[Federal Register Volume 59, Number 31 (Tuesday, February 15, 1994)]
[Unknown Section]
[Page 0]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 94-3426]
[[Page Unknown]]
[Federal Register: February 15, 1994]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-33067; File No. SR-NASD-94-2]
Self-Regulatory Organizations; Notice of Filing of Proposed Rule
Change by National Association of Securities Dealers, Inc. Relating to
Guidelines for Communications to the Public About Variable Life and
Annuity Products
February 9, 1994.
Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934
(``Act''), 15 U.S.C. 78s(b)(1), notice is hereby given that on January
6, 1994, the National Association of Securities Dealers, Inc. (``NASD''
or ``Association'') filed with the Securities and Exchange Commission
(``SEC'' or ``Commission'') and amended on February 8, 1994,\1\ the
proposed rule change as described in Items I, II, and III below, which
Items have been prepared by the NASD. The Commission is publishing this
notice to solicit comments on the proposed rule change from interested
persons.
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\1\See letter from Suzanne E. Rothwell, Associate General
Counsel, NASD, to Selwyn Notelovitz, Branch Chief, Over-the-Counter
Regulation, Division of Market Regulation, SEC, dated February 8,
1994. The NASD made technical changes to its proposed rule in
response to comments raised by the staff of the Commission.
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
The NASD is proposing to adopt Guidelines Regarding Communications
With the Public About Variable Life and Annuity Products. Below is the
text of the proposed rule change. Proposed new language is italicized.
Guidelines for Communications With the Public About Variable Life
Insurance and Variable Annuities
The standards governing communications with the public are set
forth in Article III, Section 35 of the NASD Rules of Fair Practice. In
addition to those standards, these guidelines must be considered in
preparing advertisements and sales literature about variable life
insurance and variable annuities. The guidelines are applicable to
advertisements and sales literature as defined in Section 35, as well
as individualized communications such as personalized letters and
computer generated illustrations, whether printed or made available on
screen.
I. General Considerations
A. Product Identification
In order to assure that investors understand exactly what security
is being discussed, all communications must clearly describe the
product as either a variable life insurance policy or a variable
annuity, as applicable. Member firms may use proprietary names in
addition to this description. In cases where the proprietary name
includes a description of the type of security being offered, there is
no requirement to include a generalized description. For example, if
the material includes a name such as the ``XYZ Variable Life Insurance
Policy,'' it is not necessary to include a statement indicating that
the security is a variable life insurance policy.
Considering the significant differences between mutual funds and
variable products, the presentation must not represent or imply that
the product being offered or its underlying account is a mutual fund.
B. Liquidity
Considering that variable life insurance and variable annuities
frequently involve substantial charges and/or tax penalties for early
withdrawals, there must be no representation or implication that these
are short-term, liquid investments. Presentations regarding liquidity
or ease of access to investment values must be balanced by clear
language describing the negative impact of early redemptions. Examples
of this negative impact may be the payment of contingent deferred sales
loads and tax penalties, and the fact that the investor may receive
less than the original invested amount.
With respect to variable life insurance, discussions of loans and
withdrawals must explain their impact on cash values and death
benefits.
C. Claims About Guarantees
Insurance companies issuing variable life insurance and variable
annuities provide a number of specific guarantees. For example, an
insurance company may guarantee a minimum death benefit for a variable
life insurance policy or the company may guarantee a schedule of
payments to a variable annuity owner. Variable life insurance policies
and variable annuities may also offer a fixed investment account which
is guaranteed by the insurance company. The relative safety resulting
from such a guarantee must not be overemphasized or exaggerated as it
depends on the claims-paying ability of the issuing insurance company.
There must be no representation or implication that a guarantee applies
to the investment return or principal value of the separate account.
Similarly, it must not be represented or implied that an insurance
company's financial ratings apply to the separate account.
II. Specific Considerations
A. Fund Performance Predating Inclusion in the Variable Product
In order to show how an existing fund would have performed had it
been an investment option within a variable life insurance policy or
variable annuity, communications may contain the fund's historical
performance that predates its inclusion in the policy or annuity. Such
performance may only be used provided that no significant changes
occurred to the fund at the time or after it became part of the
variable product. However, communications may not include the
performance of an existing fund for the purposes of promoting
investment in a similar, but new, investment option (i.e., clone fund
or model fund) available in a variable contract.
The presentation of historical performance must conform to
applicable NASD and SEC standards. Particular attention must be given
to including all elements of return and deducting applicable charges
and expenses.
B. Product Comparisons
A comparison of investment products may be used provided the
comparison complies with applicable requirements set forth under
Article III, Section 35 of the NASD Rules of Fair Practice. Particular
attention must be paid to the specific standards regarding
``comparisons'' set forth in subsection (d)(2)(M).
C. Use of Rankings
A ranking which reflects the relative performance of the separate
account or the underlying investment option may be included in
advertisements and sales literature provided its use is consistent with
the standards contained in the Guidelines for the Use of Rankings in
Mutual Fund Advertisements and Sales Literature.
D. Discussions Regarding Insurance and Investment Features of Variable
Life Insurance
Communications on behalf of single premium variable life insurance
may emphasize the investment features of the product provided an
adequate explanation of the life insurance features is given. Sales
material for other types of variable life insurance must provide a
balanced discussion of these features.
E. Hypothetical Illustrations of Rates of Return in Variable Life
Insurance Sales Literature and Personalized Illustrations
(1) Hypothetical illustrations using assumed rates of return may be
used to demonstrate the way a variable life insurance policy operates.
The illustrations show how the performance of the underlying investment
accounts could affect the policy cash value and death benefit. These
illustrations may not be used to project or predict investment results
as such forecasts are strictly prohibited by the Rules of Fair
Practice. The methodology and format of hypothetical illustrations must
be modeled after the required illustrations in the prospectus.
An illustration may use any combination of assumed investment
returns up to and including a gross rate of 12%, provided that one of
the returns is a 0% gross rate. Although the maximum assumed rate of
12% may be acceptable, members are urged to assure that the maximum
rate illustrated is reasonable considering market conditions and the
available investment options. The purpose of the required 0% rate of
return is to demonstrate how a lack of growth in the underlying
investment accounts may affect policy values and to reinforce the
hypothetical nature of the illustration.
The illustrations must reflect the maximum (guaranteed) mortality
and expense charges associated with the policy for each assumed rate of
return. Current charges may be illustrated in addition to the maximum
charges.
Preceding any illustration there must be a prominent explanation
that the purpose of the illustration is to show how the performance of
the underlying investment accounts could affect the policy cash value
and death benefit. The explanation must also state that the
illustration is hypothetical and may not be used to project or predict
investment results.
(2) In sales literature which includes hypothetical illustrations,
member firms may provide a personalized illustration which reflects
factors relating to the individual customer's circumstances. A
personalized illustration may not contain a rate of return greater than
12% and must follow all of the standards set forth in Section II, E, 1.
(3) In general, it is inappropriate to compare a variable life
insurance policy with another product based on hypothetical performance
as this type of presentation goes beyond the singular purpose of
illustrating how the performance of the underlying investment accounts
could affect the policy cash value and death benefit. It is
permissible, however, to use a hypothetical illustration in order to
compare a variable life insurance policy to a term policy with the
difference in cost invested in a side product. The sole purpose of this
type of illustration would be to demonstrate the concept of tax-
deferred growth as a result of investing in the variable product. The
following conditions must be met in order to make this type of
comparison balanced and complete:
(a) the comparative illustration must be accompanied by an
illustration which reflects the standards outlined in Section II, E, 1;
(b) the rate of return used in the comparative illustration must be
no greater than 12%;
(c) the rate of return assumed for the side product and the
variable life policy must be the same;
(d) the same fees deducted from the required prospectus
illustration must be deducted from the comparative illustration;
(e) the side product must be illustrated using gross values which
do not reflect the deduction of any fees; and,
(f) the side product must not be identified or characterized as any
specific investment or investment type.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, the NASD included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. The NASD has prepared summaries, set forth in Sections
(A), (B), and (C) below, of the most significant aspects of such
statements.
(A) Self-regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
As the number of variable life insurance and annuity products has
increased substantially in recent years, so has the variety of ways in
which information about such products is communicated to the public.
Because the use of such communications is proliferating, and because
what is being described in such communications is, in some cases, a
complicated hybrid product containing both insurance and securities
elements, the NASD has determined to provide guidance by proposing a
comprehensive set of guidelines (``Guidelines'') for the preparation
and use of communications with the public regarding variable life
insurance and variable annuities. The Guidelines incorporate past
positions on variable products communications taken by the NASD, as
well as certain positions taken by the staff of the SEC.
The Guidelines govern the preparation of, and communication with
the public through, advertising and sales literature of variable
products. The Guidelines are intended to provide a level of disclosure
sufficient to assist investors in making fair and informed investment
decisions.
Guidelines for Communications With the Public About Variable
Products
The Guidelines of the proposed rule change set forth standards that
must be considered, along with the standards set forth in Article III,
Section 35 to the Rules of Fair Practice,\2\ in the preparation of
advertising and sales literature about variable life insurance and
annuities. For the purposes of these Guidelines, the terms
``advertisements and sales literature'' include not only the
definitions of those terms as found in section 35, but also
individualized communications such as personalized letters and printed
or on-screen computer illustrations.
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\2\NASD Manual, Rules of Fair Practice, Article III, Section 35,
(CCH) 2195.
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General Considerations
Communications concerning variable products must clearly identify
the product as either a variable life insurance policy or a variable
annuity. Where product type is identified in a proprietary name, it is
not necessary to include a generalized statement identifying product
type. Since variable products are not mutual funds, no such statement
or presentation may indicate or imply that the product offered or its
underlying account is a mutual fund (See Part I, A).
As products with potentially substantial tax penalties and charges
for early withdrawal, variable products must not be presented by
members as short-term, liquid investments. Any discussions or
presentations concerning liquidity or accessibility to investment
values must be balanced by the impact of early withdrawal, such as
sales loads, tax penalties and potential loss of principal.
Additionally, regarding variable life insurance products, a balanced
presentation requires a discussion of the impact of loans and
withdrawals on cash values and death benefits (See Part I, B).
Guarantees by insurance companies, such as a minimum death benefit,
a schedule of annuity payments, or a fixed return on the investment
account, all depend on the claims-paying ability of the issuing
insurance company, and thus must not be exaggerated. Members are
prohibited from representing or implying that the investment return or
principal value of the separate investment account is guaranteed, or
that an insurance company's financial ratings apply to the separate
account (See Part I, C).
Specific Considerations
Prior Fund Performance
The proposed rule allows for variable product communications to the
public to contain the historic performance of an existing fund that
pre-dates the fund's inclusion in the variable policy or annuity,
provided no significant changes occurred to the fund at the time of, or
after, the inclusion. Communications to the public are prohibited for a
variable product which contains a new, or ``clone'' fund as the
underlying investment vehicle, but which promotes the performance
history of an existing fund after which the new fund was modeled. All
historic performance in communications to the public must conform to
applicable NASD and SEC standards, including, in particular, elements
of return and deduction of applicable charges and expenses (See Part
II, A).
Product and Performance Comparisons
Product comparisons which are fair allow investors to make informed
investment decisions. Article III, Section 35 (d) (2) (M) of the NASD
Rules of Fair Practice sets forth the specific standard in
communications with the public which requires a member who makes
investment comparisons, directly or indirectly, to ensure that the
purpose of the communication is clear and that the comparison is fair
and balanced, including any material differences between the subjects
of the comparisons. A comparison using variable products is permissible
so long as the comparison meets the standards set forth under
Subsection (d) (2) (M) (See Part II, B).
Use of Rankings
The use of variable products rankings prepared by ranking entities,
variable products issuers and variable products issuer affiliates to
demonstrate variable product performance also qualifies as a comparison
under Subsection (d) (2) (M). A ranking which reflects the performance
of the separate account or the underlying investment option is
permissible in variable products advertising and sales literature so
long as the use of such ranking meets the standards contained in the
Guidelines for the Use of Rankings in Mutual Fund Advertisements and
Sales Literature\3\ (See Part II, C).
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\3\See Securities Exchange Act Release No. 33606 (February 9,
1994), noticing for comment File No. SR-NASD-93-69 (proposing
Guidelines for the Use of Rankings in Mutual Fund Advertisements and
Sales Literature).
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Hybrid Variable Products
Variable life insurance allows purchasers to combine life insurance
coverage and tax-deferred accumulation of excess premium payments in
one contract. Because such products are designed to equally serve both
insurance and investing needs, communications to the public on behalf
of variable life insurance products must provide a balanced discussion
of these features. However, since single premium variable life
insurance is predominantly designed to meet investment needs,
communications to the public regarding single premium variable life
insurance may emphasize the investment features of the product so long
as an adequate explanation of the life insurance features is given (See
Part II, D).
Hypothetical and Personalized Illustrations of Variable Life Products
Hypothetical illustrations of variable life insurance products
using assumed rates of return are permissible to show how the
underlying investment accounts could affect the policy cash value and
death benefit, but may not be used to predict or project investment
results. Such illustrations must follow the methodology and form
requirements for such illustrations in the prospectus.
All illustrations must show a hypothetical 0% gross rate of return,
and may show any additional combinations of rates of return up to and
including a gross rate of 12%, though members are cautioned to choose a
rate that is reasonable given current market conditions. The gross rate
is the chosen, hypothetical rate of return applied to all excess
premiums invested after deduction for maximum guaranteed mortality and
expense charges. All illustrations of rates of return must reflect such
maximum charges, though illustrations may reflect current charges in
addition to maximum charges.
Sales literature which contains hypothetical illustrations may also
provide a personalized illustration reflecting factors relating to the
circumstances of an individual customer.
It is generally inappropriate and potentially misleading to compare
a variable life insurance policy with another product, including a
variable annunity, since the purpose of such a comparison would exceed
the purpose of illustrating how underlying investment account
performance affects the policy cash value and death benefit. However,
it is permissible to use a hypothetical illustration comparing a
variable life policy to a term policy with the difference in premium
invested in a side fund, where the sole purpose of such a comparison
would be to demonstrate the concept of tax-deferred growth as a result
of investing in the variable product. In order for such a comparison to
be balanced and complete, the comparative illustration must: reflect
the standards in Section II, E, 1 of the proposed rule; use a rate of
return no greater than 12% use the same rate of return for the variable
product and the side fund; deduct the same fees from the required
prospectus illustration; illustrate the side fund product using gross
values which do not reflect the deduction of any fees; and, not
characterize the side product as any specific investment or investment
type (See Part II, E).
The NASD believes that the proposed rule change is consistent with
the provisions of Section 15A(b)(6) of the Act\4\ in that the
Guidelines will work to protect investors and the public interest by
establishing a baseline of standards to guide the use of communications
with the public concerning variable life insurance and variable
annuities in promoting the sale of variable products and by preventing
the misleading use of such communications.
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\4\15 U.S.C. 78o-3 (1988).
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(B) Self-Regulatory Organization's Statement on Burden on Competition
The NASD does not believe that the proposed rule change will result
in any burden on competition that is not necessary or appropriate in
furtherance of the purposes of the Act, as amended.
(C) Self-Regulatory Organization's Statement on Comments on the
Proposed Rule Change Received From Members, Participants, or Others
Written comments were neither solicited nor received.
III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 35 days of the date of publication of this notice in the
Federal Register or within such longer period (i) as the Commission may
designate up to 90 days of such date if it finds such longer period to
be appropriate and publishes its reasons for so finding or (ii) as to
which the self-regulatory organization consents, the Commission will:
A. By order approve such proposed rule change, or
B. Institute proceedings to determine whether the proposed rule change
should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views, and
arguments concerning the foregoing. Persons making written submissions
should file six copies thereof with the Secretary, Securities and
Exchange Commission, 450 Fifth Street, NW., Washington, DC 20549.
Copies of the submission, all subsequent amendments, all written
statements with respect to the proposed rule change that are filed with
the Commission and all written communications relating to the proposed
rule change between the commission and any person, other than those
that may be withheld from the public in accordance with the provisions
of 5 U.S.C. 552, will be available for inspection and copying in the
Commission's Public Reference Room. Copies of such filing will also be
available for inspection and copying at the principal office of the
NASD. All submissions should refer to file number in the caption above
and should be submitted by March 8, 1994.
For the Commission, by the Division of Market Regulation,
pursuant to delegated authority, 17 CFR 200.30-3(a)(12).
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 94-3426 Filed 2-14-94; 8:45 am]
BILLING CODE 8010-01-M