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FINRA Prioritizes Oversight of Variable Annuity Sales and Switching for Potential Abuse

Recently, the Financial Industry Regulatory Authority (“FINRA”) has devoted significant regulatory oversight to one financial product that is rife with potential for abuse: the variable annuity (“VA”).

As a general rule, annuities are treated as insurance products.  Accordingly, annuities are subject to regulation at the State level.  Specifically, each State maintains a guarantee fund that will act as a backstop to annuity policies, up to a certain dollar amount, in the event that an insurance carrier experiences insolvency or similar inability to honor its financial obligations.  Additionally, each State has its own insurance commissioner, an individual responsible for overseeing all annuity business within that State.  Fixed annuities, fixed indexed annuities, single premium immediate annuities, and longevity annuities (a/k/a deferred income annuities) are all regulated at the State level.

VAs are also monitored at the State level.  However, because VAs are considered a hybrid insurance / security product, they receive additional scrutiny and regulatory oversight at the federal level.  As investment products, VAs are subject to monitoring by both the Securities and Exchange Commission (“SEC”), as well as the Financial Industry Regulatory Authority (“FINRA”).

Recent regulatory enforcement in connection with VAs suggests that identifying VA misconduct for regulatory enforcement is a top priority for FINRA.  For example, numerous fines were levied in 2016 by FINRA concerning allegations of sales abuse by brokers recommending unsuitable VAs and/or recommending the sale of one VA for another in order to generate commissions (a practice akin to churning, and referred to commonly in the securities industry as ‘switching’).

Two recent enforcement actions by FINRA highlight the continued need for enhanced regulatory oversight and robust enforcement as concerns unscrupulous brokers engaging in VA switching for their own benefit and at the investor’s expense.  In one such recent enforcement action, broker Cecil E. Nivens was suspended from the securities industry for two years and was ordered to disgorge nearly $186,000 in commissions for causing “considerable monetary harm” to customers related to VA exchanges, as based upon a FINRA filing made September 18, 2017.  With respect to another VA enforcement proceeding, filed October 6, 2017, FINRA suspended broker Walter Marino for one year in connection with abusive VA switching.

In a typical scenario, a broker recommending that a client sell out of one VA for purchase of another, will advise the client to exchange the annuities under Section 1035 of the tax code.  The reason for this is so the transfer can be effectuated on a tax-free basis; it should be noted, however, that such a 1035 exchange will also result in additional commissions for the broker.  Therefore, it should come as no surprise that there exists a correlation between sales practice abuse through VA switching and a corresponding recommendation to enter a 1035 exchange.  With respect to these recent enforcement proceedings, however, FINRA noted that neither broker categorized the VA switches as 1035 exchanges – arguably in order to conceal any sales practice abuse.

The attorneys at Law Office of Christopher J. Gray, P.C. have significant experience in recovering funds on behalf of investors who have suffered losses due to a range of misconduct, including the unsuitable recommendation by a broker to purchase and/or switch from one VA to another VA.  Investors may be able to recover their losses in FINRA arbitration.  Investors who wish to discuss a possible claim may contact our office at (866) 966-9598 or for a no-cost, confidential consultation.

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