today.

“I don’t think that this just goes away because the SEC was sent back to rethink their position,” Raggio said.

“I think that what bothered me was when I heard there was agreement by the court that supported the SEC’s position, that maybe this product should be administered on a national level,” he added.

Both an industry trade group and the SEC acknowledged that the decision backed the agency’s contention that it ultimately can regulate FIAs as securities.

In a statement, the National Association of Fixed Annuities voiced “disappointment” with the decision, and said it will now turn to Congress to ensure that FIAs remain state-regulated.

NAFA believes that the ruling “leaves it open for the SEC to promulgate rules it deems necessary at any time in the future, said Kim O’Brien, executive director of the Milwaukee, Wis.-based trade group.

“This is why the NAFA sought a legislative repeal of Rule 151A,” she said. “The House sponsored bill, H.R. 2733, and Senate sponsored bill, S. 1389, are critical to ensure that fixed indexed annuities are not subject to duplicative, bureaucratic and not-necessarily efficient oversight by the SEC.”

Kevin Callahan, a spokesman for the SEC said, “We are pleased that the court validated the Commission’s interpretation regarding equity indexed annuities, which would subject them to the important investor protections of the federal securities laws.”

He added that, “We will continue to consider the procedural issue identified in the opinion.”

The panel of the U.S. Court of Appeals for the D.C. Circuit ruled that the SEC’s interpretation of its authority to regulate EIAs as an “annuity contract” is reasonable under Supreme Court precedent providing flexibility to federal agencies to interpret their regulation, but that the agency failed to properly consider the effect of the rule upon efficiency, competition, and capital formation.

“Accordingly, we remand the rule for reconsideration,” the panel said.

In publishing a final rule in January, the SEC said it would go into effect Jan. 12, 2011. But, it added, EIAs issued before Jan. 12, 2011, would not be subject to additional legal responsibilities even after the new rule became effective.

The rule also addresses the manner in which a determination will be made regarding whether amounts payable by the insurance company under a contract are more likely than not to exceed the amounts guaranteed under the contract.

The industry, joined by the National Association of Insurance Commissioners and the National Council of Insurance Legislators, filed suit in late January and won expedited hearing of the case.

Oral arguments were held in May.

In remanding the case, the court said that the SEC failed to rigorously analyze the impact as required by law but backed the SEC’s basic argument that the agency believed its regulation would be better than a patchwork of state laws.

“After a more thorough review of the existing state law regime, the Commission may decide ultimately that (the regulation) Rule 151A will promote competition, efficiency, and capital formation,” the court said in its decision.

The court rejected the industry and regulator arguments that the agency had overstepped its authority in seeking to regulate EIAs.

It said it met the Supreme Court test of allowing the agency to interpret an ambiguous law, because the underlying statute is ambiguous, or at the very least silent, on whether the term “annuity contract” encompasses all forms of contracts that may be described as annuities.

Indeed, the analyses in the Supreme Court’s decisions in VALIC and United Benefit confirm this ambiguity,” the panel said.

“Had the statute been unambiguous, the Court need not have undertaken such an exhaustive inquiry in determining whether the two products at issue in those cases were annuities under Sec. 3(a)(8) of the act,” the panel said. Section 3(a)(8) reserves to the states the authority to oversee the underwriting and sale of fixed annuities.

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