How Are Annuities Regulated? The Surprising Answer

by Rob Phillips, CPA

Annuities have sometimes been criticized for their complexity, both in terms of how the product works, and for the wide range of product variations that are available. Understanding how annuities work and then finding the right one for your situation can be a daunting task.

Once you have mastered the intricacies of annuity features, options, and expenses, the next step is to learn how, as an investor, you are protected from bad business practices, fraud, and the possibility of default by the issuing life insurer. The good news is that annuities are heavily regulated. The bad news is that the regulation of annuities can be as complex as the products themselves.

Annuities as an Insurance Product

First and foremost, annuities are an insurance product issued by life insurance companies which are regulated by state insurance commissioners. The individual states have regulatory and oversight authority of the life insurance companies that are domiciled within their borders. Every aspect of insurance operations, from business practices to financial management, from product manufacturing to product distribution is regulated.

For an annuity to be distributed, it must meet the strict guidelines and requirements imposed by the states. The requirements include suitability guidelines that distributors to which distributors must adhere in their sales practices. In some states, there are an extra layer of guidelines that apply to the sale of annuities to senior citizens.

After the sale of an annuity, the states regulate the life insurers’ ability to fulfill their obligations to annuity owners by setting reserve requirements which is the amount of liquid assets that must be maintained and available to pay future claims. If, during annual audits, the state determines that the company’s reserves are too low, it can require that the company increase reserves by liquidating company assets.

State Guaranty Associations

Each state operates its own State Guaranty Association which operates under the guidelines of the National Organization of Life and Health Insurance Guaranty Associations. All life insurers must associate with the Guaranty Association, pay into a guaranty fund, and ascribe to its guidelines. This can also help when filing Form 706.

The guaranty fund is available to cover losses incurred by a life insurer’s insolvency. The amount of coverage varies from state to state and ranges from $100,000 per contract up to $500,000 in states such as New York and New Jersey. In the relatively few cases of life insurer insolvency, the association has intervened to facilitate the acquisition of the insolvent company by larger life insurance company.

Many people are unaware of the protections afforded by the guaranty associations because insurance regulations prohibit sales reps from using the information about the coverage as an inducement to purchase insurance and annuity products. Most states issue booklets with information on the association that are to be provided to insurance and annuity buyers at the point of sale.

Annuities as a Securities Product

Because they include separate accounts that invest directly into the equities market, variable annuities are considered to be securities subject to federal securities laws. Generally, SEC regulations deal with product registration and disclosure and require that all securities products be issued with a prospectus that details expenses, charges and risk.

Indexed annuities were originally deemed to be a non-securities product because they did not involve a direct investment in the equities markets. Rather, the yield credited to indexed annuity accounts is based on a percentage of the gain in a stock index. Because these annuities guarantee a minimum return, and the investors could not lose their principal through market loss, they were not considered to be a true investment security.

Recently, the SEC ruled that, because there is some uncertainty in the amount of upside, there is an element of risk. Effective in January of 2011, indexed annuities must be registered as a securities product, sold with a prospectus, and anyone who sells them must have the proper securities licenses (Series 6 or 7, and 63).


Finally, the Financial Industry Regulatory Authority (FINRA), and independent, self-regulatory body, regulates business practices and sales conduct of all licensed representatives. The rules of conduct established by FINRA must be followed when marketing and selling variable and indexed annuities.

Strict requirements for suitability must be met when a variable or indexed annuity is offered. In cases where it is determined that a licensed sales rep acted inappropriately or with the intent to mislead, FINRA hands down disciplinary actions that could include a censure, a fine or even a ban from the industry.


It does seem as though the regulation of annuities is complex, but, for annuity investors, it can be thought of layered protection. Once understood, annuities can be a great investment for the right investor. While the industry is heavily regulated with layers of protection, it is the responsibility of each investor to know how annuities are regulated and the extent of the protection. A copy of the annuity contract and, for variable annuities, the prospectus should be obtained and thoroughly studied before making an investment.

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