The Outlook for The Consumer Gold Standard of Care – Suitability

Share via emailShare on FacebookShare on Twitter

Unquestionably, discussions are escalating in Washington, D.C. and across the country regarding fiduciary standards of care being applied to sales made by broker-dealers. Investment advice has long been subject to fiduciary standards since the Uniform Security Act of 1930 and the Investment Advisers Act of 1940. Additionally, FINRA and SEC have regulations.

Indeed, the debate has been simmering for some time by competing interests in the financial services industry, but it recently came to a head as a result of two actions at the federal level: First, a requirement in Section 913 of the Dodd-Frank Act directed the SEC to study the benefits of adopting a new, uniform federal fiduciary standard of care for both investment advisors and broker-dealers and to write rules if needed. Second, the Department of Labor decided that it would branch out on its own to “protect employees” with the “higher” fiduciary standard.

On October 22, 2010, the Department of Labor issued a proposed rule requiring a fiduciary standard of care on all ERISA plan sponsors and sellers/advisors. Subsequently, after much controversy, the DOL withdrew the proposed rule on September 19, 2011. Unfortunately, the DOL’s proposed rule did not include an acceptable seller’s exemption for annuity sales—an exemption that has existed in Title 29 of the Code of Federal Regulations since 1975.1 The proposed new fiduciary definition would have affected sellers who work with pensions, 401(k) plans, and IRAs, including sellers of annuities, who would be deemed “fiduciaries” under many circumstances. NAFA submitted comments opposing the rule as drafted and awaits further information from DOL about a new rule. Additionally, NAFA awaits further action from the SEC, which has indicated that it plans to move forward with a uniform fiduciary standard proposed rule, but first will publish an RFI from which it will gather data to support a rule.

At this time there is no clear date for further SEC action. Meanwhile, the debate rages on. The financial press is filled to its proverbial eyeballs with statements from interested parties touting a fiduciary standard as an “elevated” standard. Opposition to the standard is also loud and prolific. But, most often when the comparison is made between the fiduciary standard and the suitability standard, pejorative statements are made about the suitability standard of care, unfairly casting the fiduciary standard as the best standard because non-fiduciaries “merely” determine if a product is suitable.

How did we get here?

Historically, the fiduciary standard has its roots in English Common Law, and, according to Barron’s Law Dictionary, the word fiduciary comes from Latin fides, meaning “faith”, and fiducia, meaning “trust.” In the Uniform Security Act and Title 29, the definition of a fiduciary requires that the individual renders advice for a fee or other compensation and has discretionary authority or control over purchasing the securities for the plan. This connection is critical. It is not merely the rendering of advice, but the control of assets chosen or recommended. Title 29 is also clear that a person is NOT a fiduciary if he or she renders investment advice for a fee or other compensation but DOES NOT have “discretionary authority, discretionary control, or discretionary responsibility” over the assets of the plan or if he or she does not render investment advice.

It is the control element that differentiates the fiduciary standard from other standards of care. Because the fiduciary is literally controlling someone’s money and making the decisions about where, when, and how often to invest that money, the person for whom the fiduciary is investing is in a position of vulnerability and he or she vests confidence, reliance, and trust in the fiduciary.

Title 29 also acknowledges the “execution of securities transactions” is unique and a broker-dealer can be exempt from the fiduciary standard if they do not have discretionary authority, discretionary control, or discretionary responsibility and do not exercise any authority or control.

In issuing their proposed rule, the Department of Labor expressed concern that the buyer often does not know the role the seller plays and what interests the seller is serving. The Department unfortunately showed bias against a suitability standard as evidenced by the following language that was included in its original proposed rule:

“..such person can demonstrate that the recipient of the advice knows or, under the circumstances, reasonably should know, that the person is providing the advice or making the recommendation in its capacity as a purchaser or seller of a security or other property, or as an agent of, or appraiser for, such a purchaser or seller, whose interests are adverse to the interests of the plan or its participants or beneficiaries, and that the person is not undertaking to provide impartial investment advice.”

NAFA strongly objects to DOL’s contention that the seller’s “interests are adverse” merely because he or she is not acting as a fiduciary. NAFA does not agree that one standard is necessarily always higher, more elevated, or inherently better than the other. Both the suitability standard and the fiduciary standard are quality standards of ethical and compliant behavior, and each has its place depending on the nature of the transaction involved.

In the case of a fixed annuity, the premium is paid to the insurance company. The premium is held in a general account and the broker or agent does not have the control element so a standard of care other than fiduciary should be required of the seller. That is where SUITABILITY applies.

NAFA believes that the recommendation to buy a fixed annuity is not adverse to the buyer’s interest because under state insurance regulations it first must be suitable to the client’s financial goals, risk tolerance, liquidity needs, and more. The facts and figures of more than a dozen categories of personal and financial information about the client must be gathered and weighed before a recommendation to purchase an annuity may be made. This process of data gathering, assessment, and review protects against any adverse interest, but in addition, a second review is mandated on every sale by the insurance company who is held responsible for the suitability of the sale. Thus, the consumer receives enhanced protection under the suitability standard of care.

Furthermore, the three iterations of the Uniform Security Act since its adoption in 1930 have all acknowledged that individuals who sell annuities have a unique relationship with the client—and that it is not a fiduciary relationship. Also, since insurance laws require that the annuity seller must be appointed by the insurance company and follow the Suitability Standard of Care, the insurance agent has a responsibility both to the customer and the insurance company for a suitable sale. This responsibility in both directions is a high watermark for the annuity salesperson. He or she must adhere to State rules and regulations put in place to protect the consumer–—both for conduct required by his appointment with the insurance company and conduct required by his insurance license with the State.

NAFA believes that the business activity, the type of advice given, and who has control of or influence over the assets used – not merely what license or licenses are held – are the key factors in determining which standard of care should apply.

This fiduciary standard of care debate is not merely an academic exercise. Indeed the outcome might seriously harm consumers and their ability to adequately save for retirement. Additionally, it has a significant impact on the fixed annuity industry. We already know that Errors & Omission insurance costs twice as much for registered investment advisors (who are subject to the fiduciary standard) as it does for brokers or agents (who are subject to the s uitability standard). This is not surprising because there is less risk to the E&O provider to insure brokers or agents because the control and authority over the invested assets are held by the insurance company rather than by the individual fiduciary. Producers who only sell annuities would nevertheless be required to follow both the fiduciary standard and the suitability standard and would be required to pay fees to both for insurance regulators and security regulators. If FINRA is anointed the SRO of investment advisors, it is more than likely the broker or agent will have to pay additional fees to FINRA. Finally, the insurance company will pay additional fees to all regulators and will require additional compliance officers and staff to educate, monitor, and enforce compliance with both the fiduciary standard and the suitability standard.

Supporters of the proposed DOL rule and a uniform fiduciary standard believe that uniformity and a single fiduciary standard is always the best protection for consumers. But is it? In the interest of both consumer protection and consumer access to a comprehensive landscape of retirement vehicle options, the debate as to which standard is appropriate should center on the type of advice that is being given, the type of advice the consumer is seeking, and what person or entity controls the investment assets. If the advice is to buy a fixed annuity for the insurance and savings benefits it provides and the advisor does not have control, discretion, or authority over the money that is being used to fund the annuity, adding the fiduciary standard—and the compliance entailed by that standard–to the relationship is expensive, unnecessary and, ultimately, harmful to the consumer.

At-A-Glance Comparison

To view a larger version, click on the image.


Kim O’Brien is NAFA President & CEO. NAFA membership represents over 85% of all premium for fixed indexed, declared rate and income annuities written through the independent distribution system. Kim has over 30 years of experience in the insurance industry beginning as in 1981 as office manager for an insurance agency. In 2002 Kim developed and ran her own marketing organization and received the 2002 Entrepreneur Award from Sun Life. In between, Kim worked as a marketing executive for major insurance companies and was responsible for their annuity and term life insurance product line development, marketing, and training processes. In 1993, Kim served as interim deputy director of the Wisconsin Department of Insurance under Governor Tommy Thomson and served Governor Thompson until a permanent replacement could be found. In July 1992, Kim was the first women in Wisconsin to pass the CFP exam established in 1991 by the CFP Board as a single comprehensive examination modeled after the licensing examinations given to attorneys or Certified Public Accountants (CPAs). Kim O'Brien received her BA from Ripon College, her MFA from the University of Northern Colorado, and an MBA with an emphasis in Economics from Edgewood College, Madison, Wisconsin. In 2008, Kim was accepted into the Juris Doctorate program at the William H. Taft Law School and completed her first year and passed the preliminary California Bar as required before continuing her degree. She has recently re-instituted her studies to begin this summer after a hiatus due to her NAFA workload. As an avid musical theater fan and dancer, Kim has directed or choreographed over 60 shows in Milwaukee and Madison, Wisconsin. She lives with her husband and college sweetheart of 39 years, Kelly, in Phoenix nestled in the Thunderbird Conservatory she enjoys hiking the mountains with their Irish setters.

Related Articles