Life Insurance and the Series 65

As regulatory changes wind their way through Congress, one issue that has been heatedly debated is whether life insurance agents who sell variable products will be required to register as investment advisors or not. In the Investment Advisers Act of 1940 insurance companies and their representatives were exempted from registration. But in light of the economic collapse at the end of 2008 and the ensuing and continuing financial scandals, there is a distinct possibility that may change. If so, insurance agents will find themselves in need of the Series 65.

The Series 65 exam qualifies one to register as an Investment Advisor. The exam itself consists of a total of 140 questions. 130 of which, count toward your score. The additional 10 questions are “trial” questions and are not counted toward your score. However, there is no way of knowing which 10 questions they are. About one third of the exam deals with the Uniform State Laws and Federal Securities Laws, while the other two thirds deal with economics, investment vehicles and portfolio construction. The exam is three hours long and as of 2010 a passing grade is 72% or 94 correct questions answered.

The controversy is not about taking the exam itself, but of what that implies. Along with the requirement of registering as an Investment Advisor, comes another layer of regulation and the dreaded word; “fiduciary.”

Not since Bill Clinton said; “It all depends on what your definition of “is” is.” has there been so much discussion about what a word actually means. The word itself comes from the Latin “fidere”, or “to trust” and carries with it the connotation of loyalty. Much of the focus of the controversy lies with in the wording of clients’ best interests and the disclosure of conflicts of interest.

Last June, SEC Chairman Mary Schapiro, the Chairman of the SEC laid out her view of the definition in a speech at the New York Financial Writers’ Association Annual Awards Dinner.

That view is surprisingly in line with the definition that is favored by a coalition of groups formed by the Certified Financial Planner Board of Standards (CFP Board), the Financial Planners Association (FPA) and the National Association of Personal Financial Advisors (NAPFA). While the two groups may differ over the difference between “sole” interests and “best” interests as well as what actually constitutes disclosure of conflicts of interest, the main divergence is that Mary Schapiro and the SEC seem to favor a line that distinguishes which representative is giving the financial advice and which representative is providing the product. In that case the fiduciary standard would apply to the representative giving the advice while the more lenient suitability standard would be available to the representative.

Although this is not the view of the CFP/FPA/NAPFA coalition, I was surprised at the leeway that the CFP Board exhibited at the CFP Board’s Annual Firm Meeting I attended last November in New York City. The session that addressed this line of distinction was entitled the CFP Board’s Ethical Standards - An Analysis of Their Application. Early in 2009, CFP Board formed a working group of 22 senior executives, compliance officers and heads of financial planning departments at broker-dealers, registered investment advisors, insurance companies and banks to discuss the challenges faced by firms in applying CFP Board’s Standards of Professional Conduct to each firm’s business model and the regulatory environment in which the firms operate. The working group tackled such issues as whether a written agreement and disclosures of compensation and conflict of interest are required if a CFP® certificant prepares a financial plan for a client but has limited or no contact with the client. Other issues discussed relating to supervision requirements, the need for guidance on CFP Board’s definition of financial planning, and the need for clarity around the application of the fiduciary standard to the sale of financial products. Although this discussion centered on CFP® certificants and expresses the views of the CFP Board alone; I think it is a valid indication of where the coalition may be willing to go.

Whether insurance agents are going to be required to take and pass the Series 65 exam and register as Investment Advisers is still to be seen. Much depends on politics, lobbying groups and public opinion. This provision was dropped from the Dodd bill in March but has resurfaced as the Akaka-Menendez-Durbin amendment, # 3889. Whatever the outcome, I see more strenuous testing on the horizon for everyone within the financial industry. At the same CFP Board Firm Meeting mentioned above, there was a panel on Understanding the Fiduciary Duties of a Financial Advisor. On the panel was David Bellaire, General Counsel and Director of Government Affairs for the Financial Services Institute. At one point I asked Mr. Bellaire if he thought that the current education levels for registered representatives and insurance agents were adequate, given the role they play in the current financial environment. He without hesitation answered; “No.”

The arguments and the discussions will go on. Where and when the fiduciary standard will apply will evolve over time. But I do believe in the not so distant future more strenuous testing will be required for all within the financial services industry. We've already seen the difference in the Series 66 and the Series 65. The Series 66 passing grade rose from 72% to 75%, in addition to becoming more investment-suitability weighted. The Series 65 has stayed basically the same. There has been a slight change in the weighting of the question. Five questions have been dropped from the regulations portion of the exam and added to the investment categories. Most importantly, the passing score was raised from 68.5% or 90 correct answers to 72% or 94 correct answers. I feel it is important that managers stay abreast of the evolving situation. Things seem to be heating up in Washington, DC. Managers should prepare themselves now for the possibility of more stringent testing in the future.