Self-Regulatory Organizations: National Association of Securities Dealers, Inc.; Notice of Filing Amendment No. 2 to Proposed Rule Relating to Sales Practice Standards and Supervisory Requirements for Transactions in Deferred Variable Annuities, 36840-36847 [06-5730]
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Federal Register / Vol. 71, No. 124 / Wednesday, June 28, 2006 / Notices
provide for the transactions described
herein, the requested exemptions from
Sections 9(a), 13(a), 15(a), and 15(b) of
the 1940 Act and Rules 6e–2(b)(15) and
6e–3(T)(b)(15) thereunder, in
accordance with the standards of
Section 6(c) of the 1940 Act, are in the
public interest and consistent with the
protection of investors and the purpose
fairly intended by the policy and
provisiosn of the 1940 Act.
For the Commission, by the Division of
Investment Management, pursuant to
delegated authority.
J. Lynn Taylor,
Assistant Secretary.
[FR Doc. 06–5747 Filed 6–27–06; 8:45 am]
2821. Members’ Responsibilities
Regarding Deferred Variable Annuities
(a) General Considerations
BILLING CODE 8010–01–M
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–54023; File No. SR–NASD–
2004–183]
Self-Regulatory Organizations:
National Association of Securities
Dealers, Inc.; Notice of Filing
Amendment No. 2 to Proposed Rule
Relating to Sales Practice Standards
and Supervisory Requirements for
Transactions in Deferred Variable
Annuities
June 21, 2006.
jlentini on PROD1PC65 with NOTICES
Pursuant to section 19(b)(1) of the
Securities Exchange Act of 1934
(‘‘Act’’) 1 and Rule 19b–4 thereunder,2
notice is hereby given that on December
14, 2004, NASD filed with the Securities
and Exchange Commission (‘‘SEC’’ or
‘‘Commission’’), the proposed rule.
NASD filed amendment No. 1 on July 8,
2005, which replaced and superseded
the text of the original rule filing. The
proposed rule, as amended by
Amendment No. 1, was published for
comment in the Federal Register on July
21, 2005.3 The Commission received
approximately 1500 comments on the
proposal.4 NASD filed Amendment No.
2 on May 4, 2006, which addressed the
comments and proposed responsive
amendments. Amendment No. 2 is
described in Items I, II and III below,
which Items have been prepared by
NASD. The Commission is publishing
this notice to solicit comments on
Amendment No. 2 to the proposed rule
from interested persons.
1 15
U.S.C. 78s(b)(1).
CFR 240.19b–4.
3 See Exchange Act. Re. No. 52046A (July 19,
2005); 70 FR 42126 (July 21, 2005) (SR–NASD–
2004–183).
4 Approximately 1300 of these comments were
virtually identical.
2 17
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I. Self-Regulatory Organization’s
Statement of the Terms of Substance of
the Proposed Rule
NASD is proposing a new rule, NASD
Rule 2821, that would set forth
recommendation requirements
(including a suitability obligation),
principal review and approval
requirements, and supervisory and
training requirements tailored
specifically to transactions in deferred
variable annuities. Below is the
amended text of the proposed rule.
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(1) Application
This Rule applies to the purchase or
exchange of a deferred variable annuity
and the subaccount allocations. This
Rule does not apply to reallocations of
subaccounts made or to funds paid after
the initial purchase or exchange of a
deferred variable annuity. This Rule
also does not apply to deferred variable
annuity transactions made in
connection with any tax-qualified,
employer-sponsored retirement or
benefit plan that either is defined as a
‘‘qualified plan’’ under Section
3(a)(12)(C) of the Securities Exchange
Act of 1934 or meets the requirements
of Internal Revenue Code Sections
403(b), 457(b) or 457(f), unless, in the
case of any such plan, a member makes
recommendations to an individual plan
participant regarding a deferred variable
annuity, in which case the Rule would
apply as to the individual plan
participant to whom the member makes
such recommendations.
(2) Creation, Storage and Transmission
of Documents
For purposes of this Rule, documents
may be created, stored and transmitted
in electronic or paper form, and
signatures may be evidenced in
electronic or other written form.
(3) Definitions
For purposes of this Rule, the term
‘‘registered principal’’ shall mean a
person registered as a General Securities
Sales Supervisor (Series 9/10), a General
Securities Principal (Series 24) or an
Investment Company Products/Variable
Contracts Principal (Series 26), as
applicable.
(b) Recommendation Requirements
(1) No member or person associated
with a member shall recommend to any
customer the purchase or exchange of a
deferred variable annuity unless such
member or person associated with a
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ember has a reasonable basis to believe
that.
(A) The customer has been informed
of the material features of a deferred
variable annuity, such as the potential
surrender period and surrender charge;
potential tax penalty if the customer
sells or redeems the deferred variable
annuity before he or she reaches the age
of 591⁄2; mortality and expense fees;
investment advisory fees; potential
charges for and features of riders; the
insurance and investment components
of a deferred variable annuity; and
market risk;
(B) The customer would benefit from
the unique features of a deferred
variable annuity (e.g., tax-deferred
growth, annuitization or a death
benefit); and
(C) The particular deferred variable
annuity as a whole, the underlying
subaccounts to which funds are
allocated at the time of the purchase or
exchange of the deferred variable
annuity and riders and similar product
enhancements, if any, are suitable (and,
in the case of an exchange, the
transaction as a whole also is suitable)
for the particular customer based ont he
information required by paragraph (b)(2)
of this Rule.
These determinations shall be
documented and signed by the
associated person recommending the
transaction.
(2) Prior to recommending the
purchase or exchange of a deferred
variable annuity, a member or person
associated with a member shall make
reasonable efforts to obtain, at a
minimum, information concerning the
customer’s age, annual income,
financial situation and needs,
investment experience, investment
objectives, intended use of the deferred
variable annuity, investment time
horizon, existing investment and life
insurance holdings, liquidity needs,
liquid net worth, risk tolerance, tax
status and such other information used
or considered to be reasonable by the
member or person associated with the
member in making recommendations to
customers.
(c) Principal Review and Approval
(1) No later than two business days
following the date when a member or
person associated with a member
transmits a customer’s application for a
deferred variable annuity to the issuing
insurance company for processing and
irrespective of whether the transaction
has been recommended, a registered
principal shall review and determine
whether he or she approves of the
purchase or exchange of the deferred
variable annuity. In reviewing the
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purchase or exchange of a deferred
variable annuity, the registered
principal shall consider.
(A) The extent to which the customer
would benefit from the unique features
of a deferred variable annuity (e.g., taxdeferred growth, annunciation or a
death benefit);
(B) The extent to which the
customer’s age or liquidity needs make
the investment inappropriate;
(C) The extent to which the amount of
money invested would result in an
undue concentration in a deferred
variable annuity or deferred variable
annuities in the context of the
customer’s overall investment portfolio;
and
(D) If the transaction involves an
exchange of a deferred variable annuity,
the extent to which (i) the customer
would incur a surrender charge, be
subject to the commencement of a new
surrender period, lose death or existing
benefits, or be subject to increased fees
or charges (such as mortality and
expense fees, investment advisory fees
and charges for riders and similar
product enhancements), (ii) the
customer would benefit from any
potential product enhancements and
improvements, and (iii) the customer’s
account has had another deferred
variable annuity exchange within the
preceding 36 months.
These considerations shall be
documented and signed by the
registered principal who reviewed and
approved the transaction.
(2) When a member or a person
associated with a member has
recommended the purchase or exchange
of a deferred variable annuity, a
registered principal, taking into account
the underlying supporting
documentation described in paragraph
(b)(2) of this Rule, shall review,
determine whether to approve and, if
approved, sign the suitability
determination document required by
paragraph (b)(1) of this Rule no later
than two business days following the
date when the member or person
associated with the member transmits
the customer’s application for a deferred
variable annuity contract to the issuing
insurance company for processing.
(d) Supervisory Procedures
In addition to the general supervisory
and recordkeeping requirements of
Rules 3010, 3012, 3013 and 3110, a
member must establish and maintain
specific written supervisory procedures
reasonably designed to achieve
compliance with the standards set forth
in this Rule. In particular, the member
must implement procedures to screen
the transaction and require a registered
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principal to consider those items
enumerated in paragraph (c) of this
Rule, as well as whether the associated
person effecting the transaction has a
particularly high rate of effecting
deferred variable annuity exchanges.
(e) Training
Members shall develop and document
specific training policies or programs
reasonably designed to ensure that
associated persons who effect and
registered principals who review
transactions in deferred variable
annuities comply with the requirements
of this Rule and that they understand
the material features of deferred variable
annuities, including those described in
paragraph (b)(1)(A) of this Rule.
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II. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
In its filing with the Commission,
NASD included statements concerning
the purpose of and basis for the
proposed rule and discussed the
comments it received on the proposed
rule. The text of these statements may
be examined at the places specified in
Item IV below. NASD has prepared
summaries, set forth in sections A, B,
and C below, of the most significant
aspects of such statements.
A. Self-Regulatory Organization’s
Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
1. Purpose
a. Background
On December 14, 2004, NASD filed
with the Commission proposed Rule
2821 (SR–NASD–2004–183). NASD
filed with the Commission Amendment
No. 1 to the proposed rule on July 8,
2005. The Commission published the
proposed rule, as amended by
Amendment No. 1, in the Federal
Register on July 21, 2005.5 The
comment period closed on September
19, 2005. Based on comments received
in response to the publication of the
proposed rule in the Federal Register,
NASD filed Amendment No. 2 to SR–
NASD–2004–183 to address the
comments and to make certain changes
to the proposed rule as discussed
herein.
b. Proposed Rule
As described in the original and
amended rule filings, NASD is
proposing new NASD Rule 2821, which
would impose specific sales practice
standards and supervisory requirements
5 See
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36841
on members for transactions in deferred
variable annuities.6 In general, NASD’s
guidelines on deferred variable annuity
transactions, developed with substantial
input from industry participants and
published in Notice to Members 99–35,
served as the basis for the proposed
rule.
The proposed rule would apply to the
purchase or exchange of a deferred
variable annuity and the initial
subaccount allocations.7 The proposed
rule would not apply to reallocations of
subaccounts or to funds paid after the
initial purchase or exchange of a
6 A variable annuity, in general, is a cotnract
between an investor and an insurance company
whereby the insurance company promises to make
periodic payments to the contract owner or
beneficiary, starting immediately (an immediate
variable annuity) or at some future time (a deferred
variable annuity). See Joint SEC and NASD Staff
Report on Broker-Dealer Sales of Variable Insurance
Products (June 2004) (‘‘Joint Report’’); NASD Notice
to Members 99–35 (May 1999). The proposed rule
focuses exclusively on transactions in deferred
variable annuities. NASD recognizes that
transactions involving immediate variable annuities
have begun to increase recently, and NASD will
continue to monitor sales practices relating to these
products. Currently, however, deferred variable
annuities make up the majority of variable annuity
transactions. Moreover, to date, most of the
problems associated with transactions in variable
annuities that NASD has uncovered involve the
purchase or exchange of deferred variable annuities.
7 NASD notes that the proposed rule focuses on
customer purchases and exchanges of deferred
variable annuities, areas that, to date, have given
rise to many of the problems NASD has uncovered.
The proposed rule would thus cover a standalone
purchase of a deferred variable annuity and an
exchange of one deferred variable annuity for
another for another deferred variable annuity. For
purposes of the proposed rule, an ‘‘exchange’’ of a
product other than a deferred variable annuity
(such as a fixed annuity) for a deferred variable
annuity would be covered by the proposed rule as
a ‘‘purchase.’’ The proposed rule would not cover
customer sales of deferred variable annuities,
including the sale of a deferred variable annuity in
connection with an ‘‘exchange’’ of a deferred
variable annuity for another product (such as a
fixed annuity). However, recommendations of
customer sales of deferred variable annuities are
fully and adequately covered by Rule 2310, NASD’s
general suitability rule. Rule 2310 requires that,
when recommending that a customer purchase, sell
or exchange a security, an associated person
determine whether the recommendation is suitable
for the customer. In general, deferred variable
annuities are suitable only as long-term investments
and are inappropriate short-term trading vehicles.
As part of any analysis under Rule 2310 regarding
the suitability of a recommendation that a customer
sell a deferred variable annuity, the associated
person must consider significant tax consequences,
surrender charges and loss of death or other
benefits. As NASD emphasized in a Regulatory &
Compliance Alert in 2002, entitled ‘‘Reminder—
Suitablity of Variable Annuity Sales,’’ members and
their associated persons ‘‘must keep in mind that
the suitability rule applies to any recommendation
to sell a variable annuity regardless of the use of
the proceeds, including situations where the
member recommends using the proceeds to
purchase an unregistered product such as an equityindexed annuity. Any recommendation to sell the
variable annuity must be based upon the financial
situation, objectives and needs of the particular
investor.’’
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deferred variable annuity. However,
other NASD rules would continue to
apply. For instance, NASD’s suitability
rule, Rule 2310, would continue to
apply to any recommendations to
reallocate subaccounts.8
The proposed rule also would not
apply to sales of deferred variable
annuities to certain tax-qualified,
employer-sponsored retirement or
benefit plans. It would, however, apply
if a member makes recommendations to
individual plan participants regarding a
deferred variable annuity.9 In addition,
the rule would apply to the purchase or
exchange of deferred variable annuities
to fund individual retirement accounts
(IRAs). In part, NASD determined not to
exclude IRAs from the scope of the
proposed rule because, unlike
transactions for tax-qualified, employersponsored retirement or benefit plans,
investors funding IRAs are not limited
to the options provided by a plan.10
The proposed rule has four main
provisions: (1) Requirements governing
recommendations, including a
suitability obligation, specifically
tailored to deferred variable annuity
transactions; 11 (2) principal review and
approval obligations; 12 (3) a specific
requirement for members to establish
and maintain written supervisory
procedures reasonable designed to
achieve compliance with the standards
set forth in the proposed rule; 13 and (4)
a targeted training requirement for
members’ associated persons, including
their registered principals.14
NASD will announce the effective
date of the proposed rule in a Notice to
Members to be published no later than
60 days following Commission
approval. The effective date will be 180
days following publication of the Notice
8 Indeed, except to the extent that specific
provisions in the proposed rule would govern, or
unless the context otherwise requires, the
provisions of the by-laws and rules and all other
interpretations and policies of the NASD Board of
Governors would be applicable to transactions in
deferred variable annuities.
9 In other words, the proposed rule would apply
as to the individual plan participants to whom the
member makes recommendations, but would not
apply as to the plan sponsor, trustee or custodian
regarding the plan-level selection of investment
vehicles and options for such plans.
10 NASD notes as well that a deferred variable
annuity purchased to fund an IRA does not provide
any additional tax deferred treatment of earnings
beyond the treatment provided by the IRA itself.
Accordingly, where a customer is purchasing a
deferred variable annuity to fund an IRA, firms
must ensure that the deferred variable annuity’s
features other than tax deferral make the purchase
of the deferred variable annuity for the IRA
appropriate.
11 See Proposed Rule 2821(b).
12 See Proposed Rule 2821(c).
13 See Proposed Rule 2821(d).
14 See Proposed Rule 2821(e).
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to Members announcing Commission
approval.
c. Comments on the Proposed Rule
The Commission received nearly 1500
comment letters in response to the
publication of the proposed rule in the
Federal Register. These comments are
available on the Commission’s Internet
Web site (https://www.sec.gov/rules/
sro.shtml). A summary of the comments
and NASD’s response is set forth below.
While some commenters expressed
support for the proposed rule,15 most
opposed it.16 Reasons for their
opposition varied. Several commenters
stated that the proposal should be
withdrawn, viewing it as unnecessary
and arguing that NASD has not
demonstrated a need for it.17 While
NASD disagreed with the suggestion
that there must be demonstrable harm
before it can engage in rulemaking, in its
response to comments it also noted the
numerous Notices to Members,
Regulatory & Compliance Alerts and
Investor Alerts that it has issued
regarding deferred variable annuities.
NASD also noted that notwithstanding
those efforts, a recent joint review with
the Commission, NASD examinations
and NASD enforcement actions indicate
NASD’s prior efforts have not been
sufficiently effective at curbing
problems in this area.
i. Comments on Proposed Rule
2821(a)(1)—Application
Numerous commenters argued that
the rule should not apply to taxqualified, employer-sponsored
retirement or benefit plans. One
commenter believed, however, that the
rule should apply to those plans in
which the plan sponsor, trustee, or
custodian is either ‘‘unsophisticated’’ or
primarily relied on the recommendation
of the member.18 NASD disagreed. In its
15 See, e.g., North American Securities
Administrators Association (‘‘NASAA’’), Patricia D.
Struck, President and Wisconsin Securities
Administrator (9/20/05); Pace Investor Rights
Project (‘‘Pace’’), Barbara Black, Director (9/19/05);
and Public Investors Arbitration Bar Association
(‘‘PIABA’’), Rosemary J. Shockman, President (9/9/
05).
16 See, e.g., America Council of Life Insurers
(‘‘ACLI’’), Carl B. Wilkerson, Vice President & Chief
Counsel (9/19/05); Committee of Annuity Insurers
(‘‘CAI’’), W. Thomas Conner and Eric A. Arnold,
Sutherland Asbill & Brennan LLP (9/19/05),
National Association for Variable Annuities
(‘‘NAVA’’), Michael P. DeGeorge, General Counsel
(9/19/05); Securities Industry Association (‘‘SIA’’),
Ira D. Hammerman, Senior Vice President and
General Counsel (9/19/05); T. Rowe Price
Investment Securities, Inc. (‘‘T. Rowe Price’’),
Henry H. Hopkins, Darrell N. Braman and Sara
McCafferty (9/19/05); and Wachovia Securities, LLC
(‘‘Wachovia’’), Ronald C. Long, Senior Vice
President (9/19/05).
17 See, e.g., ACLI; CAI; NAVA; and SIA.
18 NASAA.
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response to comments, NASD stated
that the rule should not apply to planlevel decisions. In NASD’s view, the
factors that can be important to
understanding the appropriateness of a
recommendation to a sponsor, trustee or
custodian of a qualified retirement or
benefit plan can be distinct from those
that are important regarding the
determination of the appropriateness of
a recommendation to a retirement-plan
participant.
One commenter suggested that, in
addition to transactions in connection
with ‘‘qualified plans’’ as defined in
Section 3(a)(12)(C) of the Act and plans
that meet the requirements of Internal
Revenue Code Sections 403(b) and
457(b), the rule should not apply to
transactions with plans that meet the
requirements of Section 457(f) of the
Internal Revenue Code, unless the
member makes a recommendation to an
individual plan participant.19 NASD
agreed and proposes to exclude
transactions in connection with these
plans from the rule. Another commenter
argued that the rule should not apply to
transactions with individual plan
participants if the only funding vehicle
for a tax-qualified employer sponsored
plan is a deferred variable annuity.20
NASD disagreed and in its response to
comments stated that the proposed rule
would apply if a registered
representative recommends the deferred
variable annuity in the plan to an
individual plan participant. It noted,
however, that only communications
constituting a ‘‘recommendation’’ would
trigger application of the rule.
A number of commenters asked
NASD to clarify that the rule would not
apply to premiums paid into a deferred
variable annuity after the initial
purchase and to subsequent purchase
payments.21 As it noted in its response
to comments, NASD has modified the
proposed rule to specify that it ‘‘does
not apply * * * to funds paid after
the initial purchase or exchange.’’
One commenter asserted that the
NASD has no basis for excluding an
investor’s reallocation of his or her
subaccounts from the scope of the
proposed rule.22 This commenter
believed that specific attention should
be paid to the broker’s obligation to
oversee and reallocate sub-accounts
19 NAVA.
20 Lincoln Investment Planning (‘‘Lincoln’’),
Deirdre B. Koerick, Vice President (9/19/05).
21 CAI; Massachusetts Mutual Life Insurance
Company (‘‘Mass Mutual’’); Jennifer B. Sheehan,
Assistant Vice President and Counsel (9/19/05);
NAVA; and Northwestern Mutual Investment
Services (‘‘NMIS’’), Daniel A. Riedl, Senior Vice
President and Chief Operating Officer (9/16/05).
22 PIABA.
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because brokers do not pay attention or
fail to follow-up on a customer’s
subaccount investments, often allowing
these accounts to flounder in unsuitable
investments. NASD declined to take this
suggestion, but noted that NASD Rule
2310 continues to apply to a customer’s
subaccount investments.
Another commenter stated that the
rule should also apply to the sale of
immediate variable annuities.23 In
response, NASD stated that the majority
of variable annuity transactions
currently are in deferred variable
annuities, and that most of the problems
NASD has uncovered have been
associated with the purchase or
exchange of deferred variable annuities.
However, NASD also stated that it will
continue to monitor sales practices
relating to immediate variable annuities.
ii. Comments on Proposed rule
2821(b)—Recommendation
Requirements
(a) General Comments
Several commenters urged NASD to
eliminate the specific suitability
requirements from paragraph (b) of the
proposed rule.24 Some commenters
asserted that deferred variable annuities
are too varied and complex to mandate
specific criteria for determining
suitability.25 Others stated that NASD
would need to clarify the level of
knowledge that would be sufficient to
support a registered representative’s
‘‘reasonable basis’’ for believing the
standards of paragraph (b) have been
met with respect to a particular
customer.26
(b) Comments on Proposed Rule
2821(b)(1)(A)—Deferred Variable
Annuity’s Material Features
The rule, as originally proposed,
would have required members to have
a reasonable basis to believe that the
customer has been informed of the
material features of a specific deferred
variable annuity before recommending
it. Commenters criticized this provision,
arguing that it would amount to a de
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23 NASAA.
24 See, e.g., Association for Advanced Life
Underwriting/National Association of Insurance
and Financial Advisers (‘‘AALU/NAIFA’’), Gary A.
Sanders, Senior Counsel (9/19/05); ACLI;
Intersecurities, Inc. (‘‘Intersecurities’’), Thomas R.
Moriarty, President (9/16/05); NAVA; SIA; and
World Group Securities, Inc. (‘‘World Group’’);
Leesa M. Easley, Chief Legal Officer (9/8/05).
25 HD Vest Financial Services (‘‘HD Vest’’), Roger
C. Ochs, President (9/20/05); Investment Company
Institute (‘‘ICI’’), Frances M. Stadler, Deputy Senior
Counsel (9/19/06); and T. Rowe Price.
26 Associated Securities Corporation (‘‘Associated
Securities’’), Denise M. Evans, General Counsel
(9/19/05); Lincoln; and Pacific Select Distributors,
Inc. (‘‘Pacific Distributers’’), John L. Dixon,
President (9/16/05).
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facto requirement to provide written
disclosure to customers 27 Commenters
asserted that this disclosure along with
the other disclosures already provided
to investors in deferred variable
annuities would be redundant and
would overwhelm investors.28
A few commenters supported a
mandatory plain English summary and
an industry-wide or product specific
Q&A that would answer basic questions
about fees, taxes, liquidity and other
issues.29 While one commenter
requested that NASD wait and consider
the proposed rule after the Commission
acts on its ‘‘point of sale’’ rule
proposal.30 another stated that the
‘‘point of sale’’ disclosure form would
not be a substitute for a ‘‘plain English’’
risk disclosure.31
Some commenters opined that the
rule would be more effective if it
required a registered representative to
direct the customer to the variable
annuity synopsis, fee table and risk
disclosure in the prospectus.32 Others
argued that if NASD and the
Commission believe that the prospectus
is inadequate, the solution would be to
revise the prospectus rather than to
require additional disclosures.33
While noting in its response to
comments that numerous commenters
sought to eliminate this provision,
NASD modified it to no longer require
product-specific disclosure. As revised,
the proposed rule would require a
registered representative to have a
reasonable belief that the customers has
been informed of the material features of
deferred variable annuities in general.
NASD cautioned, however, that this
27 See, e.g., American Bankers Insurance
Association/ABA Securities Association (‘‘ABIA/
ABASA’’), Beth L. Climo, Executive Director
(9/20/06); ACLI; A.G. Edwards & Sons, Inc. (‘‘A.G.
Edwards’’), Thomas M. Vacovino, Vice President
(9/20/05); HD Vest; ING; Intersecurities; NAVA;
SIA; and Wachovia.
28 AALU/NAIFA; ACLI; Intersecurities; NAVA;
SIA; and World Group. Commenters pointed out
that investors already receive a prospectus and
state-mandated disclosures and may in the future
receive an SEC-mandated point of sale disclosure
form.
29 MWA Financial Services (‘‘MWA’’), Pamela S.
Fritz, Chief Compliance Officer (3/18/05); NASAA;
and Pace.l
30 National Planning Holdings, Inc. (‘‘National
Planning’’), M. Shawn Dreffein, President and Chief
Executive Officer (9/9/05). For details regarding the
Commission’s point of sale rule proposal, see,
Securities Exchange Act Release No. 49148,
(January 29, 2004), 69 FR 6438 (February 10, 2004)
and Securities Exchange Act Release No. 51274
(Feb. 28, 2005), 70 FR 10521 (March 1, 2005).
Securities Exchange Act Release No. 51274 (Feb. 28,
2005), 70 FR 10521 (March 1, 2005) (‘‘Supplemental
Release’’).
31 Pace.
32 ABIA./ABASA; ACLI; A.G. Edwards; HD Vest;
ING; NAVA; SIA; Wachovia; and World Group.
33 ACLI and World Group.
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modification would not mean that a
firm and its associated person may
ignore product-specific features. It noted
that the firm and its associated person
must be capable of discussing the
specific features of the deferred variable
annuity under consideration, and must
know these features in order to
adequately perform a suitability
analysis.
The proposed rule would have
required a registered representative to
document and sign the determinations
that he or she has made pursuant to the
proposed rule’s recommendation
requirements. Some commenters
criticized this requirement, noting that
neither the rule nor the release
described what the documentation
should look like or how detailed it
should be.34 Another commenter
supported this requirement, opining
that it would serve the dual purpose of
creating a regulatory paper trail and
reminding NASD members of the
serious analytical undertaking involved
in recommending a deferred variable
annuity.35 After considering the
comments, NASD has determined to
retain the requirement.
(c) Comments on Proposed Rule
2821(b)(1)(B)—Long-Term Investment
Objective
The rule, as originally proposed,
would have required members
recommending a deferred variable
annuity to have a reasonable belief that
the customers had a long-term
investment objective. Commenters
asserted that an investor’s time horizon
does not have to be long-term in all
circumstances for a deferred variable
annuity to be suitable, noting that some
deferred variable annuities have features
that can benefit a customer regardless of
age and potential for a long term
investment.36 Some commenters stated
that an investor’s time horizon should
be one factor in a suitability analysis,
but that a deferred variable annuity
should not be deemed per se unsuitable
based on that factor alone.37
34 See,
e.g., ACLI; HD Vest; ING; NAVA; and SIA.
35 Pace.
36 A.G. Edwards; CAI; Fintegra Financial
Solutions (‘‘Fintegra’’), Kenneth M. Cherrier, Chief
Compliance Officer (8/11/05); HD Vest; ING;
Intersecurities; Lincoln; NMIS; NAVA; New York
Life Insurance and Annuity Corporation (‘‘NY
Life’’), John R. Meyer, Senior Vice President (9/19/
05); SIA; United Planners Financial Services of
America (‘‘United Planners), Julie Gebert, Vice
President and Chief Compliance Officer (9/19/06);
and World Group.’’
37 Fintegra; Financial Services Institute (‘‘FSI’’),
Dale E. Brown, Executive Director (9/19/05); Great
American Advisors (‘‘Great American’’), Shawn M.
Mihal, Chief Compliance Officer (9/19/05); HD
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In response to comments, NASD
deleted this provision from paragraph
(b) of the proposed rule and all
references to long-term investment
objectives in paragraph (c) (‘‘Principal
Review and Approval’’) and paragraph
(d) (‘‘Supervisory Procedures’’). In
addition, NASD stated that in general,
deferred variable annuities are
appropriate only for customers with
long-term investment objectives who
intend to take advantage of tax-deferred
accumulation and annuitization.
Although NASD recognized that some
deferred variable annuities have shorter
holding periods and smaller surrender
fees than traditional deferred variable
annuities, it stated that a deferred
variable annuity is suitable for an
investor without a long-term investment
objective only in rare cases. NASD also
‘‘strongly cautioned’’ firms to scrutinize
any deferred variable annuity
transaction involving customers without
long-term investment objectives and to
carefully document any analysis in
favor of recommending such a
transaction.
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(d) Comments on Proposed Rule
2821(b)(1)(C)—Need for the Product as
Compared With Other Investment
Vehicles
As originally proposed, the rule
would have required members to have
a reasonable belief that the customer
had a need for the deferred variable
annuity as compared with other
investment vehicles. Many commenters
criticized this provision.38 Some stated
that while customers may ‘‘benefit’’
from a deferred variable annuity, no
customer ‘‘needs’’ one.39 Some viewed
the standard as subjective and
overreaching, stating that it would
require a determination that a deferred
variable annuity is the sole, unique
investment to satisfy the needs of a
customer.40 Commenters also
questioned what other investment
vehicles would have to be compared
with the deferred variable annuity 41
and whether a registered representative
would have to compare the deferred
variable annuity to products that he or
she is not licensed to sell.42
NASD noted in its response to
comments that it did not intend to
Vest; MWA; NMIS; National Planning; Pacific
Select; United Planners; and World Group.
38 See, e.g., ACLI; CAI; HD Vest; NAVA; Pacific
Select; United Planners; and World Group.
39 ACLI; CAI; NAVA; and ICI. Some commenters
also stated that these provisions conflict with
NASD’s longstanding concerns about product
comparisons.
40 A.G. Edwards; Intersecurities; NMIS; NY Life;
SIA; and World Group.
41 ACLI; CAI; ICI; ING; Mass Mutual; and NAVA.
42 Intersecurities and World Group.
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require firms to perform a side-by-side
comparison of a deferred variable
annuity with other investment vehicles
or require firms to prove that the
customer needed the deferred variable
annuity to the exclusion of all other
investments. Instead, NASD intends to
require firms to analyze whether the
customer would benefit from the unique
features of a deferred variable annuity.
To clarify this, NASD eliminated the
references in the proposed rule to
‘‘need’’ and ‘‘as compared with other
investment vehicles.’’ As revised, the
rule would require a member or
associated person to have a reasonable
basis to believe that ‘‘the customer
would benefit from the unique features
of a deferred variable annuity (e.g., taxdeferred growth, annuitization or a
death benefit)’’.
(e) Comments on proposed Rule
2921(b)(2)—Customer Information
As originally proposed, the rule
would have required members to make
reasonable efforts to obtain from a
customer a variety of information,
including age, financial situation, liquid
net worth and intended use of the
deferred variable annuity. Some
commenters urged NASD to delete this
provision, stating that NASD Rules 2310
and 3110, as well as Rule 17a–
3(17)(i)(A) of the Act, should govern the
information that members are required
to gather in making recommendations to
purchase or exchange deferred variable
annuities.43
Commenters also criticized a number
of the terms used in this provision.
Some viewed the terms ‘‘financial
situation’’ and ‘‘liquid net worth’’ as
vague and redundant.44 Others
questioned what constitutes a legitimate
intended use of a deferred variable
annuity 45 and whether ‘‘other insurance
holdings’’ would be limited to life
insurance or would also encompass
automobile and health insurance.46 One
commenter also inquired whether a
registered representative must look to
liquidity needs at the time of the sale or
in the future and whether investment
experience means experience in
deferred variable annuities or overall
investment experience.47After
considering the comments, NASD has
43 National Planning; NAVA; NMIS; and Pacific
Select.
44 NAVA and NY Life.
45 Associated Securities and FSI. Another
commenter asked if these terms were the same as
the investment objective. Lincoln.
46 See, e.g., 1717 Capital Management Company
and Nationwide Securities, Inc. (‘‘1717 Capital’’),
Lance A. Reihl, President (9/19/05); AALU/AIFA;
ACLI; CAI; NAVA; NMIS; and NY Life.
47 Lincoln.
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determined to retain this paragraph with
limited revisions.
iii. Comments on Proposed Rule
2821(c)—Principal Review and
Approval
The rule, as originally proposed,
would have required principals to
review and approve the purchase or
exchange of a deferred variable annuity
before the customer’s application was
transmitted to the issuing insurance
company for processing, regardless of
whether the transaction was
recommended.
(a) General Comments
Several commenters viewed the
proposed principal review requirement
as unduly duplicative of NASD Rule
3110.48 Some stated that the proposed
timing requirement and additional
standards for principal review would be
disruptive for firms that use automated
systems to approve transactions that
meet established criteria,49 and one
suggested requiring manual principal
review only when an application does
not meet a firm’s standard criteria.50
(b) Comments on Proposed Rule
2821(c)(1)—Timing of Principal Review
Two commenters supported the
proposed provisions relating to the
timing of principal review, stating that
it would ensure that a principal would
have sufficient time for a complete
review while providing greater
assurances that unsuitable transactions
would not be consummated.51
Numerous commenters, however,
objected to the principal review
deadline.52 Some were concerned that
members would be subject to liability
for market changes during the delay for
supervisory review.53 Others stated that
the timing deadline would require
costly reprogramming of broker-dealers’
electronic processing systems that
forward contracts to the insurance
company and the broker’s home office at
the same time.54
One commenter stated that the
interaction of this provision with other
Commission and NASD rules could
limit a firm’s ability to review
applications thoroughly.55 Another
stated that time-linking the application
process with supervisory review would
48 See, e.g., ACLI; Lincoln; Mass Mutual; NAVA;
and SIA.
49 CAI and NAVA.
50 NAVA.
51 NASAA and PIABA.
52 See, e.g., ACLI; CAI; ING; and NAVA.
53 Associated Securities; Pacific Direct; and
United Planners.
54 CAI and NMIS.
55 ING.
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impair the goal under the Investment
Company Act of 1940’s for timely
processing.56 Some commenters stated
that a delay in pricing the contract
would be unfair to investors.57
Two commenters recommended that
NASD require the review to be
completed prior to the insurance
company issuing the contract.58 One of
these commenters noted that while this
would require logistical coordination
between the principal and the issuer, it
would allow insurers to process
applications coextensively with the
supervisory review, but before the
security is issued.59 Others
recommended requiring principals to
conduct their review and approval
promptly after the completion of the
contract application and in accordance
with procedures reasonably designed to
ensure that problematic purchases are
detected and disapproved.60
A few commenters stated that the
time deadline would not work in the
context of direct sales, in which an
insurance company may not know of an
applicant’s interest in a deferred
variable annuity until it receives the
application.61 Another stated that the
timing deadline would not take into
account situations in which the
registered principal is housed in the
insurance company.62
A few commenter also stated that
their current supervisory structure as an
Office of Supervisory Jurisdiction would
be incapable of dealing with the prior
approval requirement and they would
be forced to eliminate this form of
supervisory structure.63 One commenter
stated the requirement could overwhelm
principals,64 and another stated that it
would require members to allocate two
to three times the supervisory staff for
deferred variable annuities than for any
other product.65
NASD responded to commenters’
concerns by modifying the timeframe
for principal review from ‘‘prior to
transmitting a customer’s application for
a deferred variable annuity to the
issuing insurance company’’ to ‘‘no later
than two business days following the
date when a member or person
associated with a member transmits a
customer’s application for a deferred
variable annuity to the issuing
insurance company for processing.’’ It
56 ACLI.
57 ACLI;
Pacific Select; and United Planners.
and NY Life.
59 ACLI.
60 CAI and NMIS.
61 CAI; NAVA; and T. Rowe Price.
62 NMIS.
63 Great American and ING.
64 Wachovia.
65 Associated Securities.
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stated that requiring completion of the
principal review within two business
days of the firm’s transmittal of the
application to the insurance company is
necessary for the protecting of investors
and should promote efficiency. It also
noted that the proposed rule would not
preclude firms from using automated
supervisory systems, or a mix of
automated and manual supervisory
systems, to facilitate compliance with
the rule. In addition, NASD delineated
what, at a minimum, a principal would
need to do if his or her firm intends to
rely on automated supervisory systems
to comply with the proposed rule.
Specifically, a principal would need to
(1) approve the criteria that the
automated supervisory system uses, (2)
audit and update the system as
necessary to ensure compliance with the
proposed rule, (3) review exception
reports that the system creates, and (4)
remain responsible for each
transaction’s compliance with the
proposed rule. Finally, NASD noted that
a principal would be responsible for any
deficiency in the system’s criteria that
would result in the system not being
reasonably designed to comply with the
rule.
NASD also noted that commenters
asked whether the principal review
would need to start, but not necessarily
be completed, by the time specified in
the rule. In most circumstances, NASD
stated that under the revised timing
requirement for principal review firms
would be able to determine the
appropriateness of the transactions
before the insurance company issues the
contract. In NASD’s view, requiring
completion of the principal review with
this time period is necessary for the
protection of investors. Moreover, it also
believes that requiring a thorough
principal review at the early stages of
the process also should promote
efficiency.
(c) Comments on Proposed Rule
2821(c)(1)—Specific Standard for
Principal Review
Commenters objected to the proposed
requirements for members to establish
standards regarding age, liquidity needs
and the dollar amount involved in the
transactions and questioned the need for
such standards.66 While some requested
more clarification of appropriate
standards, others stated that NASD
should mandate specific standards.67
66 See, e.g., Associated Securities; Dominion
Investor Services, Inc. (‘‘Dominion’’), Kevin P.
Takacs, Chief Compliance Officer (9/9/05); FSI;
Great American; ING; Intersecurities; Pacific Select;
and United Planners.
67 Associated Securities; Dominion; FSI; Fintegra;
Great American; MWA; and Wachovia.
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One commenter criticized permitting
firms to individually set their own
standards, stating that firms would
defend suitability challenges by
asserting that the transaction met their
own standards.68 Others expressed
concern that without defined standards,
a firm’s suitability decisions would be
second guessed and there would be
inconsistent regulation as different
NASD districts establish and impose
different standards.69 One commenter
stated that the provision would lead
principals to emphasize two or three
elements of a customer’s profile rather
than considering all of the facts and
circumstances.70
In its response to comments, NASD
stated that the particular provisions
requiring members to establish
standards were never intended to
require the adherence to brightline
standards. It noted that the
establishment of specific thresholds in
these instances would unnecessarily
limit a firm’s discretion in establishing
procedures that adequately address its
overall operations. NASD intended for
principals to consider these factors as
part of their facts and circumstances
review. As a result, NASD deleted the
requirement for firms to establish
standards for age, liquidity needs and
dollar amounts.
(d) Comments on Proposed Rule
2821(c)(1)—Non-Recommended
Transactions
Some commenters objected to
requiring principal review of
transactions that are not
recommended,71 and one noted that the
information that would be needed for a
principal review is not currently
required to be collected for nonrecommended annuity transactions.72
Another commenter stated that
requiring review for non-recommended
transactions would allow principals to
second guess investors’ decisions.73
NASD disagreed, noting that due to
the complexity of the products, it is
appropriate to require firms to review
all deferred variable annuity
transactions for problematic sales
practices. It stated that the proposed
rule would create requirements to
ensure that firms perform a consistent,
baseline analysis of transactions,
irrespective of whether the customer
purchased the deferred variable annuity
as a result of an associated person’s
68 Pace.
69 See, e.g., ABIA/ABASA; Associated Securities;
Dominion; FSI; Great American; and ING.
70 Intersecurities.
71 See, e.g., ICI; NMIS; and T. Rowe Price.
72 T. Rowe Price.
73 ICI and NMIS.
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recommendation, thereby enhancing
investor protection for all customers.
(e) Comments on Proposed Rule
2821(c)(1)(D)—Rate of Exchanges
Two commenters criticized the
proposed provision that would require
principals to consider whether the
customer’s account had a deferred
variable annuity exchange within the
preceding 36 months, stating it could
signal to registered representatives that
exchanges occurring more than 36
months apart are appropriate.74 One
commenter stated that, while a firm
should generate reports and review a
registered representative’s sales activity
for patterns of inappropriate
replacements as part of its supervisory
procedures, it should not be required to
approve each transaction.75 After
considering the comments, NASD has
determined to retain the requirement.
iv. Comments on Proposed Rule
2821(d)—Supervisory Procedures
The rule, as originally proposed,
would require members to establish and
maintain specific written supervisory
procedures reasonably designed to
achieve compliance with the rule.
Members would be required to
implement procedures to screen
transactions and require registered
principals to consider all of the factors
enumerated in paragraph (c) of the
proposed rule. They would also have to
consider whether the associated person
effecting a transaction has a particularly
high rate of effecting deferred variable
annuity exchanges.
One commenter supported requiring
registered principals to review the total
production attributable to variable
annuities of associated person.76 One
commenter requested guidance as to
what a ‘‘particularly high rate’’ refers to
and what must be compared to
determine it.77 After considering the
comments, NASD determined to retain
without modification the provision
relating to high rates of exchange.
v. Comments on Proposed Rule
2821(e)—Training
Most of the commenters that
addressed the training provision
supported it.78 However, one
commenter questioned the need for a
specific training requirement and
requested clarification regarding what
additional training is contemplated.79
jlentini on PROD1PC65 with NOTICES
74 Intersecurities
and World Group.
75 Intersecurities.
76 NASAA.
77 Wachovia.
78 See, e.g., FSI; Great American; Lincoln; Mass
Mutual; MWA; NAVA; and PIABA.
79 ING.
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Some suggested that the training
obligations in the proposed rule could
be met through existing ‘‘Firm Element’’
programs.80 After considering the
comments, NASD determined to retain
this requirement.
(f) Comments on the Effective Date of
Proposed Rule 2821
NASD stated that the effective date of
the proposal would be 120 days
following publication of its Notice to
Members announcing Commission
approval. Numerous commenters
requested more time, from 180 days 81 to
no less than one year,82 to comply with
the proposed rule. In its response to
comments, NASD stated that because
some firms likely will have to make
operational changes, it would be
appropriate to provide additional time
for members to comply with the rule, if
approved. As a result, NASD stated that
the proposed rule’s effective date would
be 180 days following publication of the
Notice to Members in which it
announces Commission approval.
2. Statutory Basis
NASD believes that the proposed rule
is consistent with the provisions of
Section 15A(b)(6) of the Act,83 which
requires, among other things, that NASD
rules be designed to prevent fraudulent
and manipulative acts and practices, to
promote just and equitable principles of
trade and, in general, to protect
investors and the public interest. NASD
believes that the proposed rule is
consistent with the provisions of the Act
noted above in that it will enhance
firms’ compliance and supervisory
systems and provide more
comprehensive and targeted protection
to investors in deferred variable
annuities. As such, the proposed rule
will decrease the likelihood of fraud and
manipulative acts, promote just and
equitable principles of trade and
increase investor protection.
B. Self-Regulatory Organization’s
Statement on Burden on Competition
NASD does not believe that the
proposed rule will result in any burden
80 See, e.g., Pacific Select; United Planners; and
Wachovia. NASD Rule 1120(b) requires each
member to establish a training plan that identifies
certain minimum requirements. Each year the firm
must prepare a written training plan after an
analysis of its training needs. Firms must consider
certain factors when conducting their analyses and
in developing their training plans, such as the
firm’s size, organizational structure, scope and type
of business activities, as well as regulatory
developments. This training is referred to as the
‘‘Firm Element’’ portion of NASD’s continuing
education requirements.
81 ING and Intersecurities.
82 NAVA, SIA, and World Group.
83 15 U.S.C. 78o–3(b)(6).
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on competition that is not necessary or
appropriate in furtherance of the
purposes of the Act.
C. Self-Regulatory Organization’s
Statement on Comments on the
Proposed Rule Received from Members,
Participants, or Others
The Commission published proposed
rule 2821 (SR–NASD–2004–183) in the
Federal Register on July 21, 2005. The
comment period closed on September
19, 2005. The Commission received
nearly 1500 comment letters in response
to the Federal Register publication of
the SR–NASD–2004–183. The comment
letters and NASD’s response to them are
discussed in section II above.
III. Date of Effectiveness of the
Proposed Rule and Timing for
Commission Action
Within 35 days of the date of
publication of this notice in the Federal
Register or within such longer period
(1) as the Commission may designate up
to 90 days of such date if it finds such
longer period to be appropriate and
publishes its reasons for so finding or
(ii) as to which the self-regulatory
organization consents, the Commission
will:
(A) By order approve such proposed
rule, or
(B) Institute proceedings to determine
whether the proposed rule should be
disapproved.
IV. Solicitation of Comments
Interested persons are invited to
submit written data, views and
arguments concerning Amendment No.
2, including whether the proposed rule
is consistent with the Act.84 We also
invite interested persons to discuss
how, if at all, the proposed rule’s timing
requirement for principal review would
impact member firms’ ability to
efficiently review deferred variable
annuity transactions. What changes, if
any, would member firms need to make
to their supervisory procedures and
systems in order to comply with the
proposed rule’s timing requirement for
principal review? If changes would be
necessary, we invite interested persons
to discuss how current supervisory
procedures and systems operate and
why those procedures and systems
would not accommodate the proposed
rule’s timing requirement for principal
review.
Comments may be submitted by any
of the following methods:
84 The Commission will consider the comments
we previously received. Commenters may reiterate
or cross-reference previously submitted comments.
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Electronic Comments
• Use the Commission’s Internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an e-mail to rulecomments@sec.gov. Please include File
Number SR –NASD–2004–183 on the
subject line.
Paper Comments
• Send paper comments in triplicate
to Nancy M. Morris, Secretary,
Securities and Exchange Commission,
100 F Street, NE., Washington, DC
20549–1090.
All submissions should refer to File
Number SR–NASD–2004–183. This file
number should be included on the
subject line if e-mail is used. To help the
Commission process and review your
comments more efficiently, please use
only one method. The Commission will
post all comments on the Commission’s
Internet Web site (https://www.sec.gov/
rules/sro.shtml). Copies of the
submission, all subsequent
amendments, all written statements
with respect to the proposed rule that
are filed with the Commission, and all
written communications relating to the
proposed rule between the Commission
and any person, other than those that
may be withheld from the public in
accordance with the provisions of 5
U.S.C. 552, will be available for
inspection and copying in the
Commisison’s Public Reference Room.
Copies of such filing also will be
available for inspection and copying at
the principal office of NASD.
All comments received will be posted
without change; the Commission does
not edit personal identifying
information from submissions. You
should submit only information that
you wish to make available publicly. All
submissions should refer to File
Number SR–NASD–2004–183 and
should be submitted on or before July
19, 2006.
For the Commission, by the Division of
Market Regulation, pursuant to delegated
authority.85
J. Lynn Taylor,
Assistant Secretary.
[FR Doc. 06–5730 Filed 6–27–06; 8:45 am]
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SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–54028; File No. SR–NASD–
2005–067]
Self-Regulatory Organizations;
National Association of Securities
Dealers, Inc.; Order Granting Approval
to Proposed Rule Change and
Amendment Nos. 1, 2, and 3 Thereto
Relating to Amendments to NASD Rule
6530 To Clarify the Review Process for
OTCBB Eligibility Determinations and
To Implement Fees for Such Review
June 21, 2006.
On May 24, 2005, the National
Association of Securities Dealers, Inc.
(‘‘NASD’’), through its subsidiary, the
Nasdaq Stock Market, Inc. (‘‘Nasdaq’’),
filed with the Securities and Exchange
Commission (‘‘Commission’’), pursuant
to section 19(b)(1) of the Securities
Exchange Act of 1934 (‘‘Act’’) 1 and Rule
19b–4 thereunder,2 a proposed rule
change to amend NASD Rules 6530 and
7010 to clarify the availability of a
process to review a determination of an
issuer’s eligibility under NASD Rule
6530 for continued quotation of its
securities on the Over-the-Counter
Bulletin Board (‘‘OTCBB’’) and seek
review of such determination. On
September 27, 2005, Nasdaq filed with
the Commission Amendment No. 1 to
the proposed rule change.3 On
December 8, 2005, NASD filed with the
Commission Amendment No. 2 to the
proposed rule change,4 and on February
23, 2006, NASD filed with the
Commission Amendment No. 3 to the
proposed rule change.5 The proposed
rule change, as amended, was published
for comment in the Federal Register on
1 15
U.S.C. 78s(b)(1).
CFR 240.19b–4.
3 In Amendment No. 1, NASD removed the
record-keeping fee it had originally proposed to
establish in NASD Rule 7010.
4 In Amendment No. 2, NASD amended the filing
to reflect the Commission’s approval of a separate
proposed rule change in which NASD amended its
Plan of Allocation and Delegation of Functions by
NASD to Subsidiaries, as well as certain
corresponding NASD rules, to permit NASD to
assume direct authority for OTC equity operations,
including the OTCBB, rather than continuing to
delegate this authority to Nasdaq. See Securities
Exchange Act Release No. 52508 (September 26,
2005); 70 FR 57346 (September 30, 2005) (SR–
NASD–2005–089).
5 In Amendment No. 3, which replaced and
superseded the prior filings in their entirety, NASD
clarified the availability of the hearing process set
forth in proposed NASD Rule 6530(f) in the event
that an OTCBB security is subject to removal from
the OTCBB under NASD Rule 6530(e)(1) and made
clarifying changes relating to the application of the
NASD Rule 9700 Series to hearings conducted to
determine the security’s eligibility for quotation on
the OTCBB.
2 17
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36847
March 31, 2006.6 No comments were
received on this proposal. This order
approves the proposed rule change, as
amended.
I. Description of the Proposal
Recently, the Commission approved
NASD Rule 6530(e), which limits the
eligibility for quotation on the OTCBB
of the security of an issuer that is
repeatedly late or otherwise delinquent
in filing periodic reports to the issuer’s
respective regulator.7 Specifically,
NASD Rule 6530(e) provides that an
NASD member will not be permitted to
quote a security on the OTCBB: (1) If the
issuer has failed to file a complete
required report with the Commission or
other respective regulator by the due
date for such report (even if it later files
within the grace period allowed by
NASD Rule 6530(a)) three times in the
prior two-year period; or (2) if the
security has been removed from the
OTCBB due to the issuer’s failure to file
a complete required report two times in
the prior two-year period. Following the
removal of an issuer’s security pursuant
to NASD Rule 6530(e), such security
shall not be eligible for quotation on the
OTCBB by an NASD member until such
time as the issuer has timely filed in a
complete form all required periodic due
in a one-year period.
NASD’s proposed revisions to NASD
Rule 6530 would set forth procedures
for an aggrieved party to request a
review by a hearing panel, pursuant to
the NASD Rule 9700 Series, of a
determination by NASD that an issuer is
ineligible for continued quotation on the
OTCBB. The proposed rule change also
would set forth the process for an
aggrieved party to request review of the
hearing panel’s decision. In addition,
the proposal would require an aggrieved
party to pay a fee of $4,000 when
requesting either a review by the
hearing panel or a review of the hearing
panel’s decision. Finally, the proposal
would codify the notification
requirements to which NASD would
adhere in the event that an issuer’s
security approaches the point of
removal from quotation on the OTCBB
for failure to comply with the provisions
of NASD Rule 6530.
II. Discussion and Commission
Findings
The Commission finds that the
proposed rule change, as amended, is
consistent with the provisions of section
6 See Securities Exchange Act Release No. 53546
(March 24, 2006), 71 FR 16350 (‘‘Notice’’).
7 See Securities Exchange Act Release No. 52786
(November 16, 2005), 70 FR 70907 (November 23,
2005) (SR–NASD–2005–011).
E:\FR\FM\28JNN1.SGM
28JNN1
]]>Agencies
[Federal Register Volume 71, Number 124 (Wednesday, June 28, 2006)]
[Notices]
[Pages 36840-36847]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 06-5730]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-54023; File No. SR-NASD-2004-183]
Self-Regulatory Organizations: National Association of Securities
Dealers, Inc.; Notice of Filing Amendment No. 2 to Proposed Rule
Relating to Sales Practice Standards and Supervisory Requirements for
Transactions in Deferred Variable Annuities
June 21, 2006.
Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that
on December 14, 2004, NASD filed with the Securities and Exchange
Commission (``SEC'' or ``Commission''), the proposed rule. NASD filed
amendment No. 1 on July 8, 2005, which replaced and superseded the text
of the original rule filing. The proposed rule, as amended by Amendment
No. 1, was published for comment in the Federal Register on July 21,
2005.\3\ The Commission received approximately 1500 comments on the
proposal.\4\ NASD filed Amendment No. 2 on May 4, 2006, which addressed
the comments and proposed responsive amendments. Amendment No. 2 is
described in Items I, II and III below, which Items have been prepared
by NASD. The Commission is publishing this notice to solicit comments
on Amendment No. 2 to the proposed rule from interested persons.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
\3\ See Exchange Act. Re. No. 52046A (July 19, 2005); 70 FR
42126 (July 21, 2005) (SR-NASD-2004-183).
\4\ Approximately 1300 of these comments were virtually
identical.
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule
NASD is proposing a new rule, NASD Rule 2821, that would set forth
recommendation requirements (including a suitability obligation),
principal review and approval requirements, and supervisory and
training requirements tailored specifically to transactions in deferred
variable annuities. Below is the amended text of the proposed rule.
* * * * *
2821. Members' Responsibilities Regarding Deferred Variable Annuities
(a) General Considerations
(1) Application
This Rule applies to the purchase or exchange of a deferred
variable annuity and the subaccount allocations. This Rule does not
apply to reallocations of subaccounts made or to funds paid after the
initial purchase or exchange of a deferred variable annuity. This Rule
also does not apply to deferred variable annuity transactions made in
connection with any tax-qualified, employer-sponsored retirement or
benefit plan that either is defined as a ``qualified plan'' under
Section 3(a)(12)(C) of the Securities Exchange Act of 1934 or meets the
requirements of Internal Revenue Code Sections 403(b), 457(b) or
457(f), unless, in the case of any such plan, a member makes
recommendations to an individual plan participant regarding a deferred
variable annuity, in which case the Rule would apply as to the
individual plan participant to whom the member makes such
recommendations.
(2) Creation, Storage and Transmission of Documents
For purposes of this Rule, documents may be created, stored and
transmitted in electronic or paper form, and signatures may be
evidenced in electronic or other written form.
(3) Definitions
For purposes of this Rule, the term ``registered principal'' shall
mean a person registered as a General Securities Sales Supervisor
(Series 9/10), a General Securities Principal (Series 24) or an
Investment Company Products/Variable Contracts Principal (Series 26),
as applicable.
(b) Recommendation Requirements
(1) No member or person associated with a member shall recommend to
any customer the purchase or exchange of a deferred variable annuity
unless such member or person associated with a ember has a reasonable
basis to believe that.
(A) The customer has been informed of the material features of a
deferred variable annuity, such as the potential surrender period and
surrender charge; potential tax penalty if the customer sells or
redeems the deferred variable annuity before he or she reaches the age
of 59\1/2\; mortality and expense fees; investment advisory fees;
potential charges for and features of riders; the insurance and
investment components of a deferred variable annuity; and market risk;
(B) The customer would benefit from the unique features of a
deferred variable annuity (e.g., tax-deferred growth, annuitization or
a death benefit); and
(C) The particular deferred variable annuity as a whole, the
underlying subaccounts to which funds are allocated at the time of the
purchase or exchange of the deferred variable annuity and riders and
similar product enhancements, if any, are suitable (and, in the case of
an exchange, the transaction as a whole also is suitable) for the
particular customer based ont he information required by paragraph
(b)(2) of this Rule.
These determinations shall be documented and signed by the
associated person recommending the transaction.
(2) Prior to recommending the purchase or exchange of a deferred
variable annuity, a member or person associated with a member shall
make reasonable efforts to obtain, at a minimum, information concerning
the customer's age, annual income, financial situation and needs,
investment experience, investment objectives, intended use of the
deferred variable annuity, investment time horizon, existing investment
and life insurance holdings, liquidity needs, liquid net worth, risk
tolerance, tax status and such other information used or considered to
be reasonable by the member or person associated with the member in
making recommendations to customers.
(c) Principal Review and Approval
(1) No later than two business days following the date when a
member or person associated with a member transmits a customer's
application for a deferred variable annuity to the issuing insurance
company for processing and irrespective of whether the transaction has
been recommended, a registered principal shall review and determine
whether he or she approves of the purchase or exchange of the deferred
variable annuity. In reviewing the
[[Page 36841]]
purchase or exchange of a deferred variable annuity, the registered
principal shall consider.
(A) The extent to which the customer would benefit from the unique
features of a deferred variable annuity (e.g., tax-deferred growth,
annunciation or a death benefit);
(B) The extent to which the customer's age or liquidity needs make
the investment inappropriate;
(C) The extent to which the amount of money invested would result
in an undue concentration in a deferred variable annuity or deferred
variable annuities in the context of the customer's overall investment
portfolio; and
(D) If the transaction involves an exchange of a deferred variable
annuity, the extent to which (i) the customer would incur a surrender
charge, be subject to the commencement of a new surrender period, lose
death or existing benefits, or be subject to increased fees or charges
(such as mortality and expense fees, investment advisory fees and
charges for riders and similar product enhancements), (ii) the customer
would benefit from any potential product enhancements and improvements,
and (iii) the customer's account has had another deferred variable
annuity exchange within the preceding 36 months.
These considerations shall be documented and signed by the
registered principal who reviewed and approved the transaction.
(2) When a member or a person associated with a member has
recommended the purchase or exchange of a deferred variable annuity, a
registered principal, taking into account the underlying supporting
documentation described in paragraph (b)(2) of this Rule, shall review,
determine whether to approve and, if approved, sign the suitability
determination document required by paragraph (b)(1) of this Rule no
later than two business days following the date when the member or
person associated with the member transmits the customer's application
for a deferred variable annuity contract to the issuing insurance
company for processing.
(d) Supervisory Procedures
In addition to the general supervisory and recordkeeping
requirements of Rules 3010, 3012, 3013 and 3110, a member must
establish and maintain specific written supervisory procedures
reasonably designed to achieve compliance with the standards set forth
in this Rule. In particular, the member must implement procedures to
screen the transaction and require a registered principal to consider
those items enumerated in paragraph (c) of this Rule, as well as
whether the associated person effecting the transaction has a
particularly high rate of effecting deferred variable annuity
exchanges.
(e) Training
Members shall develop and document specific training policies or
programs reasonably designed to ensure that associated persons who
effect and registered principals who review transactions in deferred
variable annuities comply with the requirements of this Rule and that
they understand the material features of deferred variable annuities,
including those described in paragraph (b)(1)(A) of this Rule.
* * * * *
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
In its filing with the Commission, NASD included statements
concerning the purpose of and basis for the proposed rule and discussed
the comments it received on the proposed rule. The text of these
statements may be examined at the places specified in Item IV below.
NASD has prepared summaries, set forth in sections A, B, and C below,
of the most significant aspects of such statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule
1. Purpose
a. Background
On December 14, 2004, NASD filed with the Commission proposed Rule
2821 (SR-NASD-2004-183). NASD filed with the Commission Amendment No. 1
to the proposed rule on July 8, 2005. The Commission published the
proposed rule, as amended by Amendment No. 1, in the Federal Register
on July 21, 2005.\5\ The comment period closed on September 19, 2005.
Based on comments received in response to the publication of the
proposed rule in the Federal Register, NASD filed Amendment No. 2 to
SR-NASD-2004-183 to address the comments and to make certain changes to
the proposed rule as discussed herein.
---------------------------------------------------------------------------
\5\ See supra note 3.
---------------------------------------------------------------------------
b. Proposed Rule
As described in the original and amended rule filings, NASD is
proposing new NASD Rule 2821, which would impose specific sales
practice standards and supervisory requirements on members for
transactions in deferred variable annuities.\6\ In general, NASD's
guidelines on deferred variable annuity transactions, developed with
substantial input from industry participants and published in Notice to
Members 99-35, served as the basis for the proposed rule.
---------------------------------------------------------------------------
\6\ A variable annuity, in general, is a cotnract between an
investor and an insurance company whereby the insurance company
promises to make periodic payments to the contract owner or
beneficiary, starting immediately (an immediate variable annuity) or
at some future time (a deferred variable annuity). See Joint SEC and
NASD Staff Report on Broker-Dealer Sales of Variable Insurance
Products (June 2004) (``Joint Report''); NASD Notice to Members 99-
35 (May 1999). The proposed rule focuses exclusively on transactions
in deferred variable annuities. NASD recognizes that transactions
involving immediate variable annuities have begun to increase
recently, and NASD will continue to monitor sales practices relating
to these products. Currently, however, deferred variable annuities
make up the majority of variable annuity transactions. Moreover, to
date, most of the problems associated with transactions in variable
annuities that NASD has uncovered involve the purchase or exchange
of deferred variable annuities.
---------------------------------------------------------------------------
The proposed rule would apply to the purchase or exchange of a
deferred variable annuity and the initial subaccount allocations.\7\
The proposed rule would not apply to reallocations of subaccounts or to
funds paid after the initial purchase or exchange of a
[[Page 36842]]
deferred variable annuity. However, other NASD rules would continue to
apply. For instance, NASD's suitability rule, Rule 2310, would continue
to apply to any recommendations to reallocate subaccounts.\8\
---------------------------------------------------------------------------
\7\ NASD notes that the proposed rule focuses on customer
purchases and exchanges of deferred variable annuities, areas that,
to date, have given rise to many of the problems NASD has uncovered.
The proposed rule would thus cover a standalone purchase of a
deferred variable annuity and an exchange of one deferred variable
annuity for another for another deferred variable annuity. For
purposes of the proposed rule, an ``exchange'' of a product other
than a deferred variable annuity (such as a fixed annuity) for a
deferred variable annuity would be covered by the proposed rule as a
``purchase.'' The proposed rule would not cover customer sales of
deferred variable annuities, including the sale of a deferred
variable annuity in connection with an ``exchange'' of a deferred
variable annuity for another product (such as a fixed annuity).
However, recommendations of customer sales of deferred variable
annuities are fully and adequately covered by Rule 2310, NASD's
general suitability rule. Rule 2310 requires that, when recommending
that a customer purchase, sell or exchange a security, an associated
person determine whether the recommendation is suitable for the
customer. In general, deferred variable annuities are suitable only
as long-term investments and are inappropriate short-term trading
vehicles. As part of any analysis under Rule 2310 regarding the
suitability of a recommendation that a customer sell a deferred
variable annuity, the associated person must consider significant
tax consequences, surrender charges and loss of death or other
benefits. As NASD emphasized in a Regulatory & Compliance Alert in
2002, entitled ``Reminder--Suitablity of Variable Annuity Sales,''
members and their associated persons ``must keep in mind that the
suitability rule applies to any recommendation to sell a variable
annuity regardless of the use of the proceeds, including situations
where the member recommends using the proceeds to purchase an
unregistered product such as an equity-indexed annuity. Any
recommendation to sell the variable annuity must be based upon the
financial situation, objectives and needs of the particular
investor.''
\8\ Indeed, except to the extent that specific provisions in the
proposed rule would govern, or unless the context otherwise
requires, the provisions of the by-laws and rules and all other
interpretations and policies of the NASD Board of Governors would be
applicable to transactions in deferred variable annuities.
---------------------------------------------------------------------------
The proposed rule also would not apply to sales of deferred
variable annuities to certain tax-qualified, employer-sponsored
retirement or benefit plans. It would, however, apply if a member makes
recommendations to individual plan participants regarding a deferred
variable annuity.\9\ In addition, the rule would apply to the purchase
or exchange of deferred variable annuities to fund individual
retirement accounts (IRAs). In part, NASD determined not to exclude
IRAs from the scope of the proposed rule because, unlike transactions
for tax-qualified, employer-sponsored retirement or benefit plans,
investors funding IRAs are not limited to the options provided by a
plan.\10\
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\9\ In other words, the proposed rule would apply as to the
individual plan participants to whom the member makes
recommendations, but would not apply as to the plan sponsor, trustee
or custodian regarding the plan-level selection of investment
vehicles and options for such plans.
\10\ NASD notes as well that a deferred variable annuity
purchased to fund an IRA does not provide any additional tax
deferred treatment of earnings beyond the treatment provided by the
IRA itself. Accordingly, where a customer is purchasing a deferred
variable annuity to fund an IRA, firms must ensure that the deferred
variable annuity's features other than tax deferral make the
purchase of the deferred variable annuity for the IRA appropriate.
---------------------------------------------------------------------------
The proposed rule has four main provisions: (1) Requirements
governing recommendations, including a suitability obligation,
specifically tailored to deferred variable annuity transactions; \11\
(2) principal review and approval obligations; \12\ (3) a specific
requirement for members to establish and maintain written supervisory
procedures reasonable designed to achieve compliance with the standards
set forth in the proposed rule; \13\ and (4) a targeted training
requirement for members' associated persons, including their registered
principals.\14\
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\11\ See Proposed Rule 2821(b).
\12\ See Proposed Rule 2821(c).
\13\ See Proposed Rule 2821(d).
\14\ See Proposed Rule 2821(e).
---------------------------------------------------------------------------
NASD will announce the effective date of the proposed rule in a
Notice to Members to be published no later than 60 days following
Commission approval. The effective date will be 180 days following
publication of the Notice to Members announcing Commission approval.
c. Comments on the Proposed Rule
The Commission received nearly 1500 comment letters in response to
the publication of the proposed rule in the Federal Register. These
comments are available on the Commission's Internet Web site (https://
www.sec.gov/rules/sro.shtml). A summary of the comments and NASD's
response is set forth below.
While some commenters expressed support for the proposed rule,\15\
most opposed it.\16\ Reasons for their opposition varied. Several
commenters stated that the proposal should be withdrawn, viewing it as
unnecessary and arguing that NASD has not demonstrated a need for
it.\17\ While NASD disagreed with the suggestion that there must be
demonstrable harm before it can engage in rulemaking, in its response
to comments it also noted the numerous Notices to Members, Regulatory &
Compliance Alerts and Investor Alerts that it has issued regarding
deferred variable annuities. NASD also noted that notwithstanding those
efforts, a recent joint review with the Commission, NASD examinations
and NASD enforcement actions indicate NASD's prior efforts have not
been sufficiently effective at curbing problems in this area.
---------------------------------------------------------------------------
\15\ See, e.g., North American Securities Administrators
Association (``NASAA''), Patricia D. Struck, President and Wisconsin
Securities Administrator (9/20/05); Pace Investor Rights Project
(``Pace''), Barbara Black, Director (9/19/05); and Public Investors
Arbitration Bar Association (``PIABA''), Rosemary J. Shockman,
President (9/9/05).
\16\ See, e.g., America Council of Life Insurers (``ACLI''),
Carl B. Wilkerson, Vice President & Chief Counsel (9/19/05);
Committee of Annuity Insurers (``CAI''), W. Thomas Conner and Eric
A. Arnold, Sutherland Asbill & Brennan LLP (9/19/05), National
Association for Variable Annuities (``NAVA''), Michael P. DeGeorge,
General Counsel (9/19/05); Securities Industry Association
(``SIA''), Ira D. Hammerman, Senior Vice President and General
Counsel (9/19/05); T. Rowe Price Investment Securities, Inc. (``T.
Rowe Price''), Henry H. Hopkins, Darrell N. Braman and Sara
McCafferty (9/19/05); and Wachovia Securities, LLC (``Wachovia''),
Ronald C. Long, Senior Vice President (9/19/05).
\17\ See, e.g., ACLI; CAI; NAVA; and SIA.
---------------------------------------------------------------------------
i. Comments on Proposed Rule 2821(a)(1)--Application
Numerous commenters argued that the rule should not apply to tax-
qualified, employer-sponsored retirement or benefit plans. One
commenter believed, however, that the rule should apply to those plans
in which the plan sponsor, trustee, or custodian is either
``unsophisticated'' or primarily relied on the recommendation of the
member.\18\ NASD disagreed. In its response to comments, NASD stated
that the rule should not apply to plan-level decisions. In NASD's view,
the factors that can be important to understanding the appropriateness
of a recommendation to a sponsor, trustee or custodian of a qualified
retirement or benefit plan can be distinct from those that are
important regarding the determination of the appropriateness of a
recommendation to a retirement-plan participant.
---------------------------------------------------------------------------
\18\ NASAA.
---------------------------------------------------------------------------
One commenter suggested that, in addition to transactions in
connection with ``qualified plans'' as defined in Section 3(a)(12)(C)
of the Act and plans that meet the requirements of Internal Revenue
Code Sections 403(b) and 457(b), the rule should not apply to
transactions with plans that meet the requirements of Section 457(f) of
the Internal Revenue Code, unless the member makes a recommendation to
an individual plan participant.\19\ NASD agreed and proposes to exclude
transactions in connection with these plans from the rule. Another
commenter argued that the rule should not apply to transactions with
individual plan participants if the only funding vehicle for a tax-
qualified employer sponsored plan is a deferred variable annuity.\20\
NASD disagreed and in its response to comments stated that the proposed
rule would apply if a registered representative recommends the deferred
variable annuity in the plan to an individual plan participant. It
noted, however, that only communications constituting a
``recommendation'' would trigger application of the rule.
---------------------------------------------------------------------------
\19\ NAVA.
\20\ Lincoln Investment Planning (``Lincoln''), Deirdre B.
Koerick, Vice President (9/19/05).
---------------------------------------------------------------------------
A number of commenters asked NASD to clarify that the rule would
not apply to premiums paid into a deferred variable annuity after the
initial purchase and to subsequent purchase payments.\21\ As it noted
in its response to comments, NASD has modified the proposed rule to
specify that it ``does not apply * * * to funds paid after the initial
purchase or exchange.''
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\21\ CAI; Massachusetts Mutual Life Insurance Company (``Mass
Mutual''); Jennifer B. Sheehan, Assistant Vice President and Counsel
(9/19/05); NAVA; and Northwestern Mutual Investment Services
(``NMIS''), Daniel A. Riedl, Senior Vice President and Chief
Operating Officer (9/16/05).
---------------------------------------------------------------------------
One commenter asserted that the NASD has no basis for excluding an
investor's reallocation of his or her subaccounts from the scope of the
proposed rule.\22\ This commenter believed that specific attention
should be paid to the broker's obligation to oversee and reallocate
sub-accounts
[[Page 36843]]
because brokers do not pay attention or fail to follow-up on a
customer's subaccount investments, often allowing these accounts to
flounder in unsuitable investments. NASD declined to take this
suggestion, but noted that NASD Rule 2310 continues to apply to a
customer's subaccount investments.
---------------------------------------------------------------------------
\22\ PIABA.
---------------------------------------------------------------------------
Another commenter stated that the rule should also apply to the
sale of immediate variable annuities.\23\ In response, NASD stated that
the majority of variable annuity transactions currently are in deferred
variable annuities, and that most of the problems NASD has uncovered
have been associated with the purchase or exchange of deferred variable
annuities. However, NASD also stated that it will continue to monitor
sales practices relating to immediate variable annuities.
---------------------------------------------------------------------------
\23\ NASAA.
---------------------------------------------------------------------------
ii. Comments on Proposed rule 2821(b)--Recommendation Requirements
(a) General Comments
Several commenters urged NASD to eliminate the specific suitability
requirements from paragraph (b) of the proposed rule.\24\ Some
commenters asserted that deferred variable annuities are too varied and
complex to mandate specific criteria for determining suitability.\25\
Others stated that NASD would need to clarify the level of knowledge
that would be sufficient to support a registered representative's
``reasonable basis'' for believing the standards of paragraph (b) have
been met with respect to a particular customer.\26\
---------------------------------------------------------------------------
\24\ See, e.g., Association for Advanced Life Underwriting/
National Association of Insurance and Financial Advisers (``AALU/
NAIFA''), Gary A. Sanders, Senior Counsel (9/19/05); ACLI;
Intersecurities, Inc. (``Intersecurities''), Thomas R. Moriarty,
President (9/16/05); NAVA; SIA; and World Group Securities, Inc.
(``World Group''); Leesa M. Easley, Chief Legal Officer (9/8/05).
\25\ HD Vest Financial Services (``HD Vest''), Roger C. Ochs,
President (9/20/05); Investment Company Institute (``ICI''), Frances
M. Stadler, Deputy Senior Counsel (9/19/06); and T. Rowe Price.
\26\ Associated Securities Corporation (``Associated
Securities''), Denise M. Evans, General Counsel (9/19/05); Lincoln;
and Pacific Select Distributors, Inc. (``Pacific Distributers''),
John L. Dixon, President (9/16/05).
---------------------------------------------------------------------------
(b) Comments on Proposed Rule 2821(b)(1)(A)--Deferred Variable
Annuity's Material Features
The rule, as originally proposed, would have required members to
have a reasonable basis to believe that the customer has been informed
of the material features of a specific deferred variable annuity before
recommending it. Commenters criticized this provision, arguing that it
would amount to a de facto requirement to provide written disclosure to
customers \27\ Commenters asserted that this disclosure along with the
other disclosures already provided to investors in deferred variable
annuities would be redundant and would overwhelm investors.\28\
---------------------------------------------------------------------------
\27\ See, e.g., American Bankers Insurance Association/ABA
Securities Association (``ABIA/ABASA''), Beth L. Climo, Executive
Director (9/20/06); ACLI; A.G. Edwards & Sons, Inc. (``A.G.
Edwards''), Thomas M. Vacovino, Vice President (9/20/05); HD Vest;
ING; Intersecurities; NAVA; SIA; and Wachovia.
\28\ AALU/NAIFA; ACLI; Intersecurities; NAVA; SIA; and World
Group. Commenters pointed out that investors already receive a
prospectus and state-mandated disclosures and may in the future
receive an SEC-mandated point of sale disclosure form.
---------------------------------------------------------------------------
A few commenters supported a mandatory plain English summary and an
industry-wide or product specific Q&A that would answer basic questions
about fees, taxes, liquidity and other issues.\29\ While one commenter
requested that NASD wait and consider the proposed rule after the
Commission acts on its ``point of sale'' rule proposal.\30\ another
stated that the ``point of sale'' disclosure form would not be a
substitute for a ``plain English'' risk disclosure.\31\
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\29\ MWA Financial Services (``MWA''), Pamela S. Fritz, Chief
Compliance Officer (3/18/05); NASAA; and Pace.l
\30\ National Planning Holdings, Inc. (``National Planning''),
M. Shawn Dreffein, President and Chief Executive Officer (9/9/05).
For details regarding the Commission's point of sale rule proposal,
see, Securities Exchange Act Release No. 49148, (January 29, 2004),
69 FR 6438 (February 10, 2004) and Securities Exchange Act Release
No. 51274 (Feb. 28, 2005), 70 FR 10521 (March 1, 2005). Securities
Exchange Act Release No. 51274 (Feb. 28, 2005), 70 FR 10521 (March
1, 2005) (``Supplemental Release'').
\31\ Pace.
---------------------------------------------------------------------------
Some commenters opined that the rule would be more effective if it
required a registered representative to direct the customer to the
variable annuity synopsis, fee table and risk disclosure in the
prospectus.\32\ Others argued that if NASD and the Commission believe
that the prospectus is inadequate, the solution would be to revise the
prospectus rather than to require additional disclosures.\33\
---------------------------------------------------------------------------
\32\ ABIA./ABASA; ACLI; A.G. Edwards; HD Vest; ING; NAVA; SIA;
Wachovia; and World Group.
\33\ ACLI and World Group.
---------------------------------------------------------------------------
While noting in its response to comments that numerous commenters
sought to eliminate this provision, NASD modified it to no longer
require product-specific disclosure. As revised, the proposed rule
would require a registered representative to have a reasonable belief
that the customers has been informed of the material features of
deferred variable annuities in general. NASD cautioned, however, that
this modification would not mean that a firm and its associated person
may ignore product-specific features. It noted that the firm and its
associated person must be capable of discussing the specific features
of the deferred variable annuity under consideration, and must know
these features in order to adequately perform a suitability analysis.
The proposed rule would have required a registered representative
to document and sign the determinations that he or she has made
pursuant to the proposed rule's recommendation requirements. Some
commenters criticized this requirement, noting that neither the rule
nor the release described what the documentation should look like or
how detailed it should be.\34\ Another commenter supported this
requirement, opining that it would serve the dual purpose of creating a
regulatory paper trail and reminding NASD members of the serious
analytical undertaking involved in recommending a deferred variable
annuity.\35\ After considering the comments, NASD has determined to
retain the requirement.
---------------------------------------------------------------------------
\34\ See, e.g., ACLI; HD Vest; ING; NAVA; and SIA.
\35\ Pace.
---------------------------------------------------------------------------
(c) Comments on Proposed Rule 2821(b)(1)(B)--Long-Term Investment
Objective
The rule, as originally proposed, would have required members
recommending a deferred variable annuity to have a reasonable belief
that the customers had a long-term investment objective. Commenters
asserted that an investor's time horizon does not have to be long-term
in all circumstances for a deferred variable annuity to be suitable,
noting that some deferred variable annuities have features that can
benefit a customer regardless of age and potential for a long term
investment.\36\ Some commenters stated that an investor's time horizon
should be one factor in a suitability analysis, but that a deferred
variable annuity should not be deemed per se unsuitable based on that
factor alone.\37\
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\36\ A.G. Edwards; CAI; Fintegra Financial Solutions
(``Fintegra''), Kenneth M. Cherrier, Chief Compliance Officer (8/11/
05); HD Vest; ING; Intersecurities; Lincoln; NMIS; NAVA; New York
Life Insurance and Annuity Corporation (``NY Life''), John R. Meyer,
Senior Vice President (9/19/05); SIA; United Planners Financial
Services of America (``United Planners), Julie Gebert, Vice
President and Chief Compliance Officer (9/19/06); and World Group.''
\37\ Fintegra; Financial Services Institute (``FSI''), Dale E.
Brown, Executive Director (9/19/05); Great American Advisors
(``Great American''), Shawn M. Mihal, Chief Compliance Officer (9/
19/05); HD Vest; MWA; NMIS; National Planning; Pacific Select;
United Planners; and World Group.
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[[Page 36844]]
In response to comments, NASD deleted this provision from paragraph
(b) of the proposed rule and all references to long-term investment
objectives in paragraph (c) (``Principal Review and Approval'') and
paragraph (d) (``Supervisory Procedures''). In addition, NASD stated
that in general, deferred variable annuities are appropriate only for
customers with long-term investment objectives who intend to take
advantage of tax-deferred accumulation and annuitization. Although NASD
recognized that some deferred variable annuities have shorter holding
periods and smaller surrender fees than traditional deferred variable
annuities, it stated that a deferred variable annuity is suitable for
an investor without a long-term investment objective only in rare
cases. NASD also ``strongly cautioned'' firms to scrutinize any
deferred variable annuity transaction involving customers without long-
term investment objectives and to carefully document any analysis in
favor of recommending such a transaction.
(d) Comments on Proposed Rule 2821(b)(1)(C)--Need for the Product as
Compared With Other Investment Vehicles
As originally proposed, the rule would have required members to
have a reasonable belief that the customer had a need for the deferred
variable annuity as compared with other investment vehicles. Many
commenters criticized this provision.\38\ Some stated that while
customers may ``benefit'' from a deferred variable annuity, no customer
``needs'' one.\39\ Some viewed the standard as subjective and
overreaching, stating that it would require a determination that a
deferred variable annuity is the sole, unique investment to satisfy the
needs of a customer.\40\ Commenters also questioned what other
investment vehicles would have to be compared with the deferred
variable annuity \41\ and whether a registered representative would
have to compare the deferred variable annuity to products that he or
she is not licensed to sell.\42\
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\38\ See, e.g., ACLI; CAI; HD Vest; NAVA; Pacific Select; United
Planners; and World Group.
\39\ ACLI; CAI; NAVA; and ICI. Some commenters also stated that
these provisions conflict with NASD's longstanding concerns about
product comparisons.
\40\ A.G. Edwards; Intersecurities; NMIS; NY Life; SIA; and
World Group.
\41\ ACLI; CAI; ICI; ING; Mass Mutual; and NAVA.
\42\ Intersecurities and World Group.
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NASD noted in its response to comments that it did not intend to
require firms to perform a side-by-side comparison of a deferred
variable annuity with other investment vehicles or require firms to
prove that the customer needed the deferred variable annuity to the
exclusion of all other investments. Instead, NASD intends to require
firms to analyze whether the customer would benefit from the unique
features of a deferred variable annuity. To clarify this, NASD
eliminated the references in the proposed rule to ``need'' and ``as
compared with other investment vehicles.'' As revised, the rule would
require a member or associated person to have a reasonable basis to
believe that ``the customer would benefit from the unique features of a
deferred variable annuity (e.g., tax-deferred growth, annuitization or
a death benefit)''.
(e) Comments on proposed Rule 2921(b)(2)--Customer Information
As originally proposed, the rule would have required members to
make reasonable efforts to obtain from a customer a variety of
information, including age, financial situation, liquid net worth and
intended use of the deferred variable annuity. Some commenters urged
NASD to delete this provision, stating that NASD Rules 2310 and 3110,
as well as Rule 17a-3(17)(i)(A) of the Act, should govern the
information that members are required to gather in making
recommendations to purchase or exchange deferred variable
annuities.\43\
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\43\ National Planning; NAVA; NMIS; and Pacific Select.
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Commenters also criticized a number of the terms used in this
provision. Some viewed the terms ``financial situation'' and ``liquid
net worth'' as vague and redundant.\44\ Others questioned what
constitutes a legitimate intended use of a deferred variable annuity
\45\ and whether ``other insurance holdings'' would be limited to life
insurance or would also encompass automobile and health insurance.\46\
One commenter also inquired whether a registered representative must
look to liquidity needs at the time of the sale or in the future and
whether investment experience means experience in deferred variable
annuities or overall investment experience.\47\After considering the
comments, NASD has determined to retain this paragraph with limited
revisions.
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\44\ NAVA and NY Life.
\45\ Associated Securities and FSI. Another commenter asked if
these terms were the same as the investment objective. Lincoln.
\46\ See, e.g., 1717 Capital Management Company and Nationwide
Securities, Inc. (``1717 Capital''), Lance A. Reihl, President (9/
19/05); AALU/AIFA; ACLI; CAI; NAVA; NMIS; and NY Life.
\47\ Lincoln.
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iii. Comments on Proposed Rule 2821(c)--Principal Review and Approval
The rule, as originally proposed, would have required principals to
review and approve the purchase or exchange of a deferred variable
annuity before the customer's application was transmitted to the
issuing insurance company for processing, regardless of whether the
transaction was recommended.
(a) General Comments
Several commenters viewed the proposed principal review requirement
as unduly duplicative of NASD Rule 3110.\48\ Some stated that the
proposed timing requirement and additional standards for principal
review would be disruptive for firms that use automated systems to
approve transactions that meet established criteria,\49\ and one
suggested requiring manual principal review only when an application
does not meet a firm's standard criteria.\50\
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\48\ See, e.g., ACLI; Lincoln; Mass Mutual; NAVA; and SIA.
\49\ CAI and NAVA.
\50\ NAVA.
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(b) Comments on Proposed Rule 2821(c)(1)--Timing of Principal Review
Two commenters supported the proposed provisions relating to the
timing of principal review, stating that it would ensure that a
principal would have sufficient time for a complete review while
providing greater assurances that unsuitable transactions would not be
consummated.\51\ Numerous commenters, however, objected to the
principal review deadline.\52\ Some were concerned that members would
be subject to liability for market changes during the delay for
supervisory review.\53\ Others stated that the timing deadline would
require costly reprogramming of broker-dealers' electronic processing
systems that forward contracts to the insurance company and the
broker's home office at the same time.\54\
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\51\ NASAA and PIABA.
\52\ See, e.g., ACLI; CAI; ING; and NAVA.
\53\ Associated Securities; Pacific Direct; and United Planners.
\54\ CAI and NMIS.
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One commenter stated that the interaction of this provision with
other Commission and NASD rules could limit a firm's ability to review
applications thoroughly.\55\ Another stated that time-linking the
application process with supervisory review would
[[Page 36845]]
impair the goal under the Investment Company Act of 1940's for timely
processing.\56\ Some commenters stated that a delay in pricing the
contract would be unfair to investors.\57\
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\55\ ING.
\56\ ACLI.
\57\ ACLI; Pacific Select; and United Planners.
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Two commenters recommended that NASD require the review to be
completed prior to the insurance company issuing the contract.\58\ One
of these commenters noted that while this would require logistical
coordination between the principal and the issuer, it would allow
insurers to process applications coextensively with the supervisory
review, but before the security is issued.\59\ Others recommended
requiring principals to conduct their review and approval promptly
after the completion of the contract application and in accordance with
procedures reasonably designed to ensure that problematic purchases are
detected and disapproved.\60\
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\58\ ACLI and NY Life.
\59\ ACLI.
\60\ CAI and NMIS.
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A few commenters stated that the time deadline would not work in
the context of direct sales, in which an insurance company may not know
of an applicant's interest in a deferred variable annuity until it
receives the application.\61\ Another stated that the timing deadline
would not take into account situations in which the registered
principal is housed in the insurance company.\62\
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\61\ CAI; NAVA; and T. Rowe Price.
\62\ NMIS.
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A few commenter also stated that their current supervisory
structure as an Office of Supervisory Jurisdiction would be incapable
of dealing with the prior approval requirement and they would be forced
to eliminate this form of supervisory structure.\63\ One commenter
stated the requirement could overwhelm principals,\64\ and another
stated that it would require members to allocate two to three times the
supervisory staff for deferred variable annuities than for any other
product.\65\
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\63\ Great American and ING.
\64\ Wachovia.
\65\ Associated Securities.
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NASD responded to commenters' concerns by modifying the timeframe
for principal review from ``prior to transmitting a customer's
application for a deferred variable annuity to the issuing insurance
company'' to ``no later than two business days following the date when
a member or person associated with a member transmits a customer's
application for a deferred variable annuity to the issuing insurance
company for processing.'' It stated that requiring completion of the
principal review within two business days of the firm's transmittal of
the application to the insurance company is necessary for the
protecting of investors and should promote efficiency. It also noted
that the proposed rule would not preclude firms from using automated
supervisory systems, or a mix of automated and manual supervisory
systems, to facilitate compliance with the rule. In addition, NASD
delineated what, at a minimum, a principal would need to do if his or
her firm intends to rely on automated supervisory systems to comply
with the proposed rule. Specifically, a principal would need to (1)
approve the criteria that the automated supervisory system uses, (2)
audit and update the system as necessary to ensure compliance with the
proposed rule, (3) review exception reports that the system creates,
and (4) remain responsible for each transaction's compliance with the
proposed rule. Finally, NASD noted that a principal would be
responsible for any deficiency in the system's criteria that would
result in the system not being reasonably designed to comply with the
rule.
NASD also noted that commenters asked whether the principal review
would need to start, but not necessarily be completed, by the time
specified in the rule. In most circumstances, NASD stated that under
the revised timing requirement for principal review firms would be able
to determine the appropriateness of the transactions before the
insurance company issues the contract. In NASD's view, requiring
completion of the principal review with this time period is necessary
for the protection of investors. Moreover, it also believes that
requiring a thorough principal review at the early stages of the
process also should promote efficiency.
(c) Comments on Proposed Rule 2821(c)(1)--Specific Standard for
Principal Review
Commenters objected to the proposed requirements for members to
establish standards regarding age, liquidity needs and the dollar
amount involved in the transactions and questioned the need for such
standards.\66\ While some requested more clarification of appropriate
standards, others stated that NASD should mandate specific
standards.\67\ One commenter criticized permitting firms to
individually set their own standards, stating that firms would defend
suitability challenges by asserting that the transaction met their own
standards.\68\ Others expressed concern that without defined standards,
a firm's suitability decisions would be second guessed and there would
be inconsistent regulation as different NASD districts establish and
impose different standards.\69\ One commenter stated that the provision
would lead principals to emphasize two or three elements of a
customer's profile rather than considering all of the facts and
circumstances.\70\
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\66\ See, e.g., Associated Securities; Dominion Investor
Services, Inc. (``Dominion''), Kevin P. Takacs, Chief Compliance
Officer (9/9/05); FSI; Great American; ING; Intersecurities; Pacific
Select; and United Planners.
\67\ Associated Securities; Dominion; FSI; Fintegra; Great
American; MWA; and Wachovia.
\68\ Pace.
\69\ See, e.g., ABIA/ABASA; Associated Securities; Dominion;
FSI; Great American; and ING.
\70\ Intersecurities.
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In its response to comments, NASD stated that the particular
provisions requiring members to establish standards were never intended
to require the adherence to brightline standards. It noted that the
establishment of specific thresholds in these instances would
unnecessarily limit a firm's discretion in establishing procedures that
adequately address its overall operations. NASD intended for principals
to consider these factors as part of their facts and circumstances
review. As a result, NASD deleted the requirement for firms to
establish standards for age, liquidity needs and dollar amounts.
(d) Comments on Proposed Rule 2821(c)(1)--Non-Recommended Transactions
Some commenters objected to requiring principal review of
transactions that are not recommended,\71\ and one noted that the
information that would be needed for a principal review is not
currently required to be collected for non-recommended annuity
transactions.\72\ Another commenter stated that requiring review for
non-recommended transactions would allow principals to second guess
investors' decisions.\73\
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\71\ See, e.g., ICI; NMIS; and T. Rowe Price.
\72\ T. Rowe Price.
\73\ ICI and NMIS.
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NASD disagreed, noting that due to the complexity of the products,
it is appropriate to require firms to review all deferred variable
annuity transactions for problematic sales practices. It stated that
the proposed rule would create requirements to ensure that firms
perform a consistent, baseline analysis of transactions, irrespective
of whether the customer purchased the deferred variable annuity as a
result of an associated person's
[[Page 36846]]
recommendation, thereby enhancing investor protection for all
customers.
(e) Comments on Proposed Rule 2821(c)(1)(D)--Rate of Exchanges
Two commenters criticized the proposed provision that would require
principals to consider whether the customer's account had a deferred
variable annuity exchange within the preceding 36 months, stating it
could signal to registered representatives that exchanges occurring
more than 36 months apart are appropriate.\74\ One commenter stated
that, while a firm should generate reports and review a registered
representative's sales activity for patterns of inappropriate
replacements as part of its supervisory procedures, it should not be
required to approve each transaction.\75\ After considering the
comments, NASD has determined to retain the requirement.
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\74\ Intersecurities and World Group.
\75\ Intersecurities.
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iv. Comments on Proposed Rule 2821(d)--Supervisory Procedures
The rule, as originally proposed, would require members to
establish and maintain specific written supervisory procedures
reasonably designed to achieve compliance with the rule. Members would
be required to implement procedures to screen transactions and require
registered principals to consider all of the factors enumerated in
paragraph (c) of the proposed rule. They would also have to consider
whether the associated person effecting a transaction has a
particularly high rate of effecting deferred variable annuity
exchanges.
One commenter supported requiring registered principals to review
the total production attributable to variable annuities of associated
person.\76\ One commenter requested guidance as to what a
``particularly high rate'' refers to and what must be compared to
determine it.\77\ After considering the comments, NASD determined to
retain without modification the provision relating to high rates of
exchange.
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\76\ NASAA.
\77\ Wachovia.
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v. Comments on Proposed Rule 2821(e)--Training
Most of the commenters that addressed the training provision
supported it.\78\ However, one commenter questioned the need for a
specific training requirement and requested clarification regarding
what additional training is contemplated.\79\ Some suggested that the
training obligations in the proposed rule could be met through existing
``Firm Element'' programs.\80\ After considering the comments, NASD
determined to retain this requirement.
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\78\ See, e.g., FSI; Great American; Lincoln; Mass Mutual; MWA;
NAVA; and PIABA.
\79\ ING.
\80\ See, e.g., Pacific Select; United Planners; and Wachovia.
NASD Rule 1120(b) requires each member to establish a training plan
that identifies certain minimum requirements. Each year the firm
must prepare a written training plan after an analysis of its
training needs. Firms must consider certain factors when conducting
their analyses and in developing their training plans, such as the
firm's size, organizational structure, scope and type of business
activities, as well as regulatory developments. This training is
referred to as the ``Firm Element'' portion of NASD's continuing
education requirements.
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(f) Comments on the Effective Date of Proposed Rule 2821
NASD stated that the effective date of the proposal would be 120
days following publication of its Notice to Members announcing
Commission approval. Numerous commenters requested more time, from 180
days \81\ to no less than one year,\82\ to comply with the proposed
rule. In its response to comments, NASD stated that because some firms
likely will have to make operational changes, it would be appropriate
to provide additional time for members to comply with the rule, if
approved. As a result, NASD stated that the proposed rule's effective
date would be 180 days following publication of the Notice to Members
in which it announces Commission approval.
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\81\ ING and Intersecurities.
\82\ NAVA, SIA, and World Group.
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2. Statutory Basis
NASD believes that the proposed rule is consistent with the
provisions of Section 15A(b)(6) of the Act,\83\ which requires, among
other things, that NASD rules be designed to prevent fraudulent and
manipulative acts and practices, to promote just and equitable
principles of trade and, in general, to protect investors and the
public interest. NASD believes that the proposed rule is consistent
with the provisions of the Act noted above in that it will enhance
firms' compliance and supervisory systems and provide more
comprehensive and targeted protection to investors in deferred variable
annuities. As such, the proposed rule will decrease the likelihood of
fraud and manipulative acts, promote just and equitable principles of
trade and increase investor protection.
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\83\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition
NASD does not believe that the proposed rule will result in any
burden on competition that is not necessary or appropriate in
furtherance of the purposes of the Act.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Received from Members, Participants, or Others
The Commission published proposed rule 2821 (SR-NASD-2004-183) in
the Federal Register on July 21, 2005. The comment period closed on
September 19, 2005. The Commission received nearly 1500 comment letters
in response to the Federal Register publication of the SR-NASD-2004-
183. The comment letters and NASD's response to them are discussed in
section II above.
III. Date of Effectiveness of the Proposed Rule and Timing for
Commission Action
Within 35 days of the date of publication of this notice in the
Federal Register or within such longer period (1) as the Commission may
designate up to 90 days of such date if it finds such longer period to
be appropriate and publishes its reasons for so finding or (ii) as to
which the self-regulatory organization consents, the Commission will:
(A) By order approve such proposed rule, or
(B) Institute proceedings to determine whether the proposed rule
should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views and
arguments concerning Amendment No. 2, including whether the proposed
rule is consistent with the Act.\84\ We also invite interested persons
to discuss how, if at all, the proposed rule's timing requirement for
principal review would impact member firms' ability to efficiently
review deferred variable annuity transactions. What changes, if any,
would member firms need to make to their supervisory procedures and
systems in order to comply with the proposed rule's timing requirement
for principal review? If changes would be necessary, we invite
interested persons to discuss how current supervisory procedures and
systems operate and why those procedures and systems would not
accommodate the proposed rule's timing requirement for principal
review.
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\84\ The Commission will consider the comments we previously
received. Commenters may reiterate or cross-reference previously
submitted comments.
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Comments may be submitted by any of the following methods:
[[Page 36847]]
Electronic Comments
Use the Commission's Internet comment form (https://
www.sec.gov/rules/sro.shtml); or
Send an e-mail to rule-comments@sec.gov. Please include
File Number SR -NASD-2004-183 on the subject line.
Paper Comments
Send paper comments in triplicate to Nancy M. Morris,
Secretary, Securities and Exchange Commission, 100 F Street, NE.,
Washington, DC 20549-1090.
All submissions should refer to File Number SR-NASD-2004-183. This
file number should be included on the subject line if e-mail is used.
To help the Commission process and review your comments more
efficiently, please use only one method. The Commission will post all
comments on the Commission's Internet Web site (https://www.sec.gov/
rules/sro.shtml). Copies of the submission, all subsequent amendments,
all written statements with respect to the proposed rule that are filed
with the Commission, and all written communications relating to the
proposed rule between the Commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for inspection and copying in the
Commisison's Public Reference Room. Copies of such filing also will be
available for inspection and copying at the principal office of NASD.
All comments received will be posted without change; the Commission
does not edit personal identifying information from submissions. You
should submit only information that you wish to make available
publicly. All submissions should refer to File Number SR-NASD-2004-183
and should be submitted on or before July 19, 2006.
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority.\85\
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\85\ 17 CFR 200.30-3(a)(12).
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J. Lynn Taylor,
Assistant Secretary.
[FR Doc. 06-5730 Filed 6-27-06; 8:45 am]
BILLING CODE 8010-01-M
