Agents and Brokers Fight Back Against Application of the Best Interest Standard in the Sale of New York Contracts

Insurance and Securities Law Alert

 

Also reported in: Federation of Regulatory Counsel Alert

On November 16, 2018, the National Association of Insurance and Financial Advisors for New York State (NAIFA-NYS) filed a lawsuit seeking declaratory relief, challenging the legality of the New York Department of Financial Services’ (DFS) “best-interest” regulation (Regulation 187, 11 N.Y.C.R.R. § 224) (the “Regulation”), alleging that DFS’s regulation directly contradicts existing New York law. See Regulation 187, Bressler’s Insurance Law Alert on Best Interest Standard, and Bressler’s Insurance Law Alert on the State Activity in Response to the DOL Fiduciary Rule.  The Regulation, announced on April 27, 2018 by DFS Superintendent Maria Vullo and adopted in July, for the first time requires agents and brokers to ensure that any transaction involving insurance or annuities “is in the best interest of the consumer.”  NAIFA-NYS’s lawsuit alleges that existing New York statutes require insurance agents “to act as an agent of [an] authorized insurer,” thereby creating a conflict between governing statues and implementing regulations.  The Regulation also requires insurers to establish standards and procedures for supervising agent and broker recommendations to consumers.  While certain exceptions from application of the Best Interests Rule are embodied within the Regulation, NAIFA-NYS challenges these exemptions as well.

A copy of NAIFA-NYS’ complaint is available here.

Specifically, the Regulation mandates that “only the interests of the consumer shall be considered in making recommendations” and further orders that agents and brokers may be compensated only if “the amount of the compensation or the receipt of an incentive does not influence the recommendation.”  The Regulation is premised upon the Superintendent’s authority to regulate trade practices in the business of insurance, to protect acts or practices that are unfair or deceptive and in furtherance of provisions of the insurance law which establish standards of conduct for insurance agents and brokers, including those requiring that insurance professionals must act in a competent and trustworthy manner.  See N.Y. Ins. Law §§ 2103, 2104, 2110, 2123 and 2208.  The law also applies to insurers whose products are sold by these insurance professionals.  See N.Y. Ins. Law § 4226 (which establishes standards of conduct for insurers).  To the contrary, NAIFA-NYS contends that DFS’s Regulation is unsupported by any constitutional or specific legislative mandate, and further alleges that the New York Legislature has twice considered but ultimately failed to promulgate similar broad standards for the life insurance market.  NAIFA-NYS demands that the Court invalidate the Regulation for any one of three reasons, including:

  1. The Regulation is ultra vires because an administrative agency may only promulgate regulations if the power to do so is granted by the State Constitution or a statute, and none of the statutes DFS cites authorize the Regulation.  Boreali v. Axelrod, 71 NY2d 1 (1987).
  2. Even if the statutes cited in support of the Regulation were deemed to authorize the Regulation, DFS Regulation violates the New York State Constitution and the United States Constitution by violating the separation of powers doctrine, by containing impermissibly vague and confusing terms, and violating due process of law by purporting to apply retroactively.
  3. Even if the Regulation was properly promulgated, the Court should strike it down as arbitrary and capricious because: (i) the record does not contain a sufficient factual predicate for the Regulation (ii) there is no rational basis for exempting direct marketing transactions while imposing fiduciary standards on all others; (iii) and there is no factual basis supporting the decision to conflate agents and brokers into a single group called “producers” under New York State law.

The Regulation in New York, together with pending legislation in New Jersey, signal aggressive state action to protect consumers despite the recent demise of federal rules.  However, it appears that those saddled with the enhanced standard of care, i.e., the insurance sales force, are not accepting their new role and obligations so readily.  Diligent pursuit of the NAIFA-NYS complaint is anticipated as this segment of the regulated industry give the regulators a run for their money.

Questions may be directed to Cynthia Borrelli or Michael Morris.