FINRA Reminds Firms of Their Responsibilities Under FINRA Rule 2330 for Recommended Purchases or Exchanges of Deferred Variable Annuities
Deferred Variable Annuities
Referenced Rules & Notices
FINRA Rule 2150
FINRA Rule 2320
FINRA Rule 2330
NASD Rule 2330
NASD Rule 2820
NASD Rule 2821
SEA Rule 15c3-1
SEA Rule 15c3-3
Regulatory Notice 07-53
Regulatory Notice 09-32
Regulatory Notice 09-72
Deferred Variable Annuities
FINRA reminds firms of their responsibilities under the new consolidated FINRA rule on deferred variable annuities.1 The implementation date of the FINRA rule—as well as previously approved amendments to parts of the rule covering principal review and supervisory procedures—is February 8, 2010.2 This Notice also addresses issues raised about a firm's ability to hold checks made payable to entities other than itself (third parties) pursuant to interpretive relief that FINRA previously issued.3
For easy reference, the text of new FINRA Rule 2330 is set forth in Attachment A.
Questions regarding this Notice should be directed to:
Background & Discussion
FINRA Rule 2330 (formerly NASD Rule 2821) establishes sales practice standards regarding recommended purchases and exchanges of deferred variable annuities.4 The rule has the following six main sections:
As noted above, all of the rule's provisions are applicable as of February 8, 2010.
Recently, questions have been raised regarding FINRA's limited interpretive relief from the requirements of FINRA Rule 2150(a) (formerly NASD Rule 2330(a)) and FINRA Rule 2320(d) (formerly NASD Rule 2820(d)).5 The former rule generally prohibits firms from making improper use of customer funds, and the latter requires firms to transmit promptly to issuers applications and purchase payments for variable contracts. FINRA provided limited interpretive relief from these rules to allow firms to perform comprehensive and rigorous reviews of recommended transactions in deferred variable annuities under FINRA Rule 2330.6
FINRA originally stated that "a firm may hold an application for a deferred variable annuity and a customer's non-negotiated check payable to an insurance company for up to seven business days without violating either NASD Rule 2330 or 2820 if the reason for the hold is to allow completion of principal review of the transaction pursuant to NASD Rule 2821."7 After the SEC approved amendments that changed the starting point for the review period—from the date when the customer signs the application to the date when a firm's office of supervisory jurisdiction (OSJ) receives a complete and correct application package—FINRA explained that its limited interpretive relief "continues to apply even though the triggering event for the principal review period has changed via the recently approved amendments."8
Concerns have been expressed, however, regarding the breadth of the interpretive relief and the conditions that must be present for it to apply. FINRA now clarifies that the interpretive relief applies only if the seven conditions delineated below are present.9
1 On November 20, 2009, the Financial Industry Regulatory Authority, Inc. (FINRA) filed with the Securities and Exchange Commission (SEC or Commission) a proposed rule change, for immediate effectiveness, to transfer NASD Rule 2821 into the Consolidated FINRA Rulebook, as FINRA Rule 2330, without any substantive changes. See Exchange Act Release No. 61122 (December 7, 2009), 74 FR 65816 (December 11, 2009) (File No. SR-FINRA-2009-083); Regulatory Notice 09-72 (December 2009) (discussing adoption of consolidated FINRA rules, including FINRA Rule 2330 covering deferred variable annuities). The current FINRA rulebook consists of (1) FINRA Rules; (2) NASD Rules; and (3) rules incorporated from NYSE (Incorporated NYSE Rules) (together, the NASD Rules and Incorporated NYSE Rules are referred to as the Transitional Rulebook). While the NASD Rules generally apply to all FINRA members, the Incorporated NYSE Rules apply only to those members of FINRA that are also members of the NYSE (Dual Members). The FINRA Rules apply to all FINRA members, unless such rules have a more limited application by their terms. For more information about the rulebook consolidation process, see Information Notice, 3/12/08 (Rulebook Consolidation Process).
2See Exchange Act Release No. 61122 (December 7, 2009), 74 FR 65816 (December 11, 2009) (File No. SR-FINRA-2009-083); Regulatory Notice 09-72 (December 2009) (discussing adoption of consolidated FINRA rules and an operative date for FINRA Rule 2330 of February 8, 2010); Exchange Act Release No. 59772 (April 15, 2009), 74 FR 18419 (April 22, 2009) (Order Approving File No. SR-FINRA-2008-019); Regulatory Notice 09-32 (June 2009) (announcing SEC approval of amendments to NASD Rule 2821 governing purchases and exchanges of deferred variable annuities and an effective date for those amendments of February 8, 2010). FINRA notes that paragraphs (a) (General Considerations), (b) (Recommendation Requirements), and (e) (Training) of NASD Rule 2821 became effective on May 5, 2008. See Regulatory Notice 07-53 (November 2007).
4 In general, a variable annuity is a contract between an investor and an insurance company, whereby the insurance company promises to make periodic payments to the contract owner or beneficiary, starting immediately (an immediate variable annuity) or at some future time (a deferred variable annuity). See Joint SEC and NASD Staff Report on Broker-Dealer Sales of Variable Insurance Products (June 2004), available at www.sec.gov/news/studies/secnasdvip.pdf.
6See Regulatory Notice 07-53 (November 2007); see also Regulatory Notice 09-32 (June 2009). The SEC previously has noted that "many broker-dealers are subject to lower net capital requirements under SEA Rule 15c3-1 and are exempt from the requirement to establish and fund a customer reserve account under SEA Rule 15c3-3 because they do not carry customer funds or securities." See Exchange Act Release No. 56376 (Sept. 7, 2007), 72 FR 52400 (Sept. 13, 2007) (Order Granting Exemption to Broker-Dealers from Requirements in SEA Rules 15c3-1 and 15c3-3 to Promptly Transmit Customer Checks). Although some of these firms receive checks from customers made payable to third parties, the SEC does not deem a firm to be carrying customer funds if it "promptly transmits" the checks to third parties. The SEC has interpreted "promptly transmits" to mean that "such transmission or delivery is made no later than noon of the next business day after receipt of such funds or securities." Id. at 52400.
The SEC provided a conditional exemption for broker-dealers from any additional requirements of Rules 15c3-1 and 15c3-3 due solely to a failure to promptly transmit a check made payable to an insurance company for the purchase of a deferred variable annuity product by noon of the business day following the date the broker-dealer receives the check from the customer, provided (i) the transaction is subject to the principal review requirements of NASD Rule 2821 and a registered principal has reviewed and determined whether he or she approves of the purchase or exchange of the deferred variable annuity within seven business days in accordance with that rule; (ii) the broker-dealer promptly transmits the check no later than noon of the business day following the date a registered principal reviews and determines whether he or she approves of the purchase or exchange of the deferred variable annuity; and (iii) the broker-dealer maintains a copy of each such check and creates a record of the date the check was received from the customer and the date the check was transmitted to the insurance company if approved, or returned to the customer if rejected. Id. at 52400. In its order approving recent amendments, the SEC explained that the exemption order continues to apply, notwithstanding the new starting point for the principal review period under NASD Rule 2821. See Exchange Act Release No. 59772 (April 15, 2009), 74 FR 18419, at 18422 n.37 (April 22, 2009) (Order Approving File No. SR-FINRA-2008-019).
7Regulatory Notice 07-53 (November 2007).
8Regulatory Notice 09-32 (June 2009).
9 FINRA emphasizes that firms are not required to collect and hold checks or funds prior to principal review and approval. A firm may elect to wait until after a principal approves the transaction to collect the check or funds for a deferred variable annuity. Moreover, in accordance with Supplementary Material .03 under FINRA Rule 2330, a firm can forward a check made payable to the insurance company or, if the firm is fully subject to SEA Rule 15c3-3, transfer "funds for the purchase of a deferred variable annuity to the insurance company prior to the member's principal approval of the deferred variable annuity, as long as the member fulfils the following requirements: (a) the member must disclose to the customer the proposed transfer or series of transfers of the funds and (b) the member must enter into a written agreement with the insurance company under which the insurance company agrees that, until such time as it is notified of the member's principal approval and is provided with the application or is notified of the member's principal rejection, it will (1) segregate the member's customers' funds in a 'Special Account for the Exclusive Benefit of Customers' (set up as described in SEA Rules 15c3-3(k)(2)(i) and 15c3-3(f)) to ensure that the customers' funds will not be subject to any right, charge, security interest, lien, or claim of any kind in favor of the member, insurance company, or bank where the insurance company deposits such funds or any creditor thereof or person claiming through them and hold those funds either as cash or any instrument that a broker or dealer may deposit in its Special Reserve Account for the Exclusive Benefit of Customers, (2) not issue the variable annuity contract prior to the member's principal approval, and (3) promptly return the funds to each customer at the customer's request prior to the member's principal approval or upon the member's rejection of the application."
Text of FINRA Rule 2330
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2000. DUTIES AND CONFLICTS
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2300. SPECIAL PRODUCTS
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2330. Members' Responsibilities Regarding Deferred Variable Annuities
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This Rule applies to recommended purchases and exchanges of deferred variable annuities and recommended initial subaccount allocations. This Rule does not apply to reallocations among subaccounts made or to funds paid after the initial purchase or exchange of a deferred variable annuity. This Rule also does not apply to deferred variable annuity transactions made in connection with any tax-qualified, employer-sponsored retirement or benefit plan that either is defined as a "qualified plan" under Section 3(a)(12)(C) of the Exchange Act or meets the requirements of Internal Revenue Code Sections 403(b), 457(b), or 457(f), unless, in the case of any such plan, a member or person associated with a member makes recommendations to an individual plan participant regarding a deferred variable annuity, in which case the Rule would apply as to the individual plan participant to whom the member or person associated with the member makes such recommendations.
For purposes of this Rule, documents may be created, stored, and transmitted in electronic or paper form, and signatures may be evidenced in electronic or other written form.
For purposes of this Rule, the term "registered principal" shall mean a person registered as a General Securities Sales Supervisor (Series 9/10), a General Securities Principal (Series 24) or an Investment Company Products/Variable Contracts Principal (Series 26), as applicable.
Prior to transmitting a customer's application for a deferred variable annuity to the issuing insurance company for processing, but no later than seven business days after an office of supervisory jurisdiction of the member receives a complete and correct application package, a registered principal shall review and determine whether he or she approves of the recommended purchase or exchange of the deferred variable annuity.
A registered principal shall approve the recommended transaction only if he or she has determined that there is a reasonable basis to believe that the transaction would be suitable based on the factors delineated in paragraph (b) of this Rule.
The determinations required by this paragraph shall be documented and signed by the registered principal who reviewed and then approved or rejected the transaction.
In addition to the general supervisory and recordkeeping requirements of NASD Rules 3010, 3012, and 3110, and Rule 3130, a member must establish and maintain specific written supervisory procedures reasonably designed to achieve compliance with the standards set forth in this Rule. The member also must (1) implement surveillance procedures to determine if any of the member's associated persons have rates of effecting deferred variable annuity exchanges that raise for review whether such rates of exchanges evidence conduct inconsistent with the applicable provisions of this Rule, other applicable FINRA rules, or the federal securities laws ("inappropriate exchanges") and (2) have policies and procedures reasonably designed to implement corrective measures to address inappropriate exchanges and the conduct of associated persons who engage in inappropriate exchanges.
Members shall develop and document specific training policies or programs reasonably designed to ensure that associated persons who effect and registered principals who review transactions in deferred variable annuities comply with the requirements of this Rule and that they understand the material features of deferred variable annuities, including those described in paragraph (b)(1)(A)(i) of this Rule.
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