VAs Move On To FINRA’s Exam Radar
January 19, 2015 by Linda Koco, linda.koco@innfeedback.com
Variable annuities are on the examination radar of “product-focused concerns” at the Financial Industry Regulatory Authority (FINRA).
In its annual letter outlining its of regulatory and exam priorities for 2015, the regulatory organization told its broker/dealer members that it will focus on “sales practice issues with variable annuities — both new purchases and 1035 exchanges.”
In last year’s letter, variable annuities were not even mentioned.
The variable annuity focus in 2015 will include assessments of compensation structures that “may improperly incent the sale of variable annuities,” FINRA said.
The sale and marketing of “L share” annuities will be a particular focus, FINRA added, noting that these products typically have “shorter surrender periods, but higher costs.”
The surrender charges on L-share annuities usually run three to four years. That is shorter than the 7- to 8-year surrender periods found on many if not most B-share annuities. The trade-off for the increased liquidity is that the L-share annuities typically have higher mortality risk and expense charges and commission percentages than do B-share annuities.
Other variable annuity sales issues FINRA plans to look at include: suitability of recommendations, statements made by registered representatives about the products, and the adequacy of disclosures made about material features of variable annuities.
In addition, FINRA said its examiners will look at procedures and training by compliance and supervisory personnel “to test the level of brokers’ and supervisors’ product knowledge, to prevent and detect problematic sales practices in variable annuities, and to assess compliance with requirements that firms file retail communications concerning variable annuities with FINRA within 10 business days of first use.”
Other products and concerns
FINRA’s product-focused concerns for 2015 span many other financial products, not just variable annuities. Some of these other products include interest-rate-sensitive products, alternative mutual funds and structured retail products.
In general, the letter said the product-related risk reviews in 2015 will routinely focus on due diligence, suitability, disclosure, supervision and training.
Areas looked at may include features of the product itself as well as sales or distribution practices.
Some products are “complex and may be subject to substantial market, credit, liquidity or operational risks,” the letter said. And some were previously available only to sophisticated investors but have now been “modified” for offers to retail investors.
Broad areas of concern
The 2015 priorities letter runs for 17 pages, much longer than the 11-pager in 2014. That is an indication that the self-regulatory organization is taking the occasion of its annual letter to point out broad areas of concern, not just a priority list.
For instance, the letter lists five “key areas of broker-dealer activity” where FINRA said it continues to observe “shortcomings.” These areas are:
Alignment of firms’ interests with those of their customers
Standards of ethical behavior
Development of strong supervisory and risk management systems
Development, marketing and sale of novel products and services
Management of conflicts of interest
Customer first
The first “key area” on that list — align firms’ interests with those of their customers — may raise eyebrows among registered representatives and broker/dealers who are held to the suitability standard of care (make recommendations that are suitable for the customer), not the fiduciary standard of care (put the customer’s interests first, before your own).
In its letter, FINRA offered this explanation: “Irrespective of whether a firm must meet a suitability or fiduciary standard, FINRA believes that firms best serve their customer — and reduce their regulatory risk — by putting customers’ interests first. This requires the firm to align its interests with those of its customers.”
FINRA said it has observed what it calls a “central failing” at broker/dealer firms of not putting customers’ interests first.
“The harm caused by this may be compounded when it involves vulnerable investors (e.g., senior investors) or a major liquidity or wealth event in an investor’s life (e.g., an inheritance or Individual Retirement Account rollover). Poor advice and investments in these situations can have especially devastating and lasting consequences for the investor.”
