Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010
The Insurance Provisions
Editor: Allison Bell, [email protected]. Contributors: Brian Anderson, Warren S. Hersch, Christina Pellett, Daniel Williams.
Publisher: Summit Business Media L.L.C., 33-41 Newark St., Hoboken, N.J. 07030, 201-526-1243.
(C) Summit Business Media L.L.C., 2010.
Updated Oct. 8, 2010.
This guide gives an overview of Dodd-Frank Act provisions that relate, or might relate, to insurance, insurers and insurance producers. It is not a substitute for legal, accounting or other professional advice.
In 2007, overextended U.S. homeowners began missing mortgage payments. Foreclosure rates soared, housing prices dropped and the mortgage-backed securities market reeled. Credit default swap traders had to post additional collateral to compensate for an escalating risk of issuer defaults. Frightened bankers stopped lending.
In 2008, one financial services giant after another began to fail, and rumors of a week-long bank holiday cropped up. Treasury Secretary Timothy Geithner, who was president of the Federal Reserve Bank of New York at the time, later said he thought he was seeing the start of a run on the financial system.
Geithner and other officials told Congress that regulators needed better tools to keep that kind of crisis from occurring again.
The Obama administration and Congress responded by developing the proposals now at the heart of the Dodd-Frank Act.
Geithner outlined the Obama administration’s financial services bill principles in March 2009, and the Obama administration released a more comprehensive white paper in June 2009. Rep. Barney Frank, D-Mass., chairman of the House Financial Services Committee, introduced a financial services bill, the Consumer Financial Protection Act, H.R. 3126, in July 2009.
Sen. Christopher Dodd, D-Conn., chairman of the Senate Banking, Housing and Urban Affairs Committee, unveiled a draft of a different proposal, the Restoring American Financial Stability Act, in November 2009. He filed the proposal as a bill, S. 3217, in April 2010.
The final version of the Dodd-Frank Act includes 16 titles:
The Insurance and Investor Protection titles are of obvious interest to anyone with an interest in insurance, but other sections also will affect insurance companies and insurance marketers.
Title II — the Orderly Liquidation Authority title — does not change the laws that govern the liquidation of insurers, but it may let the Federal Deposit Insurance Corp. push state regulators to shut down troubled insurers.
Section 120 gives the new Financial Stability Oversight Council some say over any financial activity that appears to threaten either banks or the U.S. economy.
The Dodd-Frank drafters often used ambiguous terms such as “nonbank financial company” or “financial institution holding company” in the text. In some cases, the drafters explicitly stated whether specific provisions apply to insurers; in other cases, the scope of provisions may be open to interpretation.
When President Obama signed the Dodd-Frank Act into law July 21, 2010, he created an enormous organizational project for the federal agencies primarily responsible for implementing it – the U.S. Treasury Department, the U.S. Securities and Exchange Commission, and banking agencies such as the Federal Reserve Board of Governors, the Office of the Comptroller of the Currency and the Federal Deposit Insurance Corp.
The U.S. Chamber of Commerce says the Dodd-Frank Act will require federal agencies to develop 520 rules, conduct 81 studies and issue 93 reports.
The general effective date for the bill as a whole was the day after enactment — July 22, 2010.
The act is creating a Consumer Financial Protection Bureau (CFPB) inside the Federal Reserve System, and an Office of Service Member Affairs, an Office of Financial Education and an Office of Financial Protection for Older Americans inside the CFPB. The director of the CFPB must be appointed by the president and confirmed by the Senate.
The act also is creating a Financial Stability Oversight Council (FSOC), an Office of Financial Research and a Federal Insurance Office (FIO) at the Treasury Department.
The Treasury secretary is the chairman of the FSOC, and the Office of Financial Research will help the FSOC watch for threats to the financial system. The director of the research office will be appointed by the president and confirmed by the Senate. The FIO will help the FSOC keep tabs on insurers, and the Treasury secretary will get to appoint the FIO director.
The drafters of the Dodd-Frank Act used several different systems for indicating when actions required by the act ought to occur.
The major dating systems are based on:
1. July 21, 2010 – The date the act was enacted.
2. The “transfer date” – The date on which several federal agencies will transfer part or all of their authority to other agencies. The Treasury secretary is supposed to publish the transfer date within 270 days after July 21. The transfer date could be between 12 months and 18 months after enactment.
4. July 21, 2011 – The “designated transfer date” – the date when a number of federal regulatory agencies will transfer all or part of their authority to the new Consumer Financial Protection Bureau (CFPB). The date could be between 180 days and 18 months after enactment
THE ENACTMENT DATE CALENDAR
July 21, 2010
- President Obama signed H.R. 4173 and enacted the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010.
July 22, 2010
- The general effective date for the act. The Consumer Financial Protection Bureau, the Financial Stability Oversight Council, the Office of Financial Research and the Federal Insurance Office came to life.
60 Days After Enactment
- Treasury secretary must publish the designated transfer date, which will govern implementation of federal agency authority transfers involving the CFPB. The transfer date could occur between 6 months and 18 months after enactment. Treasury Secretary Timothy Geithner has made July 21, 2011, the designated transfer date.
6 Months After Enactment
- The FSOC will develop a report on the impact of large, complicated financial institutions and a second report on how to restrict proprietary trading at financial companies while accommodating the business of insurance. The FSOC is supposed to adopt rules related to the proprietary trading report within 9 months after the proprietary trading study is completed.
- The SEC will complete a study on the standard of care for brokers, dealers and investment advisors.
270 Days After Enactment
- The Treasury secretary will publish the transfer date, which will govern implementation of federal agency authority transfers not involving the CFPB. The transfer date could occur between 1 year and 18 months after enactment.
12 Months After Enactment
- Rules putting a reinsurer’s state of domicile in charge of regulating the reinsurer take effect.
15 Months After Enactment
- The FSOC will complete a study on whether stable value contracts are swaps.
18 Months After Enactment
- The latest possible transfer date.
- The comptroller general of the United States will report on bank and bank holding company use of hybrid capital instruments, including trust preferred shares.
- The Federal Insurance Office will report on the state of insurance regulation.
THE TRANSFER DATE CALENDAR
On the Transfer Date (Between 12 months and 18 months after enactment)
- The comptroller of the currency, the Federal Deposit Insurance Corp. and the Federal Reserve Board will transfer powers to other agencies
- Bank holding companies and savings and loan holding companies must be a source of strength for insured depository institutions.
90 Days After the Transfer Date
- The Office of Thrift Supervision will be abolished.
180 Days After The Transfer Date
- The SEC will complete a study on the state of exams for investment advisors and a study on financial planners’ designations.
1 Year After the Transfer Date
- The Federal Reserve Board will release new risk committee rules for nonbank financial companies that come to be supervised by the Federal Reserve Board.
- Federal banking agencies will release new capital level rules.
15 Months After the Transfer Date
- The new Federal Reserve Board rules for risk committees at nonbank financial committees will take effect.
2 Years After the Transfer Date
- The SEC must complete a financial literacy study.
THE DESIGNATED TRANSFER DATE CALENDAR
180 Days After the Designated Transfer Date
- The CFPB must choose an ombudsman.
- The CFPB must set up an Office of Financial Protection for Older Americans.
1 Year After the Designated Transfer Date
- The CFPB must set up an Office of Financial Education and an Office of Service Member Affairs.
24 Months After the Designated Transfer Date
- The Office of Financial Education will report on the state of financial literacy.
INVESTOR PROTECTIONS – STANDARD OF CARE
The Dodd-Frank Act does not directly change the rules that govern life insurance producers’ interactions with customers, but Section 913 creates a framework that the U.S. Securities and Exchange Commission can use to make changes.
Traditionally, brokers, dealers and insurance sales representatives affiliated with broker-dealers have used a suitability standard of care when dealing with customers. The Financial Industry Regulatory Authority requires the representatives using that standard to have reasonable grounds to believe that a product recommended or sold to a customer will suit the customer.
Investment advisors have had to use a fiduciary standard, meaning that they must put customers’ interests ahead of their own, avoid conflicts of interest, and disclose any conflicts that do exist.
Within 6 months after the July 21, 2010, Dodd-Frank Act enactment date, the SEC must complete a study that identifies any gaps or redundancies in standard-of-conduct rules and supervision of brokers, dealers, and investment advisors who offer personalized investment advice about securities to retail customers. When doing the study, the SEC must seek public comments.
After the SEC completes the study, it can set standard-of-conduct rules for brokers, dealers, and investment advisors who provide personalized investment advice to retail customers.
The SEC can require investment advisors to act in the best interest of the customer, without regard to the advisors’ own financial interests or other interests. This standard is supposed to be at least as stringent as the standards established by Section 206(1) and Section 206(2) of the Investment Advisers Act of 1940, and the SEC can hold brokers and dealers to the same standard.
Another part of Section 913, which amends the Securities Exchange Act of 1934, will let the SEC require a broker-dealer to notify retail customers of any limits on the range of products that the broker-dealer sells. Retail customers will have to indicate that they know about the limits.
The SEC can support efforts by investment advisors and broker-dealers to provide “simple and clear disclosures to investors regarding the terms of their relationships…including any material conflicts of interest.” The commission may also “examine, and where appropriate, promulgate rules prohibiting or restricting certain sales practices, conflicts of interest, and compensation schemes for brokers-dealers and investment advisers.”
Section 913 addresses some concerns about what a fiduciary standard might mean for life insurance agents. Early on, some life producers had argued that simply collecting commissions, or simply having a license to sell a limited range of products from one specific company, could lead to inevitable violations of a rigid fiduciary standard.
The final version of Section 913 says a broker-dealer can do the following without violating the applicable standard of care:
- Collect a commission or other standard form of compensation.
- Sell only proprietary products, or sell a limited range of products.
- Decline to be subject to continuing duties of care or loyalty after providing personalized investment advice to customers.
- Have material conflicts of interest, as long as the conflicts are disclosed to the customer.
The standard of care that ought to apply to specific types of financial transactions is a topic that provokes vigorous debate. Some life agents – especially those who are also planners – insist that a fiduciary standard should apply to agents who are offering personalized advice in the course of selling products such as variable annuities, but a large majority says the suitability standard is more appropriate.
Consumer groups have accused insurance agents and other financial services professionals of flooding the SEC with comments opposing a broad fiduciary standard; SEC commissioners seem inclined to support a broad fiduciary standard. SEC Chairman Mary Schapiro has expressed firm support for a uniform fiduciary standard, and Luis Aguilar, another commissioner, has questioned whether applying a different standard to “sophisticated investors,” such as professional pension fund managers, makes sense.
Advocates of adopting a uniform fiduciary standard say few consumers know which financial professionals are now supposed to use a fiduciary standard and which do not; critics argue that a broader standard could force agents who are now regulated as broker-dealers to spend more time and money on compliance and risk management without necessarily doing much to help clients. The critics note, for example, that Bernard Madoff was regulated as an investment advisor.
SENIOR INVESTOR PROTECTIONS
Section 989A of the Dodd-Frank Act offers states incentives to crack down on misleading and fraudulent marketing practices and to educate the public about misleading practices.
Section 989A(b), “Grants to States for Enhanced Protection of Seniors from Being Misled by False Designations,” gives the new Consumer Financial Protection Bureau’s Office of Financial Literacy the authority to distribute the grants.
States can use the grants to hire investigators, buy equipment and training for regulators and prosecutors, and provide educational materials and training on the appropriateness of the use of designations by sales representatives and financial products advisors. States also can use the grants to increase seniors’ awareness and understanding of designations, to fight misleading marketing of products to seniors, and to change state laws to protect seniors against misleading or fraudulent marketing.
States may qualify for grants of up to $500,000 per fiscal year for 3 consecutive years if they have:
- Set rules on use of designations in securities sales that meet the requirements in the Model Rule on the Use of Senior-Specific Certifications and Professional Designations, which was developed by the North American Securities Administrators Association (NASAA), Washington;
-Set rules on use of designations in insurance sales that meet the requirements in the Model Regulation on the Use of Senior-Specific Certifications and Professional Designations in the Sale of Life Insurance and Annuities, which was developed by the National Association of Insurance Commissioners (NAIC), Kansas City, Mo.; and
- Set annuity fiduciary or suitability requirements that are at least as strict as the requirements in the NAIC’s Suitability in Annuity Transactions Model Regulation.
To apply for a grant, a state must submit a proposal explaining how the state plans to protect seniors against fraudulent and misleading marketing, identify the scope of misleading and fraudulent marketing in the state, describe how the proposal would protect seniors against predatory marketing practices, and detail how the proposal would work in conjunction with other efforts to eliminate predatory practices.
A state may qualify for a grant of up to $100,000 for 3 consecutive fiscal years if it is in partial compliance with the standards.
The act drafters appropriated $8 million for the program for each fiscal year from 2011 to 2015.
Other investor protection provisions include Section 919B, which calls for the SEC to conduct a study on investor access to information about broker-dealers, investment advisors and others within 6 months of the Dodd-Frank Act enactment date, and Section 919C, which calls for the comptroller general to complete a study on the state of financial planners’ licensing requirements within 180 days of the enactment date.
Regulators have been working on the designations issue for years.
In 2008, NASAA adopted the Model Rule on the Use of Senior-Specific Certifications and Professional Designations, which introduced guidelines that state securities regulators could use to standardize their professional designations rules.
Later that year, Sen. Herb Kohl, D-Wis., introduced the Senior Protection Act of 2008, S. 2794, which proposed a designations oversight grant program.
The NAIC adopted its Model Regulation on the Use of Senior-Specific Certifications and Professional Designations in the Sale of Life Insurance and Annuities in late 2008.
Controlling misleading use of designations may help consumers and increase the value of credible designations, but some fear that letting each state craft its own rules will lead to conflicts. What happens if an advisor wants to use the same materials in one state that permits use of a designation and in a neigboring state that does not permit use of the designation?
(Title IX; Section 989J)
Section 989J of the Dodd-Frank Act contains a provision that limits the ability of the U.S. Securities and Exchange Commission to classify indexed annuities and other insurance products as securities.
The provision states that an insurance product, annuity product or endowment product with a value that does not vary according to the performance of a separate account is an insurance product, as long as the product meets or exceeds nonforfeiture and suitability criteria set by the National Association of Insurance Commissioners, Kansas City, Mo.
Starting in 2013, a product eligible for Section 989J protection must be issued by an insurer in a state of domicile that adopts any new NAIC suitability rules within 5 years of the rules being established.
The SEC triggered a fight over the indexed annuity issue when it issued Rule 151A, a regulation in which it classified most of the annuities as securities and asserted that it had the right to share jurisdiction over the products with state insurance regulators.
Indexed annuity issuers and marketers mobilized in defense of the products. Product supporters won a major victory in the summer of 2010, when the House and Senate conferees who were writing the final version of the act agreed to add an amendment proposed by Sen. Tom Harkin, D-Iowa.
The Harkin amendment passed and created Section 989J.