Several recent federal appellate court decisions have far-reaching implications for the means by which banks offer annuity and insurance products.
In reaction to the litigation involved, certain insurance industry interests, particularly the independent agents, have aggressively recruited the support of lawmakers for Congressional action to curtail the authority of banks under the National Bank Act to sell various types of insurance without geographic restriction.
Legislative action may, however, be unnecessary, and would certainly be premature at this time. Neither the courts nor regulators have completed their reviews and actions regarding several significant issues.
A Clamor from Agents
Most widely reported was the recent decision by the U.S. Court of Appeals for the District of Columbia in the so-called USNB case.
That controversial decision incited a clamor from insurance agents for Congress to close the perceived "loophole" in section 92 of Title 12 of the United States Code, more commonly called the small-town authority provision of the National Bank Act.
Although Congressional action on that section might appear to be deceptively simple, the confluence of several recent court rulings has dramatically shifted the legal ground for bank sale of a wide range of other investment and insurance-related products - particularly the widespread sale of fixed and variable annuities.
Congressional action to close the small-town loophole for general life and property and casualty insurance could unwittingly roll back other long-recognized legitimate and profitable business operations of many banks.
In a more recent decision known as Valic, the Fifth Circuit Court of Appeals rejected the ability of national banks to offer certain credit-related insurance and investment products (other than credit life insurance) pursuant to the general statutory authority of national banks to engage in activities deemed to be "incidental" to the business of banking.
Significantly, the Office of the Comptroller of the Currency has long allowed national banks to sell various types of annuities products as appropriately incidental to the business of banking.
The court ruled, however, that all such annuity products are insurance and therefore ineligible for sale by banks except pursuant to section 92 - that is, the so-called small-town provision.
The result of that ruling, if sustained, could be to curtail the ability of banks to directly sell annuities products, as well as various forms of insurance.
The entanglement of annuities products in the controversy regarding the sale of life and casualty insurance by banks from small communities is an unfortunate consequence of the most recent Valic decision.
The legal status of annuity products is, however, subject to possible review and clarification by the Supreme Court. The Supreme Court may reasonably be expected, in light of its earlier rulings, to differentiate the status of annuities from insurance for purposes of federal law.
The entanglement of the status of annuities in pending legislative efforts to plug the perceived statutory loophole under section 92 could dramatically undermine the viability of a substantial volume of ongoing business.
The term "annuities" describes a wide range of deposit-like and investment products and appropriately remains subject to further Supreme Court clarification. Congressional action in this area would be premature.
Congress might reasonably await further regulatory guidance rather than impose inflexible statutory restrictions on the development of innovative financial products and services for sale through banks.
Notably, the controversy in these matters is only about the ability of banks to directly market such products under section 92, the small-town provision.
The cases in no way affect the commonplace lobby lease and similar license arrangements used by many vendors to sell annuities and other investment products through banks.
Such bank sales and lobby arrangements are fee-generating businesses that entail no underwriting risk or exposure to the safety and soundness of the banking system or individual banks.
Moreover, such sales involve no use or expenditure of insured deposits by banks. The underwriting risks and costs are borne wholly by noninsured third parties and are funded from nondeposit capital sources.
The controversial decision by the U.S. Court of Appeals for the District of Columbia in the USNB case (Independent Insurance Agents of America Inc. et al v. Ludwig and National Association of Life Underwriters et al v. Ludwig et al) perceptively expanded the legal authority for banks to offer "insurance" products.
The appeals court ruled in, that case that a bank may sell such products without geographic limitation from a branch in a community of fewer than 5,000 inhabitants.
The USNB case is notable for several reasons.
First, the appeals court recognized the role of the Comptroller of the Currency to interpret the meaning and effect of the National Bank Act as to the activity of national banks.
Second, following the principles explicated by the Supreme Court in Chevron U.S.A. Inc. v. NRDC (1984), the court deferred to the Comptroller's interpretation of section 92 to allow a banking holding company to sell insurance without geographic limitation from the branch of a subsidiary bank in a small community.
More Restrictive View
Other courts, however, have adopted a more restrictive view of national bank authority.
In the subsequent decision in Valic (Variable Annuity Life Insurance Co. v. Clarke) the Fifth Circuit Court of Appeals opined that national banks may not sell annuities products except pursuant to section 92 in towns with populations of less than 5,000.
The appellate court in Valic explicitly rejected an earlier district court ruling that affirmed agency interpretations of another provision of the National Bank Act - section 24(7), which had allowed the sale of such annuity products as being properly incidental to the business of banking.
Although the appeals court ruling has no legally binding effect on bank operations outside Texas, Louisiana, and Mississippi, other circuits may choose to follow its restrictive rationale.
Title Insurance Case
In this regard, the Fifth Circuit decision reflects another recent restrictive ruling by the Second Circuit Court of Appeals.
The Fifth Circuit decision, dealing with bank sales of title insurance, came in American Land Title Association et al. v. Clarke, a case known as Alta.
As in the Valic decision, the Appellate Court ruled in Alta that in light of the statutory authority of national banks to sell "insurance" in small towns pursuant to section 92, no separate statutory authority exists for banks to offer credit-related insurance (other than credit life insurance) under the incidental-powers provision of the National Bank Act
Alarmingly, the New York Court of Appeals more recently decided New York State Life Underwriters Association Inc. v. Considine to accept for further review the previously favorable lower-court ruling regarding annuity sales by state-chartered banks.
The lower-court opinion acknowledged the intended flexibility of the incidental-powers provision of the New York State Banking Code to allow for the development and sale of innovative financial products - specifically, annuities - by state-chartered banks.
Significantly, the New York statute is the specific predecessor of the incidental powers provision of the National Bank Act that is at issue in the Valic case.
An interpretation by the New' York Court of Appeals of the New York State Banking Code may greatly influence any final disposition of national bank powers to sell such products under the National Bank Act.
Clouding the Issue
The confusion among the federal and state courts that arises from these several cases unfortunately clouds the ability of banks to offer various forms of credit-related insurance and annuities products, in particular.
Chairman Donald Riegle, D.-Mich., of the Senate Banking Committee has initiated hearings by his committee and announced a markup of legislation sometime this month concerning bank insurance activities.
Congress, however, should await further judicial and regulatory clarification of the status of annuities before intervening to the likely detriment of widespread annuities sales.
Business at Stake
Unlike the debate between insurance agent interests and the banks as to the legitimacy of the recently acknowledged authority of banks to offer general life and property and casualty insurance from small communities, the issue of the ability of the banks to sell annuities products entails substantial ongoing business.
Any legislation that would curtail general insurance sales by banks could undermine the needed fee-based profitability for banks of other financial services activities.