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New York Court Determines “Best Interests” Amendment to Insurance Regulation No. 187 is Unconstitutional

Posted: 05/03/2021
Industries: Insurance

On April 29th, a New York Court struck down as unconstitutional the 2017 Amendment to Insurance Regulation 189. The Amendment, commonly referred to in New York as the “best interests” rule, expanded the scope of Regulation 187 from merely requiring the application of a “suitability” standard to the sale of annuity contacts, to requiring the application of a “suitability and best interests” standard to both annuity contracts and life insurance policy sales. Specifically, the Amendment required “insurers, including fraternal benefit societies, to implement standards and procedures to address, and producers to consider, the best interest of the consumer when making recommendations involving life insurance and annuity products to ensure that the insurance needs and financial objectives of the consumer are addressed at the time of the transaction.” In its decision, the Third Department held that the Amendment violated due process rights and was unconstitutionally vague as it did not provide (1) sufficient, concrete, practical guidance for producers to know whether their conduct comported with the Amendment’s requirements for making recommendations and compiling and evaluating the relevant suitability information of the consumer, and (2) sufficient guidance with respect to how producers must conduct themselves in order to comply with the Amendment. We understand that the New York Department of Financial Regulation is considering whether to appeal the Court’s decision.

A. The Amendment

In December of 2017, the Department of Financial Services (“DFS”) proposed an amendment to Insurance Regulation No. 187 (the “Amendment.”)[1]. The Amendment was entitled as “Suitability and Best Interests in Life Insurance and Annuity Transactions.” The purpose of the Amendment was “to address concerns with respect to the growing complexities involved with life insurance and annuity products, the corresponding need for consumers to increasingly rely on the advice of professionals in order to comprehend the widening market of products available and to mitigate abuses with respect to the compensation of agents and brokers.”

The Amendment would require “insurers, including fraternal benefit societies, to implement standards and procedures to address, and producers to consider, the best interest of the consumer when making recommendations involving life insurance and annuity products to ensure that the insurance needs and financial objectives of the consumer are addressed at the time of the transaction.” To accomplish that, the Amendment “…set [] forth numerous requirements with which an insurer and/or producer must comply in order for a recommendation to meet the best interests of the consumer standard.”

B. Trial Court Proceedings

In November 2018, the Independent Insurance Agents and Brokers of New York, Inc., Professional Insurance Agents of New York State, Inc., Testa Brothers, Ltd. and Gary Slavin commenced an Article 78 against DFS in Albany proceeding challenging the constitutionality of the Amendment. Specifically, they argued that DFS exceeded its authority in enacting the Amendment, the enactment of the Amendment violated the State Administrative Procedure Act, the Amendment “lacked a rational basis, was arbitrary and capricious and otherwise unconstitutionally vague.” That same day, in Manhattan, the National Association of Insurance and Financial Advisors – New York State, Inc. commenced an Article 78 proceeding against DFS seeking similar relief.

On August 7, 2020, the trial court dismissed both Article 78 proceedings and held that “DFS complied with the State Administrative Procedure Act in promulgating [the Amendment], that it did not unlawfully usurp legislative authority when it did so and that [the Amendment] was not arbitrary and capricious, irrational, or unconstitutionally vague.”

C. The Appeal

The Third Department reversed the trial court’s decision and held that the Amendment violated due process rights and was unconstitutionally vague.

To reach that conclusion, the Third Department applied a two-prong test. One, “…a court must determine whether the regulation is sufficiently definite so that individuals of ordinary intelligence are not forced to guess at the meaning of regulatory terms.” Second, “…the court must determine whether the regulation provides clear standards for enforcement so as to avoid resolution on an ad hoc and subjective basis.”

In applying the two-prong test, the Third Department concluded that the Amendment was unconstitutionally vague.

In applying the first prong, the Court held “…[the Amendment] fails to provide sufficient, concrete, practical guidance for producers to know whether their conduct, on a day-to-day basis, comports with [the Amendment’s] corresponding requirements for making recommendations and compiling and evaluating the relevant suitability information of the consumer.” The Court was concerned that the langue of the Amendment “….is so broad that it is difficult to discern what statements producers could potentially make that would not be reasonably interpreted by the consumer to constitute advice regarding a potential sales transaction and therefore fall within the purview of [the Amendment].” In applying the second prong, the Court noted that “…once a recommendation is deemed to have been made, the guidelines with respect to the suitability information that producers must obtain from the consumer and the suitability considerations that must necessarily be disclosed are inadequate to the extent that they rely upon subjective terms that lack long-recognized and accepted meanings and provide insufficient guidance with respect to how producers must conduct themselves in order to comply with [the Amendment].”

The DFS stated that “…in an effort to mitigate the costs of implementation, they intentionally did not mandate a particular format or system nor prescribe specific forms that producers must use to demonstrate compliance with [the Amendment].”

In concluding its analysis, the Court held “…given the resulting ambiguities in the language employed, coupled with its lack of clear standards for how these provisions will ultimately be enforced, respondents have virtually unfettered discretion in determining whether a violation has occurred. [The Amendment], therefore, fails both prongs of the test and, accordingly, we find it to be unconstitutionally vague.”

D. Conclusion

We will continue to monitor this case to determine whether the New York Department of Financial Services appeals this decision and whether the New York Court of Appeals, the highest Court in the State of New York, will hear an appeal from the Third Department’s decision.
 


  1. The Third Department’s opinion is attached to this Alert and all quotes are to the Opinion.