NAIFA GovWatch

Obama Administration Unveils Regulatory Overhaul Proposal

Issue: Financial Services Regulatory Reform/Insurance Regulatory Reform

Date: June 17, 2009

Today the White House released its highly anticipated proposal to reform the regulation of financial services sector, including insurance and securities. The proposal, which is an 85 page white paper, includes several provisions that would directly and indirectly impact NAIFA members.

Impact on Insurance: For the insurance industry, the centerpiece of the Administration’s proposal is the creation of a federal Office of National Insurance (ONI) within the Treasury Department, which would be charged with collecting information and representing the US in international discussions related to insurance. The ONI would be responsible for monitoring all aspects of the insurance industry, identifying gaps in regulation that could contribute to future crises, and recommending to the Federal Reserve any insurers that should be supervised as systemically important institutions. This appears to be an expanded version of Rep. Paul Kanjorski’s office of insurance information legislation, which NAIFA supports.

The proposal also includes six principles for insurance regulation that, presumably, will constitute the foundation for ONI and systemic oversight, as well as any other insurance reform proposals that are deemed necessary to achieve Administration goals. The principles are:

Effective systemic risk regulation with respect to insurance. Insurance is included in the systemic risk oversight portion of the Administration proposal.
Strong capital standards and an appropriate match between capital allocation and liabilities for all insurance companies. The proposal acknowledges the need for strong capital standards and appropriate risk management; does not comment on the current state approach to solvency regulation.
Meaningful and consistent consumer protection for insurance products and practices. The proposal notes the wide variations in consumer protections across the states and calls for “enhancing” consumer protections and addressing problems in the current system, including in producer regulation. It is not clear what this means for current state rules, or how specific any federal legislation will get. By mentioning the “problems” faced by producers, however, the proposal does open the door for enactment of NARAB II.
Increased national uniformity through either a federal charter or effective action by the states. The proposal acknowledges the need for better, more uniform regulation and leaves the door open for consideration of a federal insurance charter and / or using federal pressure to force the states to be uniform in their approach to regulation.
Improve and broaden the regulation of insurance companies and affiliates on a consolidated basis, including those affiliates outside of the traditional insurance business. The proposal acknowledges the shortcomings in the states’ approach to insurance holding company regulation and calls for closing the “gaps” that currently exist. Again, there is no suggestion as to how this might be done, but could be addressed by the systemic regulator.
International coordination. The proposal recognizes the need to improve the US approach internationally, both in terms of policymaking and trade. ONI would be tasked to take the lead on international regulatory issues and given authority to enter into international agreements.

Impact on Securities: The proposal includes a variety of measures to strengthen investor protections, including increasing transparency in disclosure to investors, increasing sanctions available in enforcement actions, and putting shareholder controls on executive compensation. Notably, the proposal also calls for “harmonizing” the regulation of investment advisors and broker-dealers, including imposing a fiduciary duty on broker-dealers offering investment advice. Currently, broker-dealers and their registered representatives are subject to a suitability standard with respect to their clients, while investment advisors are subject to the more stringent fiduciary standard. The proposal suggests that the differences between investment advisors and broker-dealers are no longer meaningful to consumers, who see them as the same, or very similar, service providers. Therefore, the legal distinction between the two no longer makes sense. To that end, the proposal would raise the standard of care on broker-dealers and their registered representatives to that of fiduciary.

In addition to standards of care, the proposal includes vague language that would permit the SEC to establish similar duties for financial services intermediaries across financial products. This would include giving SEC authority to examine and ban forms of compensation that encourage intermediaries to put investors in products that are profitable to the intermediary but not in the investors best interest.

The proposal appears to limit the applicability of these requirements to broker-dealers and investment advisors and their representatives. Having said that, many insurance producers, particularly life agents, also serve as registered representatives. To the extent federal law seeks to change – and increase – the duties imposed on a producer with respect to his/her securities activities, there is a danger that the obligations could bleed into their insurance activities, either by law or by necessity.

Consumer Products Safety Commission: The proposal creates a new consumer protection agency that will have regulatory authority over all financial products not regulated by the SEC or CFTC. The Consumer Financial Protection Agency would have authority to issue and enforce rules governing “credit, savings, payment, and other consumer financial products and services,” and the providers of such products and services.

Although the proposal does not refer to "insurance" by name, its coverage is broad and arguably could include insurance products and services. The proposal does not define what a “payment product” is, but it is possible that a life products might fall into such a category. In addition, there are no limitations on the “other consumer financial products and services” category, thus creating an easy opening for oversight of insurance products. The proposal also would give CFPA a broad range of supervisory and enforcement authority over nonbanking institutions – and there is no carve out for insurance entities. Whether that is the Administration’s intent or not, we do not know, but the language of the proposal clearly leaves the door open for CFPA oversight of insurance products. Thus, the proposal could subject insurers and producers to a wide array of new and onerous obligations.

The CFPA is intended to provide a separate consumer protection advocate in the financial regulatory system with the goal of reducing gaps in federal consumer protection supervision and promoting consistent regulation of similar products, including requiring a wide array of disclosures. The CFPA would have the power to implement and enforce regulations under a number of federal financial services and fair lending statutes, which are separately set forth in the proposal. In an effort to avoid undercutting prudential regulation and the marketplace, it would be required to consult with other federal regulators to promote consistency with prudential, market and systemic objectives, and share information. There is no such requirement to work with state regulators, although CFPA would be required to coordinate enforcement efforts with the state enforcement agencies.

CFPA also would have the power to license financial service providers and intermediaries. Insurance producers are not mentioned, and might not be contemplated, but the proposal makes no effort to exclude them from CFPA’s authority. Thus, to the extent the CFPA is deemed to have authority over insurance, this could provide a home for NARAB.

The proposal specifically preserves state laws and enforcement powers that exceed federal standards, so CFPA rules would constitute minimum standards that could be exceeded – and differ among the states. To the extent CFPA eventually oversees insurance products, this minimum federal standard is at odds with the proposal’s insurance principles that call for “increased national uniformity” in the insurance regulatory system.

Finally, the proposal also would grant the CFPA authority to impose duties of care on financial intermediaries that sell the products overseen by the agency. The proposal notes that intermediaries are trusted advisers to their clients, and suggests that their impartiality can be compromised when they receive payments from product providers. The proposal does not dictate the level of the standard of care to be imposed – presumably it would differ depending on the type of product sold.

To view the complete analysis prepared by NAIFA outside counsel Steptoe and Johnson go to: http://www.naifa.org/advocacy/documents/obamaplan_06172009.pdf

To view the complete White Paper go to: http://www.financialstability.gov/docs/regs/FinalReport_web.pdf

Republican Alternative: In anticipation of the release of the Administration’s plan, senior House Financial Services Republicans last week released the details of their alternative approach to regulatory reform. It should be noted that, due to divisions with the Republican caucus about what role insurance should play in a federal financial services overhaul plan, the Republican proposal does not include any specific reference to insurance. To view the Republican alternative plan go to: http://www.naifa.org/advocacy/documents/FSC_REPUBLICAN_PLAN.pdf

Next Steps: Tomorrow Treasury Secretary Timothy Geithner will testify on the details of the White Paper before the Senate Banking Committee and then the House Financial Services Committee. NAIFA staff will cover the hearings and provide a report.

NAIFA Staff Contact: Jill Edwards, Assistant Vice President – Federal Government Relations, at jilledwards@naifa.org.

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