ORAL ARGUMENT SCHEDULED FOR FRIDAY, MAY 8, 2009

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No. 09-1021 (consolidated with No. 09-1056)

_____________________________________________

UNITED STATES COURT OF APPEALS

FOR THE DISTRICT OF COLUMBIA CIRCUIT

_____________________________________________

AMERICAN EQUITY INVESTMENT LIFE INSURANCE COMPANY, et al.,

Petitioners,

SECURITIES AND EXCHANGE COMMISSION,

Respondent.

_____________________________________________

On Petitions for Review of an Order of the

Securities and Exchange Commission

_____________________________________________

FINAL BRIEF OF THE SECURITIES AND EXCHANGE COMMISSION,

RESPONDENT

_____________________________________________

DAVID M. BECKER

General Counsel

MARK D. CAHN

Deputy General Counsel

JACOB H. STILLMAN

Solicitor

MICHAEL A. CONLEY

Deputy Solicitor

DOMINICK V. FREDA

Senior Counsel

WILLIAM K. SHIREY

Senior Counsel

Securities and Exchange Commission

100 F St., NE

Washington, D.C. 20549-8010

(202) 551-5043 (Shirey)

CERTIFICATE AS TO PARTIES, RULINGS AND RELATED CASES

Parties and Amici. Parties and amici appearing in this Court are listed in

the opening brief of petitioners American Equity Investment Life Insurance

Company, et al. and in the opening brief of petitioner National Association of

Insurance Commissioners, with the exception of the following amici: Phillip Roy

Financial Services LLC and Phillip R. Wasserman; Allianz Life Insurance

Company of North America; AARP; North American Securities Administrators

Association, Inc.; and MetLife, Inc. There are no intervenors.

Rulings Under Review. The official citation to the final rule of the

Securities and Exchange Commission under review is Indexed Annuity and

Certain Other Insurance Contracts, Release Nos. 33-8996, 34-59221 (Jan. 8,

2009), published at 74 FR 3138 (Jan. 16, 2009), codified at 17 C.F.R. § 230.151A.

Related Cases. The consolidated cases on review have not previously been

before this Court and there are no related cases.

TABLE OF CONTENTS

Page

CERTIFICATE AS TO PARTIES, RULINGS AND RELATED CASES . . . . . . ii

TABLE OF CONTENTS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . iii

TABLE OF AUTHORITIES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . vii

CITATION CONVENTIONS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . xiii

COUNTERSTATEMENT OF JURISDICTION AND STANDING . . . . . . . . . . . 1

COUNTERSTATEMENT OF ISSUES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1

STATUTES AND REGULATIONS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

COUNTERSTATEMENT OF CASE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

Nature of the Case . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2

Indexed Annuities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6

Index-linked return . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6

Surrender charges . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8

Guaranteed minimum value . . . . . . . . . . . . . . . . . . . . . . . . . . . 8

Insurance company risk management . . . . . . . . . . . . . . . . . . 10

Courts and the Commission Have Repeatedly Considered Whether

New Forms of Annuities Are “Annuity Contracts” That Congress

Intended to Exempt in Securities Act Section 3(a)(8). . . . . . . . . . . . 11

Section 3(a)(8): Congress exempts traditional fixed

annuities . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11

iii

SEC v. VALIC: the Supreme Court holds that variable

“annuities” are not “annuity contracts” under

Section 3(a)(8) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13

SEC v. United Benefit: the Supreme Court holds that a

hybrid “annuity” product—partly fixed and partly variable

—is not an “annuity contract” under Section 3(a)(8). . . . . . . 15

Rule 151: the Commission responds to new hybrid

products by promulgating Rule 151, creating a safe harbor

under Section 3(a)(8). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17

1997 Concept Release: the Commission considers the

latest hybrid annuity product—the indexed annuity—

shortly after its introduction. . . . . . . . . . . . . . . . . . . . . . . . . . 19

Rule 151A: The Commission Resolves the Uncertainty About

the Regulatory Status of Indexed Annuities. . . . . . . . . . . . . . . . . . . 20

Provisions of Rule 151A . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22

The Commission’s reasoning underlying the adoption

of Rule 151A . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23

SUMMARY OF ARGUMENT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27

STANDARD OF REVIEW . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29

ARGUMENT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30

RULE 151A SHOULD BE UPHELD BECAUSE IT IS BASED ON A REASONABLE

CONSTRUCTION OF AMBIGUOUS LANGUAGE IN SECTION 3(a)(8). . . . . . . . 30

Chevron Controls the Court’s Review of Rule 151A. . . . . . . . . . . . 30

Rule 151A Satisfies the First Step of the Chevron Analysis,

Because Section 3(a)(8) Does Not Unambiguously Foreclose

the Commission’s Interpretation. . . . . . . . . . . . . . . . . . . . . . . . . . . . 36

II.

Rule 151A Satisfies the Second Step of the Chevron

Analysis, Because It Reflects a Reasonable Interpretation

of Section 3(a)(8) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43

The Commission’s interpretation reflects a reasonable

view of the investment risk borne by the purchasers of the

contracts described by the Rule . . . . . . . . . . . . . . . . . . . . . . . 44

The Commission reasonably considered the allocation

of risk between the insurer and the contract purchaser in

contracts described by Rule 151A . . . . . . . . . . . . . . . . . . . . . 54

The Commission reasonably considered the marketing

of the contracts described by Rule 151A . . . . . . . . . . . . . . . . 55

Rule 151A is consistent with Rule 151. . . . . . . . . . . . . . . . . . 57

The remaining challenges to the reasonableness of the

Commission’s interpretation of Section 3(a)(8) are

meritless . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 61

Rule 151A does not intrude on the states’ regulation

of contracts described by the Rule. . . . . . . . . . . . . . . . 61

Rule 151A is reasonably limited to contracts that

create a contractual obligation to pay an indexlinked return . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 62

THE ARGUMENTS BASED ON ALLEGED DEFECTS IN THE COMMISSION’S

ANALYSIS OF THE RULE’S IMPACT ON EFFICIENCY, COMPETITION

AND CAPITAL FORMATION ARE MERITLESS AND, IN ANY EVENT,

IRRELEVANT AS A MATTER OF LAW. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63

The Commission Considered and Properly Rejected Petitioners’

Contentions Regarding the Rule’s Impact on Efficiency,

Competition, and Capital Formation. . . . . . . . . . . . . . . . . . . . . . . . . 64

III.

In any Event, the Commission Was Not Required by the

Statute To Conduct the Analysis of Efficiency, Competition,

and Capital Formation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

THE ARGUMENTS RAISED ONLY BY AMICI ARE PROCEDURALLY

DEFECTIVE AND MERITLESS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 68

Wasserman’s Argument That the Commission Did Not

Adequately Address the Rule’s Impact on Small Businesses

Is Not Properly Before the Court and Is Meritless. . . . . . . . . . . . . . 68

Allianz’s Argument That Indexed Annutities Are Not

Securities Under Howey Is Not Properly Before the Court and

Is Meritless. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71

CONCLUSION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 74

CERTIFICATE OF COMPLIANCE

REGULATORY ADDENDUM

CERTIFICATE OF SERVICE

TABLE OF AUTHORITIES

Cases

Page

Akins v. FEC,

101 F.3d 731 (D.C. Cir. 1997),

vacated by 524 U.S. 11 (1998) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32

American Bankers Ass’n v. SEC ,

804 F.2d 739 (D.C. Cir. 1986) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 35

*Associates in Adolescent Psychiatry v. Home Life Insurance Co.,

941 F.2d 561 (7th Cir. 1991) . . . . . . . . . . . . . . . . . . . . . . . . 38, 46, 48, 71, 72

Capital Network System, Inc. v. FCC,

28 F.3d 201 (D.C. Cir.1994) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57

Cargill Inc. v. Hardin,

452 F.2d 1154 (8th Cir. 1971). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10

Cement Kiln Recycling Coal. v. EPA,

255 F.3d 855 (D.C. Cir. 2001) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 69

*Chevron U.S.A., Inc. v. Natural Resources Defense Council, Inc.,

467 U.S. 837 (1984) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30, 34, 36, 43

Consumer Electronics Ass’n v. FCC,

347 F.3d 291 (D.C. Cir. 2003) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30

Grainger v. State Security Life Ins.,

547 F.2d 303 (5th Cir. 1977) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 56

Holding v. Cook,

521 F. Supp.2d 832 (C.D. Ill. 2007) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39

“*” denotes authorities principally relied upon.

vii

Malone v. Addison Insurance Marketing, Inc.,

225 F. Supp.2d 743 (W.D. Ky. 2002) . . . . . . . . . . . . . . . . . . . . . . . . . . 39, 60

Mississippi Power & Light Co. v. Moore,

487 U.S. 354 (1988) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36

Motor & Equip. Mfrs. Ass'n v. Nichols,

142 F.3d 449 (D.C. Cir. 1998) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 69

Narragansett Indian Tribe v. National Indian Gaming Comm’n,

158 F.3d 1335 (D.C. Cir. 1998) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 68

National Association of Manufacturers v. Department of the Interior,

134 F.3d 1095 (D.C. Cir. 1998) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33

Nat’l Ass’n of Regulatory Utility Comm’rs v. FCC,

737 F.2d 1095 (D.C. Cir. 1984) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 70

National Mining Ass’n v. Kempthorne,

512 F.3d 702 (D.C. Cir. 2008) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33

*NCTA v. Brand X,

545 U.S. 967 (2005) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31, 37, 43, 45, 48

New Jersey v. New York,

523 U.S. 767 (1998) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 68

New York v. EPA,

443 F.3d 880 (D.C. Cir. 2006) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34

NOA v. Key Futures, Inc.,

638 F.2d 77 (9th Cir. 1980) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 72

Northpoint Tech. v. FCC,

414 F.3d 61 (D.C. Cir. 2005) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 30, 43

Ohio Power Co. v. FERC,

954 F.2d 779 (D.C. Cir. 1992) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 65

viii

Otto v. VALIC,

814 F.2d 1127 (7th Cir. 1986) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48

Peoria Union Stockyards Co. v. Pennsylvania Mutual Life Ins.,

698 F.2d 320 (7th Cir. 1983) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48

Rothwell v. Chubb Life Ins.,

1998 U.S. Dist. Lexis 22630 (D. N.H. Mar. 31, 1998) . . . . . . . . . . 46, 47, 49

SEC v. Belmont Reid & Co.,

794 F.2d 1388 (9th Cir. 1986) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 72

SEC v. Edwards,

540 U.S. 389 (2004) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71

SEC v. Ralston Purina Co.,

346 U.S. 119 (1953) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11

*SEC v. United Benefit Life Ins. Co.,

387 U.S. 202 (1967) . . . . . . . . . . . . . . . . . . 15, 16, 23, 34-38, 40, 42, 56, 65

*SEC v. VALIC,

359 U.S. 65 (1959) . . . . . . . . . . 12-14, 16, 23, 24, 34-38, 40, 42, 62, 65, 71

SEC v. W.J. Howey Co.,

328 U.S. 202 (1946) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 71

Sierra Club v. EPA,

292 F.3d 895 (D.C. Cir. 2002) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1

Star Wireless LLC v. FCC,

522 F.3d 469 (D.C. Cir. 2008) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 63

United States v. Mead Corp.,

533 U.S. 218 (2001) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 31

Valuevision Int’l, Inc. v. FCC,

149 F.3d 1204 (D.C. Cir. 1998) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 69

Statutes

5 U.S.C. 601 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 68

5 U.S.C. 706 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 29

Securities Act Section 2(a)(10), 15 U.S.C. 77b(a)(10) . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 2(b), 15 U.S.C. 77b(b) . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 2(b), 15 U.S.C. 77b(b) . . . . . . . . . . . . . . . . . . . . . 63-65, 67

Securities Act Section 3(a)(2), 15 U.S.C. 77c(a)(2) . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 3(a)(8), 15 U.S.C. 77c(a)(8) . . 2, 12, 13, 21, 23, 30, 31, 34,

35, 37-40, 42, 43, 55, 61

Securities Act Section 3(b), 15 U.S.C. 77c(b) . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 3(c), 15 U.S.C. 77c(c) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 5, 15 U.S.C. 77e . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11

Securities Act Section 7(a), 15 U.S.C. 77g(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 7(b)(1), 15 U.S.C. 77g(b)(1) . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 7(b)(2), 15 U.S.C. 77g(b)(2) . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 8(a), 15 U.S.C. 77h(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 8(c), 15 U.S.C. 77h(c) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 8A(c)(1), 15 U.S.C. 77h-1(c)(1) . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 9(a), 15 U.S.C. 77i(a) . . . . . . . . . . . . . . . . . . . . . . . . . . 1, 29

Securities Act Section 10(a)(4), 15 U.S.C. 77j(a)(4) . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 10(b), 15 U.S.C. 77j(b) . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 10(c), 15 U.S.C. 77j(c) . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 10(d), 15 U.S.C. 77j(d) . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Securities Act Section 19(a), 15 U.S.C. 77s(a) . . . . . . . . . . . . . . . . . . . 1, 21, 30, 67

Securities Act Section 19(b)(1)(A)(v), 15 U.S.C. 77s(b)(1)(A)(v) . . . . . . . . . . . 67

Securities Act Section 28, 15 U.S.C. 77z-3 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 67

Rules

Rule 151, 17 C.F.R. § 230.151 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17, 45, 57, 59

Rule 151A, 17 C.F.R. § 230.151A . . . 1, 21, 22, 36, 37, 39, 43, 44, 52, 57, 59, 61,

Other Authorities

DAVID R. ANDERSON, DENNIS J. SWEENEY, & THOMAS A. WILLIAMS,

STATISTICS FOR BUSINESS AND ECONOMICS (1993) . . . . . . . . . . . . . . . . . . 53

FLORIDA DEP’T OF FINANCIAL SERVICES, EQUITY INDEXED ANNUITY

INVESTOR ALERT, http://www.myfloridacfo.com/Consumers/

Guides/Life/annuity_alert.htm) (last visited Apr. 6, 2009) . . . . . . . . . . . 6, 8

G.W. FITCH, WHAT EVERYBODY WANTS TO KNOW ABOUT ANNUITIES (1934) . 13

INTERNATIONAL GLOSSARY OF BUSINESS VALUATION TERMS (2001),

http://www.bvresources.com/FreeDownloads/IntGlossary

BVTerms2001.pdf (last visited Apr. 6, 2009). . . . . . . . . . . . . . . . . . . . . . . 49

JACK MARRION, INDEX ANNUITIES (2003) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9, 10

JOHN BLACK, OXFORD DICTIONARY OF ECONOMICS (2002) . . . . . . . . . . . . . . . . 52

NAFA, WHITE PAPER ON FIXED INDEXED INSURANCE PRODUCTS

(Nov. 10, 2006) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10, 41, 72

NAIC STANDARD NONFORFEITURE LAW, § 4.B & 4.C . . . . . . . . . . . . . . . . . . 9, 26

Stephen E. Roth, The Securities Status of Life Insurance Products,

902 PLI/COMM 169 (Jan. 2008) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60

ZVI BODIE, ET AL., INVESTMENTS (2005) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 52, 53

xii

CITATION CONVENTIONS

Allianz:

Amicus curiae Allianz Life Insurance Co.

Allianz Br.#:

Page number in the brief of amicus curiae Allianz Life

Insurance Co.

Allianz Mot.#:

Page number in the motion of Allianz Life Insurance Co. to

participate as amicus curiae.

Industry

Petitioners:

Petitioners American Equity Investment Life Insurance

Company, BHC Marketing, Midland National Life Insurance

Company, National Western Life Insurance Company, OM

Financial Life Insurance Company, and Tucker Advisory

Group, Inc.

IP Br.#:

Page number in the Industry Petitioners’ brief.

JA#:

Page number in the Joint Appendix.

NAIC:

Petitioner National Association of Insurance Commissioners.

NAIC Add.#:

Page number in the addendum to the brief of petitioner NAIC.

NAIC Br.#:

Page number in the brief of petitioner NAIC.

NCOIL:

National Conference of Insurance Legislators.

RA#:

Page number in the Regulatory Addendum attached to the

Commission’s responding brief.

Wasserman:

Amici Phillip Roy Financial Services LLC and Phillip R.

Wasserman.

Wasserman Br.#: Page number in brief of amici Phillip R. Wasserman and Phillip

Roy Financial Services LLC.

xiii

COUNTERSTATEMENT OF JURISDICTION AND STANDING

The Commission promulgated Rule 151A, 17 C.F.R. § 230.151A, on

January 8, 2009, pursuant to its jurisdiction under Section 19(a) of the Securities

Act, 15 U.S.C. 77s(a). Industry Petitioners filed a timely petition for review on

January 16, 2009 (Case No. 09-1021). On February 10, 2009, NAIC and NCOIL

filed a timely petition for review (Case No. 09-1056). This Court has jurisdiction

pursuant to Section 9(a) of the Securities Act, 15 U.S.C. 77i(a). On February 13,

2009, the Court consolidated Case Nos. 09-1021 and 09-1056. On February 17,

2009, petitioner NCOIL moved to withdraw as a petitioner and participate as an

amicus.

NAIC lacks standing. It has not identified any cognizable “injury in fact”

that its members (state insurance regulators) or their constituents will suffer as a

result of Rule 151A (which does not preempt any state law), and has not provided

an “affidavit or other evidence” demonstrating a “substantial probability” of such

an injury, as this Court requires. Sierra Club v. EPA, 292 F.3d 895, 899 (D.C. Cir.

2002) (citation omitted).

COUNTERSTATEMENT OF ISSUES

Whether Rule 151A is based on a permissible construction of the

term “annuity contract” in Section 3(a)(8) of the Securities Act.

Whether the challenges to the Commission’s analysis of the effects of

Rule 151A on efficiency, competition, and capital formation are without merit

both because the Commission’s analysis was adequate and because the Securities

Act does not require such an analysis when the Commission defines statutory

terms under Section 19(a).

Whether arguments made only by amici are not properly before the

Court because they address issues that were not raised by any party and, in any

event, lack merit.

STATUTES AND REGULATIONS

Pertinent statutes and regulations are set forth in petitioners’ briefs and in

the regulatory addendum to this brief.

COUNTERSTATEMENT OF CASE

Nature of the Case

Rule 151A clarifies the status under the federal securities laws of indexed

annuities. These products, like all annuities, are “investment contracts” covered

by the securities laws unless they qualify for an exemption. Section 3(a)(8) of the

Securities Act, 15 U.S.C. 77c(a)(8), provides an exemption from registration under

the Act for an “annuity contract” or “optional annuity contract” (hereinafter

“annuity contract”), but the Securities Act does not define either term. The

Supreme Court held a half-century ago that not all contracts labeled “annuities”

are eligible for the Section 3(a)(8) exemption. Instead, the critical question is

whether the contract presents investment risks that the Securities Act was enacted

to address. If so, the contract is not an exempt “annuity contract.” Rule 151A

describes indexed annuities that not qualify for the Section 3(a)(8) exemption.

Rule 151A is limited to indexed annuities that are “more likely than not” to

pay a return based on the uncertain future performance of a fluctuating index of

securities such as the Standard & Poor’s 500 Index. The Commission reasonably

determined that these products expose purchasers to substantial investment risk.

Such risk exists for the simple reason that purchasers cannot know in advance how

much money they will make in light of the inherent unpredictability of the

securities market.

Petitioners contend that the Rule rests on an unreasonable definition of

investment risk.1/ They claim that investment risk exists only where there is the

potential to lose principal. In their view, so long as an investor is guaranteed not

to lose what she pays for an indexed annuity (minus any charge for early

withdrawal from the contract), there is no investment risk.

All references to arguments by petitioners include similar arguments

made by amici unless otherwise indicated.

That narrow definition of investment risk is not compelled by any case and

is inconsistent with longstanding Commission statements and common usage.

Courts have recognized that even where an annuity contract guarantees a return of

principal, it may still pose investment risk warranting the protections of the

securities laws. Similarly, in a rule promulgated nearly a quarter century ago, the

Commission made clear that investment risk is not eliminated by guaranteeing the

return of principal.

Moreover, as the Commission explained in this rulemaking, petitioners’

position also contravenes the common understanding of investment risk. For

example, an investment product that guarantees a return of the amount of money

initially invested plus a fixed 10% profit after five years is commonly viewed as

less risky than an investment product that also guarantees a return of the amount of

money initially invested but promises a profit of somewhere in the range of 1% to

20% to be determined at the end of five years. Indeed, it is hard to imagine any

reasonable investor concluding that the second product is completely free of

investment risk simply because it guarantees that the worst case scenario is a

return of what was initially invested plus a 1% profit. It is equally clear that, as

the Commission found, an investor who chooses the second investment product

over the first does so because she is willing to risk losing a higher guaranteed

profit (10% instead of 1%) in order to have a chance of making a higher potential

profit (somewhere between 10% and 20%).

This is the very kind of investment risk that even petitioner NAIC

acknowledges is a defining characteristic of the indexed annuities that are the

subject of Rule 151A. The Buyer’s Guide published as part of NAIC’s Annuity

Disclosure Model Regulation states that indexed annuities present a level of

investment “risk” that falls between the two extremes of variable annuities (which

are securities) and traditional fixed-rate annuities (which are not securities).

NAIC Add.45 (“[A]m I somewhere in between and willing to take some risks with

an equity-indexed annuity?”); see also JA297.

The Commission’s (and NAIC’s pre-litigation) view that purchasers of

indexed annuities face investment risk makes sense. Such risk exists because

someone who invests in an indexed annuity does not know in advance how much

he or she will receive under the contract, which depends on the fluctuating

performance of a securities index. It is this prospect of uncertain market-linked

returns—which indexed annuities share with mutual funds, variable annuities, and

other securities-linked investments—that led the Commission to conclude that

purchasers of these products are entitled to the same protections that securities

laws afford other securities purchasers. See RA152.

Indexed Annuities

An indexed annuity differs significantly from a traditional, or fixed, annuity,

although both types are contracts, issued by a life insurance company, that

generally provide for the accumulation of the purchaser’s payments, followed by a

payout of the accumulated value either as a lump sum (upon death or withdrawal)

or as a series of payments (an “annuity”). RA158. In the case of an indexed

annuity, during the accumulation period the insurer credits the purchaser with a

return that is based on changes in a securities index, such as the Dow Jones

Industrial Average, Nasdaq 100 Index, or Standard & Poor’s 500 Index. RA158.

Index-linked return

The index-linked return is typically determined by a complex formula set by

the insurer at the beginning of each crediting period—i.e., the period over which a

return is calculated under a contract. But, the purchaser’s actual return cannot be

calculated until the end of each crediting period because the return depends on the

performance of the index during the crediting period. RA159.2/ The crediting

Although the promise of market-based returns in these contracts may

sound straightforward, in operation, indexed annuities are “extremely complex

investment products.” FLORIDA DEP’T OF FINANCIAL SERVICES, EQUITY INDEXED

ANNUITY INVESTOR ALERT; FINRA, EQUITY INDEXED ANNUITIES—A COMPLEX

CHOICE (updated Apr. 22, 2008) (“Because of the variety and complexity of the

methods used to credit interest, investors will find it difficult to compare one

[indexed annuity] to another.”).

period is generally at least one year long and the return credited is locked in after

each period. RA159.

The index-linked return credited can vary not only based on the

performance of the index, but also based on the particular terms of the indexed

annuity contract. RA159; see also JA306 (AMERICAN EQUITY LIFE INS., BONUS

GOLD INDEX ANNUITY brochure (listing eight different indexed annuity products

with different combinations of features)). These include the method of computing

the index change3/ (RA159-60) and limitations on the proportion of index change

credited as a result of a cap,4/ a participation rate,5/ and/or a spread.6/ RA160.

Commonly used methods for computing the index change include the

“point-to-point method”—which “compares the index level at two discrete points

in time, such as the beginning and ending dates of the crediting period” (RA160

61)—and the “averaging method”—which calculates the difference in the index

level from a starting date (either the contract date or a subsequent anniversary) to

the daily or month-end average value over some subsequent period (JA451). See,

e.g., JA314-15 (OLD MUTUAL LIFE INS., SAFETY INDEX® 10 brochure); see also

generally JA450-53 (discussing various methods for calculating index change).

A “cap” is a ceiling on the index-based returns that may be credited;

for example, if the change in the index is 6%, and the contract has a 5% cap, 5%

will be credited. RA160.

A “participation rate” is the percentage of the index growth to be

credited; for example, if the change in the index is 6% and the contract has a 75%

participation rate, the gain credited would be 4.5% (75% of 6%). RA160.

A “spread” is a deduction from the amount of gain in the index; if the

change in the index is 6%, and the contract has a spread of 1%, the gain credited

would be 5%. RA160.

Surrender charges

Surrender charges are commonly deducted from withdrawals in excess of

10% of the contract value made in the first 10 or more years of an indexed annuity.

RA160; JA455-56. These charges “may have the effect of reducing or eliminating

any index-based return credited to the purchaser up to the time of a withdrawal”

(RA161), as well as resulting in a loss of principal. 7/ Typically, the maximum

charges are imposed on surrenders made during the early years of the contract and

decline gradually to 0% at the end of a specified surrender charge period, which

may be in excess of 15 years. RA161.8/

Guaranteed minimum value

Indexed annuities provide a guaranteed minimum value. RA161-62, n.24;

see also JA306; IP Br. 6. State laws generally require that the minimum guarantee

be at least 87.5% of purchase payments, accumulated at an annual interest rate of 1

to 3 percent. RA162. This minimum guarantee serves as a floor on the amount

paid upon withdrawal or as a death benefit, or the amount used as a basis for

FLORIDA DEP’T OF FINANCIAL SERVICES, EQUITY INDEXED ANNUITY

INVESTOR ALERT (“Investors needing to cancel an annuity to access funds prior to

maturity of the contract may also lose principal through surrender charges.”).

See, e.g., JA306 (annual surrender charges for American Equity’s

“Bonus Gold” contract); JA326 (annual surrender charges for OM Financial Life’s

“Safety Index® 7” contract).

determining the amount of annuity payments. RA161-62. Assuming a guarantee

of 87.5% of purchase payments, accumulated at 1% interest compounded

annually, it would take approximately 13 years for a purchaser’s guaranteed

minimum value to be 100% of purchase payments. RA162.

Although Industry Petitioners state that “purchasers receive a minimum

amount of interest (typically from 1 to 3 percent annually), regardless of the

performance of the relevant index” (IP Br. 8),9/ this is inaccurate. As discussed

above, the 1-to-3% interest “guarantee” is the annual adjustment to the floor

established by the minimum guarantee—nothing more. See JACK MARRION,

INDEX ANNUITIES, at 21 (2003). So, for example, assuming a 3% interest

guarantee, “if the index annuity crediting formula produced returns of zero in year

one, zero in year two, and ten percent in year three, the annuity contract wouldn’t

credit 3%, 3%, 10%; instead it would show 0%, 0%, 10%.” Id. The investor

receives the benefit of the guaranteed interest rate only if, on payout, the total

index-linked value under the contract is less than the floor established by the

minimum guaranteed value. See id. (“The minimum guarantee almost becomes

irrelevant from a protection point of view after the calculated interest-linked gain

exceeds it.”).

All emphasis in quotations in this brief has been added unless

otherwise indicated.

Insurance company risk management

As a trade association representing indexed annuity issuers explains,

insurance companies employ different methods to cover their “two types of risks”

under the indexed contracts—i.e., “the guarantee of the floor and the guarantee of

the excess [return] resulting from positive changes in the applicable index.”

NAFA, WHITE PAPER ON FIXED INDEXED INSURANCE PRODUCTS (Nov. 10, 2006),

at 11. To cover the guaranteed return, insurers invest the bulk of the premiums in

traditionally-safe, fixed-income securities. Id.

To cover the index-linked portion of the contract, insurance companies

commonly enter into hedging contracts such as options and futures.10/ Id. (noting

that insurers try “to structure the options and futures purchases so that their payoff

or value will produce whatever interest rate” will be payable under the indexlinked component of the indexed annuity). In addition to transferring their risk to

third parties through hedging, insurers typically can annually adjust the indexed

annuity’s cap, participation rate, and/or spread in order to limit or control their

future financial exposure. RA180-81. As the Commission explained, in

Hedging is a risk management strategy used in limiting or offsetting

probability of loss from fluctuations in the prices of commodities, currencies, or

securities. In effect, hedging is a transfer of risk without buying insurance policies

that essentially involves taking equal and opposite positions in two different

markets. See Cargill Inc. v. Hardin, 452 F.2d 1154, 1158 (8th Cir. 1971).

combination, these various mechanisms let insurance companies effectively

“reduce or eliminate their investment risks.” RA180-81.

Courts and the Commission Have Repeatedly Considered

Whether New Forms of Annuities Are “Annuity Contracts” That

Congress Intended to Exempt in Securities Act Section 3(a)(8).

The rulemaking at issue in this case is the most recent in a series of judicial

and Commission interpretations of the Section 3(a)(8) exemption that Congress

enacted in 1933. Beginning in 1959, the Supreme Court, other federal courts, and

the Commission have addressed whether various new forms of annuities

developed and offered by life insurance companies are the sort of “annuity

contract” that Congress intended to exempt from the protections of the securities

laws.

Section 3(a)(8): Congress exempts traditional fixed

annuities.

The Securities Act was designed “to protect investors by promoting full

disclosure of information thought necessary to informed investment decisions.”

SEC v. Ralston Purina Co., 346 U.S. 119, 124-25 (1953). Section 5 of the

Securities Act, 15 U.S.C. 77e, requires that the offer or sale of securities to the

public be accompanied by the full and fair disclosure afforded by registration with

the Commission and delivery of a statutory prospectus. In Section 3(a)(8),

Congress exempted from this statutory scheme any “insurance policy” or “annuity

contract” issued by a corporation subject to the supervision of an insurance

commissioner or similar state regulatory authority. 11/ It is well established that

the exemption is not available to all products labeled (or regulated by states as)

“annuity contracts.” See SEC v. VALIC, 359 U.S. 65, 69-73 (1959); see also

RA163.

When the Securities Act was enacted in 1933, instruments “traditionally and

customarily” offered as annuities—and therefore understood to be exempt under

Section 3(a)(8)—were what today are called “fixed” or “traditional annuities.”

RA170 (citing VALIC, 359 U.S. at 69). Under a fixed annuity contract, in

contrast to an indexed annuity, “the insurer assumes the investment risk by

guaranteeing principal and interest for the life of the contract.” RA8, n.3; see also,

e.g., VALIC, 359 U.S. at 69 (fixed annuities “offer[] the annuitant specified and

definite amounts beginning with a certain year of his or her life”); G.W. FITCH,

WHAT EVERYBODY WANTS TO KNOW ABOUT ANNUITIES 9 (1934) (“An annuity is

a fixed income received regularly for a term of years or for life. It is paid for in a

single sum or in smaller payments made annually.”).

The Commission has previously stated its view that Congress

intended any insurance contract falling within Section 3(a)(8) to be excluded from

all provisions of the Securities Act notwithstanding the language of the Act

indicating that Section 3(a)(8) is an exemption from the registration but not the

antifraud provisions. RA163, n.27.

Because of this fixed guarantee of returns, the only risk a purchaser of a

fixed annuity faces is the possible insolvency of the insurance company. VALIC,

359 U.S. at 77. Congress recognized that this risk could be met by state insurance

law, which regulated the “adequacy of reserves to meet the company’s

obligations.” Id.

SEC v. VALIC: the Supreme Court holds that variable

“annuities” are not “annuity contracts” under Section

3(a)(8).

Beginning in 1952, insurance companies started offering a new financial

product called a “variable annuity.” VALIC, 359 U.S. at 69. These variable

annuities differed from the fixed annuities that existed when Congress enacted the

Section 3(a)(8) exemption, because “[t]he holder of a variable annuity [could not]

look forward to a fixed monthly or yearly amount in his advancing years.” Id. at

70. The holder got “only a pro rata share of a portfolio” of securities that the

issuer set up and managed. Id.

In VALIC, the Supreme Court held that such variable annuities do not fall

within the Section 3(a)(8) exemption. The Court made clear that “the meaning of

‘insurance’ or ‘annuity’ under [the Securities Act] is a federal question”—that is, it

is not determined by state law. VALIC, 359 U.S. at 69. The Court explained that,

by not guaranteeing any fixed investment, “the variable annuity places all of the

investment risks on the annuitant, none on the company,” and thus does not fall

within Section 3(a)(8)’s exemption. Id. at 71.

Justice Brennan, joined by Justice Stewart, wrote a concurrence further

analyzing of why variable annuities are not exempt under Section 3(a)(8). See

VALIC, 359 U.S. at 73-81. As the concurrence explained, when “a brand-new

form of investment arrangement emerges which is labeled ‘insurance’ or ‘annuity’

by its promoters, the functional distinction that Congress set up in 1933 . . . must

be examined to test whether the contract falls within the sort of investment form

that Congress was then willing to leave exclusively to the State Insurance

Commissioners.” Id. at 76. That inquiry should involve “an analysis of the

regulatory and protective purposes of the Federal Acts and of state insurance

regulation as it then existed”—i.e., “the scope of state regulation in 1933.” Id. at

76 n.5.

Examining those separate regulatory schemes, the concurrence explained

that “[t]he emphasis [of the Securities Act] is on disclosure” necessary for an

investor to “intelligently appraise the risks” of an investment. Id. at 77. By

contrast, state insurance regulation in 1933 (when Section 3(a)(8) was enacted)

focused primarily on ensuring “[s]olvency and the adequacy of reserves to meet

the company’s obligations . . . by the establishment of permissible categories of

investments and through official examination,” rather than “depend[ing] on

disclosure to the public.” Id.

SEC v. United Benefit: the Supreme Court holds that a

hybrid “annuity” product—partly fixed and partly

variable—is not an “annuity contract” under Section

3(a)(8).

Less than a decade later, in SEC v. United Benefit Life Insurance, 387 U.S.

202 (1967), the Supreme Court held that a contract called a “Flexible Fund

Annuity,” an instrument “somewhat similar” to a variable annuity, was not exempt

under Section 3(a)(8).

The Flexible Fund was a hybrid product, offering the purchaser the ability

to obtain the “benefits of a professional investment program” (akin to a variable

annuity) “while at the same time gaining the security of [a traditional] insurance

annuity.” Id. at 204. The Flexible Fund functioned like a variable annuity in that

the net premiums were placed in an account separate from the insurance

company’s other funds for investment purposes, and the purchaser was entitled to

his proportionate share of the total fund, including earnings thereon. Id. at 205.

Unlike the variable annuity in VALIC, however, the issuer guaranteed that the

purchaser would receive a percentage of his premiums back. Id. This minimum

guarantee increased from 50% of net premiums in the first year to 100% after 10

years. Id.

The Court made explicit that whether new financial products such as

variable annuities are exempt under Section 3(a)(8) does not turn on whether the

states may have decided to regulate these new products as annuities under state

insurance law. See United Benefit, 387 U.S. at 210 (expressly rejecting the

position taken by the dissent in VALIC that, even though new forms of contract

developed by insurers “may also have securities aspects, [such contracts should]

be classed within the federal exemption of insurance, and not within the federal

regulation of securities” (VALIC, 359 U.S. at 100 (Harlan, J., dissenting)).

Rather, the Court made clear that the critical inquiry for the Section 3(a)(8)

exemption is whether the new product raises issues that the disclosure regime

established by the Securities Act was enacted to address; that is, issues

necessitating disclosure so that investors can accurately appraise their investment

risk. United Benefit, 387 U.S. at 210 (citing VALIC, 359 U.S. at 75). Although

there were aspects of the contract, such as the minimum guaranteed value, that

operated like traditional insurance to shift risk to the issuer, the Court concluded

that the substantial investment risk borne by the purchaser required application of

the disclosure provisions of the Securities Act. See id. at 211.

Rule 151: the Commission responds to new hybrid products

by promulgating Rule 151, creating a safe harbor under

Section 3(a)(8).

In 1984, the Commission proposed a rule to establish a safe harbor under

Section 3(a)(8) for a new hybrid financial instrument known generally as a

“guaranteed investment contract.” RA2-3. A guaranteed investment contract is an

annuity under which the purchaser agrees to pay money to an insurer (either in a

lump sum or in installments) and the insurer promises a return at a guaranteed rate

for the life of the contract, and, in some contracts, the insurer may periodically pay

a discretionary amount over and above the guaranteed return. RA8. The proposed

rule was intended to provide “greater certainty” by providing that, under specified

conditions, an annuity would qualify for the Section 3(a)(8) exemption

notwithstanding the discretionary payment component of the contract. RA2-3.

In 1986, the Commission adopted Rule 151, 17 C.F.R. § 230.151, which

sets forth a multi-prong test for determining whether the safe harbor applies.

RA22-23. Rule 151 includes requirements that the contract must: (1) sufficiently

guarantee principal and interest for the insurer to be “deemed to assume the

investment risk” (RA22-23); and (2) “not [be] marketed primarily as an

investment” (RA22). With respect to the first requirement, Rule 151 sets precise

criteria that a contract must satisfy in order for the insurer to establish that it has

assumed “sufficient” investment risk to fall within the safe harbor. RA14. Among

these are certain guarantees relating to purchase payments and rates of return on

the payments (RA14-16), and the important requirement that the rate of any return

in excess of the minimum guaranteed rate (“excess return”) be set in advance of

each crediting period (i.e., prospectively) and not be modified more than once per

year (RA19).

In proposing Rule 151, the Commission had expressed the view that the safe

harbor should not be available where an issuer calculates the rate of any excess

return by reference to an index. RA9, n.19. The Commission was concerned that

an issuer that “externalizes” its excess return rate by referring to an index would

place too much investment risk on the purchaser. RA9, n.19; see also RA19. In

the final rule, the Commission decided to permit “limited” reference to an index to

set the rate: the index must be used to set a rate before each crediting period

begins and the rate must remain in effect for at least one year. RA19. (Thus,

contrary to Industry Petitioners’ contention (at 19-20, 46-47), the safe harbor does

not apply to contracts such as indexed annuities where the index-linked rate of

return is determined only at the end of each crediting period by a formula

established at the beginning of the crediting period.)

1997 Concept Release: the Commission considers the latest

hybrid annuity product—the indexed annuity—shortly

after its introduction.

In 1997, the Commission requested public comment on the structure and

marketing of indexed annuities in connection with its consideration of the status

under the securities laws of indexed annuities and other indexed insurance

products. RA30. As the Commission explained, indexed annuities had been

introduced into the financial markets only in 1995, and there was “substantial

uncertainty” as to whether these products were entitled to the Section 3(a)(8)

exemption. RA32. The Commission further explained that this uncertainty was

due in part to the fact that “indexed insurance products combine features of

traditional insurance products (guaranteed minimum return) and traditional

securities (return linked to equity markets).” RA32.

The concept release offered a number of reasons to question whether

indexed annuities qualify for the Section 3(a)(8) exemption. RA40-50. Among

these is the ability of issuers to hedge their obligations to pay the index-linked

return, see supra p. 10, and the effect this may have on whether insurers “bear

investment risk with respect to those obligations.” RA43-44. Additionally, the

Commission questioned whether an annuity with an index-based rate of return

determined at the end of a crediting period, unlike in instruments covered by Rule

151, places too much risk on the purchasers to be exempt under Section 3(a)(8).

RA45-47. Referring to its “expressed concern” when it promulgated Rule 151, the

Commission explained that such retrospective determination of the excess rate

shifts the risk of fluctuations in an index-linked rate to the contract owner, which

is the reason the Commission decided “to limit the benefit of [the] Rule 151 [safe

harbor] to situations where an index is used to fix a specific interest rate in

advance.” RA46.

Finally, the Commission expressed “concern[] that the nature of equity

index insurance products may make it particularly difficult to market these

products without primary emphasis on their investment aspects,” thereby

potentially making these contracts appear to purchasers more like investments than

insurance. RA47.

Rule 151A: The Commission Resolves the Uncertainty About the

Regulatory Status of Indexed Annuities.

Although the sales volumes of indexed annuities were relatively small in the

initial years, by 2007, investments in indexed annuities totaled $123 billion, 58

companies were issuing indexed annuities, and there were a total of 322 indexed

annuity contracts offered. RA155-56. Despite the dramatic increase in sales

volume, the status of indexed annuities under the securities laws had remained

“uncertain since their introduction” (RA155), with insurers, sellers, and purchasers

left without any clear answer as to whether these contracts qualified as “annuity

contracts” under the Section 3(a)(8) exemption. RA153; RA156. Given the

uncertainty surrounding the status of indexed annuities, life insurance companies

typically had elected not to register such contracts with the Commission. RA162.

Nor had these contracts been sold through registered broker-dealers, who are

subject to a federal obligation to recommend to clients only financial products that

are suitable for their clients’ investing goals and needs. RA249-50; see also infra

p. 27, note 15.

In light of the significant increase in indexed annuity sales and increase in

claims of abusive practices in the sale of these products (RA157),12/ the

Commission acted to resolve the uncertainty regarding their regulatory status. In

June 2008, the Commission proposed a rule, pursuant to the Commission’s

definitional authority under Section 19(a) of the Securities Act, to “prospectively

define certain indexed annuities as not being ‘annuity contracts’ ” under Section

3(a)(8), and, therefore, subject to the securities laws. RA151; see also RA298.

After considering approximately 4,800 comments, the Commission issued the

release adopting Rule 151A on January 8, 2009.13/ RA154.

See also RA66-68 & nn. 23-26 (citing among other sources: NASD,

EQUITY-INDEXED ANNUITIES, NOTICE TO MEMBERS 05-50 (Aug. 2005)).

One of the five Commissioners dissented.

Provisions of Rule 151A

Rule 151A provides in pertinent part that a contract that is regulated as an

annuity under state insurance law is not a Section 3(a)(8) “annuity contract” if:

(1)

The contract specifies that amounts payable by the issuer under

the contract are calculated at or after the end of one or more

specified crediting periods, in whole or in part, by reference to

the performance during the crediting period or periods of a

security, including a group or index of securities; and

(2)

Amounts payable by the issuer under the contract are more

likely than not to exceed the amounts guaranteed under the

contract.

RA152.

The effective date of Rule 151A is January 12, 2011—two years after its

adoption; it will apply to all contracts issued on or after that date. RA209-10. The

Adopting Release noted several items that would be required to be disclosed in the

prospectus, including “information about costs (such as surrender charges); the

method of computing indexed return (e.g., applicable index, method for

determining change in index, caps, participation rates, spreads); minimum

guarantees, as well as guarantees, or lack thereof, with respect to the method for

computing indexed return; and benefits (lump sum, as well as annuity and death

benefits).” RA245-46. As the Commission explained, public availability of this

information—which relates to the investment risk borne by the purchaser—“will

be helpful to investors in making informed decisions about purchasing indexed

annuities.” RA245.

The Commission’s reasoning underlying the adoption of

Rule 151A

Because “indexed annuities did not exist and were not contemplated by

Congress when it enacted the [Section 3(a)(8)] exemption,” the Commission

engaged in a functional analysis to determine whether indexed annuity contracts,

even though labeled annuities, are the sort of arrangement that Congress was

willing to leave exclusively to the state insurance commissioners. RA169. In

undertaking this analysis, the Commission looked to the “factors articulated by the

U.S. Supreme Court in VALIC and United Benefit.” RA169.

Investment Risk. The Commission began its consideration of risk by

recognizing that a principal congressional concern underlying the Securities Act

was ensuring that purchasers are afforded relevant disclosures when a financial

product poses investment risk. RA169-173. Citing VALIC and United Benefit,

the Commission explained that the basis for the “annuity contract” exemption was

that the annuities offered when Section 3(a)(8) was enacted—fixed annuities—

guaranteed a “specified and definite” return that “typically involved no investment

risk to the purchaser” that implicated the protective purposes of the securities

laws. RA170-71. The only investment risk remaining when an insurance

company offers a fixed guaranteed return—insolvency of the insurance company

resulting in an inability to meet the fixed obligation—was therefore properly left

to the states’ insurance laws. RA170-71 (citing VALIC, 359 U.S. at 75); RA216

17; see also VALIC, 359 U.S. at 77 & n.8.

By contrast, the Commission explained that “[i]ndividuals who purchase

indexed annuities are exposed to a significant investment risk—i.e., the volatility

of the underlying securities index”—that the securities laws were enacted to

address. RA151; see also RA171 (“By purchasing . . . [an] indexed annuity, the

purchaser assumes the risk of an uncertain and fluctuating financial instrument, in

exchange for participation in future securities-linked returns.”). In reaching this

conclusion, the Commission considered and rejected the contention of certain

commenters that the purchaser of an indexed annuity does not assume investment

risk because of the minimum guaranteed contract value. RA174-75; RA179-81.

Although the Commission recognized that the guarantee of principal and a

minimum rate of return “provide[s] some protection against the risk of loss,” this

guarantee “do[es] not eliminate” “a purchaser’s exposure to investment risk under

the contract.” RA171 (emphasis in original); see also RA180-81.

Investment risk, the Commission explained, is present where investors are

left to make their investment decisions based on an uncertain and fluctuating

future return (instead of, by contrast, a fixed, guaranteed return). RA177-79.

This, the Commission determined, is the situation faced by a potential purchaser of

an indexed annuity defined by Rule 151A to be ineligible for the Section 3(a)(8)

exemption. RA179 (a “purchaser of an indexed annuity assumes investment risk

because his or her return is not known in advance”). Moreover, the Commission

explained that this is an investment risk the Securities Act was intended to address

through disclosures to investors. RA172-73; RA177-79. The Commission

carefully limited the reach of Rule 151A to those indexed annuities in which it is

“more likely than not” that investors will be subjected to the investment risk

created by uncertain returns linked to a fluctuating securities index. RA180.

In assessing investment risk (including the relative allocation of risk), the

Commission also considered the practical abilities of insurers and contract

purchasers to manage their respective exposures to investment risk. RA180-81.

As noted above, for insurers, these include such measures as resetting annually the

formula for crediting index-linked returns and purchasing options and other

derivatives to hedge against positive index changes. RA180-81. The Commission

concluded that insurance companies can use these tools to effectively “reduce or

eliminate their investment risks.” RA180-81.

Marketing. The Commission did not explicitly incorporate a marketing

factor into Rule 151A. RA184. Instead, consistent with the concern the

Commission expressed a decade earlier in the 1997 concept release, see supra pp.

19-20, the Commission explained that a separate marketing factor was

unnecessary, because “[t]he very nature of an indexed annuity, where return is

contractually linked to the return on a securities index, is, to a very substantial

extent, designed to appeal to purchasers on the prospect of investment growth.”

RA182-83. The Commission determined that it would be inconsistent with the

character of indexed annuities described by Rule 151A, and potentially

misleading, to market such annuities without placing significant emphasis on the

securities-linked return and the related risks. RA183; see also RA151.

The Commission further stated its view that if purchasers were uninterested

in the potential for growth offered by securities-linked returns in indexed

annuities, they would opt for alternative investments offering higher fixed

returns14/—a finding supported by data submitted by commenters. RA183.

State Insurance Laws. Responding to various comments that, unlike at the

time the Securities Act was passed, state insurance regulation now addresses

For example, the guaranteed rate of return in indexed annuities is

typically much less than the rate of return offered on U.S. Treasury securities with

a maturity term equal in length to the surrender charge period. JA457; see also

JA242 n.4 (discussing NAIC STANDARD NONFORFEITURE LAW, § 4.B & 4.C).

“investor protection issues such as suitability and disclosure,” the Commission

explained that “the states’ regulatory efforts, no matter how strong, cannot

substitute for [the Commission’s] responsibility to identify securities covered by

the federal securities laws and the protections Congress intended to apply.”

RA191-92. To the extent that state insurance law has any relevance to the Section

3(a)(8) exemption, it is only “ ‘state insurance regulation as it . . . existed [in

1933].’ ” RA169 n.42 (quoting VALIC concurrence). The Commission also

noted that, in any event, “[s]tate insurance laws, enforced by multiple regulators

whose primary charge is the solvency of the issuing insurance company, cannot

serve as an adequate substitute for uniform enforceable investor protections

provided by the federal securities laws.” RA192.15/

SUMMARY OF ARGUMENT

Rule 151(a) is based on a reasonable interpretation of the term “annuity

contract” in Section 3(a)(8) of the Securities Act.

Cf. FLORIDA DEP’T OF FINANCIAL SERVICES, EQUITY INDEXED

ANNUITY INVESTOR ALERT (cautioning investors that because indexed annuities

currently being sold are “not required to be registered with the SEC,” issuers are

not legally obligated to provide a “prospectus with disclosures regarding risk” and

salespersons are not required to have “a securities license,” but only need to have

“taken and passed a 40-hour [insurance] licensing course and state life insurance

exam”).

The Chevron framework applies here because the Commission

promulgated Rule 151A pursuant to its express statutory authority to adopt

binding rules and regulations that define terms. The interpretation of “annuity

contract” in Rule 151A is not unambiguously precluded by the statute. The

Securities Act does not define “annuity contract,” and the Supreme Court has

made clear that the only contracts unambiguously covered by that term are the

traditional fixed annuities that existed when Section 3(a)(8) was enacted. Because

indexed annuities did not exist in 1933 and confront purchasers with investment

risks that traditional fixed annuities do not, they are not unambiguously covered

by Section 3(a)(8).

The Commission reasonably concluded that indexed annuities

described by Rule 151A expose purchasers to investment risk that the Securities

Act was intended to address through disclosure to investors and, therefore, are not

the sort of annuity that Congress intended to leave exclusively to state insurance

regulation through the Section 3(a)(8) exemption. The Commission reasoned that

an indexed annuity in which the payout is more likely than not to be derived from

the future performance of a securities index exposes an annuity purchaser to a

significant investment risk, because his or her securities-linked return is not

known in advance. This determination is consistent with case law, longstanding

Commission interpretations, and common understanding of investment risk.

The Commission correctly concluded that none of the asserted

burdens of Rule 151A on efficiency, competition and capital formation is a basis

for altering its conclusion that an indexed annuity described by the Rule is not an

exempt “annuity contract” under Section 3(a)(8). In any event, because the

Commission adopted Rule 151A under its Section 19(a) authority to define terms,

it was not required by the statute to analyze Rule 151A’s potential impact on

efficiency, competition and capital formation.

The arguments raised only by amici curiae—that the Commission did

not adequately address Rule 151A’s impact on small entities and that indexed

annuities are not securities because they are not “investment contracts”—are not

properly before the Court, because they address issues not raised by any party to

this proceeding. In any event, neither has merit: the Commission adequately

addressed Rule 151A’s impact on small entities; and, under settled precedent,

indexed annuities are investment contracts.

STANDARD OF REVIEW

Under the Administrative Procedure Act, 5 U.S.C. 706, this Court considers

whether an agency action is arbitrary, capricious, an abuse of discretion, or

otherwise not in accordance with law. The Commission’s findings of fact are

conclusive if supported by substantial evidence. Securities Act Section 9(a).

Under Chevron U.S.A., Inc. v. Natural Resources Defense Council, Inc., 467 U.S.

837, 842-44 (1984), this Court defers to the Commission’s interpretation of the

Securities Act if Congress has not “unambiguously forbidden [the interpretation]

and it is . . . ‘based on a permissible construction of the statute.’ ” Northpoint

Tech. v. FCC, 414 F.3d 61, 69 (D.C. Cir. 2005) (quoting Chevron, 467 U.S. at

842-43); see also Consumer Electronics Ass’n v. FCC, 347 F.3d 291, 297 (D.C.

Cir. 2003) (applying Chevron to whether FCC had authority to promulgate rule).

ARGUMENT

RULE 151A SHOULD BE UPHELD BECAUSE IT IS BASED ON A

REASONABLE CONSTRUCTION OF AMBIGUOUS LANGUAGE IN SECTION

3(a)(8).

Chevron Controls the Court’s Review of Rule 151A.

The Commission promulgated Rule 151A pursuant to Section 19(a) of the

Securities Act, which delegates to the Commission the authority “to make . . . such

rules and regulations as may be necessary to carry out the provisions” of the Act,

including rules and regulations “defining accounting, technical, and trade terms

. . . .” This provision expressly authorizes the promulgation of binding legal

rules, and Rule 151A, which interprets “annuity contract” in Securities Act

Section 3(a)(8), is such a rule. It is well settled that such agency action—

undertaken pursuant to an “express congressional authorization[] to engage in the

process of rulemaking . . . that produces regulations” with the “force of law”—is

subject to review under the analytical framework set out in Chevron. United

States v. Mead Corp., 533 U.S. 218, 229-30 (2001); NCTA v. Brand X, 545 U.S.

967, 980-81 (2005).

There is no merit to any of the five arguments that Industry Petitioners

advance (at 25-26) in an effort to avoid Chevron review.

First, in promulgating Rule 151A, the Commission invoked its express

authority to define statutory terms under Section 19(a). In doing so, the

Commission made clear that, contrary to Industry Petitioners’ contention (at 25), it

was exercising interpretative discretion. See, e.g., RA153 (“[W]e are adopting a

new definition of ‘annuity contract’ that, on a prospective basis, will define a class

of indexed annuities that are outside the scope of Section 3(a)(8). We carefully

considered where to draw the line, and we believe that the line that we have drawn

. . . is rational and reasonably related to fundamental concepts of risk and

insurance.”).

Distorting and misdescribing language in the Adopting Release, Industry

Petitioners state that the Commission disclaimed any interpretative discretion by

“asserti[ng] that . . . it was following the clear dictates of Section 3(a)(8)” and by

stating that “ ‘Congress has determined that securities investors are entitled’ to the

rule’s requirements . . . .” IP Br. 50. In fact, the Commission explained that Rule

151A was necessary precisely because it was unclear whether the type of indexed

annuity described by the rule is an “annuity contract” within the meaning of

Section 3(a)(8). RA168-69. The Commission did not say that Congress has

determined that securities investors are entitled “to the rule’s requirements” (IP Br.

50) but, instead, “to the disclosure, antifraud, and sales practice protections of the

federal securities laws.” RA280. Accurately quoted, this statement does not

reflect a Commission view that the rule was somehow preordained by Congress

without any room for Commission interpretation.

Second, citing Akins v. FEC, 101 F.3d 731, 740 (D.C. Cir. 1997), vacated,

524 U.S. 11 (1998), Industry Petitioners erroneously argue that Chevron does not

apply because the Commission “based [Rule 151A] on its interpretation of

Supreme Court caselaw” instead of statutory terms. IP Br. 25. In Akins, this

Court rejected the argument that an agency was entitled to Chevron deference in

interpreting Supreme Court cases applying statutory terms that the agency

conceded were unambiguous. 101 F.3d at 740. Here, by contrast, the Commission

based Rule 151A on its interpretation of “annuity contract” in Section 3(a)(8)—a

term that both the Supreme Court and the Commission have recognized is

ambiguous when applied to types of annuities other than the traditional fixed

annuities that existed when the Securities Act was enacted. See supra, pp. 12, 14,

16, 17, 19, 20, 23.

Third, Industry Petitioners assert that Chevron deference does not apply

because this case involves a “ ‘pure question of statutory construction’ ” (IP Br.

25), suggesting erroneously that statutory construction is somehow inconsistent

with agency interpretations warranting deference. In fact, as National Association

of Manufacturers v. Department of the Interior makes clear, the quoted language is

merely a way of describing the first step of the Chevron analysis. 134 F.3d 1095,

1102 (D.C. Cir. 1998). For the reasons set forth below, the Commission

concluded (consistently with every court to consider the question) that Section

3(a)(8) does not unambiguously address contracts—like the indexed annuities

described in Rule 151A—that present investment risks beyond those found in the

traditional fixed annuity contracts existing in 1933. As such, the Commission

engaged in “statutory construction” of the same sort that the Supreme Court and

this Court have consistently recognized as warranting Chevron deference: issuing

a binding definitional rule that reasonably resolves ambiguities in a statute that an

agency has authority to administer. See, e.g., Brand X, 545 U.S. at 980-81;

National Mining Ass’n v. Kempthorne, 512 F.3d 702, 709 (D.C. Cir. 2008).

Fourth, the presence of the word “any” before “annuity contract” in Section

3(a)(8) does not strip the Commission of the interpretative discretion it has under

Chevron regarding the meaning of that term. The contrary argument (IP Br. 25

26, 37-39) assumes erroneously that Congress intended to exempt from the

protections of the securities laws any form of contract labeled (or regulated by a

state as) an “annuity”—including those that did not exist when Section 3(a)(8) was

enacted—without regard to the investment risks to which purchasers of such

contracts are subjected. As discussed above at pages 14-16, the Supreme Court

squarely rejected such a reading of Section 3(a)(8) in VALIC and United Benefit.

New York v. EPA, 443 F.3d 880 (D.C. Cir. 2006), does not support a

contrary interpretation. In that case, the Court concluded that the placement of the

word “any” before the words “physical change” in a Clean Air Act provision

indicated that Congress intended to embrace all physical changes because, among

other things, EPA had identified no “historical fact” contravening such a broad

reading. Id. at 889-90. To the contrary, the factual evidence concerning

Congress’s intent when the provision at issue was enacted affirmatively supported

the broader reading. Id. at 889; see also id. at 887. The Court also concluded that

EPA could not “show that historical fact prevents a broad reading of ‘any physical

change’ inasmuch as EPA for decades ha[d] interpreted that phrase to mean

‘virtually all changes, even trivial ones . . . .’ ” Id. at 889.

The sort of historical evidence missing in New York v. EPA supports the

Commission’s determination that the term “annuity contract” does not

unambiguously apply to the indexed annuities described by Rule 151A. Indeed,

because annuity contracts in 1933 were limited to traditional fixed annuities, it

cannot be assumed that Congress would have intended new forms of contracts

labeled “annuities” but presenting different investment risks to be eligible for the

exemption created by Section 3(a)(8). VALIC, 359 U.S. at 67-73; id. at 75

(concurrence); see also United Benefit, 387 U.S. at 209-11. Since VALIC, the

Commission and every court to address the scope of Section 3(a)(8) have

uniformly regarded the exemption as applying unambiguously only to traditional

fixed annuities. See supra pp. 12, 14, 16, 17, 19, 20, 23; see infra, pp. 38-39.

Finally, in promulgating Rule 151A, the Commission did not “ ‘expand its

own jurisdiction’ ” or “ ‘invade the jurisdiction of other agencies’ . . . [or] the

jurisdiction of the States . . . .” IP Br. 26 (quoting American Bankers Ass’n v.

SEC , 804 F.2d 739, 755 (D.C. Cir. 1986)). In American Bankers Ass’n, the Court

held that the Commission could not use its definitional authority to gain

jurisdiction over banks (by defining them as broker-dealers) because Congress had

clearly expressed its intent to “preclude SEC regulation of institutions meeting the

statutory definition of ‘bank’ in order to avoid duplicative [federal] regulation.”

804 F.2d at 744-45. None of the reasons underlying the Court’s decision not to

defer to the Commission interpretation at issue in American Bankers Ass’n applies

here: the Securities Act does not define “annuity contract” at all, let alone in a

way that is contrary to Rule 151A; subjecting indexed annuities described by Rule

151A to regulation as securities does not affect the jurisdiction of any other federal

agency or any state; and the Supreme Court has held that Section 3(a)(8) does not

reflect a congressional intent to exempt annuity contracts merely because they are

subject to state insurance regulation. See United Benefit, 387 U.S. at 210;

VALIC, 359 U.S. at 75 (concurrence).16/

Rule 151A Satisfies the First Step of the Chevron Analysis,

Because Section 3(a)(8) Does Not Unambiguously Foreclose the

Commission’s Interpretation.

Under Chevron, “[i]f the intent of Congress is clear, that is the end of the

matter; for the court, as well as the agency, must give effect to the unambiguously

expressed intent of Congress.” Chevron, 467 U.S. at 842-43. In Rule 151A, the

Chevron applies even though the definition of “annuity contract” in

Section 3(a)(8) could be seen as relating to the scope of the Commission’s

jurisdiction. See Mississippi Power & Light Co. v. Moore, 487 U.S. 354, 381-82

(1988) (Scalia, J., concurring) (citing cases).

Commission defined “annuity contract” in Section 3(a)(8) as not including an

indexed annuity under which a purchaser is more likely than not to receive a

payout in excess of the minimum guaranteed under the contract because of returns

calculated retrospectively (that is, at the end of the period for which a return is to

be credited) based on the performance of a securities-linked index during that

period. Because that interpretation is not unambiguously precluded by the statute,

Rule 151A passes the first step of the Chevron analysis. See Brand X, 545 U.S. at

996-97.

As the Commission explained (RA169-70), the Securities Act does not

define “annuity contract,” and, at the time Section 3(a)(8) was enacted, the type of

indexed annuity that is described in Rule 151A did not exist. Thus, the

Commission correctly concluded—just as the Supreme Court did when it

considered the application of Section 3(a)(8) to the “annuity” contracts at issue in

VALIC and United Benefit—that whether Congress would have intended Section

3(a)(8) to apply to the indexed annuity contracts addressed in Rule 151A cannot

be discerned from the language of the statute alone. In VALIC and again in

United Benefit, the Court held that the contracts at issue in those cases, though

labeled “annuities,” were not unambiguously covered by the term “annuity

contract” in Section 3(a)(8). The Court reasoned that when Section 3(a)(8) was

enacted, the type of annuity contract then existing provided for a series of fixed

payments and placed no substantial investment risks on purchasers, and, therefore,

such fixed annuities are the only types of contracts unambiguously covered by the

exemption. VALIC, 359 U.S. at 620-23; id. at 624 (concurrence).

With regard to new forms of contract that are called “annuities” but present

different risks to purchasers—like the variable annuity in VALIC and the

“Flexible Fund Annuity” in United Benefit—whether the Section 3(a)(8)

exemption applies depends on whether the contract presents the sort of investment

risks to which Congress then would have intended the protections of the securities

laws to apply. See VALIC, 359 U.S. at 75 (concurrence); United Benefit, 387

U.S. at 209-11.

Following the Supreme Court’s lead in VALIC and United Benefit, no court

has held that Section 3(a)(8) unambiguously covers any annuity contracts other

than traditional fixed annuities—in which the only risk to purchasers is that “the

seller’s portfolio will perform too poorly to finance the promised payments.”

Associates in Adolescent Psychiatry v. Home Life Insurance Co. (“Home Life”),

941 F.2d 561, 566 (7th Cir. 1991); id. at 567 (in all other cases an assessment of the

risk remaining with the annuity purchaser is required because the application of

Section 3(a)(8) to such contracts is uncertain); see also Holding v. Cook, 521 F.

Supp.2d 832, 837 (C.D. Ill. 2007).

Even in Malone v. Addison Insurance Marketing, Inc.—the district court

case on which petitioners principally rely (see IP Br. 19, 21, 35, 43, 46-47) and

with which the Commission disagrees for the reasons discussed below at page 60

—the district court recognized that the language of Section 3(a)(8) does not

unambiguously include indexed annuity contracts like those described by Rule

151A. 225 F. Supp.2d 743, 748-49 (W.D. Ky. 2002) (“Each analysis in this area

therefore requires the Court’s particular attention to the instrument at issue. The

Court begins by discussing the relevant characteristics of fixed and variable

annuities and then classifies the contract on the basis of the criteria applied by the

Supreme Court and other circuits.”).

As discussed above at pages 17, 19, 20-21, and 23, the Commission, too,

has consistently recognized that whether an annuity other than a traditional fixed

annuity is an “annuity contract” within the meaning of Section 3(a)(8) is uncertain.

Industry Petitioners assert that, notwithstanding the foregoing uniform

precedent, the “plain meaning” of Section 3(a)(8) covers the indexed annuities

described in Rule 151A. IP Br. 29. They argue that it is unnecessary to undertake

the sort of facts-and-circumstances test conducted in VALIC and United Benefit

(and by the Commission in this rulemaking) because, unlike in VALIC and United

Benefit, (1) the value of an indexed annuity contract is not “depende[nt] on the

issuer’s management of a fund in which the purchaser [is] a shareholder”; and

(2) the indexed annuity contract is “subject to the full panoply of state insurance

protections applied to traditional fixed annuities . . . .” IP Br. 29. This argument

rests on a misreading of VALIC and United Benefit.

First, neither VALIC nor United Benefit held that the only way that a

contract would fall outside the plain meaning of “annuity contract” in Section

3(a)(8)—and have to be “tested” to see if it is the sort of instrument Congress

intended to exempt—is if it involves an issuer providing management of a separate

investment fund. The insurer’s investment management of a separate fund was an

aspect of the contracts at issue in those cases, but the Supreme Court’s reasoning

was broader. See United Benefit, 387 U.S. at 210 (quoting VALIC, 359 U.S. at

75). At page 30 of their brief, Industry Petitioners distort the meaning of language

from United Benefit: the Court did not hold that Congress intended the Section

3(a)(8) exemption to apply unless an investment’s “value depends on the

‘investment management’ of the issuer.” Instead, it is only when an investment

labeled an annuity does not present any of “the sort of problems that the Securities

Act . . . (was) devised to deal with” that a court could conclude that it plainly “falls

within the sort of investment form that Congress was then willing to leave

exclusively to the State Insurance Commissioners.” VALIC, 359 U.S. at 76

(concurrence). Although an insurer’s management of a separate investment

account is one factor that implicates the protections of the Securities Act (and

other securities laws), it is by no means the only one. Accordingly, the absence of

that factor does not mean that Section 3(a)(8) unambiguously applies to a

particular form of investment.17/

As the Commission explained, the indexed annuities described by Rule

151A have features (an equity indexed component and retrospective determination

of the index-linked credit) that subject purchasers to “the risk of an uncertain and

fluctuating financial instrument, in exchange for participation in future

securities-linked returns.” RA171. Because of this, the Commission correctly

concluded that such indexed annuities present risks beyond those in the fixed

annuities existing when Section 3(a)(8) was enacted and therefore are not

unambiguously covered by that exemption. RA170-72.

To the extent Industry Petitioners (at 31 & n.4) and Allianz (at 5-6)

are suggesting that the indexed annuities described by Rule 151A involve no

investment management by the issuer at all, they are mistaken. An insurer’s

ability to satisfy its contractual obligations to indexed annuity purchasers depends

on the insurer’s ability to manage the investment of the payments made by those

purchasers. See infra pp. 71-73; see also NAFA, WHITE PAPER, supra, at 11.

Industry Petitioners are likewise mistaken in arguing that in VALIC and

United Benefit the Court’s conclusion that the annuity contracts at issue were not

within the plain meaning of “annuity contract” in Section 3(a)(8)—and thus had to

be subjected to the facts-and-circumstances inquiry discussed above—hinged on

the absence of generally-applicable state insurance regulation. IP Br. 31. Rather,

the relevant inquiry for purposes of whether a contract is covered by Section

3(a)(8) is not whether it is subject to a particular level of state insurance regulation

(see supra p. 27), but whether offering the contract raises issues the Securities Act

was enacted to address in 1933 and that Congress was not then content “to leave

exclusively to the State Insurance Commissioners.” VALIC, 359 U.S. at 76

(concurrence); see also United Benefit, 387 U.S. at 210 (citing concurrence in

VALIC, 359 U.S. at 75).18/ Indeed, a comment letter filed in this rulemaking on

behalf of four of the Industry Petitioners and amicus Allianz (see JA240 n.1)

recognized that “United Benefit actually specifically rejected a weighing of state

[insurance] regulation in the analysis . . . .” JA500 (emphasis in original). The

See VALIC, 359 U.S. at 69 (holding that what the states were doing

in terms of regulation was “not decisive” because “the meaning of ‘insurance’ or

‘annuity’ under these Federal Acts is a federal question.”); id. at 75 (concurrence)

(“Nor is it rational to assume that Congress thought that any business whatsoever

regulated by a specific class of officials, the State Insurance Commissioners,

would be for that reason so perfectly conducted and regulated that all the

protections of the Federal Acts would be unnecessary.”).

commenters further stated that they were “aware of no Section 3(a)(8) opinion in

which a court purported to assess the sufficiency of state annuity regulation to

determine whether the contracts at issue were annuities or securities for the

purpose of the [Securities] Act.” JA500 (internal citations omitted) (emphasis in

original). The comment letter is correct on this point; the more recently adopted

contrary view of Industry Petitioners and Allianz is not.

Rule 151A Satisfies the Second Step of the Chevron Analysis,

Because It Reflects a Reasonable Interpretation of Section 3(a)(8).

Because Section 3(a)(8) is “ambiguous with respect to the specific question

at issue”—whether contracts described by Rule 151A are “annuity contracts”—the

Commission’s interpretation of “annuity contract” in Rule 151A warrants

deference so long as it is a “permissible,” that is, “reasonable,” construction of that

term. Chevron, 467 U.S. at 843-44; see also Northpoint, 414 F.3d at 69 (a

“ ‘permissible’ construction [is] . . . [one that] is not arbitrary, capricious, or

manifestly contrary to the statute”). In assessing Rule 151A under this standard,

the Court will not set aside the Commission’s reasonable interpretation in favor of

an alternatively plausible (or even a better) one. See, e.g., Brand X, 545 U.S. at

980 (“If a statute is ambiguous, and if the implementing agency’s construction is

reasonable, Chevron requires a federal court to accept the agency’s construction of

the statute, even if the agency’s reading differs from what the court believes is the

best statutory interpretation.”). The Commission’s construction of “annuity

contract” in Rule 151A is consistent with Congress’s intent when it enacted that

provision, as well as past judicial and Commission interpretations of investment

risk warranting the protections of the securities laws. The Rule therefore readily

satisfies Chevron’s reasonableness requirement.

The Commission’s interpretation reflects a reasonable view

of the investment risk borne by the purchasers of the

contracts described by the Rule.

As discussed above, the Commission determined that the purchaser of an

indexed annuity described by Rule 151A “is exposed to a significant investment

risk” because his or her return, which is linked to a securities index, “is not known

in advance.” RA179. Specifically, by announcing the index-linked return to be

credited only at the end of the period (i.e., retrospectively), indexed annuities

leave the contract purchaser facing uncertainty as to whether any such return will

be credited or, if so, how much will be credited; the purchaser bears the

uncertainty of an index-linked return that “depends on market volatility and risk.”

RA171; see also RA197-98. The Commission determined that this is an

investment risk that the Securities Act was intended to address through disclosure

to investors and, therefore, that the indexed annuities described by Rule 151A are

not exempt under Section 3(a)(8). RA198-99; see generally Brand X, 545 U.S. at

980-81 (“[A]mbiguities in statutes within an agency’s jurisdiction to administer

are delegations of authority to the agency to fill the statutory gap in reasonable

fashion,” a task that involves “policy choices that agencies are better equipped to

make than courts.”).

Petitioners contend that the Commission based Rule 151A on a definition of

investment risk that “is arbitrary, capricious, and contrary to law.” IP Br. 39, 42.

In fact, since adopting the Rule 151 safe harbor nearly a quarter century ago, the

Commission has stated consistently that the uncertainty associated with the

crediting of a return in excess of a contract’s guaranteed return of principal and

minimum interest is an investment risk. See RA22-23 (Rule 151(b)(3)). The

Commission has further explained that if the rate of any excess return is

determined prospectively—i.e., set in advance “for the next 12-month or longer

period”—the insurer bears sufficient investment risk for the excess return to

qualify for the safe harbor. RA19; see also RA17 (extending safe harbor

protection where, among other conditions, the insurer prospectively announces an

excess return rate that will remain in effect for at least one year). By contrast, the

Commission has made clear that if the excess return rate is determined

retrospectively (or if the insurer can modify a prospectively set rate “more

frequently than once per year”), this shifts investment risk regarding fluctuations

in that rate to the contract owner. RA19; see also RA5; RA46-47. For that reason,

the Commission decided not to extend the safe harbor to contracts that determine

the excess return rate retrospectively. RA17; RA19; see also RA46-47.

Courts have also recognized that it is reasonable to treat the uncertainty

arising from retrospective calculation of returns beyond the guaranteed minimum

as an investment risk borne by purchasers. Courts have likewise concluded that

such retrospective calculation is critical in assessing the applicability of the

Section 3(a)(8) exemption. See, e.g., Home Life, 941 F.2d at 567; Rothwell v.

Chubb Life Ins., 1998 U.S. Dist. Lexis 22630 (D. N.H. Mar. 31, 1998), *18-*20.

In Home Life, Judge Easterbrook explained that—in contrast to such retrospective

calculation—where the rate of any excess return is set in advance, the contract

resemble[s] nothing so much as a series of fixed annuities, each one

year in duration, with the purchaser having an option to renew. That

the return is fixed for such a short period does not make the

instrument less a[] [traditional] annuity.

Id. at 567.

Such prospective announcement of the excess return rate minimizes the

purchaser’s investment risk because it allows the purchaser intelligently “to

withdraw all funds and invest them elsewhere, if dissatisfied with the rate; to leave

the funds with [the insurer] and add nothing to them”; or “to make additional

purchases.” Id.; see also Rothwell, 1998 U.S. Dist. Lexis 22630, at *19-*20

(“[A]dvance notice of rate changes gives [contract holders] a meaningful

opportunity to assess whether they wish to continue to hold their policies.”).

Thus, like the holder of a traditional annuity, the purchaser of a product with a

prospectively announced excess return rate avoids the uncertainty and investment

risk of not knowing his or her return in advance. See Rothwell, 1998 U.S. Dist.

Lexis 22630, at *20 (“This arrangement thus limits the extent to which investment

risk is placed upon policy holders.”). For contracts that prospectively announce

the excess return rate, it is the insurance company, as opposed to the policy owner,

that “assumes the risk that, despite its predictions, its investments will not perform

sufficiently to meet its obligation to pay at the declared rate.” Id. at *19; see also

JA 488.

Courts have recognized, by contrast, that if a contract provides for the

retrospective determination of an excess return rate, the insurer shifts investment

risk to the contract purchaser. Id. at 19. For example, as Judge Easterbrook

concluded in Home Life, the “ex ante uncertainty” created by retrospectively

determined rates of return was the critical common characteristic of contracts that

two earlier Seventh Circuit decisions held were ineligible for the Section 3(a)(8)

exemption. 941 F.2d at 566-67 (discussing Peoria Union Stock Yards v. Penn

Mutual Life Ins., 698 F.2d 320 (7th Cir. 1983) and Otto v. VALIC, 814 F.2d 1127,

1133 (7th Cir. 1986)). Both cases involved contracts that offered a guarantee of

principal plus a minimum rate of return, as well as excess return determined

retrospectively (in Peoria, a pro rata share of the amount earned on the insurer’s

general portfolio of investments; in Otto, a discretionary amount determined by

the insurer).19/

When the rate of return is calculated retrospectively based on the

performance of a securities index during a period, the insurer can enter into

hedging contracts with third parties at the beginning of that period. RA180-81;

see supra pp. 10-11; see infra p. 54. As the Commission concluded, this allows

In April 1988, the Solicitor General’s Office and the Commission

supported a petition for certiorari in Otto. Without taking a position on the

ultimate issue of whether the contract satisfied the Section 3(a)(8) exemption, the

government’s amicus curiae brief stated that the insurer “bore sufficient

investment risk under the contract to meet the investment-risk criterion of Section

3(a)(8)” because the insurer guaranteed principal and a minimum rate of return, as

well as the excess return declared under the contract. The brief did not address the

retrospective determination of excess return rate as an investment risk relevant to

determining whether a contract satisfies Section 3(a)(8). In this rulemaking, the

Commission stated that the position articulated in the Otto brief is not relevant in

the context of indexed annuities and, to the extent that the brief may imply

otherwise, the position taken in the brief does not reflect the Commission’s current

position. RA181-82. See generally Brand X, 545 U.S. at 981 (“An initial agency

interpretation is not instantly carved in stone. On the contrary, the agency . . .

must consider varying interpretations and the wisdom of its policy on a continuing

basis . . . .”) (quoting Chevron, 467 U.S. at 863-64).

the insurer to reduce or eliminate its risk, while leaving the contract holder

exposed to a significant investment risk—“the risk of a fluctuating and uncertain

return based on the performance of a securities index.” RA180-81; see also

RA171. The Commission reasonably determined that, when indexed annuities are

“more likely than not” to pay out based on retrospectively determined index-linked

returns, the investment risk assumed by contract holders is significant enough to

implicate the protective purposes underlying the securities laws. RA172; RA176;

RA180-81.

Industry Petitioners nonetheless contend that the Commission’s

determination is unreasonable because, they claim, the Commission’s

understanding of investment risk “conflicts with the governing caselaw and

common parlance.” IP Br. 27. They argue, on this basis, that “investment risk is

fundamentally” the risk borne by purchasers that their principal “will be lost or

plummet in value.” IP Br. 34. As the Commission explained, and the case law

discussed above confirms, however, “[d]efining risk only as the possibility of

principal loss or an approximate equivalent . . . fails to account for important

forms of risk.” RA177; see also Rothwell, 1998 U.S. Dist. Lexis 22630, at *16

(“investment risk” is “the risk that principal will be lost and/or that the return on

investment will be lower than expected”); INTERNATIONAL GLOSSARY OF

BUSINESS VALUATION TERMS (2001) (“Investment risk—the degree of uncertainty

as to the realization of expected returns.”) (definition adopted by (among others)

the American Institute of Certified Public Accountants). To demonstrate the

point, the Commission explained that:

accepting the definition of risk suggested by commentators as a

complete characterization of risk would lead to the conclusion that

any two assets that both guarantee return of principal equally have no

risk. However, we believe that the market would generally view an

asset where the future payoff of the amount over the guaranteed

principal return is uncertain to be more risky than a zero-coupon U.S.

government bond maturing at the same date, which also guarantees

principal return but has a nearly certain future payoff.

RA177-78.

Indeed, the contention that investment risk in “common parlance” is nothing

more than the loss of principal (IP Br. 2, 27, 37) is belied by petitioner NAIC’s

own recognition (in publicly disseminated materials prepared before the current

litigation) that indexed annuities present a level of investment “risk” that falls

between the “potential for higher earnings that aren’t guaranteed” in variable

annuities and the “guaranteed interest rate and little or no risk” of traditional

fixed-rate annuities. NAIC Add.45 (“[A]m I somewhere in between and willing to

take some risks with an equity-indexed annuity?”); see also JA297 (comparing

risks and identifying—in a dozen questions that a prospective purchaser of

indexed annuities should ask—information relevant to assessing “how much risk

[the purchaser is] willing to take with [his or her] money”).

Moreover, even a quick internet search of the words “investment risk

definition” yields results showing that the Commission’s understanding is

consistent with common usage: “uncertainty about the future benefits to be

realized from an investment”;20/ “[t]he uncertainties attached while making an

investment that the investment may not yield the expected returns”;21/ and

“common definition for investment risk is deviation from an expected outcome.”22/

These definitions thus make clear that when the Commission spoke of the

“uncertain and fluctuating returns” of indexed annuities (e.g., RA181) and their

potential for “unpreditabl[e] deviat[ion] from the expected return” (e.g., RA177),

it was using alternative, commonly accepted formulations for describing the

investment risk posed by those products. See also RA179 (“The purchaser of an

indexed annuity assumes investment risk because his or her return is not known in

advance and therefore varies from its expected value.”).

See (http://financial-dictionary.thefreedictionary.com/Investment

+Risk); (http://www.thecfdcentre.com/glossary/technical_and_fundamental_

analysis/investment_risk); (http://www.advfn.com/money-words_term_7698_

Investment_Risk.html).

See (http://www.hjventures.com/valuation/Investment-Risk.html).

See (http://www.investopedia.com/articles/08/risk.asp).

Industry Petitioners erroneously assert (at 40) that the only investment risk

that concerned the Court in VALIC and United Benefit was loss of principal.

Although those cases involved contracts in which there was a risk of loss of

principal—albeit a small risk in United Benefit, where the contract guaranteed

100% of net premiums after 10 years—neither case foreclosed the possibility that

a contract that eliminated some risk by guaranteeing principal might nonetheless

present other investment risk that would make it ineligible for the Section 3(a)(8)

exemption.

In another version of their loss-of-principal argument, Industry Petitioners

also assert that indexed annuities present no investment risk to purchasers because

there is no “downside risk,” which, they state, is “[c]learly[] what would concern

investors.” IP Br. 40-41 (quoting ZVI BODIE, ET AL., INVESTMENTS, at 174

(2005)). However, downside risk is recognized as the risk that the actual return

will be lower than the “expected return ” (i.e., the mean of all the potential returns

that could occur). See JOHN BLACK, OXFORD DICTIONARY OF ECONOMICS (2002)

(defining “downside risk” as risk that the outcome “will be below the expected

mean return”). In the case of the indexed annuities described by Rule 151A,

which are “more likely than not” to produce a return that is greater than the

minimum guaranteed value, the expected return will always be an amount greater

than the floor established by the minimum guaranteed value.23/ The downside

investment risk of such an indexed annuity comprises all the possible returns that

are lower than the expected return and higher than the minimum guaranteed

value.24/ RA179.

Industry Petitioners (at 40-41) rely on a report attached to their

comment letter during the notice-and-comment period to support their contention

that indexed annuities do not present downside risks because of the minimum

guarantee. The report reaches this incorrect conclusion by erroneously—and

without explanation—equating the minimum guaranteed value with the expected

return, and thus supposing that all returns greater than the minimum guarantee

reflect only upside risk. As discussed above, however, the expected return is

necessarily greater than the guaranteed minimum for contracts described by Rule

151A.

Industry Petitioners (at 40) appear to confuse the Commission’s

statement that investment risk exists where there is a potential for “unpredictabl[e]

deviat[ion] from the expected return” (RA177), with the statistical term of art

“standard deviation,” which is used to quantify risk. See generally, e.g., DAVID R.

ANDERSON, DENNIS J. SWEENEY, & THOMAS A. WILLIAMS, STATISTICS FOR

BUSINESS AND ECONOMICS, at 75 (1993). The discussion in the treatise that the

Industry Petitioners identify in support of their argument (at 40) refers to standard

deviation and simply stands for the settled proposition that, the more a distribution

departs from a normal distribution (bell curve), the less useful the standard

deviation statistic is for precisely quantifying risk. See ZVI BODIE ET AL., supra

note __, at 142. However, the Commission’s analysis does not depend on

precisely quantifying the investment risk presented by indexed annuities described

by Rule 151A. See RA177-79. And, even if the distribution of possible returns of

an index-linked contract takes a form other than a normal distribution (making

standard deviation a less precise statistic for quantifying risk), this does not

change the fact that there remains significant potential for deviation above or

below the expected return, thereby generating uncertainty that is recognized as

investment risk. RA179.

The Commission reasonably considered the allocation of

risk between the insurer and the contract purchaser in

contracts described by Rule 151A.

Contrary to Industry Petitioners’ contention (at 18-19, 43-44), the

Commission based Rule 151A on an assessment of the relative allocation of risk

between the insurers and the contract holders. Indeed, as discussed above at pages

45-49, the distinction that the Commission relied upon between the retrospective

and prospective determination of the index-linked rate of return rests upon the

allocation of investment risk. The retrospective determination of the index-linked

rate leaves the contract holder assuming the risk of the volatile and fluctuating

market index, while allowing the insurer to substantially reduce or eliminate its

investment risk of “having to pay” that index-linked return (IP Br. 18) by entering

into hedging contracts with third parties. RA180-81.

Industry Petitioners also mistakenly contend (at 43-44) that the

Commission’s assessment of the allocation of risks failed to take account of the

insurer’s risk associated with guaranteeing principal and minimum interest. In

fact, the Commission explained (RA179-80) that the “more likely than not test”

for determining whether an indexed annuity is identified by Rule 151A

“specifically contemplates” the insurer’s assumption of this risk:

[T]he rule recognizes that where the insurer is more likely than not to

pay an amount that is fixed and guaranteed by the insurer, significant

investment risks are assumed by the insurer and such a contract may

therefore be entitled to the Section 3(a)(8) exemption. Conversely,

where the purchaser is more likely than not to receive an amount that

is variable and dependent on fluctuations and movements in the

securities markets, rule 151A recognizes the significant investment

risks assumed by the purchaser and specifies that such a contract

would not be considered to fall within Section 3(a)(8).

RA180.

This is a reasonable way of taking account of the risks respectively borne by

insurers and purchasers in an indexed annuity. If the amount paid to a purchaser is

more likely than not to be the minimum guarantee—for which the insurer bears

the risk—the contract may be eligible for the 3(a)(8) exemption. Conversely, if

the payout under the indexed annuity is more likely than not to be determined

based on a retrospectively credited index-linked return—the only situation

covered by Rule 151A—the purchaser principally bears the risks flowing from

uncertain and volatile market fluctuations, and the contract therefore is not eligible

for the 3(a)(8) exemption.

The Commission reasonably considered the marketing of

the contracts described by Rule 151A.

Contrary to Industry Petitioners’ argument (at 45-46), the Commission

reasonably concluded that it was unnecessary for Rule 151A to address

specifically the manner in which indexed annuities described by the Rule are

marketed, because indexed annuities are inherently designed to appeal to

purchasers based on the prospect of investment growth through participation in

securities-linked returns. RA182-84. The Commission determined that, at least in

the case of indexed annuities defined by Rule 151A as ineligible for the Section

3(a)(8) exemption—i.e., those in which the returns will more likely than not be

index-linked—“[i]t would be inconsistent with the character of such an indexed

annuity, and potentially misleading, to market the annuity without placing

significant emphasis on the securities-linked return and related risks.” RA183; see

also JA489-90 (comment letter of AXA Equitable Life Ins., Hartford Financial

Services Group, Massachusetts Mutual Life Ins., MetLife Inc., & New York Life

Ins., dated Oct. 7, 2008) (same)). The Commission also cited recent data showing

that a substantial percentage of those purchasing such products identified the

prospect of growth as a reason for their purchase. RA183.

Neither the Commission nor any court has held that a contract that

otherwise is ineligible for the Section 3(a)(8) exemption could nonetheless become

eligible for that exemption based on the way the contract is marketed. Thus,

although courts and the Commission have considered marketing in the past, it has

been viewed only as a one-way ratchet—i.e., a disqualifying factor—for

entitlement to the exemption. See, e.g., Grainger v. State Security Life Ins., 547

F.2d 303, 306 (5th Cir. 1977) (marketing is relevant “in ascertaining that items

which intuitively would not seem to be securities are, in reality, securities within

the meaning of the federal Acts”); RA22 (Rule 151(a)(3) provides that a contract

is ineligible for the Rule 151 “safe harbor” if “[t]he contract is . . . marketed

primarily as an investment”). The Commission reasonably concluded that

separately considering marketing is unnecessary with regard to indexed annuities

described by Rule 151A both because the investment risk remaining with

purchasers of such contracts renders the contracts ineligible for the Section 3(a)(8)

exemption and because, as set forth above, truthful marketing of such products

would have to emphasize the investment aspect of the contract—the potential for

uncertain index-linked returns—that gives rise to that risk.

Rule 151A is consistent with Rule 151.

The argument that Rule 151A is arbitrary and capricious because it conflicts

with Rule 151 (IP Br. 46-47) is based on a misreading of the release the

Commission issued when it adopted Rule 151. In promulgating Rule 151 and

subsequently, the Commission has explained that the Rule 151 safe harbor is

available only where—unlike in indexed annuities described by Rule 151A—a

rate of return set by reference to an index is determined in advance of the period in

which the rate will apply. That interpretation of Rule 151, which petitioners

dispute, is entitled to deference. See Capital Network System, Inc. v. FCC, 28

F.3d 201, 206 (D.C. Cir. 1994). Placed in context, the last sentence of the

following excerpt from the Rule 151 adopting release—on which Industry

Petitioners base their argument (at 47)—fully supports the Commission’s

interpretation of Rule 151:

[T]he Commission has determined that it would be appropriate to

extend the rule to permit insurers to make limited use of index

features in determining the excess interest rate, so long as the excess

rate is not modified more frequently than once per year. The insurer,

therefore, would be permitted to specify an index to which it will

refer, no more often than annually, to determine the excess rate that it

will guarantee under the contract for the next 12-month or longer

period. Once determined, the rate of excess interest credited to a

particular purchase payment or to the value accumulated under the

contract must remain in effect for at least the one-year time period

established by the rule. Thus, while the rate of interest calculated

under a particular index or formula may fluctuate upward or

downward on a daily basis, the excess interest rate actually credited

may not fluctuate more than once per year.

RA19 (footnotes omitted).

This makes clear that, to qualify for the Rule 151 safe harbor, insurers that

set a rate of return based on an external index may refer to such an index no more

frequently than once a year “to determine the . . . rate”—i.e., set the actual rate to

be credited—for the following crediting period of the contract. Thus, as the

Commission explained, setting the rate by reference to the index must be done

prospectively. RA72-73 & n.38; RA167 & n.38; RA185.

The last sentence of the foregoing excerpt does not mean, as Industry

Petitioners urge, that indexed annuities identified by Rule 151A meet the

requirements of Rule 151 because in such products “the crediting method is

determined annually and interest is credited annually, though the index itself

fluctuates daily.” IP Br. 47. Read in context, that sentence does not support the

view that it is enough for the “crediting method”—i.e., the formula for calculating

the index-based return—to be determined in advance of the period for which such

interest may be credited. Rather, the actual rate of return to be credited must be

set by referring to the relevant index at the outset of the 12-month-or-longer

period, and that rate must be applied during the entire period without regard to

fluctuations in the index during that time. Because indexed annuities described by

Rule 151A determine the index-linked rate only at the end of the period to which

the rate applies, they do not qualify for the Rule 151 safe harbor, and the purported

conflict that Industry Petitioners identify does not exist. To the contrary, Rule

151A is consistent with the Commission’s determination in 1986 to exclude from

Rule 151’s safe harbor contracts which credit an excess return based on

retrospective reference to an index but otherwise guarantee principal and a

minimum return. That judgment gave substantial weight to the risk borne by a

purchaser under the portion of the contract that provided for a return other than

the guaranteed principal plus minimum interest.

As the Commission explained (RA185; see also RA72-73, n.38), the court

in Malone erred when it concluded that an indexed annuity fell within the Rule

151 safe harbor. See 225 F. Supp.2d at 752-54. Contrary to Industry Petitioners’

suggestion (at 46-47), that decision offers no basis for questioning the

reasonableness of the Commission’s construction of Rule 151, because the district

court ignored the fact that the indexed annuity at issue in that case (like those

described by Rule 151A) apparently provided for determining the rate of any

index-linked return to be credited only at the end of the relevant crediting period.

See Malone, 225 F. Supp.2d at 753; see also Stephen E. Roth, The Securities

Status of Life Insurance Products, 902 PLI/COMM 169, 197 (Jan. 2008) (“The

[Malone] court did not reconcile its conclusion that the contracts met Rule 151

with the SEC’s explicit statement that the retroactive crediting of interest would

place a contract outside the protection of the safe harbor of Rule 151.”). Thus, the

court did not address the reason why the Commission concluded such contracts are

ineligible for the Rule 151 safe harbor, let alone offer any reason to doubt the

Commission’s interpretation.

The remaining challenges to the reasonableness of the

Commission’s interpretation of Section 3(a)(8) are

meritless.

Rule 151A does not intrude on the states’ regulation

of contracts described by the Rule.

The argument (IP Br. 44-45; NAIC Br. 12-13) that Rule 151A “intrudes” on

state insurance regulation misconceives the effect of Rule 151A and rests on a

view of the relationship between the federal securities laws and state insurance

regulation that the Supreme Court has rejected. Industry Petitioners argue (at 44

45) that Rule 151A is effectively “mandat[ing]” that insurance companies

structure their contracts in a way that provides “a ‘guarantee’ higher than

required” by state insurance regulators and thereby interfering with state

regulation of those products. This is not so. Rule 151A does not mandate any

contract structure; it simply makes clear that if a contract is structured in a

particular way, it will be ineligible for the exemption under the Securities Act

created by Section 3(a)(8). An insurer may elect to modify the structure of an

indexed annuity it issues in such a way that the contract no longer falls within the

class that Rule 151A describes, and such modifications may exceed what is

required to comply with applicable state insurance laws, but this does not mean

that the Rule is “intruding on” state law. The requirements of the state insurance

laws remain in full force. As discussed below at pages 64-65, such concurrent

state and federal regulation was anticipated by Congress.

NAIC’s similar argument that Rule 151A’s “reclassification of a traditional

insurance product as a security through the adoption of Rule 151A is in direct

conflict with Congress’[s] specific grant of authority to the states” (at 12-13) is

plainly wrong and inconsistent with VALIC and its progeny. Rule 151A does not

preempt any state insurance law; indexed annuities described by the Rule remain

subject to all applicable insurance laws. Moreover, the Supreme Court squarely

held that construing Section 3(a)(8) as not applying to a product that states

regulate as insurance does not run afoul of the McCarran-Ferguson Act or states’

prerogatives as insurance regulators. See VALIC, 359 U.S. at 68; see also RA168

69 n.40.

Rule 151A is reasonably limited to contracts that

create a contractual obligation to pay an index-linked

return.

There is no merit to the argument that Rule 151A is arbitrary and capricious

because, by its terms, it does not apply to “traditional fixed annuities and

‘discretionary excess interest contracts’. . .” even though both types of contracts

(like indexed annuities) may include rates of return that are based in some way

“ ‘on the performance of the securities held by the insurer’s general account.’ ”

IP Br. 48 (quoting RA197). As the Commission explained (RA197), unlike

indexed annuities, traditional and discretionary excess interest annuity contracts

do not contractually require that the rate of return be set by reference to the

performance of a security or group of securities. This aspect of indexed annuity

contracts—together with their retrospective calculation of the indexed-linked rate

of return—subjects purchasers to the uncertain trajectory of the securities market,

an investment risk not present in traditional and discretionary excess interest

annuity contracts. RA197-98. It was reasonable for the Commission to limit Rule

151A to indexed annuities both because that investment risk necessarily exists

where contracts are structured in the manner described by the Rule, and because

the rulemaking was undertaken for the express purpose of addressing the uncertain

regulatory status of this type of annuity. See Star Wireless LLC v. FCC, 522 F.3d

469, 475 (D.C. Cir. 2008) (“[A]n agency need not address all problems at once . . .

Instead, its rules may solve first those problems it prioritizes.”).

II.

THE ARGUMENTS BASED ON ALLEGED DEFECTS IN THE COMMISSION’S

ANALYSIS OF THE RULE’S IMPACT ON EFFICIENCY, COMPETITION AND

CAPITAL FORMATION ARE MERITLESS AND, IN ANY EVENT, IRRELEVANT

AS A MATTER OF LAW.

There is no merit to the contention (IP Br. 49-51; NAIC Br. 14-15) that the

Commission contravened Section 2(b) of the Securities Act, 15 U.S.C. 77b(b), by

not adequately analyzing Rule 151A’s potential impact on efficiency, competition,

and capital formation. As demonstrated below, the Commission appropriately

analyzed the applicability of those factors and properly rejected the arguments

petitioners raise. Further, the plain language of Section 2(b) makes clear that the

Commission was not statutorily required to undertake that analysis and, thus, any

alleged defects cannot be a basis for challenging the rule.

The Commission Considered and Properly Rejected Petitioners’

Contentions Regarding the Rule’s Impact on Efficiency,

Competition, and Capital Formation.

Petitioners contend that the Commission was required both to determine the

extent to which state insurance laws afford similar protections and to justify what

additional benefits application of the federal securities laws would provide. See

IP Br. 49-51; NAIC Br. 13-15; Wasserman Br. 14-18; Allianz Br. 10-12. The

Commission properly rejected this attempt to use Section 2(b) to escape the

Supreme Court’s holdings in VALIC and United Benefit that, with respect to new

products labeled annuities, what the states are doing in terms of regulation is not

relevant to whether those products qualify for the Section 3(a)(8) exemption. See,

e.g., United Benefit, 387 U.S. at 211 (“adequate state regulation” is not a basis for

the Section 3(a)(8) exemption); VALIC, 359 U.S. at 75 (concurrence) (“[H]owever

adequately State Securities Commissioners might regulate an investment, [that

investment] was not for that reason to be freed from federal regulation.”); see also

supra p. 27. To the contrary, as Justice Brennan explained, “[c]oncurrent

regulation . . . was contemplated by the [Securities Act] as a quite generally

prevailing matter.” VALIC, 359 U.S. at 75. In light of this, the Commission

reasonably concluded that the general terms of Section 2(b) did not require it to

consider what the states are doing in terms of regulation, because the Supreme

Court long ago made clear that state regulatory approaches to new products are not

relevant to the Section 3(a)(8) analysis.25/

Accordingly, the Commission properly rejected commenters’ concerns

regarding potential duplicative regulation. The Commission reasonably concluded

that state regulation “no matter how strong” could not “substitute for the federal

securities law protections that apply to instruments that are regulated as

securities.” RA191-92. Those provisions “were designed to provide uniform

protections, with respect to both disclosure and sales practices,” while “[s]tate

insurance laws [are] enforced by multiple regulators whose primary charge is the

solvency of the issuing insurance company . . . .” RA191-92; RA279-80. As the

Even if the general language of Section 2(b) could be construed to

impose such a requirement, it would conflict with what the Supreme Court in

VALIC and United Benefit held to be the specific framework set out by Congress

in Section 3(a)(8) and, thus, would not be controlling here. See, e.g., Ohio Power

Co. v. FERC, 954 F.2d 779, 784-85 (D.C. Cir. 1992) (“[I]t is black letter law that

when a conflict arises between specific and general provisions of the same

legislation, the courts should give voice to Congress’s specific articulation of its

policies and preferences.”).

Commission explained, the purchasers of indexed annuities are “entitled to the

disclosure, antifraud, and sales practice protections of the federal securities laws”

(RA280, 281) without regard to whatever state-law protections might also apply to

the same sellers, purchasers, and/or products.

Finally, Industry Petitioners (at 49-50) contend that the Commission did not

adequately address comments that were received challenging the allegations of

“widespread abusive sales” of indexed annuities. Although the “growth in

complaints of abusive sales practices” was one factor that “persuaded [the

Commission] that guidance is needed with respect to the[] status” of indexed

annuities (RA59), the legal analysis under Section 3(a)(8) does not hinge on the

actual “presence or absence of sales practice abuses.” RA187. As the

Commission explained:

Where an annuity contract is entitled to the Section 3(a)(8)

exemption, the federal securities laws do not apply, and purchasers

are not entitled to their protections, regardless of whether sales

practice abuses may be pervasive. Where, however, an annuity

contract is not entitled to the Section 3(a)(8) exemption, which we

have concluded is the case with respect to certain indexed annuities,

Congress intended that the federal securities laws apply, and

purchasers are entitled to the disclosure and suitability protections

under those laws without regard to whether there is a single

documented incident of abuse.

RA187. Neither the Commission nor any court has stated that the presence or

absence of sales practice abuses is relevant to whether an instrument is eligible

for the Section 3(a)(8) exemption.

In any Event, the Commission Was Not Required by the Statute

To Conduct the Analysis of Efficiency, Competition, and Capital

Formation.

The challenges to the Commission’s analysis of Rule 151A’s potential

impact on efficiency, competition, and capital formation fail for the additional

reason that, under the unambiguous language of Section 2(b), the Commission was

not required to undertake such an analysis when it promulgated Rule 151A.

Section 2(b) provides that “the Commission shall also consider, in addition to the

protection of investors, whether the action will promote efficiency, competition,

and capital formation” when the Commission is engaged in rulemaking under a

provision of the Securities Act that expressly “require[s]” the Commission “to

consider or determine whether an action is necessary or appropriate in the public

interest . . . .” The Commission adopted Rule 151A pursuant to its authority under

Section 19(a), quoted above at page 30, which—unlike many other provisions in

the Securities Act 26/—does not contain the statutory predicate that Section 2(b)

Securities Act Sections 2(a)(10), 3(a)(2), 3(b), 3(c), 7(a), 7(b)(1),

7(b)(2), 8(a), 8(c), 8A(c)(1), 10(a)(4), 10(b), 10(c), 10(d), 19(b)(1)(A)(v), and 28

require the Commission to consider or determine whether the action is necessary

or appropriate in the public interest.

sets for requiring the Commission to consider the potential impact of a rule on

efficiency, competition, and capital formation. As such, any alleged defect in the

Commission’s analysis of those factors is not a basis for challenging Rule 151A.

III.

THE ARGUMENTS RAISED ONLY BY AMICI ARE PROCEDURALLY

DEFECTIVE AND MERITLESS.

Wasserman’s Argument That the Commission Did Not

Adequately Address the Rule’s Impact on Small Businesses Is Not

Properly Before the Court and Is Meritless.

Wasserman challenges the Commission’s analysis under the Regulatory

Flexibility Act, 5 U.S.C. 601, et seq. (“RFA”), as applied to small entity insurance

distributors. Wasserman Br. 5-11. Because this issue was not raised by any party

to this proceeding, it is not properly before the Court. See, e.g., Narragansett

Indian Tribe v. National Indian Gaming Comm’n, 158 F.3d 1335, 1338 (D.C. Cir.

1998) (declining to consider issues raised only in an amicus brief filed by a

Member of Congress); see also New Jersey v. New York, 523 U.S. 767, 781 n.3

(1998) (court refused to consider argument of amicus addressing an issue raised

only by the amicus and not any party).

In any event, Wasserman’s argument is based on a misreading of the

Adopting Release and the RFA. In the Adopting Release (RA288-98), the

Commission analyzed the RFA’s compliance requirements, commenters’

concerns, and significant alternatives as these relate to insurance distributors, even

though it was not required to do so because the Rule does not apply to insurance

distributors.27/ Wasserman does not contest the Commission’s analysis of these

factors, which was clearly adequate. See, e.g., Valuevision Int’l, Inc. v. FCC, 149

F.3d 1204, 1213 (D.C. Cir. 1998). Rather, Wasserman argues (at 5-11) that the

Commission was arbitrary and capricious in its “estimate of the number of small

entities to which the rule will apply” because, Wasserman claims, the Commission

rejected commenters’ estimates of the number of small entity insurance

distributors that will be affected by Rule 151A, and failed to conduct its own

investigation into that number.

In making this argument, Wasserman erroneously ignores the fact that the

Proposing Release specifically requested comments on the number of small entity

The Commission correctly determined that small entity insurance

distributors are not subject to the Rule. “[T]he language of the [RFA] limits its

application to the ‘small entities’ which will be subject to the proposed

regulation’—that is, those ‘small entities to which the . . . rule will apply.’ ”

Cement Kiln Recycling Coal. v. EPA, 255 F.3d 855, 869 (D.C. Cir. 2001); see also

id. 869 (affirming agency’s determination that rule applied only to entities the rule

directly regulated, even though agency considered the economic effects of the rule

on other small business entities); Motor & Equip. Mfrs. Ass’n v. Nichols, 142

F.3d 449, 467 (D.C. Cir. 1998) (RFA analysis was required regarding only entities

directly regulated by the rule). Rule 151A defines a type of indexed annuity

contract issued by an insurance company that does not fall within the Section

3(a)(8) exemption from the Securities Act. Because none of the insurers currently

issuing indexed annuities are small entities, the Commission indicated in

proposing and adopting the Rule that “there are no small entities among the

insurers who are subject to the [Rule] . . . .” RA137; RA292-93.

distributors that might be affected by Rule 151A. RA142. This satisfied the

Commission’s obligations under the APA. See Nat’l Ass’n of Regulatory Utility

Comm’rs v. FCC, 737 F.2d 1095, 1124 (D.C. Cir. 1984). Further, in noting that

there “may be a substantial number of small entities among distributors of indexed

annuities,” the Commission cited a portion of the Adopting Release in which the

Commission recognized commenters’ estimate of “the number of small entities to

be adversely affected by this rule to range from thousands to tens of thousands of

small entities,” and cited these comment letters. RA290 & n.306. In other words,

the Commission sought and then credited commenters’ estimate by citing both

footnote 306 (which listed the comment letters) and the accompanying text (which

mentions commenters’ estimated range of affected small entity insurance

distributors) as support for its finding that there may be a “substantial number” of

these entities.28/

Wasserman also asserts erroneously (at 10) that the Commission

estimated that the rule would result in each agent that sells indexed annuities

incurring costs of $250,000 to $3 million to “obtain and maintain broker dealer

licenses.” In fact, $250,000 to $3 million represents a range of cost estimates for

the establishment of a registered broker-dealer firm by a distributing entity and not

by an individual agent. RA270.

Allianz’s Argument That Indexed Annutities Are Not Securities

Under Howey Is Not Properly Before the Court and Is Meritless.

Amicus Allianz argues (at 4-6) that an indexed annuity described by Rule

151A is not a security because it does not fall within the definition of “investment

contract” as construed by the Supreme Court in SEC v. W.J. Howey Co., 328 U.S.

202 (1946), and its progeny. Allianz concedes that this issue was not raised by

any party to this case. Allianz Br. at C-2; Allianz Mot. at 2. As set forth above,

this issue therefore is not properly before this Court.

In any event, contrary to Allianz’s contention, the indexed annuities

described by Rule 151A fall squarely within the definition of “security” because

they are investment contracts under settled precedent. See, e.g., VALIC, 359 U.S.

at 67-68 (“the term ‘security’” is “broad enough to include any ‘annuity’

contract”); Home Life, 941 F.2d at 565 (“[A]nnuity products are securities,

broadly understood, because they entail entrusting money to the hands of others in

pursuit of appreciation”); see also RA172-73. The “touchstone” of an investment

contract is “the presence of an investment in a common venture premised on a

reasonable expectation of profits to be derived from the entrepreneurial or

managerial efforts of others.” SEC v. Edwards, 540 U.S. 389, 395 (2004).

The sale of indexed annuities plainly constitutes an “investment in a

common venture premised on a reasonable expectation of profits.” The purchasers

of the indexed annuities provide funds to an insurer which, in turn, uses those

funds to acquire securities, including hedging contracts, for its general account.

General account assets ultimately are used to cover the future payout obligations

under the indexed annuities. See Home Life, 941 F.2d at 565 (all annuities “are

pooled investment vehicles”); NAFA, WHITE PAPER, supra, at 11 (“An insurance

company invests the premiums received from [indexed annuities] in its general

account. All general account assets support the insurance company’s obligations

under the [indexed annuities]. . . .”). Similarly, insurers that issue indexed

annuities are responsible for the entrepreneurial and managerial efforts that are

essential to the insurers’ ability to meet their obligations under the indexed

annuities. For example, each such insurer enters into options and futures contracts

in an effort to “accurately hedge its obligations to credit index-derived interest,”

and also undertakes to acquire and manage a sufficient level of “fixed income

securities to support [the minimum guaranteed value]” of the indexed annuities.

Id.

Allianz erroneously contends that “federal courts have found no securities

to be involved where profits were dependent upon the fluctuations” of markets.

Allianz Br. 6 (citing SEC v. Belmont Reid & Co., 794 F.2d 1388 (9th Cir. 1986) &

NOA v. Key Futures, Inc., 638 F.2d 77 (9th Cir. 1980)). Neither case stands for

this sweeping proposition and, in any event, both cases are distinguishable. Those

cases involve defendants that offered to purchase and process metal ore (gold and

silver) and thereafter deliver the refined product to pre-paid purchasers, who could

earn a profit only by themselves reselling the ore at a market price above the

earlier purchase price paid to defendants. As the Ninth Circuit explained, the

purchasers’ ability to do this depended on the “fluctuat[ing]” market price for the

ores at the time of resale. Belmont Reid, 794 F.2d at 1390; Key Futures, 638 F.2d

at 79. This is not true of indexed annuities described by Rule 151A—and thus

Belmont Reid and Key Futures have no application here—because (as discussed

above) the payout under such contracts depends on the managerial efforts of the

insurance company to cover its obligations to purchasers.

Accordingly, the equity indexed annuities described by Rule 151A satisfy

the requirements for investment contract and, therefore, are securities.

CONCLUSION

For the foregoing reasons, the Commission’s order should be affirmed.

Respectfully submitted,

DAVID M. BECKER

General Counsel

MARK D. CAHN

Deputy General Counsel

JACOB H. STILLMAN

Solicitor

_________________________

MICHAEL A. CONLEY

Deputy Solicitor

DOMINICK V. FREDA

Senior Counsel

_________________________

WILLIAM K. SHIREY

Senior Counsel

Securities and Exchange Commission

100 F. Street, NE

Washington, D.C. 20549-8010

(202) 551-5043 (Shirey)

April 2009

CERTIFICATE OF SERVICE

I hereby certify that on this 6th day of April, 2009, I caused two copies of the

FINAL BRIEF OF THE SECURITIES AND EXCHANGE COMMISSION,

RESPONDENT, to be served, via Federal Express overnight delivery, on each of

the following:

Eugene Scalia

GIBSON, DUNN & CRUTCHER LLP

1050 Connecticut Ave, N.W.

Washington, D.C. 20036

(202) 955-8500

Rodney F. Page

BRYAN CAVE LLP

700 Thirteenth St., N.W.

Washington, D.C. 20005

(202) 508-6002

Kenneth W. Sukhia

SUKHIA LAW GROUP, PLC

2846 Remington Green Circle

Tallahassee, Florida 23308

(850) 383-9111

James F. Jorden

JORDEN BURT, LLP

1025 Thomas Jefferson St., N.W.

Suite 400 East

Washington, D.C. 20007

(202) 965-8100

Stephen Hall

NASAA, INC.

750 First Street, N.E.

Suite 1140

Washington, D.C. 20002

(202) 737-0800

Paul G. Cellupica

METLIFE , INC.

1095 Avenue of the Americas

New York, NY 10036-6796

(212) 578-4826

Deborah M. Zuckerman

AARP

601 E. St., N.W.

Washington, DC 20049

(202) 434-6045

________________________

William K. Shirey

Senior Counsel for the

Securities and Exchange Commission

CERTIFICATE OF COMPLIANCE

This brief complies with the type-volume limitations of FRAP

32(a)(7)(B) because:

this brief contains 16,869 words, excluding the parts of the brief

exempted by FRAP 32(a)(7)(B)(iii).

This brief complies with the typeface requirements of FRAP 32(a)(5)

and the type style requirements of FRAP 32(a)(6) because:

this brief has been prepared in a proportionally spaced typeface using

WordPerfect 11 in 14 point Times New Roman type.

________________________

William K. Shirey

Senior Counsel for the

Securities and Exchange Commission

Dated: April 6, 2009

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