SEC Charges VALIC Financial Advisors With Deceptive Sales Practics

The firm was also charged with mutual fund share class violations.

The Securities and Exchange Commission (SEC) has charged Houston-based VALIC Financial Advisors Inc. (VFA) in a pair of actions for failing to disclose to teachers and other investors practices that generated millions of dollars in fees and other financial benefits for VFA.

In the first action, the SEC found that VFA failed to disclose that its parent company paid a for-profit entity owned by Florida K-12 teachers’ unions to promote VFA and its parent company services to teachers.

In the second action, the SEC found that VFA failed to disclose conflicts of interest regarding its receipt of millions of dollars of financial benefits that directly resulted from advisory client mutual fund investments that were generally more expensive for clients than other mutual fund investment options available to clients.

VFA agreed to pay approximately $40 million to settle the charges in these two actions. In the first action, VFA agreed to cap advisory fees for all Florida K-12 teachers who currently participate—and, in some cases, those who prospectively participate—in its advisory product in Florida’s 403(b) and 457(b) retirement programs. 

Stephanie Avakian, co-director of the SEC’s Division of Enforcement, told reporters in a media call that VFA will cap advisory service fees at the most favorable market rate in Florida. She explained that the range of fees in that market is approximately 45 to 60 basis points (bps) annually, with an average of 58 bps. The cap for VFA will be at the low end of that range. “This will result in significant ongoing savings for teachers,” she said.

For the SEC’s order concerning VFA’s mutual fund fee disclosure practices, without admitting or denying the SEC’s findings, VFA has consented to a cease-and-desist order, a censure, disgorgement and prejudgment interest of more than $15.4 million and a civil penalty of $4.5 million. The more than $19.9 million in monetary relief will be placed into a fund for distribution to investors affected by this conduct.

In February 2018, the Division of Enforcement of the SEC announced the Share Class Selection Disclosure Initiative, under which the SEC’s enforcement agents “will agree not to recommend financial penalties against investment advisers who self-report violations of the federal securities laws relating to certain mutual fund share class selection issues and promptly return money to harmed clients.”

Steven Peikin, co-director of the SEC’s Division of Enforcement, told reporters, “For those who self-reported under the share class initiative, there was no penalty. Firms that didn’t self-report were treated more severely, as in this case.”

The Teachers’ Initiative

During the media call, SEC Chairman Jay Clayton noted that the SEC announced its Teachers’ Initiative about a year ago. “We have at least 800,000 teachers who participate in defined contribution [DC] plans with a total of over $1 trillion in assets,” he said. “Stephanie and Steven have recognized that teachers need and deserve our attention, and they have turned this into action.”

Clayton said his message for teachers is to ask questions about investment options, including whether there are any hidden fees or investment expenses. His message to market professionals is to “examine your practice. If you are engaged in any similar conduct, stop it and fix it and report your efforts to us promptly. We believe in substantial credit for self-reporting and cooperation. We also believe those who continue these practices have no place in the market.”

Avakian said part of the Teachers’ Initiative was a focus on undisclosed fees. She said she would rank the action taken against VFA as “one of our most important actions.” Avakian warned, “While this action was focused on a single provider in a single state, we expect other providers to take a hard look at their arrangements and make sure potential conflicts are fully disclosed. We are continuing to actively investigate these issues.”

Details of the Investigation into VFA

VFA is a division of Variable Annuity Life Insurance Co. known as VALIC, which is a subsidiary of AIG. AIG confirmed last fall that the SEC was investigating sales and disclosure practices at VALIC.

According to the SEC’s order, for 13 years, VALIC made payments to an entity owned by the Florida teachers’ unions in exchange for that entity’s exclusive endorsement of VFA as its preferred financial services partner and the entity’s agreement to not promote or endorse VFA’s competitors. VALIC also provided the entity owned by the teachers’ unions three full-time employees to serve as “member benefit coordinators.” These coordinators—who, the SEC says, deceptively presented themselves as employees of the entity owned by the teachers’ unions—promoted VALIC and VFA to Florida K-12 teachers, including at benefits fairs and financial planning seminars, and referred teachers to VFA for investment recommendations. The order finds that the member benefit coordinators increased VFA’s access to K-12 teachers in Florida, and that VFA did not disclose that the for-profit entity was paid to make VFA its preferred financial services provider.

VFA (together with VALIC) earned more than $30 million on the products it sold to Florida K-12 teachers during the period covered by the SEC’s order.

Peikin told reporters the SEC could not comment on what, if anything, was being done regarding the teachers’ unions.

Concerning VFA’s mutual fund fee disclosure practices, according to the SEC’s order, VFA’s wrap agreements with its clients provided that the advisory fee the client paid to VFA included the costs to execute securities transactions. The SEC found that VFA either directly invested or instructed its primary sub-adviser to select new mutual fund investments for clients that were part of VFA’s clearing broker’s no-transaction fee program (NTF Program), and thus would not incur a transaction fee VFA would be responsible for paying. The NTF Program mutual funds were generally more expensive than other mutual funds available to VFA clients, including instances when a less expensive mutual fund share class for the same fund was available outside the NTF Program.

The SEC found that VFA’s participation in the NTF Program generated three key financial benefits to VFA, and that VFA not only failed to provide disclosures regarding these conflicts, but also provided false and misleading disclosures concerning the conflicts. The order sets forth that VFA received both 12b-1 fees and revenue sharing from the clearing broker for client investment in mutual funds within the NTF Program. In addition, according to the order, for clients with wrap agreements in which VFA was responsible for client execution costs, VFA financially benefited by not having to pay any transaction fees for mutual funds in the NTF Program. “Despite being eligible to do so, VFA did not self-report its receipt of undisclosed 12b-1 fees as part of the Division of Enforcement’s Share Class Selection Disclosure Initiative announced in February 2018,” the SEC said in its announcement of the action.

A spokesperson for AIG told PLANSPONSOR: “We are pleased to have resolved these matters involving VALIC Financial Advisors, which is taking all necessary steps to ensure a robust program of disclosure improvements and governance enhancements.”

Along with the announcement, the SEC’s Office of Investor Education and Advocacy issued an Investor Bulletin with tips to help teachers make informed investment decisions, including about retirement plans.