What Market Abuses Are DOL’s Fiduciary Proposal Supposed to Prevent?

Consumer advocates have argued that the Department of Labor’s retirement security proposal, sometimes called the fiduciary proposal, is a much-needed change to protect retirees, while opponents of the proposal argue that existing regulation of annuity markets is adequate and the proposal would only reduce lower-income workers’ access to annuity markets.

The fiduciary proposal would assign fiduciary status under the Employee Retirement Income Security Act to those advising on various one-time transactions, including annuity sales. The DOL’s final rule was sent to the Office of Information and Regulatory Affairs, a division of the Office of Management and Budget, on March 8 for a review that typically takes about 60 days. The final rule will likely be published sometime in May.

But opponents of the proposal would prefer continued reliance on the National Association of Insurance Commissioners’ Model Regulation 275, which has been adopted (with no or minimal modifications) by more than 40 states and which mandates a best-interest standard of care for annuity customers.

The Model Reg says: “An insurer may not issue an annuity recommended to a consumer unless there is a reasonable basis to believe the annuity would effectively address the particular consumer’s financial situation, insurance needs and financial objectives based on the consumer’s consumer profile information.”

The main criticisms of the NAIC Model Reg, in comparison to the DOL’s proposal, are that the model regulation does not consider compensation to be a source of conflicts of interest, it has poor disclosure requirements and it does not permit a private right to sue for damages.

Private Right of Action

The NAIC Model Reg does not allow for affected consumers to bring a civil suit against insurance agents, mandating that enforcement actions can only be taken by a state government agency. It states, “Nothing herein shall be construed to create or imply a private cause of action for a violation of this regulation or to subject a producer to civil liability under the best interest standard of care.”

Joe Peiffer, the president of the Public Investors Advocate Bar Association and a supporter of the DOL proposal, says not having a right to sue an insurance agent for selling a subpar product is unacceptable, because it means retirees cannot recover their lost savings directly. Instead, “the under-funded, industry-captured state insurance commissioners can do so. It is further proof that the NAIC standard, written by and for the insurance industry, is toothless.”

Jason Berkowitz, the chief legal and regulatory affairs officer at the Insured Retirement Institute and an opponent of the proposal, says a private right of action “changes the entire economics of your business,” because an insurer would need to pay higher insurance rates to protect against lawsuits and maintain other expensive compliance practices, such as more thorough documentation. As a result, that insurer would need to charge higher fees, pricing out smaller savers.

Berkowitz says critics of the NAIC Model Reg should instead encourage insurance commissioners to improve their enforcement practices.

Conflicts of Interest

Supporters of the DOL’s fiduciary proposal frequently point to the NAIC’s Model Reg’s discussion of conflicts, specifically the section that reads, “‘Material conflict of interest’ does not include cash compensation or non-cash compensation.”

Peiffer says excluding compensation as a source of conflicts is “excluding the very biggest thing.” By excluding compensation, insurers need not account for products with different commission levels, and this can incentivize salespeople to sell products that pay them more and not inform the customer of cheaper products that may have been a better fit.

David Certner, legislative counsel and policy director for AARP, says differential compensation between annuity products, as well as the fact that a salesperson may not get paid at all if they do not complete a sale, can incentivize them to recommend an annuity when a customer would have been better off leaving their money in their retirement plan. He says compensation models are “probably the main source of conflicts,” but the Model Reg does not consider them as such.

Certner adds that insurance salespeople can be incentivized to funnel clients to higher-cost annuities to improve their compensation. He says the “largest level of opposition is coming out of the insurance industry,” and this is because “they aren’t meeting a best interest standard.”

Berkowitz answers that though this part of the Model Reg could use “more precise drafting,” all it is really saying is the “simple fact that someone receives compensation does not mean in itself that there is a conflict of interest.” In other words, an insurance salesperson need not work for free in order to avoid a conflict.

Berkowitz also notes that the Model Reg bans sales quotas and contests within a limited time period. The Model Reg reads, “The insurer shall establish and maintain reasonable procedures to identify and eliminate any sales contests, sales quotas, bonuses, and non-cash compensation that are based on the sales of specific annuities within a limited period of time.”

Lastly, Berkowitz says that selling an inferior product because it provides a higher commission would violate the Model Reg by placing the agent’s interest ahead of the customer.

Disclosures

Peiffer says many annuity customers don’t fully understand the nature of the product they are buying or how insurance agents are compensated. He argues that insurance agents will often present themselves as acting in a fiduciary capacity, but revert to being mere salesmen when held to account.

The Model Reg does require disclosures about “the scope and terms of the relationship with the consumer,” “a description of the sources and types of cash compensation and non-cash compensation to be received by the producer the role of the producer in the transaction,” as well as “a notice of the consumer’s right to request additional information regarding cash compensation.”

It does not, however, contain a requirement to inform a customer of the scenario in which a salesperson might not be compensated at all if no sale is completed, potentially creating a conflict.

Berkowitz says, “I don’t believe that specific nuance is included in the model form,” and the consumer “should ask that question” of their annuity provider.