The Challenge of Annuity Disclosure Reform: Summaries, Profiles and Buyers Guide

Transcription

1 SUTHERLAND The Challenge of Annuity Disclosure Reform: Summaries, Profiles and Buyers Guide ALI-ABA Conference on Life Insurance Company Products October 28-29, 2010 Mary Jane Wilson-Bilik Partner Sutherland Asbill & Brennan LLP Washington, DC Dodie Kent Vice President and Associate General Counsel AXA Equitable Life Insurance Company New York, New York C. Christopher Sprague Vice President and Corporate Counsel Prudential Insurance Company of America, Newark, New Jersey I. INTRODUCTION Federal and state regulators are increasingly recognizing the need for annuity disclosure reform. Outdated disclosure documents for variable annuities and overlapping mandates from a variety of regulators are potentially confusing to customers and imposing unnecessary costs on the industry. At the same time, issuers of other financial products, such as mutual funds, are benefitting from streamlined disclosure requirements and modernized layered disclosure rules. This outline discusses recent developments and proposals to reform annuity disclosure at both the federal and state level. In particular, we discuss: (i) the experiences of the variable annuity industry over the past year in implementing the mutual fund summary prospectus rule (Rule 498); (ii) the industry s proposals to reform variable annuity disclosure through both a variable annuity summary prospectus and layered disclosure platform; (iii) state insurance regulators proposals to reform annuity disclosure; and (iv) FINRA s profile-plus proposal. This outline also discusses the potential changes to disclosure that may be triggered by Section 919 of the Dodd-Frank Act. 1 1 The Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act ) was signed into law by President Obama on July 21, 2010.

2 II. BACKGROUND: THE NEED FOR GUARANTEED LIFETIME INCOME PRODUCTS Surveys show that American workers confidence that they will have enough money to last through retirement is near a 17 year low, 2 evidencing that the traditional threelegged stool of defined benefit pensions, Social Security benefits and personal savings is in considerable disarray. As fewer and fewer workers are covered by defined benefit plans, many worry that the contours of their Social Security benefits will not be adequate and may change by the time they retire. Defined contribution plans and IRAs, which are the primary source of retirement income for many, are subject to market and interest rate risk, and few defined contribution plans offer participants access to guaranteed income options through their employer s plan. 3 In sum, there are fewer opportunities for workers to attain guaranteed lifetime income that they will not outlive. The need to promote guaranteed lifetime income options that help American families make sure their savings last throughout their lifetime has been recognized by the Obama Administration. As the February 2010 Report of the White House Task Force on the Middle Class noted, [w]e need to do more to give families better choices to reach a secure retirement, including promoting the availability of guaranteed income products. 4 The Report of the President s Economic Recovery Advisory Board issued in August 2010 also found that automatic annuitization of retirement balances could help workers achieve a steady stream of income that is guaranteed for life. 5 Insurers are uniquely positioned to offer guaranteed lifetime income products in the form of living benefits and annuity options. In 2007, for instance, the insurance industry paid out almost $70 billion in annuity and living benefits to individuals across the country. 6 By the end of 2009, Americans had more than $2.0 trillion invested in all types of annuities, with $1.4 trillion in variable annuities. 7 Given the recognized need for guaranteed lifetime income products, it is important that insurer s products be offered using the clearest, most user-friendly disclosure possible. The current disclosure regime for annuities, especially variable annuities, however, often obscures the relevance of the product to investors. The statutory prospectus is formatted in a way that may not assist investors in answering their key questions: What will this Retirement Confidence Surveys by the Employee Benefit Research Institute and Mathew Greenwald & Associates, Inc. 3 J. Brown, Automatic Lifetime Income as a Path to Retirement Income Security, prepared for the American Council of Life Insurers (Aug. 7, 2009)(making the point that retirement security requires more than wealth accumulation). 4 Report of the White House Task Force on the Middle Class at 27 (Feb. 2010), available at: 5 Report of the President s Economic Recovery Advisory Board at 31 (Aug. 2010), available at: 6 J. Montminy and D. Iqbal, Are Annuity Sales Turning the Corner? National Underwriter, Sept. 13, Id. 2

3 product do for me? And how can I choose between products based on their benefits and costs? And after a product has been purchased, the format for updating statutory prospectuses does not make clear what consumers want to know: What has changed? And why does it matter to me? Proponents of annuity disclosure reform would like to provide consumers with disclosure materials that consumers will be encouraged to read. The disclosure should be relevant, clear and of a manageable length. The insurance industry is mindful that the mutual fund industry is benefiting from recent disclosure reforms and they hope to level the playing field. III. LAYERED DISCLOSURE FOR MUTUAL FUNDS: AMENDMENTS TO FORM N-1A AND NEW RULE 498 A. Background. On January 13, 2009, the U.S. Securities and Exchange Commission (the SEC or the Commission ) issued the release adopting revisions to Form N-1A 8 and amendments to rules under the Securities Act of 1933 (the 1933 Act ) that dramatically altered the manner and form in which disclosure about mutual funds can be provided to investors. 9 Among other things, the revisions to Form N-1A and the rule amendments require mutual fund prospectuses to include a summary of certain disclosure in a prescribed order that can be used on a stand-alone basis as a Summary Prospectus if the full statutory prospectus and other documents are made available in the required electronic format on a Web site. The Adopting Release reflects the unanimous decision of the Commission 10 on November 19, 2008 to adopt consumer-friendly rule amendments that simplified and shortened the prospectus disclosure provided to investors. 11 The final rules were effective on March 31, 2009 and the mandatory revisions to Form N-1A were required to be reflected in all new or post-effective registration statement filings made on or after January 1, 2010 for funds. The 2010 update season was the first time that mutual funds, including those mutual funds that are offered as underlying investment options for variable 8 Form N-1A is the registration statement for open-end management investment companies ( mutual funds or funds ). 9 See Enhanced Disclosure and New Prospectus Delivery Option for Registered Open-End Management Investment Companies, Rel. Nos and IC (Jan. 13, 2009) ( Adopting Release ). 10 In concluding that investors would benefit greatly from receiving the Summary Prospectus that presented key information about the fund in a user-friendly format, the Commission cited its telephone survey of investors, which found that many mutual fund investors do not read statutory prospectuses because they are long, complicated and hard to understand. Id. at See Enhanced Disclosure and New Prospectus Delivery Option for Registered Open-End Management Investment Companies, Rel. Nos and IC (Nov. 23, 2007) ( Proposing Release ). 3

4 insurance products ( underlying funds ), used the mutual fund Summary Prospectus as a stand-alone prospectus and engineered new Web sites to provide the supplemental layers of disclosure required by new Rule 498. What follows is a summary of the changes made to Form N-1A and a summary of new Rule 498, as well as a discussion of the issues that were raised for the variable products industry as the underlying funds implemented their new layered disclosure platforms. B. Summary of Changes Made to Form N-1A 1. Overview. The changes the Commission adopted to Form N-1A in 2009 were significant. All mutual funds, including underlying funds, were required to revise their prospectuses to comply with the new requirements. The changes to Form N-1A required funds to prepare a summary section at the beginning of the statutory prospectus that contains specified information presented in plain English and in a standardized order. The summary section of the statutory prospectus must contain the following information: Item 1: Front and Back Cover Pages Item 2: Risk/Return Summary: Investment Objectives/Goals Item 3: Risk/Return Summary: Fee Table Item 4: Risk/Return Summary: Investments, Risks and Performance Item 5: Management Item 6: Purchase and Sale of Fund Shares Item 7: Tax Information Item 8: Financial Intermediary Compensation The summary section must contain only the required information and may not contain any additional information. Furthermore, with the exception of information about purchases and sales of fund shares, tax, and financial intermediary compensation, the summary section must be presented separately for each fund covered in a multiple fund prospectus 12 and the information for multiple funds may not be integrated. There are no page limits on the summary section. 12 Funds with multiple share classes have the option of presenting the summary information separately for each class, to integrate the information for multiple classes, or to use another presentation consistent with the form. See Adopting Release at 23. In addition, funds may use multiple fund presentations in advertising and sales materials that may be provided along with the summary prospectus for each fund. See id. at 21. 4

5 The amendments imposed a new requirement that a mutual fund include its exchange ticker symbol on the cover pages of its prospectus and statement of additional information ( SAI ). Instructions to the form also codified the SEC staff s informal positions regarding fee table disclosure of expense reimbursements and fee waivers, permitting a fund to only disclose contractual reimbursements or waivers that reduce fund expenses for no less than one year from the effective date of the fund s current registration statement. 13 The expected termination date of the arrangement must also be disclosed. 2. Special Provisions for Underlying Funds in Variable Products. Item 6 of Form N-1A (purchase and sale of fund shares) specifically permits underlying funds to modify or omit the information regarding the purchase and sale of fund shares in situations where it is not relevant. The Adopting Release also confirmed that Item 7 of Form N-1A (tax information), which requires tax information that may not be relevant in the context of retirement plans and variable insurance contexts, permits underlying funds to omit the standard tax disclosure that would otherwise be required by the form Financial Intermediary Disclosure. The amendments to Form N-1A added a provision permitting funds to omit the financial intermediary disclosure if neither the fund nor any of its related companies pay financial intermediaries for the sale of fund shares or related services. 15 Additionally, the Commission reiterated that Rule 498 permits a fund to modify the statement if the modified statement contains comparable information and noted specifically that this would permit an insurance product fund to modify the narrative statement to reflect payments made to the sponsoring insurance company for distribution and other services. 16 C. Layered Delivery Option For Mutual Fund Summary Prospectus 1. Overview. In adopting new Rule 498, the Commission authorized a short-form prospectus called a Summary Prospectus that may be used by funds to satisfy the prospectus delivery requirements of Section 5(b)(2) of the 1933 Act, so long as the full statutory prospectus, the statement of additional information ( SAI ), the annual report and the semi-annual 13 See id. at Id. at n Id. at Id. at n