The stay of the effective dates of the amended fiduciary regulation and amended exemptions means that the “old” fiduciary regulation (the 5-part test) and the amended exemptions continue in effect indefinitely. As a result, it is unlikely that an insurance producer will be a fiduciary when making a recommendation to a participant to take his or her money out of the plan and roll over into a “qualified” annuity (or, more accurately, an Individual Retirement Annuity). And, if an insurance producer happened to be a fiduciary, the recommendation would need to satisfy ERISA’s prudent person rule and duty of loyalty and the conditions of the existing PTE 84-24, which are much less demanding than PTE 2020-02, which applies to other rollover recommendations.

However, as I said above, it is unlikely that an insurance producer would be a fiduciary. As a result, the standard of conduct would be established by state laws and regulations. By and large, those rules are based on NAIC Model Regulation #275.

As background, the National Association of Insurance Commissioners (NAIC) drafts model regulations on a variety of insurance-related subjects. However, its model rules are just that…models. They must be adopted state-by-state either as laws or regulations. The model rule for recommending annuities, “Suitability in Annuity Transactions Model Regulation”, has been adopted “as is” or with modifications by almost all of the states.

With that in mind, let’s look at how it applies to rollover recommendations.

First, the model rule does not cover recommendations to ERISA-governed retirement or welfare plans, as well as other types of plans (e.g., government plans and nonqualified plans). The DOL treats a recommendation to a participant to rollover benefits from a plan to an IRA as a recommendation to a plan (albeit to only that participant’s part of the plan). If the NAIC model rule contemplates that the rule should be applied accordingly, then a rollover recommendation is excluded from the requirements in the model rule.

On the other hand, the SEC in Reg BI and its IA Interpretation treats a rollover recommendation to a participant as a recommendation to a retail investor. To see if the NAIC model rule takes the same approach, I did word searches for rollover, roll, over, distribution, participant, IRA, retirement, qualified, and plan, and found nothing on point. I think it is fair to say that the NAIC model rule does not cover recommendations to participants to take distributions from qualified retirement plans—as opposed to the DOL and SEC which impose conduct standards on rollover recommendations. (Note, though, that the SEC standards would apply to recommendations of rollovers to “securities” annuities, e.g., variable annuities and registered index-linked annuities (RILAs).)

On the other hand, the NAIC model rule does cover recommendations of annuities to “consumers”. Since there isn’t any reference in the model rule to participants or rollovers, it is not clear, but I assume that a recommendation to a participant to rollover into an annuity would be a recommendation to a consumer.

In that case, the insurance producer would need to gather “consumer profile information,” which is defined as: “information that is reasonably appropriate to determine whether a recommendation addresses the consumer’s financial situation, insurance needs and financial objectives, including, at a minimum, the following:

(1) Age;  (2) Annual income;  (3) Financial situation and needs, including debts and other obligations;  (4) Financial experience;  (5) Insurance needs;  (6) Financial objectives;  (7) Intended use of the annuity;  (8) Financial time horizon;  (9) Existing assets or financial products, including investment, annuity and insurance holdings;  (10) Liquidity needs;  (11) Liquid net worth;  (12) Risk tolerance, including but not limited to, willingness to accept non-guaranteed elements in the annuity;   (13) Financial resources used to fund the annuity; and  (14) Tax status.”

The consumer profile information is substantially similar to what the DOL or SEC would require, in my opinion.

The NAIC Model Regulation imposes this standard of conduct on the insurance producer making the annuity recommendation:

“Best Interest Obligations. A producer, when making a recommendation of an annuity, shall act in the best interest of the consumer under the circumstances known at the time the recommendation is made, without placing the producer’s or the insurer’s financial interest ahead of the consumer’s interest. A producer has acted in the best interest of the consumer if they have satisfied the following obligations regarding care, disclosure, conflict of interest and documentation:….” [The emphasis is mine.]

Focusing on the Care Obligation (that is, the standard of care), which is one of the four obligations in the rule, the model rule says:

Care Obligation. The producer, in making a recommendation shall exercise reasonable diligence, care and skill to:    

(i) Know the consumer’s financial situation, insurance needs and financial objectives;      

(ii) Understand the available recommendation options after making a reasonable inquiry into options available to the producer;      

(iii) Have a reasonable basis to believe the recommended option effectively addresses the consumer’s financial situation, insurance needs and financial objectives over the life of the product, as evaluated in light of the consumer profile information; and     

(iv) Communicate the basis or bases of the recommendation.

 [Again, the emphasis is mine.]

Because of the bolded language “effectively addresses,” the model rule has been labeled by critics as an enhanced suitability standard, rather than a best interest standard. In effect, the critics argue that the standard is that an insurance producer shouldn’t recommend something “bad” for the consumer, as opposed to saying that a producer must do what is best for the consumer. In that regard, it is hard to know how the 40+ states that have adopted this rule will actually apply it. I am not aware of any enforcement actions to date. While the model rule was adopted by the NAIC in the spring of 2020, the states have gradually adopted it in the years since then. (By the way, if any reader is aware of enforcement actions, please let me know. I would like to better understand how the states are actually applying this standard.)

For comparison, here is how the SEC defined the best interest standard of conduct for broker-dealers:

“Have a reasonable basis to believe that the recommendation is in the best interest of a particular retail customer based on that retail customer’s investment profile and the potential risks, rewards, and costs associated with the recommendation and does not place the financial or other interest of the broker, dealer, or such natural person ahead of the interest of the retail customer;…” [The emphasis is mine.]

Another criticism of Model Rule #275 is that it says: “Material conflict of interest’ does not include cash compensation or non-cash compensation.”

To the contrary, both the DOL (for fiduciaries) and the SEC (for broker-dealers and investment advisers) say that both cash and non-cash compensation are conflicts of interest.

As you might imagine, critics find this to be a fatal flaw in the NAIC model rule.

The rule does go on to say that, upon request, a consumer can get information about the cash (but not the non-cash, e.g., trips and conferences) compensation:

“Upon request of the consumer or the consumer’s designated representative, the producer shall disclose:     

(i) A reasonable estimate of the amount of cash compensation to be received by the producer, which may be stated as a range of amounts or percentages; and     

(ii) Whether the cash compensation is a one-time or multiple occurrence amount, and if a multiple occurrence amount, the frequency and amount of the occurrence, which may be stated as a range of amounts or percentages;…”

As a result, if a consumer asks the producer to disclose his or her compensation, the producer will be required to disclose  the cash compensation.

Concluding Thoughts

A reasonable reading of the NAIC Model Rule is that it does not cover a recommendation to a participant to take a distribution (e.g., to withdraw plan benefits in order to roll over). As a result, an insurance producer isn’t required to consider a plan’s investments, services and expenses, and decide if it is better for the participant to leave his or her money in the plan. Both the DOL and SEC take the contrary position that a rollover recommendation consists of two discrete recommendations: (1) to liquidate the investments in the participant’s account and take the money out of the plan and (2) to rollover to another account.

However, the recommendation of an annuity by a producer is subject to the NAIC Model Rule’s standard of care.