No Investor Harm, No Ill-gotten Gains But SEC Fines Insurer $8 Million

by Dorsey & Whitney LLP
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Last week the Commission resolved a proceeding involving a life insurance company centered on the pricing of its variable annuity and variable life insurance products. Specifically, the Order alleged violations of Rule 22c-1 since the company apparently chose not to receive at its office mailed orders for certain products until after 4:00 p.m. pricing time. With no discussion of inadequate procedures, harm to investors, ill-gotten gains or new remedial steps, the action leaves more questions unresolved that answered. In the Matter of Nationwide Life Insurance Company, Adm. Proc. File No. 3-16537 (May 14, 2015).

The proceeding

Nationwide Life Insurance Company is a stock life insurance firm owned by Nationwide Financial Services, Inc.. That firm is an indirect subsidiary of Nationwide Mutual Insurance Company and Nationwide Mutual Fire Insurance Company.

This proceeding centers on subsequent purchase payments – not the initial payment – for two types of variable insurance products. One is a variable annuity product which provides for a cash value that can be paid to the owner and lifetime income payments to the annuitant. A second is a variable life insurance contract which provides for payment equal to the cash value of the policy and a death benefit that is a multiple of the cash value.

Nationwide was subject to the pricing requirements of Rule 22c-1 which generally requires that an investment company sell or repurchase any security based at the NAV next computed after the order. That NAV must be computed each day. Typically that is at 4:00 p.m.

Respondent was subject to the Rule at two levels. First, contracts were issued and/or serviced through 35 separate accounts registered with the SEC under the Investment Company Act. Second, the firm entered into participation agreements with various mutual funds which agreed to serve as investment options for Nationwide’s variable contracts.

The firm received orders related to its variable products through a variety of methods. Those include mail sent to the Post Office or its headquarters. The insurer had a number of PO Boxes at the Columbus, Ohio Post Office to segregate different types of mail. At the firm’s request the Post Office further divided the mail into two groups: PO Box mail directed to Nationwide Financial businesses, including its variable products, and mail directed to other business units.

Generally, the Post Office began sorting the mail early in the morning and completed the task by 10:00 a.m. each day. Curriers retrieved the mail at various times during the day. Those curriers were instructed not to retrieve and bring the regular mail regarding variable products to the firm until after 4:00 p.m. each day. Priority mail, which is dated, relating to these products was exempt from this procedure. When the variable contract orders were received by the firm they were stamped with a “post-4:00 p.m. time stamp. Those orders were then processed for price at using the next day’s pricing. This practice, which began in 1995 and continued through the Fall of 2011, violated Rule 22c-1, the Order states.

Nationwide resolved the proceeding, consenting to the entry of a cease and desist order based on the Rule cited in the Order. In addition, the firm agreed to ay a civil penalty of $8 million.

Comment

This appears to be the first proceeding which focuses on the manner in which variable products are priced by life insurance companies. It centers on procedures regarding the pricing of Nationwide’s variable products. Yet there is no charge that the firm had inadequate procedures, on a discussion of Rule 22c-1 on pricing. Indeed, there is no discussion of the firm’s procedures or order processing or how it handles the flood of orders received daily.

Likewise, there is no discussion of what steps the firm took to remedy what appears to be inadequate procedures. While the Order states the practice continued for over 15 years, beginning in the mid-1990s and continuing through most of 2011 when it presumably stopped – perhaps when the Commission’s investigation began—there is no indication of what steps were taken to ensure compliance in the future beyond a statement noting that the SEC considered the remedial acts of the company and its cooperation. Yet future compliance is a key focus of enforcement actions.

There also is no discussion of the impact, if any, on investors, another key enforcement focus. To be sure the Order states that customer orders received by ordinary mail were priced the next day, there is no allegation that this had any impact on the investors. The Order does not allege that Nationwide obtained ill-gotten gains – no disgorgement was ordered. It also does not allege that any investor was harmed by the practice – no restitution was ordered. Nor does it detail any facts regarding the reason the firm chose to price what was in probability the bulk of its orders for the variable products the next day. Since SEC enforcement actions are designed to halt violations, protect investors and prevent a reoccurrence of the wrongful conduct in the future, the Order here should have discussed these factors rather than just recount what some might view as a technical violation of a rule ending in an unexplained $8 million penalty.

 

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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