Selling to soldiers: allegations of inappropriate sales of insurance and investments on military bases may forge a stronger partnership between the insurance industry, state regulators and the Department of Defense.

Key Points

* Products involved in the on-base selling to members of the military have all been legal.

* Military bases have been prone to market-conduct problems due to uneven enforcement by base commanders and the Department of Defense and because state insurance regulators have been uncertain about their role on bases.

* The Insurance Marketplace Standards Association, the life industry's voluntary ethics organization, has offered to help defense officials establish ethical standards for companies that sell to military personnel.

Let the buyer beware. The adage fits when the purchase is a pair of gloves. But when it's insurance or investments, value is not easily discerned. And that is why recent allegations of young soldiers preparing for combat overseas being conned on their military bases into buying certain life insurance and investments provoked such dismay and anger.

Sparking the criticism was a two-part story in the New York Times in July which said that financial representatives had made sales pitches to young members of the military on their bases. The pitches allegedly led soldiers to believe the products were endorsed by the military or by retired officers. Such tactics are prohibited by the Department of Defense, but there are apparently cracks in enforcement.

"The telling thing about the news paper's stories is that the news was old news," said Frank Keating, president of the American Council of Life Insurers, in Sept. 9 testimony before the House of Representatives Financial Services Subcommittee on Capital Markets, Insurance, and Government Sponsored Enterprises. "Many of the same allegations involving the same companies were reported four years ago in the Cuthbert Report," a Defense Department investigation into insurance-solicitation practices on Department of Defense installations.

Keating said that long before the report was published, it was clear that "something was amiss in the supervision of insurance sales to military personnel" and that "alleged insurance problems required something of state insurance regulators as well as Defense officials." The nation's military mobilization since Sept. 11, 2001, "accelerated personal financial planning for our newly enlisted, accelerated sales of insurance and perhaps accelerated incidents of coercive selling," he said. "But it did not accelerate communications between industry and Defense officials and state insurance officials--until now."

"There are good regulations in place, but we need better enforcement," said Craig Piers, president of 5 Star Life Insurance Co., Alexandria, Va., which has been free of any implication in the sales scandals. "We need to examine the way some agents are gaining access to the troops and to enforce the regulations that exist. The Defense Department could pass a lot more regulations, but until it gets to the root of how the less-scrupulous gain access to the troops, they won't make much of a difference."

One of the companies mentioned in the Times story, American Amicable Life Insurance Co., in September said it would provide full cash refunds to hundreds of soldiers who signed up for life insurance during basic training at Fort Benning, Ga. The Waco, Texas-based company also said it had fired three agents who had sold the policies and accepted the resignation of a fourth. The news came after Georgia Insurance Commissioner John W. Oxendine and his staff had started formal market conduct examinations of American Amicable and sister company Pioneer American Life Insurance Co.; Trans World Assurance, San Mateo, Calif., and its affiliate, American Fidelity Life Insurance Co., Pensacola, Fla.; and Madison National Life Insurance Co. of Middleton, Wis.

Mark Palmer, a spokesman for American Amicable, said the independent agents involved--who are not employees of the insurer--sold the policies in ways that were "inconsistent" with the company's and the Defense Department's policies. "The company took strong action in severing ties to these agents," said Palmer. "The company will offer refunds to soldiers who bought these policies at Fort Benning, and we're working with the commissioner's office to ensure that the refund program meets all of the rules and regulations in Georgia."

Cost vs. Value

But American Amicable stands behind the product the agents sold, Palmer said. It is a combination of life insurance and a fixed annuity that the company calls Horizon Life. Palmer said American Amicable also sells whole life and universal life, and it has entered the final-expense life market, but that Horizon Life is the company's most popular product. "It's a blended product designed to offer insurance coverage and a financial foundation, especially for a young person," he said. "It's a fairly popular product in the general marketplace outside the military." About 40% of American Amicable's sales are to members of the military, he added.

As the Times story pointed out, the insurance part of Horizon Life is expensive at first. The story reported that a 19-year-old just entering the Army paid $100 a month for a death benefit of less than $44,000 in force for 20 years. He already owned $250,000 in term coverage through Servicemembers' Group Life Insurance, the program officially sponsored by the Department of Defense and subsidized by the federal government, for $16.25 a month. Online broker Insure.com in September quoted a 20-year level-premium term life policy with a face amount of $250,000 for a 30-year-old male civilian at $145 a year, the equivalent of $12.08 a month, in the least-expensive underwriting class.

Horizon Life, however, charges premiums for only the first seven years. After that, the policy remains in force for 13 more years. And the actual cost of insurance during the first seven years is $75 a month, Palmer said. The rest, along with any additional funding a policyholder may choose, goes into an annuity accumulation fund that in September was paying an annual rate of 6.5% and guarantees no worse than 4%. The annuity has averaged a rate of 10% over the life of the product, Palmer said. Access to the annuity money is available from the first month of the contract, less a 5% withdrawal fee during the first 10 years. "If you look at a 20-year period, it's a good insurance value," he said. "If you die, your beneficiaries get not only the death benefit, but the value of the annuity accumulation fund as well."

Spread over the 20-year life of the death benefit, the monthly $75 premiums would still average $315 a year, and that's not considering that the contract owner's monthly premium, if stretched out over the full 20 years, would include 13 years of inflation-cheapened dollars, assuming inflation continues.

How these policies were sold may be typical of abusive sales at military bases. The Times reported that after six weeks of training, the 19-year-old and others in his group were ordered to a "classroom briefing on personal finance" given by two insurance agents. The agents "quickstepped him and his classmates through a stack of paperwork," the story said, and had them sign before they had any time to read the documents. They also had no copies of the paperwork to keep.

American Amicable did not learn of this event from the military, but rather was alerted to it by the Times story, Palmer said. It subsequently launched its own internal investigation and learned a few agents had used these tactics. Since 1995, the company has had some 2,600 agents selling on its behalf in the military market, but less than 1% had been found to be involved in inappropriate selling, said Palmer. Before they represent the company, agents must sign off that they are familiar with Defense Department regulations, he added. "We're more compliant with the regulations than our competitors," Palmer said. In early September, the company began a more stringent and formal compliance policy to prevent improper agent conduct and to investigate it more quickly should it occur. The new program institutes audit procedures in the field, including surprise inspections by a compliance team.

Systematic Investment Plans

First Command Financial Services, also mentioned in the Times, says it is innocent of any wrongdoing and maintains the story can mislead readers into linking it with insurers whose representatives are alleged to have violated regulations. Paul Cozby, director of communications, said the company, based in Fort Worth, Texas, does not sell to junior personnel and does not sell on bases. "To our knowledge, the Department of Defense has no problem with us whatsoever," he said.

What First Command does sell is a contractual investment product that it describes as a systematic investment plan. The product carries a 50% load on first-year contributions; the Times reported that contractual products are so expensive that they "all but disappeared from the civilian market almost 20 years ago."

Cozby said that rather than soldiers still in basic training, First Command's niche market is the military's leadership ranks on a pay grade of E-6 and above. The company counts more than 305,000 client families, 129,000 of which are still on active duty. Clients who are commissioned officers average 27 years of age, while noncommissioned officers average 29. They tend to be what Cozby calls "starter investors," and the 1,000 or so representatives of the company--all independent contractors rather than employees--work with them to develop a family financial plan made up of an investment recommendation, an insurance recommendation and a banking/savings recommendation.

Many contacts are through referrals, but First Command also sponsors social gatherings off post or, if allowed, on post. They are voluntary events designed to help representatives meet prospects, Cozby said. Representatives then invite prospective clients--and spouses, if they are married--to a seminar or lunch. No sales take place at the social gatherings.

Cozby was unapologetic about the 50% load on the contractual product. In fact, a part of the Investment Company Act of 1940 that was amended in 1970 specifically provides for contractual plans. "Collecting a sales charge in the beginning pays an adviser to educate a prospect," he said. "There is a lot of value to an adviser creating an investor. We are creating investors, and we think it's legitimate to get compensated for that. There's no other way we know of to have it make economic sense with a small investor. We spend extensive time with every client."

Contractual plans especially make "great sense" for members of the military, Cozby said. Because money is invested through payroll deductions, servicemen generate long-term streams of income, and they get paid as long as they're on active duty, wherever that may be. The plans also enable members of the services to dollar-cost average automatically.

Cozby said investment products generate about 40% of First Command's business in terms of revenue, and 70% of that 40% is in contractual plans. Here's how First Command's contractual plans work:

Rather than measured in months or years, the plans are made up of monthly investments. The most common is a 180 investment plan--12 investments a year for 15 years, but the investor can stop or resume at any time. One investment a year keeps the account active. The investor may also extend the plan to 300 investments.

The 50% sales load is collected only on the first 12 investments. No sales charge is collected thereafter unless the investor increases the size of the investment, and then the charge is only on the increased amount. "So the effective sales charge at 300 investments is 2%," Cozby said. "You move below 5% at 120 investments." Cozby said the five investment options in the plans each charge expense ratios in line with industry standards, currently about 1.3%. The investment options are mutual funds, two of which are offered by Fidelity and one each by Pioneer, AIM and Franklin/Templeton.

Congress in 1970 amended its landmark Investment Company Act of 1940 to allow for periodic payment plans (Section 27). Cozby said members of Congress saw a need for a sales charge to pay an adviser to reach small investors. The law also puts into place some consumer safeguards that allow contract holders to pull out of the plan without penalty or, under some circumstances, with a penalty.

Congress Moves Toward Ban

The future of periodic payment plans came under Congressional attack, however, on Sept. 8, when Rep. Max Burns, R-Ga., introduced a bill (HR 5011) that would ban the sale of mutual fund contractual plans outright. It would also seek to ensure full regulation of life insurance and other financial products sold on military bases. "It is an outrage that financial products that were found so disreputable that they disappeared from the civilian market 20 years ago have continued to survive on-post, by being pawned-off on unsuspecting young service people as part of 'approved' savings and insurance plans," he said in a press release. On Sept. 29, the House Financial Services Committee voted 68-0 to back Burns' bill, and on Oct. 5, the House of Representatives passed it by 396-2. The bill would amend Section 27 of the 1940 act to ban future sales of contractual plans, but would not affect those already in place.

First Command fired hack in a Sept. 29 press release that a ban that singles out the systematic investment plan "goes too far and limits legitimate consumer choice." Lamar C. Smith, chairman and chief executive officer, said the company applauded the "general tenor" of the bill and has long supported the tightening of roles under which financial products are offered on military installations. A year earlier, First Command had recommended establishment of a Defense Departmentwide registry of insurance agents, which Burns' bill also proposes.

Systematic investment plans may actually help investors over the long haul in a peculiar way. Cozby said they discourage investors from "chasing performance," a destructive tendency to sell funds they own and to buy the latest top-performing fund. The trouble is that chasing performance results in buying high and selling low, and some studies of the past couple of years showed that fund investors as a whole since the mid 1990s underperformed the markets largely due to that tendency. "Under this sales-charge structure, it makes no sense for investors to do that," said Cozby.

For those in the military who need life insurance, First Command recommends that they first accept the government's SGLI term plan, which covers active members of the military. But as a supplement to that term coverage, the company recommends whole life due to its premium levels guaranteed never to change. "When they leave the service, they can convert to VGLI [Veterans Group Life Insurance], another government-sponsored term plan whose premiums rise as the policyholder ages. "When they get to that point in their lives, they'll be in a better position over the long term with whole life insurance in place when they leave the service," said Cozby.

Learn More

Government Personnel Mutual Life Insurance Co.

A.M. Best Company # 06470

Distribution: Agency field force

New York Life Insurance Co.

A.M. Best Company # 06820

Distribution: Career agents, independent agencies

USAA Life Insurance Co.

A.M. Best Company # 07146

Distribution: Salaried account advisers

5 Star Life Insurance Co.

A.M. Best Company # 08069

Distribution: Independent agencies

American Amicable Life Insurance Co. of Texas

A.M. Best Company # 09122

Distribution: Independent agencies

More Coverage
For the Money

Servicemembers' Group Life
Insurance offers term life insurance
that is partially subsidized by the
government to all members of the
uniformed services. Coverage is a
available in $10,000 increments at
a cost of $0.65 per $10,000 of
coverage up to $250,000,
regardless of the member's age.
Before July 1, 2003, the rate was
$0.80 per $10,000 of coverage.

           Monthly              Monthly
Coverage   Premium   Coverage   Premium
  Amount      Rate     Amount      Rate

 $10,000      0.65   $140,000      9.10
  20,000      1.30    150,000      9.75
  30,000      1.95    160,000     10.40
  40,000      2.60    170,000     11.05
  50,000      3.25    180,000     11.70
  60,000      3.90    190,000     12.35
  70,000      4.55    200,000     13.00
  80,000      5.20    210,000     13.65
  90,000      5.85    220,000     14.30
 100,000      6.50    230,000     14.95
 110,000      7.15    240,000     15.60
 120,000      7.80    250,000     16.25
 130,000      8.45

Source: Veterans Benefits and Services
Life Insurance Program

For ratings and other financial strength information about these companies, visit www.ambest.com.

RELATED ARTICLE: Industry salutes reform bill.

Rep. Max Burns, R-Ga., is an Army veteran who represents a Congressional district with one of the nation's most concentrated military populations. So he became dismayed this summer when he learned of sales of insurance and investment products that allegedly took advantage of the youngest, least-sophisticated members of the military, including some in his own state.

Burns took action on Sept. 8, when he introduced legislation that would prevent the sale of certain financial products on military installations. On Sept. 29, the House Financial Services Committee voted 68-0 to back Burns' bill, and leaders of the insurance industry have rallied to its support. On Oct. 5, the House of Representatives passed the bill, 396-2.

The bill would ban the sale of mutual fund contractual plans and ensure full regulation of life insurance and other financial products sold on military bases. In introducing his bill, Burns said there are "far too many unscrupulous insurance companies using federal military property to dodge state insurance commissioners and sell overpriced policies with virtually no oversight."

Meanwhile, the Government Accountability Office was investigating the sales of financial products to members of the military.

Industry support for the bill, with some qualifications, came from the National Association of Insurance and Financial Advisors, the Life and Health Insurance Foundation for Education, the American Council of Life Insurers, the Insurance Marketplace Standards Association and the Independent Insurance Agents & Brokers of America.

The ACLI and NAIFA had a year earlier been aware of sales problems on military bases and had written a report, "Best Practices for Military Insurance Sales and Their Functional Regulation." In testimony on Sept. 9 before a House Subcommittee on Capital Markets, Insurance and Government Sponsored Enterprises, ACLI President Frank Keating said issues continue to crop up "because of the lack of clarity over who has the authority to oversee such sales and the absence of clear procedures to ensure the highest standards for dealing with men and women in uniform."

Keating took issue with the part of Burns' bill asking state insurance regulators to implement new standards. He said that instead, functional regulation of insurance by the states "must be reconciled with the functional regulation of our military personnel by the Defense Department." That could be achieved by centralizing financial services information of all military services within a particular command in the Defense Department and then having that command serve as a liaison and coordinate sales supervision, handle complaints and provide regulatory assistance with existing regulators. Such a system would inform multiple regulators and installation commanders and seal the cracks in the existing system, he said.

Brian Atchinson, executive director of IMSA, offered in an Aug. 2 letter to Secretary of Defense Donald Rumsfeld to work with defense officials to establish ethical standards for companies that sell to military personnel. In an interview, Atchinson said the Defense Department had contacted his organization late last year and that he had given officials there a primer on IMSA and the ethical practices the organization promotes. "We had a really good discussion," he said. "I suspect they're juggling a lot of things and are trying to determine the best way forward." Atchinson said he encouraged them to consider IMSA companies and at least some kind of independent assessment as a viable way of raising a minimum threshold. He said ethical standards should be based on "needs-based selling."

"The issues raised in hearings and in the press go right to the heart of what we do in IMSA," he said.

Frank Keating

RELATED ARTICLE: Allegations send ripple through industry.

Companies and associations not implicated in the inappropriate sales allegations on military bases report experiencing some fallout. "Since July, our business has gone down because everyone has been painted with the same brush," said Bud Barnum, president of the Chantilly, Va.-based Military Benefit Association, a nonprofit organization. "It takes just one e-mail in today's community to make it around all the military installations. Any insurance agent is the same. It's too bad. And it has particularly hurt us at a time like this. We've paid $6 million in hostile theater deaths in the past 18 months just in Afghanistan and Iraq."

Barnum said his group has also been hurt by the Defense Department not enforcing its own solicitation regulations, thus giving unscrupulous marketers an advantage. "We market by the Internet, direct mail and member referral," he said. "If we find an agent spoke to a captive audience, the agent would be immediately terminated."

MBA sells several group term life products underwritten by Government Personnel Mutual Life Insurance Co. in San Antonio. The products provide coverage that continues when insureds leave the military. MBA insures about 117,000 members. Barnum said MBA's Term 90 plan, which provides coverage to age 90, has rates below that of the government-subsidized Servicemembers' Group Life Insurance, and be questioned why the government should still be in the business of providing life insurance products to the military.

Rear Admiral Larry Vogt, president and chief executive officer of the Uniformed Services Benefit Association, also used the "broad brush" metaphor when asked if USBA's business has been affected. Based in Kansas City, Mo., the nonprofit organization sells group term life insurance underwritten by New York Life. It also sells accidental death and dismemberment and some hospital indemnity insurance. The association sells mostly to veterans, federal workers, and reservists. Its small agent force works outside posts and bases through networking, word of mouth and some advertising. "We offer the exact same product as SGLI with the same price, but association products are better than SGLI because insureds don't lose insurance when they leave the military," said Vogt. "That's our main selling point. We offer good product, good price and good service."

Vogt said USBA monitors agents through a vice president whose sole job is agency management. "We monitor what kinds of policies are being sold and to whom, and we communicate with agents frequently," he said.

No Agents, No Problems

The life business of United Services Automobile Association, the major provider of insurance and investment products to service members, has seen no adverse effect. That's because USAA does not use agents, and it has a reputation for selling what is right for members, said spokesman Larry Meltzer.

USAA offers mutual funds and permanent- and term-life insurance to active duty officers, enlisted personnel and ex-dependents of military, members. "We don't actually sell on military bases," he said. "Our military affairs representatives go to bases to build awareness of the association and its products. Military members who are interested are hooked up with financial services professionals, who determine their needs."

In addition, the USAA Educational Foundation conducts seminars at the invitation of unit commanders. These are purely educational, Meltzer said. "So we've seen no adverse effect. We've always had a good reputation and relationship, and we're viewed with the same high regard."

5 Star Life Insurance Co. had also escaped any negative effect through September. "The main reason is that we don't sell the types of products getting the press and scrutiny," said Craig Piers, president of the Alexandria, Va.-based company, a subsidiary of AFBA/The 5 Star Association. However, A.M. Best Co. placed 5 Star's rating of A-(Excellent) tinder review with negative implications due to concerns over the recent adverse publicity. 5 Star Life Insurance Co.'s A.M. Best Co. rating remains tinder review as of Nov. 11, 2004. 5 Star significantly relies on the military life insurance business, although the company has broadened its product portfolio and enhanced its distribution channels in recent years.

The company primarily sells term life products to the military, but also offers whole life and universal life. "We feel a term coverage is affordable and gives individuals the most value at a young age," said Piers. 5 Star also offers seven mutual funds that "cover the waterfront in terms of risk tolerance," he said. "They are no-load, no-commission and are never tied to an insurance product."

Piers characterized the products cited in July's New York Times reports as "very high cost for not an awful lot of coverage" that appear to have been marketed as savings vehicles. "Insurance has never been much of a savings vehicle," he said. "Some forms have a cash value in them, but the industry should have learned from the 1980s and early 1990s ... that characterizing insurance as savings got insurers into trouble with state regulators."

Piers said he hopes that as there is more focus on suitability of products and value for what is paid, the better companies and products will rise to the top. "We honestly see this as the glass being half full as long as there is not more regulation that can bog us down," he said.