A case involving an 86-year-old who was unwittingly sold $690,000 in an annuity she reportedly did not understand could lead to closer oversight of recommendations made by RIAs.
Last week, the California Department of Insurance announced a settlement it reached with Jefferson National Life Insurance Co., which approved the variable annuity contract sales that were sent to it by an unnamed RIA. The client signed checks and blank paperwork filled in by the adviser for various purchases of Monument Advisor VAs, including two contract exchanges in 2017 that resulted in total surrender charges of more than $14,000, according to the lawsuit filed by the state.
The adviser, who did not have an insurance license and did not receive commissions, charged the client a 1% asset-based fee, per their agreement signed in 2015. In an interview with state insurance investigators, the client, who was 86 at the time the adviser was hired, said they were unfamiliar with VAs and Jefferson National, the lawsuit stated.
As part of the June 30 settlement, the company reimbursed the client for the surrender charges, and it is paying a penalty of $150,000 to the state.
The company “employed a sales process in which neither it nor its affiliated life insurance agents performed an independent review of the unaffiliated investment adviser’s recommendations,” the settlement read. The agreement noted that Jefferson National Life Insurance Co. denied that the annuities were unsuitable for the client and that it did not admit or deny that its sales process was inadequate in determining suitability for the client.
However, the company has since “taken reasonable appropriate corrective action to address the involvement of its affiliated life agents in its annuity sales process,” according to the settlement.
The case indicates that California is paying attention to annuity recommendations made through RIAs, and other state insurance departments could follow. It could also lead insurers and licensed third parties that work with RIAs to scrutinize recommendations more carefully, if they do not already vet them closely.
For advisers who lack insurance licensure and recommend annuities, purchases must be initiated by the client, at least on paper.
The issue could be watched more closely by the Securities and Exchange Commission. However, that regulator did not respond to a request for comment about whether it is investigating the unnamed RIA in the California case.
Meanwhile, a spokesperson for the the Financial Industry Regulatory Authority Inc. would not comment on whether the self-regulatory agency was on whether it was examining the role of the related broker, Jefferson National Securities Corp., which is a Finra member. Finra “closely examines for and enforces member firms’ compliance with Finra rules and federal securities laws, but does not comment on investigations or specific situations,” the spokesperson wrote in an email.
In a statement, Nationwide Financial, which purchased Jefferson National in 2017, noted, "This involved the client of a single investment adviser."
"While the transfer resulted in significant growth of the account value in the client’s annuities, the operational sales process administered by Jefferson National did not fulfill California Department of Insurance expectations. We have since modified our sales process and confirmed with the California Department of Insurance that their concerns have been addressed and this matter is now behind us."
Jefferson National’s Monument Advisor VA was marketed as the first flat-fee investment-only product in the market, one with many underlying investment options that advisers could use to build tax-efficient portfolios and give clients exposure to alternatives or other asset classes they might not otherwise have.
David Lau, CEO of DPL Financial Partners, was chief operating officer at Jefferson National until 2014. His firm, which works with advisers on annuity sales, holds itself to a fiduciary standard in its recommendations, he said in an email.
“In the RIA model, the RIA is a referral source for a client. As the licensed agent, once working on a recommendation for a client, it is incumbent to be compliant with the regulations regardless of how the client came to you,” Lau wrote. “Anyone recommending an annuity is held to the same standards and regulations. In order to make a recommendation, you have to demonstrate you have the requisite knowledge of the client and the client needs to affirm they understand their purchase.”
Annuities are far from the simplest financial products, and there is much to consider when making recommendations, Marguerita Cheng, CEO of Blue Ocean Global Wealth, said in an email.
“Whether you’re a financial professional, caregiver, social worker, compliance professional, policy maker or regulator — we can all agree that the way we communicate with a 50- to 60-year-old client is different from a 75-plus client,” Cheng said. “Annuities do have many moving parts. It is important to be mindful of all of the fees of both the existing contract and proposed contract. Sometimes, a newer contract may have lower fees; however, it’s important to consider the following: surrender charges, current guarantees, such an annual withdrawal benefit or annual step up.”
The case in California could lead some RIAs to revisit their procedures.
“The latest report shows a range of supervisory deficiencies and recommendations, many of which are similar to issues we see elsewhere. This specific case involves action against the insurer responsible for supervising the transactions, so there is a disconnect between the RIA and the insurance department, as this adviser was not directly involved in the annuity transaction,” said Tamiko Toland, director of retirement markets at Cannex, in an email. “That said, the RIA still has supervision responsibilities, and I believe that many organizations will put some thought into whether their current procedures are adequate to identify similar actions.”
California has stronger consumer protections that other states, but more could follow in terms of monitoring annuity recommendations from RIAs.
“It is likely that states will find this case instructive, particularly when it comes to insurance that does not have a securities component, like fixed annuities or life insurance,” Toland said. “As with anything, there can be a variance in how organizations conduct compliance and perceive their own compliance risk.”
States have been moving forward with stronger annuity protections for consumers, seen in part by adopting model regulations from the National Association of Insurance Commissioners, Birny Birnbaum, executive director of the Center for Economic Justice, said in an email.
“Among the responsibilities of the insurer that use producers is to maintain a system of supervision and control to ensure compliance with the requirements of the regulation,” Birnbaum said. The California action “was based on the insurer's failure to maintain such a system of supervision — evidenced by the numerous unfair and prohibited replacements set out in the accusation.”
However, “I don't see any particular impact on RIAs as a result of this action, other than Jefferson National improving its system of oversight, which would affect all producers,” he said.
Editor's note: This story was updated to include a statement from Nationwide Financial.
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