Regulation of FIAs under BICE again upheld as not being arbitrary and capricious

The Tenth Circuit has affirmed a summary judgment order issued by a federal trial court to the Department of Labor in response to a challenge to the decision by the Agency to remove fixed indexed annuities from coverage under PTE 84-24, and subject them to the requirements of the Best Interest Contract Exemption. The appeals court, in an opinion that mirrored the trial court’s reasoning, determined that the DOL provided adequate notice of its decision, did not arbitrarily distinguish between FIAs and fixed annuities, and considered the financial impact of the rule on the industry.

Fixed-indexed annuities removed from PTE 84-24

As part of the release of sweeping series of fiduciary conflict of interest rules, the DOL amended existing PTE 84-24, which allows insurance agents and brokers, and insurance companies, to receive compensation for recommending specified insurance and annuity contracts and investment company securities (e.g., mutual fund shares) to plans and IRAs. As amended, PTE 84-24 (currently effective for transactions occurring on or after July 1, 2019), will allow fiduciaries and other service providers to receive reasonable compensation (e.g., insurance commissions, other than revenue sharing) when plans and IRAs purchase insurance contracts, fixed annuity contracts, securities of registered investment companies, or engage in certain related transactions.
However, the new rules effectively revoke the exemption under PTE-84-24 for annuity contracts that do not qualify as a fixed rate annuity, such as FIAs. Thus, the purchase by a plan or IRA of such products will not be covered by PTE 84-24. However, transactions involving annuity contracts that are not fixed rate annuity contracts, such as variable and index annuities, may be exempt in compliance with the conditions stipulated under the Best Interest Contract Exemption (BICE).
Violations of APA and RFA charged. Market Synergy Group (MSG), a licensed insurance agency that works with insurance companies to develop specialized, proprietary FIAs and other products for exclusive distribution, in partnership with a network of independent market organizations (IMOs), brought suit under the Administrative Procedures Act and the Regulatory Flexibility Act, challenging the removal of FIA transactions from coverage under PTE 84-24. The trial court denied a request for preliminary injunction and issued summary judgment to the DOL, affirming the Agency’s decision-making process. The Tenth Circuit affirmed, essentially adopting the lower court’s reasoning.

Final rule logical outgrowth of proposed rule

In initially determining whether the DOL provided adequate notice of the final rule in its Notice of Proposed Rulemaking, the Tenth Circuit explained that a final regulation must be a “logical outgrowth” of the proposed rule. The court agreed with the trial court that the final rule was a logical outgrowth of the proposed rule that should have been anticipated.
MSG, stressing that the proposed rule distinguished between securities and insurance products that are not securities, maintained it could not anticipate the DOL treating FIAs as transactions under BICE because FIAs are not securities. However, the court noted that the DOL also specifically requested public comment as to whether removing variable annuities from PTE 84-24, but leaving FIA and fixed rate annuities, struck the appropriate balance of its concerns. Thus, the DOL provided a description of the subjects and issues involved in its regulatory review that was sufficient to apprise Market Synergy of the need to submit relevant comments.
In further support of its conclusion that the final rule was a logical outgrowth of the proposed rule, the trial court noted that the public comments indicated that other recipients of the DOL notice discerned the possibility of the change reflected in the final rules. The other commenters also made points that Market Synergy would have made, rendering any allegedly insufficient notice harmless error. The Tenth Circuit added that while the comments do not by themselves resolve the issue of notice, they do indicate that various parties anticipated that the final rule would remove FIAs from PTE 84-24.

DOL did not arbitrarily treat FIAs different from fixed annuities

MSG continued to stress on appeal that the DOL’s treatment of FIAs was arbitrary and capricious because FIAs are identical to fixed annuities, other than with respect to the method by which interest is credited to the annuity. Noting that, under the arbitrary and capricious standard of review, an Agency is only required to articulate a rational connection between the facts and the regulation, the court deferred to the DOL’s perspective that FIAs are inherently complex products under which returns can vary widely, posing a risk to retirees and other investors that exceeds that under fixed annuities. Equally valid and supported by evidence was the DOL’s view that the complicated payment structures of FIAs invited conflicts of interest that required the additional protections afforded by BICE.

Consideration of state regulations

MSG next claimed that the DOL rule unreasonably infringed on state regulations. However, the court, after noting that there was no uniform state standard governing the issue, found that the DOL did attempt to design the regulation to work cohesively with the state requirements in place. As the DOL did consider state regulations, its decision was not arbitrary and capricious.

DOL considered impact of final rule

As a final matter, MSG maintained that the DOL violated the APA by failing to consider how the regulation would affect the FIA industry, suggesting that the DOL exceeded its statutory authority to promulgate only “necessary and appropriate” regulations. The trial court found that the DOL’s Regulatory Impact Analysis thoroughly addressed the effect of the rule change on the independent annuity distribution channels, as well as whether the independent distribution channels could operate under BICE. The DOL’s conclusion that the costs of the rule were justified by the greater market efficiency promised by reduced conflicts of interest, the court explained, was reasonable.
Noting that its review was limited to the arbitrary and capricious standard, the Tenth Circuit concurred with the lower court. The DOL’s conclusion that the benefits to investors from the new rule outweighed the cost of compliance was reasonable and thus, the court stressed, was not arbitrary and capricious.

Source: Market Synergy Group, Inc. v. United States Department of Labor (CA-10)

Visit our News Library to read more news stories.