Suitability Screens for VAs are Undergoing an Overhaul

April 18, 2005

NEW YORK - Determining which clients should be offered variable annuities is gradually changing from art to science. This stems from concern over countering negative publicity and avoiding the costs of disclosure to prospects who may later turn out to be unsuited for the annuity.

NASD rules require that before a variable annuity is recommended, a client's financial status, investment objectives and other relevant information must be assessed to determine if the product is suitable for that particular individual.

In addition, state insurance regulators are adopting rules applying suitability requirements to variable annuities, according to Norse Blazzard, an attorney and principal with Blazzard Grodd & Hasenauer PC in Fort Lauderdale, Fla. Suitability screens are being developed and used by variable annuity providers, broker-dealers, financial advisers and others involved in the sales process, as it is unclear under current rules exactly where the responsibility for determining suitability lies, he noted.

But not all variable annuity sellers view suitability screening as a burden. "I embrace screening because it forces the adviser to ask clients the important questions regarding goals, risks and assets," said Mark Cortazzo, senior partner of Macro Consulting Group LLC in Parsippany, N.J.

He added that in his view, the "primary line of defense" in determining suitability is with the adviser, with the broker-dealer having the supervisory obligation to oversee the process and make sure no obvious red flags of unsuitability are missed.

The insurance companies offering the annuities may also have suitability oversight responsibilities, Mr. Cortazzo said, but their position is that they are the "product manufacturers" and are not privy to the needs of the specific client.

Suitability methods

Many firms have developed screens that focus on certain enumerated personal and financial characteristics of prospective clients.

For instance, Wachovia Securities assigns traffic-light-type red, green or yellow codes based on client personal and financial attributes, according to Rich Randa, a managing director with the Richmond, Va.-based firm. The system was designed mainly for bank branch personnel with little experience in matching clients with annuities and other investment options. But it can be used by others as well, he said.

Among the suitability criteria are age, tax considerations, investment objectives, ability to understand the product, risk tolerance, liquidity needs and life insurance needs.

Morgan Stanley in New York focuses on whether the client can benefit from the tax deferral aspects of the annuity and whether the client needs a certain degree of liquidity, according to the firm's website. Also considered are the investor's tolerance for the possibility of fluctuations in the subaccounts, and the total costs of the annuity - including the expenses of the contract itself and the fees charged by the funds in which it invests.

Washington-based NASD's rules also provide that a so-called 1035 exchange - replacing one VA contract with another - may be unsuitable if clients are not informed about the sales charges and other expenses associated with the exchange or are misled regarding the reasons and justifications for the exchange.

Raymond James Financial Inc., based in St. Petersburg, Fla., uses a side-by-side-comparison form for 1035 exchanges which lists contract features, including riders, fees and surrender charges, according to Scott Curtis, president of Planning Corporation of America, the insurance subsidiary of Raymond James. The firm is seeking to increase automation of the process by prepopulating the form with client and contract data from their computerized files.

Age not a disqualifier

Mr. Cortazzo of Macro Consulting pointed out that variable annuity suitability has been expanded by all of the guarantees, benefits, riders and other available features.

"With all of these additional features, variable annuities may be suitable for a wide variety of clients, including older ones. You can't simply screen out people based on the fact that they are over age 65 or have certain other attributes," he said.

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