Journal

This is the first in what will likely be several posts designed to create historical context for some of the most serious allegations cited in Secretary of State Galvin’s complaints against two Massachusetts annuity agents. This item addresses commissions earned on fixed annuity sales.

When I entered the life insurance business in 1977 as a novice career agent of Mutual Life Insurance Company of New York (MONY), I worked in an agency that specialized in marketing Tax Sheltered Annuities (TSAs). I soon discovered that all of the successful agents there sold TSAs, exclusively. These agents were extremely effective at conveying the tax and other financial benefits TSAs provided the public school teachers who comprised their target audience of prospects. I can recall being impressed by one particular agent’s use of a brochure published by the IRS that listed the then various marginal Federal income tax brackets. The agent’s name was Bob, and he routinely used the IRS tables in his sales interview process. Across the kitchen table, Bob would very convincingly demonstrate before and after net take home pay scenarios based upon a particular teacher’s pay check to show the positive effect of purchasing the TSA with before-tax dollars.

Bob’s closing ratio with his teacher prospects was so impressive that his sales strategy was taught to the other less successful agents. Bob was the “big dog” in the agency. He received all of the sought after sales awards and recognition. His sales success was a model for all the others to emulate. Bob sold TSAs exclusively, and he understood both their benefits and how to convey them better than any other agent. Bob’s professional agenda was strictly to sell and deliver as many TSAs as possible. That’s what he was paid to do, and that’s what he did. The annuity sold in all cases was MONY’s Retirement Income Endowment Annuity. To a career agent like me, the annuity paid a commission equal to 25% of first-year premiums received. By today’s standards that sounds awfully high but 30 years ago it was rather typical.

Fast forward to March 7, 2007 and the complaints against the two Massachusetts agents alleged to have committed “unethical” and “dishonest” practices in their efforts to sell “high-commission annuities.” The complaint against on one of the agents cites three distinct commission rates that the agent earned on his annuity sales: 9%, 7% and 5%. All are negatively categorized as “high commission.” The complaint doesn’t indicate how much money went into each annuity sold. We can only guess as to what the complete dynamics of the sale were. If three annuities were utilized in equal premium amounts, however, the average commission received was equal to7%.

Mindful of all the criticism the annuity industry has wrestled with of late, and especially in the context of the Massachusetts actions, I wonder now where annuity commissions are headed. And I wonder how successfully annuity agents will transition to a potentially new fixed annuity commission paradigm that may emerge in the not too distant future. There’s a great deal at stake here- like the future viability of fixed annuities. While we are clearly at a point in time when annuities are under attack as never before, it’s also true that the inherent value provided by fixed annuities is more important to more prospects than ever before. Driven by an unprecedented demographic event- Boomer retirement- the benefits of annuities align perfectly with the need of retirees to both protect and grow retirement assets.

This especially true during what is termed the Transition Management* phase- the period spanning ten years pre-retirement to ten years post-retirement. Annuity producers, product providers, industry trade associations, State regulators, the consumer press, the industry press and broker-dealers would be well advised to come to a common understanding over how annuity sales should be commissioned. When they do, annuity premium volumes at levels never before realized will become a reality as millions of Boomer customers gravitate to indispensable benefits only annuities provide.

Shareholder Value at Risk

Realizing the full potential for fixed annuity sales should be a concern among all heads of life insurance companies which issues these products, as well as their corporate Boards and shareholders. Arguably, life company shareholder value is reduced at least marginally with each succeeding regulatory action, filing for class-action status and roasting in the press. Industry leaders never seem to address the root cause of most of these problems: under productivity among the independent agency channel. Most agents who seek high commission annuity products (and that’s a high percentage of all agents) do so for one simple reason: they don’t sell enough new annuity business to earn a sufficient level of income from products that pay a moderate or even lower commission. This explanation is so accurate and simple to understand yet no company is focusing on it insufficiently- if at all. There is an inverse relationship between the commission rate an annuity provides and the level of value provided to the purchaser. This is something that any insurance executive understands full well.

Carriers seek to compete with one another in many ways. For many years upping the commission rate on similar product designs has proven to be an effective strategy to boost market share. As a result, in recent years many of the most inferior fixed annuity products in terms of consumer value became the most popular in terms of new sales. This is why the industry suffers with its poor public image.

I put the blame on this not on the agents who sell annuities but rather on the carriers that manufacture the annuity products. It became easier for carriers to play into agents’ perceived desire for products that paid higher commissions rather than work toward meeting the tougher challenge of igniting a fundamental improvement in agent productivity.

An Instructive Example

One need only to look at the history of indexed annuities for an unimpeachable example of what I’m describing. Introduced in 1995, the first indexed annuity contract incorporated a five-year, point-to-point interest crediting methodology, and a graded surrender penalty charge based on a 5%, 4%, 3%, 2%, 1% declining schedule. This contract, issued by Keyport Life, was an inarguably good value for the consumer. Yet almost immediately after the indexed annuity debuted, this extraordinarily attractive concept was dumbed-down, gimmicked-up and exploited to the detriment of the entire insurance industry and the buying public. To this day, in my judgment, there still remains no annuity with a value proposition as attractive to the mass market as an indexed annuity with a clean design.

Failure to address agent under productivity led to abusive contract design, poor sales practices and, indirectly, to the NASD’s incursion into the indexed annuity arena business in 2005. Insurers may not want to hear this but it’s time to look in the mirror.

Agents provide unique value to consumers who very often don’t understand their own legitimate need for the products agents sell. This goes for life insurance products as well as annuities. These are products that must be “sold” as most in the industry agree. I’ve personally experienced situations where products that agents had aggressively “sold” to a purchaser later turned into the death benefit or income stream that preserved numerous families’ financial health. Agents deserve to be well-paid for this. How well is a question that should become irrelevant. It’s 2007. Obvious and substantial consumer value should be inherent in all annuity products sold. But until the carriers controlling the creation of products address fundamental problems of heir agents’ lack of sufficient productivity, we’re likely to see problems continue. What a time for one or more carriers to step-in with real leadership in the area.

*The Retirement Income Industry Association, October 2007.

©Copyright 2007 David A. Macchia. All rights reserved.

Kudos to ING for deciding to implement well conceived suitability standards for all fixed annuity sales. With this new policy ING is moving aggressively to assure suitable sales of its annuity products and is even extending the process to jurisdictions where it is not required by law.

ING’s Suitability Profile form assesses the prospective annuity purchaser’s financial objectives, household income, liquidity needs and tax bracket. Importantly, it requires the prospective buyer to verify the percentage of net household worth that would be placed in the annuity. To its credit, ING will perform a deeper review process in cases where the annuity purchase would represent more than 25% of net worth. This is a solid step to help assure that agents do not place too great a percentage of a customer’s assets in a fixed annuity.

ING promises to complete an initial suitability review within two business days of an application being received. Any suitability questions remaining unresolved after 21 days will result in the application being returned to the agent.

In communicating its new suitability rules to its agents, ING stated, “…By implementing these changes, ING will enhance the integrity and sustainability of our business.”

I believe ING is acting in the best interests of its customers and agents by mandating suitability review for all fixed annuity sales.

Those fixed annuity carriers which have not moved as aggressively as ING has on the issue of suitability run the risk of becoming victims of adverse selection, in my judgment. Proper suitability review will enhance the integrity and sustainability of our business as ING asserts.

©Copyright 2007 David A. Macchia. All rights reserved.

Is it safe to market fixed annuities anymore? Should agents shun annuities out of the concern that they may be charged with, “dishonest and unethical marketing”, face harsh penalties, garner negative publicity or, potentially, see their careers ruined?

This morning I became aware of two recent complaints filed by the Massachusetts Secretary of State, William Galvin. The subjects of the complaints are two annuity producers operating in Massachusetts as well as a broker-dealer, Workman Securities, which is charged with failure to supervise.

The two agents utilize the CSA designation as well as sales programs such as “Piece of the Pie” to frame the value of fixed annuities to senior prospects. They also are “certified” by the National Ethics Bureau. The designation, certification and marketing tools do not curry favor with the regulators. They are termed unethical and dishonest.

Historically agents have tended to back away from presenting themselves to the buying public as “life insurance agents” or “annuity agents.” They tend to gravitate to alternative marketing identities i.e. “planners”, “advisors”, “counselors”, etc. This is unfortunate because they are backing away from an honorable identity. Within the annuity industry we must ask ourselves why this occur? How did we get here?

One reality which is under fire is the level of commissions paid on many fixed annuity contracts. The legal complaints in question characterize them negatively and as “high.”

On of the biggest drivers of agents’ gravitating toward high commission/ long surrender period annuities is that they (the agents) are typically underproductive in terms of their sales activities. There will be no solution to the problem of annuities having a bad public image until agent productivity increases. And agent productivity will not increase unless we utilize technology properly, and with the goal of helping agents earn sufficient incomes on annuity sales that provide lower than today’s typical commissions. This means putting agents in the position to reach more prospects, compliantly, and make more sales in absolute terms. In any case, the whole Boomer retirement opportunity will be “blown” by the annuity industry unless this is fixed.

It’s difficult to fight the temptation to proffer a sales pitch for transforming the annuity sales process- but I can’t help myself. That’s my passion. And that’s the true solution to helping agents and preserving their role. There will be no end to this sort of regulatory intervention unless and until industry leaders take the steps necessary to arrest it. A good friend of mine sent me an email this morning about this very issue. I don’t have his permission to quote him but I will share one or two sentences from his message:

“It is inconceivable to me that given today’s technology that can assure all advisors are not only consistently trained, but that all advisors can be assisted in communicating the appropriate messages to all clients (and that it can be documented that the appropriate message was in fact conveyed), that insurers have not been able to figure this out.”

This is a sad commentary that is, regrettably, all too accurate.

©Copyright 2007 David A. Macchia.  All rights reserved.