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Thursday, September 9, 2004
U.S. House of Representatives,
Subcommittee on Capital Markets, Insurance,
and Government Sponsored Enterprises,
Committee on Financial Services,
Washington, D.C.
    The subcommittee met, pursuant to call, at 10:11 a.m., in Room 2128, Rayburn House Office Building, Hon. Richard H. Baker [chairman of the subcommittee] presiding.
    Present: Representatives Baker, Ose, Bachus, Lucas of Oklahoma, Oxley (ex officio), Kelly, Ney, Ryun, Biggert, Kennedy, Brown-Waite, Kanjorski, Inslee, Moore, Hinojosa, Lucas of Kentucky, Israel, Ross, Baca, Matheson, Miller of North Carolina, Emanuel, and Scott.
    Also present: Representative Max Burns.
    Mr. OXLEY. [Presiding.] The committee will come to order.
    Without objection, the gentleman from Georgia, Mr. Burns, may sit with the subcommittee during this hearing and participate in its proceedings. So ordered. The gentleman from Georgia will be recognized for any opening statement or questions only after all those members of the subcommittee have been recognized.
    The chair would indicate that Chairman Baker has been delayed. And I would like to begin the proceedings with an opening statement.
    I want to thank Chairman Baker for convening this important and timely hearing. I also appreciate the bipartisan interest among the members of this subcommittee in protecting our GIs.
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    The men and women who protect our freedom by serving in the military are giving our country a precious gift. Through their dedicated service, this nation is successfully fighting terrorism and promoting democracy abroad, keeping America safe and strong into the future.
    But as these young men and women risk their lives for our country, we have a responsibility to ensure their financial well-being and protection. New military recruits brought in for basic training are often young and relatively inexperienced on financial matters.
    They are trained to obey commands without question and sometimes operate on little sleep. It is unconscionable, if true, that groups of recruits have been marched into compulsory briefings on veterans benefits by salesmen pretending to be financial planners that quick-step them into signing up for what turns out to be long-term life insurance.
    It is also unconscionable, if true, that firms are using retired military officers to make on-base sales pitches to groups of young recruits for mutual funds with 50 percent first-year commissions—a product that has virtually disappeared from the civilian market. I have yet to hear any reason at all, let alone a good one, why these products are still being marketed to military personnel.
    Perhaps most troubling, these reports are not isolated incidents from boiler-room operations. Some of the biggest names in the mutual fund business are sponsors of these contractual plans sold primarily to military personnel.
    Problems with illegal sales practices by life insurance agents on military bases have been reported, studied and debated by the Pentagon going back at least to 1974 and more recently in 1997, 1999, 2000, and 2003. I do not support a complete ban of financial product sales on base, nor do I want to tarnish the good reputation of independent property-casualty agents or those life agents who are not involved in these sales.
    But members of Congress can no longer pretend this is about a few bad apples. This is a systemic problem that needs to be fixed.
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    I understand that NASD has been conducting a thorough investigation of contractual plans for more than a year and will have an announcement in the near future. The NASD is to be commended for its work to protect military investors. I look forward today to a thorough analysis of the problem and potential solutions for Congress to act on this year.
    The time of the chair has expired. I will now turn to the ranking member, the gentleman from Pennsylvania, Mr. Kanjorski.
    [The prepared statement of Hon. Michael G. Oxley can be found on page 66 in the appendix.]
    Mr. KANJORSKI. Thank you, Mr. Chairman.
    Thanks for the opportunity to offer my initial thoughts about the marketing of certain securities and life insurance products to military personnel before we hear from our invited witnesses. I want to commend you for swiftly focusing our committee on this important issue.
    In recent weeks, several stories in the New York Times have once again raised concerns about allegedly abusive practices in the sale of financial products to the men and women who serve in our armed forces. These accounts have detailed problems with financial literacy, potentially overly trustful troops and business products and practices that have raised the concerns of many.
    For example, many financial advisers point out that rather than committing to long-term contractual plans with large front-load fees, most investors would be better off setting up automatic savings programs with smaller fees and initial sales loads. Additionally, while many in the military may have greater life insurance needs than average Americans, we need to ensure that the products they purchase meet their needs and best serve their long-term purposes.
    Without question, we need to work in Washington to protect those who protect us. As a result of today's proceedings, I hope that we will gain a better understanding of the military financial services marketplace.
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    We already know that our soldiers are more mobile than average Americans. The recent news reports have also highlighted potential limitations faced by financial regulators on military bases, particularly on those installations located abroad. Both of these issues deserve better exploration today.
    In recent days, we have also begun consideration of legislation that would ban the sale of mutual fund contractual plans. This bill also seeks to improve the regulation of life insurance and other financial products sold on military bases. In order to prevent unintended consequences, I must urge my colleagues to move deliberately and diligently in these matters.
    As at least one witness points out in his prepared testimony, efforts to eliminate contractual agreements might have an effect on variable annuity market. It could also result in problems for those who have already purchased these plans.
    Before we move ahead in these matters, I would therefore urge you, Mr. Chairman, to consult with the Securities and Exchange Commission, the National Association of Securities Dealers, the National Association of Insurance Commissioners, the Department of Defense and other interested regulatory entities to ensure that any bill we craft appropriately fixes these problems before we adopt them into law.
    In closing, Mr. Chairman, we need to improve financial education for military personnel. We need to improve the enforcement of consumer protections for not only the men and women in our Armed Forces, but also for all Americans. We additionally need to have better supervision in the sales of financial products on military bases.
    I want you to know that I am committed to addressing these matters. These are important discussions for us to have and important matters for us to resolve.
    Thank you, Mr. Chairman.
    [The prepared statement of Hon. Paul E. Kanjorski can be found on page 73 in the appendix.]
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    Chairman BAKER. [Presiding.] Thank the gentleman.
    Let me express my apology to members and our witnesses for my late arrival. I am usually very prompt about starting our committee hearings. And matters beyond my control kept me from being here at my usual hour.
    Our hearing today is one that is unusual from several perspectives. We are here to review the effectiveness and desirability of not only an insurance product, but a securities product as well. Both matters are clearly within the jurisdiction of this subcommittee.
    The products are unique. They were intentionally designed to serve the needs of military personnel.
    Some of the products have been designed for civilian utilization in years past. And as long ago as 1966, the SEC suggested really rather radical reform of the manner in which these products were marketed; for example, in one such regulatory recommendation, that the first year load drop from 50 percent to 5 percent. I would consider that radical.
    However, for whatever reasons, actions have not been taken with regard to those pending recommendations since initially forwarded. I think one of the reasons that we have seen these products, in all practical purposes, eliminated from the civilian marketplace is from competitive forces.
    Why is that so? Basically, when you have a product which is priced at a very high end of the market, which provides at the same time benefits on the very low end of the market, anyone who has a choice simply will make another choice.
    That being the case, the product has disappeared from the civilian marketplace. I have observed that when you have a choice between a no-load, a low-load or a what-a-load, you are probably not going to go for option 3.
    Military personnel headed to a theater of war, however, do not find themselves focused necessarily first on matters of finance. They do, however, have concerns about the wife, the spouse, the kids, not sure of what the fortunes of war may bring.
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    In these desperate hours before being assigned, who is there to help them make that decision? Regrettably, it is the marketing of the product in this case which also causes me some significant concern.
    This is not a product marketed via the television, by mail or by someone knocking on the door in a three-piece suit. When you look across the table as an anxious young military person, you are met by a retired military officer, who assures you that this is the right decision for you personally, for your family and for your future. All that is required is for you to sign here, son.
    That is probably more problematic than anything else about this circumstance. The product worth in relation to similar products in the civilian market is highly dubious. But the fact that these individuals are emotionally not centered on matters of finance, fully focused on military service and being told by senior retired military officials that this is the right thing to do is very troublesome.
    I have spent a lot of time, as well as every member on this committee, in matters of Enron, WorldCom, dot-coms and everything else. At least in those instances where investors put money into what most members of this committee consider to be outrageous investments, those investors at least had a chance not to be swept up by the hype. In this case, I do not believe the victims had a choice.
    The first legislative response posed to the identified concerns is that by Congressman Max Burns with House bill 5011, which I am advised by Chairman Oxley that the subcommittee and full committee will review and take action in due course, as is warranted.
    And certainly, I join with my colleague, Mr. Kanjorski in welcoming the comments of all of those who have regulatory perspectives on the appropriateness of this product, the congressional response appropriate and ensuring that we take action that is in the best interest of all.
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    It is troubling that those who have already invested, whether in active duty service or now retired, it may be the only remedy for them to date is to ensure the product remains a viable contract for its maturity in the hope of regaining some financial remuneration at the end of the contract. However, going forward, it is pretty clear, at least at this juncture, that these products do not offer what they hold out to the marketplace in the military.
    And we have a direct responsibility, in light of all the other hardships our military personnel face. How can we stand by and not take corrective action in this clearly identified, what I consider to be abusive, practice?
    Mr. Hinojosa? Mr. Hinojosa.
    Mr. HINOJOSA. Mr. Chairman, I wish to yield at this time. I do not have a prepared statement.
    Chairman BAKER. Mr. Israel?
    Mr. ISRAEL. Thank you, Mr. Chairman. I appreciate your convening this hearing. And I also want to thank my ranking member, Mr. Kanjorski, for his participation in this.
    Mr. Chairman, the process by which we insure our troops is simply dysfunctional. It is doing more harm than good in too many cases. And I want to share, in the time that I have allocated to me, just two cases in particular.
    One is the case of Raheen Tyson Heighter, who lived in my district; 19 years old; enlists in the Army and wants to go to Iraq and fight for his country. He is told he needs life insurance.
    He says, ''I am 19 years old. I really do not need life insurance.'' He is told, ''Well, you have to have it.'' And he says, ''What is the cheapest policy that I can buy?'' And they tell him a $10,000 policy.
    He goes to Iraq. He is the first Long Islander killed in action in Iraq. And his mother gets a call from the Army saying, ''All your son bought was a $10,000 policy. We are sorry.''
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    That is dysfunctional. That is doing more harm than good.
    The second case is a member of my own staff here in Washington who graduated West Point, also served in Iraq. He sat through a sales pitch in the officer's club at an Army base where he was clearly exposed to explicit deceptive coercive marketing practices.
    Now we owe Raheen Tyson Heighter and my staff and all the members of our armed forces much better than that. We owe them the best and not the shoddiest of protections.
    And I wish that Congress would pass the bipartisan legislation that I have introduced as a member of the Armed Services Committee. I serve on the Armed Services Committee and the Financial Services Committee.
    And we have bipartisan legislation called the Raheen Tyson Heighter Life Insurance for America's Troops Act that would simply say this: that if we are going as a country to send young men and women into battle, we will take care of their life insurance for them.
    We will not make them dig into their pockets in order to pay their premiums. We will take care of them. We ought to pass that bipartisan bill, sooner rather than later.
    Those who are taking care of our national security should not have to worry about their financial security at home. And when it comes to insurance sales, we should not have to protect the protectors against coercive and deceptive marketing practices.
    I appreciate the fact that we are having this hearing. And I intend to ask some questions when it is appropriate.
    Thank you, Mr. Chairman. I yield back the balance of my time.
    Chairman BAKER. I thank the gentleman.
    Mr. Lucas?
    Mr. Ney?
    Mr. NEY. I will be very brief, Mr. Chairman, because I know we have witnesses and we want to get to the subject. I have a statement for the record I would like to submit.
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    [The prepared statement of Hon. Robert W. Ney can be found on page 77 in the appendix.]
    But I just wanted to say thank you to the chairman for having the hearing. We have issues in predatory lending and then also issues obviously of predatory practices that we have to look at.
    I did want to point out that there is a young gentleman whose mother is in Athens, Ohio. And it is a very compelling argument as to why this should be looked at today.
    Bottom line, he thought he was having $100 deducted out of his pay, which was going to be in some type of fund. The worst part is not only did he get back and find that that was not in some type of fund, but that he had paid $100 a month, according to this article, for less than $44,000 of insurance. About a $250,000 policy, young person's age, male or female, would be about $17, I think, or maybe $20 or so a month. So these are not good practices.
    Also, I wanted to point out too—and this might have been said before; I apologize if it has been—but you know, these are young men and women that are being trained. And they are trained to observe the military order. And all of a sudden, they are in a military setting. And I think that could also influence them just to do this.
    So thank you, Mr. Chairman, for the hearing.
    Chairman BAKER. I thank the gentleman for his statement.
    Mr. Emanuel?
    Mr. EMANUEL. Thank you, Mr. Chairman, for holding the hearing and for following the request I asked for this hearing.
    I think the question we need to ask ourselves is, at least about the contractual mutual fund instrument, is: if it is such a great product, why is it not marketed to the general public? And if it is not good enough for the general public, why are we allowing it to be sold to men and women in uniform and on our bases?
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    The mutual fund industry is about $7 trillion; about $15 billion worth of contractual mutual funds, one-eighth of 1 percent. And it is almost all of that is held by people in uniform.
    It is not sold to the general public because of what the SEC had recommended in the 1960s and 1980s. And it basically fell out of favor in the market. And we should not encourage this—if not outright ban it—on our bases and to our men and women in uniform.
    Many of our troops are of modest financial means and do not need to be spending those types of resources in this type of account. And I do not think those in the industry should view the men and women in uniform as a fee machine, where they literally turn them on as an ATM machine to generate fees for themselves, especially given the—I think—high, high, high, high costs of 50 percent upfront in the first year in the sense of the fee that the agents receive.
    I also think it is important, as we deal with the life insurance issue, that we have adequate disclosure, so it is crystal clear to our servicemen and women what they are buying and what they have available to them. It is important that the companies give recruits plain English documents, telling them the U.S. government does not endorse, recommend or encourage them to buy this type of life insurance.
    As I think everybody in the industry agrees, informed investors or informed consumers is a good thing. So let's inform them and give them all the information.
    The clear disclosure and informed consent are the keys here to success. That is why I am going to introduce legislation with the Virginia senator from New York.
    It would ban contractual mutual funds. And if we could not succeed in doing that, as has been tried in the past and recommended by the SEC, we give what is the equivalent of a surgeon general's warning, an SEC warning, warning that: they are harmful to your financial health; there are 50 percent commissions; they are not sold to the civilian or general public anymore; and that the SEC recommended that Congress, back in the 1960s or earlier, ban them.
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    For troops whose families feel that they need to purchase more than $250,000 in life insurance, my bill would allow them to buy up to $500,000 in insurance from the government at the same low cost that the government already provides at the $250,000 level.
    It also requires new disclosures, tightens the guidelines for base access and clarifies the role of state insurance regulators. So that would be the legislation I will be introducing.
    I look forward to today's panel and appreciate the fact that the subcommittee and the full committee will look at legislation and are holding this hearing today.
    Thank you, Mr. Chairman.
    [The prepared statement of Hon. Rahm Emanuel can be found on page 69 in the appendix.]
    Chairman BAKER. Thank the gentleman.
    Mr. Ryun?
    Mr. RYUN. Mr. Chairman, I want to thank you and the subcommittee for scheduling this hearing. The issue of protecting the men and women of our military from abusive sales practices is one that should receive our careful attention, as it is today.
    As we consider how to best govern the sales of financial service products to our military installations, let me be very clear about one thing: the first priority of this committee should be protecting our servicemembers from those who would prey on them for financial gain. Standing by while our servicemembers are taken advantage of is not an option.
    This goal must also be shared by those in the business of providing financial services to our men and women in uniform.
    The abuses that have been recently publicized are extremely disturbing. This committee must determine what actions are necessary to put an end to these abusive practices.
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    These actions must not be a mere gesture, but must provide sound protection for our soldiers. It is important that the bad actors be rooted out, not only to eliminate predatory practices, but also to allow those doing business with integrity to better service our servicemembers.
    Among the practices that we must take a look are the sales of investment plans with large front-end fees. These plans are almost nonexistent in the civilian market, as we have already talked about, yet remain prevalent on the military bases.
    It is important to ask why a product that is not available to the general public is sold to our servicemembers. While I generally oppose federal intervention on this sort of transaction, there is enough concern with the structure of these plans to warrant our consideration.
    One word of caution though: it is important that we address the problematic plans without unintentionally affecting other non-offending financial products.
    We must also do what we can to preserve the authority of our base commanders. These commanders already have the authority to prohibit access to their base. And we must be cautious that our efforts do not compromise their authority.
    One of our base commanders' most fundamental responsibility is protecting those residing on the base. If a commander deems an agent or a company unfit to do business on the base, their decision must stand. We must also help the base commanders obtain the knowledge necessary to go ahead and make their decisions.
    Next, it is necessary to improve interaction between state regulators and military bases. It is a significant problem when financial sales on military bases are not accountable to the same standards that govern similar sales made off the base.
    We must also protect the right of our soldiers to have access to a competitive financial service marketplace. Some have proposed prohibiting outside providers from selling financial services products on our military bases.
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    I oppose this proposal. It would essentially remove all competition, leaving our soldier with only on-base institutions for financial services. Surely, protecting our servicemembers must involve giving them the choice of where to conduct their financial affairs.
    I do not have all the solutions to this problem that exists. However, I am pleased that this committee has recognized that there is a problem. And I hope that some real protection for our soldiers will result from our efforts here.
    I am committed to working for changes that provide critical protection and that promote the most choices for our men and women in uniform. We are here today to find solutions for our soldiers. I look forward to the panel of witnesses. And I thank you, Mr. Chairman.
    Chairman BAKER. Thank the gentleman for his statement.
    Mr. Hinojosa, did you wish to make your statement now, sir?
    Mr. HINOJOSA. Yes, thank you.
    Chairman Oxley and Ranking Member Frank, thank you for holding this very important and timely hearing today. As we all learned this week, 1,000 U.S. men and women have lost their lives during Operation Iraqi Freedom. And each, including several from the Rio Grande Valley, which I represent, should be remembered for their courage and valor in defending our nation and the principles for which it stands.
    Based on the information I have received in my office, it seems to me that more than 70 percent of the dead are soldiers in the Army. And more than 20 percent are marines.
    More than half were in the lowest-paid enlisted ranks. On average, the servicemembers who died were about age 26. The youngest was 18; the oldest, 59.
    About half were married, according to the death roll, which does not include a handful yet to be identified by the Defense Department and three civilians who worked for the military. Part-time soldiers, the guardsmen and reservists who once expected to tend to floods and hurricanes, were called to Iraq on a scale not seen through five decades of war.
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    Increasingly, Iraq is becoming the conflict of the National Guard. And in growing numbers this spring and early summer, these part-time soldiers died there.
    Ten times as many of them died from April to July of this year as had in the war's first 2 months. This past weekend, the Rio Grande Valley lost another of its soldiers while bravely serving our country during Operation Iraqi Freedom.
    On September 6, United States Army National Guardsman Tomas Garces died in Iraq. Garces died when his convoy was attacked by enemy forces using an improvised explosive device.
    Garces was assigned to the National Guard's 1836th Transportation Company from Fort Bliss, Texas. And his family resides in Weslaco, Texas, which is in my congressional district.
    At just 19 years of age, Tomas' loyalty to the cause of freedom was steadfast and clear. A 2003 graduate of Weslaco High School, Tomas was a champion wrestler and took his lessons from the mat with him to the Guard. In July, he had been recommended for a Bronze Star for his actions during an ambush.
    These brave troops in our nation's military are working every day to guarantee the safety, security and freedom for Americans and Iraqis. And Tomas was no exception.
    My thoughts and prayers are with his parents, Rafael and Sonia, his brothers and sister and his entire family at this difficult time. Garces is the tenth soldier from the Rio Grande Valley to die in the line of duty in Iraq since the conflict began.
    These individuals tend not to be well-versed in financial services issues. Some of them do not even have bank accounts. Unfortunately, this is not very uncommon in the United States in general, as financial literacy in this country is abysmal.
    While I must condemn any company or industry that preys upon these brave individuals who risk their lives for our country and our democracy, I realize that sometimes the negative actions and sales are done by a few bad apples and do not represent the industry as a whole. Life insurance and mutual funds, when appropriately crafted and appropriately marketed to our military, are just that—very appropriate.
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    In closing, I want to say that when someone goes after a financially unsophisticated, courageous youth headed into battle with a product that will not benefit his family if he does not return from his tour of duty alive, I have to draw the line.
    Mr. Chairman, I hope today's hearing will shed light on the inappropriate sales of contractual mutual funds to our military personnel. And I would hope that all of you would pray for the families of our lost soldiers.
    I yield back the balance of my time.
    [The prepared statement of Hon. Rubén Hinojosa can be found on page 71 in the appendix.]
    Chairman BAKER. I thank the gentleman.
    Chairman Bachus?
    Mr. BACHUS. Thank you, Chairman Baker. And I want to commend you for holding this important hearing. And I want to commend another member, Representative Max Burns.
    Congressman Burns has taken the lead in this Congress on protecting the men and women in uniform from this practice. He was the first member I know of in Congress that spoke out about this matter. And he did so before publicity on this matter reached the press.
    And I am joining him as a cosponsor on legislation that he is introducing this morning. And I would ask each member of this committee to take a look at that legislation.
    It takes a reasoned approach. I am happy to say that independent property and casualty agents did not participate in this. And it was only a small minority of mutual funds and life agents.
    And I think Congressman Ryun mentioned that these practices basically disappeared from the private market some 20, 25 years ago because they offered very little value. And what we are talking about here is in the first year of premiums, which is $1,200, $600 of that goes to commission.
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    But probably the thing that shocks me the most is the Department of Defense, back in 1986, issued a directive that ought to prohibit this type of thing. This was done in direct violation of Defense Department regulations.
    And I will close simply by quoting that. The directive ''prohibits solicitation of recruits, trainees and transient personnel in a mass or captive audience, using misleading advertising or sales literature or giving the appearance that the DOD endorses any particular company.''
    Now despite that, there is at least reports in the media that these recruits were brought in and that insurance agents posing as counselors on veterans' benefits and independent financial advisers then advised them to purchase this product. They did it while they were on duty. They did it in their barracks, violating two more Defense Department regulations.
    And apparently—and this disappoints me—their commanding officers arranged all this, which I think, as a former enlisted man, sounds to me like an abuse of the chain of command and an abuse of the enlisted men.
    But I do think this: I am surprised that the state regulators and those who regulate our regulators have not stepped in and done something about this. It should not have gone on this long.
    I commend Congressman Burns. And I think his bill takes a reasoned approach.
    It does not blast everybody. It allows your state insurance and your security regulators to do their job.
    And I think the Pentagon also needs to get back involved and engaged on this issue. But I want to thank you, Congressman Burns.
    Chairman BAKER. I thank the gentleman for his statement.
    Mr. Scott?
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    Mr. SCOTT. Thank you very much, Mr. Chairman. I too want to thank the committee for this very, very important hearing.
    What we have before us today is scandalous. It is shameful and, especially at a time of war, taking advantage of young, impressionable soldiers.
    What bothers me more than anything else about this is that there is apparent collusion going on within the military itself. It is shameful that these unscrupulous, shall we say, ''insurance agents'' are allowed to even go into barracks and to confront soldiers who are under pressure, the pressure of their lives being flashed before them, as they are being trained and prepared to go overseas to risk their lives.
    Eighteen-, 19-, 20-year-old kids are being swamped with very complex financial details of life insurance and contractual plans whose practices have been outlawed in the public sector many, many years. And yet this activity has been going on for over 30 years.
    And to have military personnel, high-ranking generals serving on the boards of directors of these companies. And what is so disturbing is that these are veterans who are taking advantage of these young enlisted men.
    There is no more important assignment than we can be faced with today, ladies and gentlemen, than correcting this mess. Harry Truman said it right, ''The buck stops here.''
    The military has got some tall walking to do today because I think that there are some dirty hands here. The insurance industry has some tall walking to do today.
    And I am looking forward to this Congress doing its rightful duty of oversight. There is indeed enough blame to go around to all of us.
    Let us make our resolve this morning in this committee to right this tragic wrong and to give our young men and women in uniform the dignity and respect that they need. Maybe it is regulation; maybe it is outright banning of some of these products.
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    I think there should be free exercise of enterprise, to have competitive products being on military bases. I do not think banning insurance companies from going on is the right thing.
    But we can do a better job. And we have to do a better job.
    And one thing we have to do, more than anything else: we have to understand the importance of financial literacy. Nowhere is there a greater example of the need for it than in preparing and equipping our men and women in uniform with the information that they can arm themselves with.
    Chairman BAKER. The gentleman's time has expired.
    Mr. SCOTT. I look forward to the rest of the hearing. Thank you, Mr. Chairman.
    Chairman BAKER. I thank the gentleman.
    Ms. Brown-Waite?
    Ms. BROWN-WAITE. Thank you very much, Mr. Chairman.
    You know, I think the title of this hearing is very appropriate, ''Protecting Those Who Protect Us.'' And when you read through the material and you read the newspaper articles—and believe me, I am not somebody who believes everything I read in the newspaper—but when you read through both the staff research and the newspaper articles, I am ashamed that we had to hold this hearing today.
    You know, insurance companies should not have taken advantage of young men and women who are really fiscal neophytes. Most of them have never had a checking account.
    So many of them join the military right out of high school, right out of college, where they really have no experience. They have no idea of what a mutual fund really is.
    And equally important, I think that the Department of Defense needs to be called on the carpet as to why they have not abided by their own Rule 1344.7. I think the military was doing a ''wink and nod'' approach to this. And that is just wrong.
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    Every one of us in Congress has lost young men and women in the war in Iraq and Afghanistan. And to think that these young men and women who do not understand had the Department of Defense let them down by having them be captive audiences, which is a direct violation of the Department of Defense's own rules.
    I think, on behalf of the young men and women, on behalf of their families, who are making such sacrifices, that the Department of Defense has a lot of answering to do. It is absolutely shameful.
    And I commend Mr. Burns and have agreed to go on his legislation. It is a measured approach and one that I am ashamed to say that we have to be here to even consider. Because if the Department of Defense had done its job and if some of the insurance companies had not been so damn greedy, we would not even be here today.
    Mr. Chairman, I yield back the balance of my time.
    Chairman BAKER. I thank the gentlelady.
    Mr. Moore?
    Mr. MOORE. Thank you, Chairman Baker. And I want to thank you and Ranking Member Kanjorski for convening this hearing. I think this is very, very important.
    And I have learned a great deal already, just in hearing opening statements by some of my colleagues. I was not aware of Mr. Israel's bill, which has been pending for some time—I guess about a year now—and looks to be very good.
    I also have seen Mr. Emanuel's bill. And that looks good. And I have heard about Mr. Burns' bill this morning. So I want to take a look at all those.
    I want to take just a slight twist on this. And it gets just a little—it is collateral to this, but I think it is very important as well.
    I was stunned when I learned that our troops, young men and women who might be killed in Afghanistan and Iraq, had a death gratuity benefit from our country of $12,000. I say ''stunned'' because to me that is almost like a slap in the face.
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    We talk about how much we value our troops and the good job they do for us. And I think virtually everybody in Congress believes that.
    But to pay $12,000 to the family of a young person who has been killed in Iraq or Afghanistan to me was just not showing value and appreciation for our troops.
    I have a bill today and just started talking to my colleagues yesterday and have four Republicans and four Democrats on it right now. And it should not be partisan at all. It would provide a $50,000 death gratuity benefit to young people who are killed in Iraq or Afghanistan.
    And whether it is a financial services product, such as life insurance, that we help them out with, or whether we provide a death gratuity is not as important to me as the fact that we somehow show a greater understanding and appreciation for the situation our young men and women face when they are in the military forces and that we provide some benefit to them—again, through life insurance payments, maybe or a death gratuity benefit. But I think we need to do a better job than what we have done in the past.
    And again, Mr. Chairman, thank you for convening this hearing.
    Chairman BAKER. I thank the gentleman for his statement.
    Ms. Kelly?
    Mrs. KELLY. Thank you, Chairman Baker, for holding this hearing to ensure that we are protecting the individuals who have made sacrifices for our nation. Since we do not teach financial literacy in our schools, we have to help our military personnel receive the financial shelter and guidance that they deserve and that the public needs to demand.
    And this includes ensuring that the servicemen and women have access to clear and accurate financial information and advice that meets both their short-term and their long-term needs. I represent three military installations: Camp Smith in Cortlandt Manor, the United States Military Academy at West Point and Stewart International Airport at Newburgh, which is a large reserve air base.
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    I have been deeply troubled by the recent allegations of the abusive practices in the sale of financial products to the military personnel. In spite of a directive from the Department of Defense restricting commercial solicitations, there have been reports of agents selling insurance and investment products that may not be in the best interests of the people in uniform.
    This committee needs to learn more about the contractual plans, those that enable an investor to make gradual contributions to a mutual fund that may have steep front-end sales loads. It is my understanding that the contractual plans have more or less disappeared in the civilian market several decades ago because they are not widely marketed because of the pricey sales charges. And there is very little flexibility built into them.
    We need to hear about some of the other insurance products that are marketed to military personnel. It is my understanding some of these products are not well structured for the unique needs of our servicepeople and that some of the policies offer very little more than high premiums and very low benefits.
    More troubling than some of the misguided and inappropriate products being marketed toward our military personnel are some of the questionable and misleading tactics that have been reportedly used to sell these products to our military. There are reports of individuals posing as counselors on veterans' benefits and independent financial advisers, sometimes when the soldiers are in their barracks or even on duty.
    And there are other accounts of individuals pressuring military personnel with the deceitful implication that their supervisors or government support products and services they are selling. While there are a lot of honest and helpful life agents and brokers with good intentions out there, our military personnel deserve better service.
    And I believe that the agents and brokers not only have a fiduciary responsibility to their clients, but they have a personal responsibility to our service personnel.
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    I look forward to hearing from our witnesses about the financial products marketed to military personnel and the sales practices that they employ, as well as the potential solutions to try to improve protections for military personnel. The men and women of our armed forces make sacrifices every single day. And they exemplify the best of American spirit.
    They take care of us. We need to take care of them. We have to get them all the support, compensation, benefits and protections that they deserve.
    This hearing is important. And I am happy that you have held it.
    I also, Mr. Chairman, would like to insert in the record at this time a statement from the Insurance Marketplace Standards Association.
    Chairman BAKER. Without objection.
    Mrs. KELLY. Thank you very much.
    [The following information can be found on page 164 in the appendix.]
    [The prepared statement of Hon. Sue W. Kelly can be found on page 75 in the appendix.]
    Chairman BAKER. I thank the gentlelady.
    Mr. Ross?
    Mr. ROSS. Thank you, Mr. Chairman.
    It is a little loud this morning.
    Thank you, Mr. Chairman and Ranking Member Kanjorski, for holding this hearing on our soldiers and finances and protecting those who protect us.
    There has been a lot said. And I will be brief so we can hear from our panel of witnesses this morning.
    I think we all know that one of the reasons we are here is these abusive practices in the sale of financial products to military personnel, which have been uncovered. I would particularly like to thank the 6-month examination that was done by the New York Times that found that several financial service companies or their agents are using questionable tactics on military bases to sell insurance and investments that may not fit the needs of people in uniform.
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    I have a brother-in-law in the United States Air Force. I have a first cousin in the United States Army whose wife gave birth to their first child while he was serving our country in Iraq.
    Today, we have some 3,000 Arkansas National Guard soldiers in Iraq. Last month, I was in Baghdad to visit with them.
    These are people that I once taught Sunday school to, people I duck hunt with, people whose wives back home teach my children. It really puts a face on it.
    And I believe their service and the service of all men and women in uniform is much greater than mine or any member of Congress or any president or vice president's could ever be. And I believe if they are going to go across the globe and protect America and our interests, the least we can do is protect them and their finances at home.
    And that is why I want to thank the chairman and the ranking member for holding this important hearing today. I want to thank my colleague from Long Island, Mr. Israel, and Mr. Emanuel for their leadership on this issue. And hopefully, we can work together in a bipartisan manner to try and ensure that these practices stop and that our men and women in uniform and their families back home are protected from such fraudulent and deceptive sales pitches.
    Thank you, Mr. Chairman.
    Chairman BAKER. I thank the gentleman.
    Ms. Biggert?
    Mrs. BIGGERT. Thank you, Mr. Chairman. And thank you for holding this very important hearing today, for I believe it will send a clear message to our military personnel that we do care about their financial welfare. These men and women serve and sacrifice for America, and for the world, to ensure that all people dwell in freedom, liberty and justice.
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    As you may know, financial literacy is one of my top priorities. And it has been brought to my attention that financial organizations have voluntarily met with servicemen and women to educate them about financial services.
    While I encourage bona fide financial education programs that are conducted in a legal and ethical fashion, I am not an advocate for programs that violate Defense Department regulations or that are a sales pitch fronting as a financial education program. I am disturbed to read that young and impressionable members of our armed forces may be fooled into believing that they are being educated about finance, but are in fact being influenced by salesmen who pose as instructors.
    I would encourage our witnesses today to fully disclose the accuracy of the report that ''several financial services companies or their agents are using questionable tactics on military bases to sell insurance and investments that may not fit the needs of people in uniform.''
    Our military should know that we in Congress will not deny them access to the financial benefits of a free-market society, but we will take action, if necessary, to protect them from financial scam artists.
    I look forward to hearing from the witnesses. Thank you and I yield back.
    [The prepared statement of Hon. Judy Biggert can be found on page 68 in the appendix.]
    Chairman BAKER. I thank the gentlelady.
    Mr. Inslee?
    Mr. Matheson?
    Mr. Miller?
    If there are no further members having opening statements, I would like at this time to ask unanimous consent——
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    Mr. OXLEY. Already granted.
    Chairman BAKER. Oh, then by prior agreement, at this time, I recognize Mr. Burns.
    Mr. BURNS. I thank the chairman and the ranking member. I appreciate the opportunity to join the committee this morning for this certainly important hearing.
    This past Tuesday, I was joined by colleagues—Mike Simpson, Charlie Norwood, Chet Edwards and Joe Wilson—in introducing H.R. 5011, which is the Military Personnel Financial Services Protection Act. The purpose of this act is quite simple: it would ban the sale of questionable financial products and insurance policies on military bases, both at home and abroad.
    The bill would also provide a layer of oversight on unscrupulous insurance companies and their employees that have been using federal military property to evade the jurisdiction of state insurance commissioners and other state regulatory bodies. Those who sell products to our citizens, especially to our troops who sacrifice so much for the freedoms that we all enjoy, have a responsibility and a duty to be honest and clearly inform their potential customers.
    Clearly, there have been transgressions in these areas that must be addressed. In the past weeks, I have become aware of numerous servicemembers, including those residing in Georgia's 12th congressional district—Fort Gordon, Georgia; Fort Stewart and Hunter Army Airfield, Georgia; the Navy Supply Corps School in Athens, Georgia, all of which are in the 12th—have suffered financially as a result of dubious financial products and questionable insurance policies.
    I and my colleagues will not sit by and watch innocent members suffer from unscrupulous sales practices in our military installations. I look forward to the testimony of the witnesses. I look forward to working with the Financial Services Committee and congressional leadership in crafting an effective bill to deal with this challenging problem.
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    I again thank the chairman and the ranking member for the opportunity to join you today. I yield back.
    Chairman BAKER. I thank the gentleman for his good work and his participation here today. We now turn to our patient witnesses for their remarks this morning. And it is indeed an honor for me to introduce to the committee today Specialist Brandon Conger, United States Army, who has just returned from a tour of duty in Iraq.
    Sir, I wish to extend to you my deep appreciation for your service. And we are honored to have you here with us to give us your concerns.
    Please proceed as you would like. Normal practice requested by the committee is that all witnesses try to make their presentations within 5 minutes. Your full and complete statement will be made part of the official committee record.
    Mr. CONGER. Thank you.
    Mr. Chairman, distinguished members of the committee, good morning. My name is Specialist Brandon Conger from Butler, Missouri. I am infantryman with headquarters in Headquarters Company, 2nd Battalion, 325th Airborne Infantry Regiment, 82nd Airborne Division.
    Thank you for this opportunity to testify in front of the committee. I would like to give you a brief synopsis of my involvement with American Amicable Life Insurance.
    In August 2002, during my third week of basic training in Fort Benning, Georgia, my drill sergeants held a briefing for my platoon concerning a group of financial advisers. The drill sergeants explained to us that a group of financial advisers were coming to speak with us about mutual funds.
    The drill sergeants said that they were a good investment. And if we started now and stuck with them, that we would make lots of money.
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    The next day, the financial advisers held a classroom briefing and specifically told us that by investing money in these mutual funds, it would only help us make money. They showed us charts on their laptops, showing each of us individually how much money we would make long term, depending on how much money we put in on a monthly basis.
    They then passed out paperwork to sign an order for the money to begin coming out of our bank accounts. Neither the financial advisers nor our drill sergeants or the paperwork said anything about life insurance.
    I had ACLI. I was putting in $20 a month for the insurance in the Army. I did not need life insurance.
    After graduating basic training airborne school, I was assigned to the 82nd Airborne Division in January 2003. By then, I still had not received a statement of any kind from American Amicable.
    In March 2003, my unit deployed to Iraq in support of Operation Iraqi Freedom. Late January of 2004, I redeployed back home to Fort Bragg, North Carolina.
    In February of 2004, after still receiving nothing from the company, I decided to call them. Most of my calls were never answered. And those that were ended up with me being put on hold until I hung up the phone.
    Finally, in April, a fellow paratrooper who had signed up with the same financial company told me that this group of financial advisers was a fraud. I then cancelled my allotment.
    In May, a reporter from the New York Times who wanted to hear my story, contacted me. That same month, I informed my company commander and we called American Amicable and requested a copy of my insurance policy be mailed to the unit.
    A couple of weeks later, after I still had not received the policy, my commander and I called and e-mailed American Amicable, requesting a policy again. Finally, on the 23rd of July, I received my insurance policy.
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    This has been an extremely disappointing ordeal for me and for some of my fellow soldiers, not because I lost money, but because I was misrepresented by a former soldier working for American Amicable Life Insurance, who used his contacts to gain the trust and confidence of young soldiers.
    Again, Mr. Chairman, I want to thank you and the committee for allowing me the opportunity to testify today. Thank you.
    Chairman BAKER. Thank you, sir. And I assure you, we will take your testimony and review it very carefully and we will act accordingly. We appreciate your willingness to participate.
    Our next witness is Ms. Elizabeth W. Jetton, president, the Financial Planning Association. Welcome, Ms. Jetton.
    Ms. JETTON. Thank you.
    Thank you, Chairman Baker and Ranking Member Kanjorski and members of the subcommittee for this opportunity to testify today on the marketing of certain insurance and investment products to our enlisted men and women on military bases.
    My name is Elizabeth Jetton. I am a partner in an independent financial planning firm in Atlanta and hold the ''Certified Financial Planner'' designation. I appear before you today as the president of the Financial Planning Association.
    FPA represents more than 28,500 members who provide professional advice to individuals and their families or to those who support the financial planning process. Recently, FPA began a national community services program to provide pro bono financial planning and education, delivered by certified financial planner practitioners to those in need and unable to pay for professional advice.
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    As part of this program, we are currently in discussions with the Pentagon representatives to see how we can provide pro bono advice to reservists and National Guard personnel called to active duty in Iraq.
    I have personally been in the financial services industry since 1980 and have previously held an insurance producers' license. For the past 14 years, I have been in the practice of comprehensive financial planning, registered with the State of Georgia Division of Securities as an investment adviser. I am also affiliated with a broker-dealer and am licensed to sell securities.
    I was personally disturbed to read about the allegations of abusive sales practices to our men and women in uniform. And I am particularly concerned about those who are young and starting out in their first career, and who consequently may not the more complicated insurance and retirement needs or knowledge of an older person or even know how to ask the right questions to determine their need.
    In providing financial planning advice to clients to help them achieve their goals in life, it is incumbent upon a professional adviser to review their insurance needs as part of an overall plan. With respect to any kind of life insurance product, there are basic questions that a consumer needs to ask about the product, particularly since life insurance agents are not required to comply with practice standards.
    Unlike on the securities side of the business, where NASD suitability rules come into play, or as an investment adviser, where you actually have a fiduciary duty to place the clients' interests first, the insurance agent has no statutory obligation to the customer for determining the suitability of the product to the individual's need.
    Some of the questions that I, as a financial planner, ask my clients: First, is there a need for insurance? Life insurance is recommended to replace the earned income of the insured for the benefit of his or her family, to provide funding for financial and life goals that that income would have provided for, perhaps such as college tuition.
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    If a soldier is young and single, I am not sure a life insurance policy is necessary, unless he has dependents or aging parents who need help or is perhaps concerned about his own future declining health.
    Second, if it is determined that there is a need for life insurance, how long is the coverage needed? Again, the answer depends on the age of the insured and their particular concerns, goals and financial priorities.
    If there are small children, the insured probably would want to have coverage that would last until that child leaves home. A needs analysis would look at the family's circumstances, determine its annual needs and arrive at a lump sum that is sufficient to provide the required annual income to support that family if the insured died.
    Generally, an insurance company will provide a death benefit of about 16 times an individual's annual income. Let's assume that a soldier is 30 years old and has been enlisted for 6 years, his income would be roughly around $30,000. He may already receive $250,000 of insurance, purchased at a reasonable price from the U.S. government.
    Another $250,000 in 20-year term insurance with an A+ rated company could possibly be obtained for as little as $167 a year. And a $250,000 permanent universal life policy from a reputable company might cost $1,077 a year. In contrast, according to information provided FPA by this committee, a so-called ''seven pay term'' life insurance with a death benefit of just $29,949 has a premium of $900 per year.
    There is a saying that if all you have is a hammer, everything looks like a nail; in other words, unscrupulous insurance salesmen who have only life insurance to offer will try to solve every financial issue with an insurance product.
    A financial planner who must put the interests of their client ahead of their own considers what investment tools are most appropriate given the financial constraints and priorities of the client.
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    I feel compelled briefly to talk about other investment products marketed on military bases. Very often, an annuity accumulation fund is connected to the insurance policy I described earlier that generates a negative return in the first 2 years and has a 5 percent early withdrawal penalty during the first 10 years. I wonder whether information is adequately disclosed about the costs and lack of liquidity of this annuity, as well as the fact that the funds are not generally available prior to age 59.5 without additional penalties imposed by the IRS.
    We are concerned about the marketing of contractual plans on military bases to less sophisticated and lower ranking members of the military. This type of fund has the 50 percent sales charge on the first-year contributions and it is seldom the best investment product for these members of the military.
    The NASD imposes limits on mutual fund sales charges to 8.5 percent. But these charges rarely exceed 6.5 percent. And in my experience, civilians working with reputable financial advisers typically pay no more than 5 percent of the first year's investment on a mutual fund purchase, including systematic investment plans.
    When our soldiers are convinced to purchase inappropriate and excessively expensive life insurance and investment products, it may mean that other financial needs go unaddressed. If these news reports are accurate and those who most need basic financial services to protect their loved ones and their futures are being taken advantage of by companies that are getting access to these men and women in the guise of providing financial education seminars, FPA believes it would be prudent for Congress to consider restricting the sale of contractual plans and granting states the authority to regulate insurance sales practices.
    I thank you for holding this important hearing. FPA looks forward to working with the committee on this issue. Thank you.
    [The prepared statement of Elizabeth W. Jetton can be found on page 112 in the appendix.]
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    Chairman BAKER. Thank you, Ms. Jetton.
    Mr. Mercer Bullard, welcome again for your third time; founder and chief executive officer, Fund Democracy. Welcome.
    Mr. BULLARD. Thank you. Thank you, Chairman Baker, Ranking Member Kanjorski, members of the subcommittee. It is again a pleasure to appear before you today to talk about these important issues.
    Like this subcommittee, when reports of abusive sales practices and unsuitable investment advice on military bases were reported in July, I was appalled. But I cannot say I was surprised.
    The abuses stem from a number of observable structural causes. And some of them are more easily addressed than others.
    I am going to briefly survey what I believe to be the main causes of these abuses and suggest possible solutions. I will spend most of time talking about the one that I believe would be easiest to address through fairly simple legislation, and that is the most shocking abuse, which I find to be the amount and the structure of sales loads charged on certain investment products.
    They are shocking because of the substantial losses that result from the excessive loads. But they are also shocking because the amount and structure have been expressly authorized by Congress. The Investment Company Act expressly permits sales loads on periodic payment plans of up to 9 percent.
    This means that a $100 per month investment in a 10-year periodic payment plan would incur a total sales load of $1,080 on total investments of $12,000 over the life of the plan. What is worse is the act expressly permits sales loads to be collected on an accelerated basis.
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    These are the upfront 50 percent of the early payments that we have heard mentioned in this hearing already. And those are specifically permitted under the Investment Company Act under federal law.
    The distributor can deduct, on that basis, half of every $100 payment until the entire sales load has been collected. This means that, for example, after 22 months and $2,200 in contributions, only $1,120 will have been invested. The broker will have pocketed $1,080, again compared to the $1,100 actually in the investment.
    If the investor cancels the plan, the broker gets to keep the entire sales load. And the investor is left with a 50 percent loss.
    The act mitigates this exploitive structure somewhat by requiring that investors may cancel the plan within 45 plans of receiving a notice that describes their cancellation rights. And then they receive the value of their investment plus the total commissions paid.
    If the investor cancels within the first 18 months, they have the right to receive the value of the investment, plus a refund of the commission, less 15 percent of the gross payments made. So this means that even if the investor cancels after 18 months, he will still be obligated to pay a commission of $270 on contributions of $1,800 to an investment plan that he did not even keep for 2 years.
    If the distributor agrees to spread the sales load deductions over 4 years and deduct more than average of 16 percent of the contributions during that time, it does not even have to make available that 18-month cancellation option. So in this case, the investor would pay 16 percent in commissions, instead of 15 percent in commissions, on the 18-month investment.
    At least the investor is better off if he cancels after 22 months. In that case, he will have paid only $352 in commissions, as opposed to $1,080, again on only $2,200 in contributions on an 18-month investment.
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    What makes these rules particularly shocking is that the sales load limits for sales of mutual funds—and when I refer to mutual funds, I mean mutual funds not sold through periodic payment plans, because as you may know, mutual funds are usually the underlying investment vehicle of periodic payment plans—the sales load limits for mutual funds set by the securities industry is substantially lower than the standard set by Congress. Normally, the securities industry will argue for higher limits than legislators. But that is not the case in this situation.
    Under NASD rules, as Ms. Jetton described, mutual fund sales loads cannot exceed 8.5 percent, with that limit being reduced in a number of situations where, as a practical matter, you can almost never charge the full 8.5 percent load. In practice, mutual fund sales loads rarely exceed about 5.75 percent. And there are some occasions in which, as she mentioned, they will reach about 6.5 percent.
    More importantly, the load is deducted from contributions as they are made and cannot be accelerated. This means that if the investor cancels the investment, commission paid does not exceed 5.75 percent.
    Compare that with a 9 percent or 15 percent or 50 percent commission paid by investors in periodic payment plans. To put the different treatment of mutual funds and periodic payment plans in perspective, if a mutual fund investor invests $100 per month in a mutual fund with a 5 percent load—and this will be typically known, what is often offered as a systematic investment plans that most mutual funds offer—and they redeem the shares after 2 years, he would have paid $120 in commissions, compared with the $1,080 in commissions paid by the investors in the periodic plan—virtually the same investment.
    If the mutual fund shareholder invests in a class of shares that charge a 1 percent 12b1-fee instead of a front-end load—the front-end load being the 5 percent front-end load—he would pay only about $25 in distribution fees, again compared with $1,080 for the investor in the periodic payment plan. The commission paid by the investor in the periodic payment plan is 4,320 percent of the commission paid by the investor in the mutual fund.
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    As you are well aware, the mutual fund industry has thrived, despite the lower limits imposed on sales charges. In fact, competition has driven down sales loads well below the limits imposed by the NASD.
    There is no reasonable basis for subjecting periodic payment plans and mutual funds, which often offer their own systematic plans similar to period payment plans, subject to NASD limits, to different standards. I strongly recommend that Congress repeal the statutory restrictions on sales loads on periodic payment plans and direct the NASD to extend its rules to such plans.
    This would be a deregulatory measure because it would shift to the securities industry authority for regulating sales loads on periodic payment plans. It would be more efficient because it would place the authority for regulating these sales loads in one place—that is the NASD—rather than two—the NASD and the statute. And it would be more flexible because the NASD would be in a better position than Congress to respond to changing business practices.
    The other causes of sales abuses on military bases are also quite observable. But they are not nearly as susceptible to relatively easy solutions.
    One problem is the inadequate and inconsistent regulation of investment advice mentioned by Ms. Jetton. The unsuitable recommendations made to military personnel are characteristic of the lower standards that apply to brokers and the even lower standards that apply to insurance agents.
    Brokers who provide individualized investment advice often are not even regulated as investment advisers, pursuant to SEC positions, or subject to fiduciary standards. And insurance agents often are not even subject to minimal suitability standards.
    Both categories of professionals are provided individualized investment and financial advice and, accordingly, should be held to a fiduciary standard of care. Most of the financial services industry is adamant, is adamantly opposed to being held responsible for acting only in their clients' best interests, even while they become less the sellers of products and more the purveyors of advice.
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    Congress should conduct a bottom-up review of the regulation of financial advice.
    Another problem is the special vulnerability of military personnel, especially junior personnel, to abusive sales practices, whether such practices involve periodic payment plans, life insurance, home financing or any other retail product you can think of. The isolated command nature of military life is a double-edged sword.
    It creates unique opportunity for the government to protect our soldiers from abusive sales practices. But for salespeople, it provides the opportunity to more easily exploit unsophisticated investors.
    Ideally, the military would regulate sales practices on military bases. But it is not well suited for this job, which is not its primary mission.
    We would not ask the SEC Chairman Donaldson to direct the war in Iraq any more than we should seriously expect the Pentagon to be the most efficient regulator of financial services on bases.
    But as long as the military continues to exercise some control over sales activities on bases, state and federal regulators will be justifiably reluctant to intervene and apply what may be a different set of rules and a different set of procedures. Congress probably should encourage the military to establish a central office for the regulation of sales practices on military bases. And that office should work closely with state regulators and the SEC to come up with consistent standards.
    But even with such a structure, it will be difficult to enforce the same sales practices for the benefit of our soldiers as we do for our civilian population.
    The broadest and last problem is that the financial services industry is regulated in a generally dysfunctional smorgasbord of rules, promulgated in force by a wide variety of state and federal regulators, each of whom takes a different approach to regulation and oversees arbitrarily defined product lines. The reports on sales abuses on military bases illustrate how this patchwork of financial services regulation compromises consumer protection, increases costs and suppresses competition.
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    Our system of financial services regulation is a drain on capital formation and wealth creation. Congress should begin a systemic review of financial services regulation with the goal of efficient, functional regulation of all financial services providers and products.
    These are the essential problems I see underlying the sales abuses documented in recent reports. Some are fairly intractable. And I hope only that there will be some progress in addressing them during my lifetime.
    But some can be effectively addressed in the short term. I would again recommend strongly that Congress shift regulation of sales loads on periodic payment plans to the NASD. This is a simple deregulatory step that would have an immediate, bottom line impact on our soldiers' financial security and help them benefit from the free market system that they are fighting to defend.
    Thanks very much. And I would be happy to take questions.
    [The prepared statement of Mercer Bullard can be found on page 78 in the appendix.]
    Chairman BAKER. I thank you for your testimony.
    Our next witness is Mr. David Woods, chief executive officer, National Association of Insurance and Financial Agents.
    Welcome, Mr. Woods.
    Mr. WOODS. Thank you, Chairman Baker, Ranking Member Kanjorski, members of the committee. It is our privilege this morning to spend a few minutes with you, sharing our view of this problem and some of the solutions that we think might be appropriate.
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    I do represent the National Association of Insurance and Financial Advisers. We represent 65,000 insurance agents and financial advisers and another 150,000 of their employees across the United States.
    The Life and Health Insurance Foundation, of which I am also the president, is a non-profit organization whose mission is to educate the public about the essential role of life, health, disability income and long-term care insurance in their financial plans and the value added by qualified and professional insurance agents and financial advisers.
    NAIFA has worked closely with the Department of Defense and with Congress over many years to improve and to establish proper regulation of insurance sales on military bases, to improve financial education for these men and women, which many members of the committee have already established is of critical importance.
    Let me start, however, by making it very clear that in our view, the vast majority of life insurance agents and financial advisers adhere to the very highest professional and ethical standards. And in doing so, we obviously condemn those who do not.
    As our mission statement indicates, NAIFA's reason for being is: to promote professional, ethical business practices. Just as an aside and as a moment of personal privilege, I am sure Ms. Jetton did not mean to imply that those who are not members of the Financial Planning Association or who are not registered with the NASD are not ethical and are unscrupulous. In fact, as she well knows and all of you well know, life insurance—its policies, its marketing practices—are well regulated by every state and by insurance commissioners across this country.
    All of us—Congress, the Department of Defense, NAIFA—we all have the same goal here and that is to educate military personnel about financial matters that are critical to them and to stop the deceptive and unfair sale of insurance products. We must be steadfast, obviously, in guarding against unethical and possibly illegal sales practices. And we believe that the importance of ensuring that military men and women have access to insurance products cannot be overstated.
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    As I indicated, the sale of insurance of course is regulated by both the federal government through the Department of Defense and the states, which are our nation's primary regulators of insurance. The current regulatory structure establishes a workable mechanism for the supervision of insurance agents on and off military bases and strikes a proper balance between guaranteeing the right of military personnel to have meaningful access to insurance products and financial education and ensuring ample protection for these insurance consumers from predatory sales practices.
    The problem, however, with the current structure is the lack of coordination and communication between the Department of Defense and state regulatory authorities and the lack of adequate enforcement of existing rules. To correct these problems, in our view, the Department of Defense and the state insurance commissioners need to work together to develop a scheme to improve communication, improve coordination and improve enforcement of both Department of Defense rules and state laws.
    We are delighted and we applaud Representative Max Burns for your efforts, sir, to provide solutions to these problems with the introduction of your Military Personnel Financial Services Protection Act. We enthusiastically support the proposal's embrace of state insurance regulatory authority by clarifying current law regarding state insurance regulatory authority over insurance transactions on military installations, which is certainly less than clear at the moment, as you have said.
    The bill supplements the authority of base commanders and improves the ability of the Department of Defense and state authorities to ensure that insurance sales are properly handled.
    We would, however, point out that there is some language in the bill which does cause some concern to us because it could be interpreted more broadly and lead to unintended and perhaps problematic consequences for the insurance industry and insurance consumers. And our statement gets into it in greater detail.
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    We would look forward to working with you, sir, and with the committee to refine the language so your intent is clear and it does not do some harm where it should not.
    We recognize that the majority of military personnel are, like Special Conger, young, often have little financial background or formal financial planning education. This is true not only in the military, but in society as a whole.
    We support the framework established under the directive by which military personnel can and do receive critical financial education. The Life Foundation, of which I am the president, provides crucial insurance-based financial information directly to a broad spectrum of society, including high school students.
    In fact, we already provide educational programs and material to 25 percent of high school juniors and seniors throughout the country. The Life Foundation has offered and continues to offer—and do so here—to provide educational programs and materials that it has already developed to the Department of Defense for servicemen and women.
    So in summary, Mr. Chairman, clarification of current law, improvements in communication, coordination in enforcement and financial education are all critical elements in ensuring that current laws work to provide military personnel with the consumer protections that they need. With these goals in mind, NAIFA and the American Council of Life Insurers developed a set of best practices, which we have submitted to you, for military sales and their functional regulation. And these are attached to our statement.
    And thank you again, sir, for the opportunity and the privilege of appearing before you today.
    [The prepared statement of David Woods can be found on page 146 in the appendix.]
    Chairman BAKER. Thank you again, sir.
    Our next witness is Mr. Frank Keating, president, chief executive officer, the American Council of Life Insurers. Welcome.
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    Mr. KEATING. Mr. Chairman and members of the subcommittee, I appreciate the opportunity to appear today and to discuss how best to address unscrupulous sales of financial services, including insurance, to our men and women in the military service.
    You are to be congratulated on conducting this expeditious hearing. We at the ACLI are glad that the revelations of this summer have finally opened communications among those whose responsibility it is to solve the reported problems.
    For more than a year, the ACLI has been aware of such allegations of misbehavior. As a matter of fact, before the New York Times articles appeared, I personally met with senior officials of the Department of Defense to discuss this issue with them.
    We have sought attention at the highest levels. Today, we have solutions we wish to share with you.
    We believed we had achieved a breakthrough earlier this year when we were able to sit down with representatives of the U.S. Government Accounting Office to help them plan their investigation into the accusations leveled by all sides. We encouraged the GAO to dig deep beneath its express mandate to get to the bottom of things.
    But it was the stories published by The New York Times in July that rocked everyone out of complacency and into remedial action. And it is about time.
    The telling thing about the newspaper's stories is that the news was old news. Many of the same allegations involving the same companies were reported 4 years ago in the Cuthbert Report, which is the unofficial name of the official Defense Department investigation into ''Insurance Solicitation Practices on Department of Defense Installations.''
    While that report itself is controversial, it was clear long before it was published that something was amiss in the supervision of insurance sales to military personnel. It should have been clear that alleged insurance problems required something of state regulators as well as defense officials.
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    Our military mobilization since September 11th accelerated personal financial planning for our newly enlisted, accelerated sales of insurance and perhaps accelerated incidents of coercive selling. But it did not accelerate communications between industry and defense officials and state insurance officials until now.
    The ACLI and the National Association of Insurance and Financial Advisers—NAIFA—have shared with you for this hearing a dozen best practices for military insurance sales and their financial regulation. Our recommendations are divided into three areas.
    The first addresses military installation market conduct by insurers and insurance agents. The second area recommends improved, standardized financial literacy opportunities for our servicemen and servicewomen. The third area recommends improvements in regulatory supervision of the military market for insurance sales.
    Thus, we offer suggestions for improvement for both industry and regulators. We have more ideas to offer and we are actively soliciting suggestions from our member companies and agents.
    We want to assure that our military servicemen and women have the education, information, safeguards and independent sources of advice necessary for their individual needs. No industry can endanger its fundamental enterprise by tolerating misconduct in its core activities.
    We do not want our many good companies and agents unfairly tarred by a brush intended for a few. That is why ACLI is here today and anxious, on behalf of the companies, to help you sort out the regulation of military sales of life insurance.
    We are convinced that the reason these issues continue to come up is 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.
    I might take a moment now to address remedial legislation drafted by Representative Max Burns of Georgia. I commend Congressman Burns for his authorship of this bill. I also commend Congressman Emanuel for what he has proposed.
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    At the heart of it is the genuine solution to many of the problems reported in the press: state regulation. That solution involves the realization of genuinely functional regulation in both the technical and common sense terms.
    We support the overall concept of both bills. But there are a few ancillary provisions to which I would like to make some suggested improvements.
    First, the Burns bill intends, we believe, to prohibit a particular investment product known as contractual mutual funds. As this is not a life insurance product, ACLI has no opinion about the pros and cons of such an investment.
    However, the description of the product in the legislation goes far beyond contractual mutual funds to prohibit all kinds of insurance and annuities that have a variable element in them. ACLI has communicated with the committee staff on how to refine the technical description in the bill to the controversial product under your review.
    My second observation is that the notion of asking 50 state insurance regulators to implement new standards to protect military personnel from insurance sales misconduct is unnecessary and probably unwanted by all the regulators involved. It has been the absence of any kind of functional regulation of insurance sales on military installations that has created cracks through which misbehavior has reportedly taken root.
    Further, it is in the complete absence of effective enforcement of all relevant rules that has caused some of our soldiers to become victims of scams. Fifty new state rules in addition to existing rules will not better protect our servicemen and women if neither the states nor the Defense Department can enforce any rule.
    The military services are a unique environment. It is populated by highly mobile individuals who have special needs and a healthy respect for those in authority or who otherwise provide guidance.
    The functional regulation of insurance by the states must be reconciled with the functional regulation of our military personnel by the Defense Department. We believe that the necessary balance can be achieved in two ways: first, by centralizing relevant financial services information for all military services within a particular command in the Defense Department; and secondly, by looking to that centralized defense command to serve as the liaison and coordinator of financial services sales supervision, the handling of complaints and regulatory assistance with the financial service functional regulators at the state level.
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    Under this approach, an infraction by a sales agent or a company on a military installation is not an isolated incident receiving an arbitrary evaluation. Rather, it becomes an incident reported to multiple regulators and multiple installation commanders.
    It is subjected to fair and certain adjudication. And it will result, in some cases, appropriately in license revocations or penalties that sting.
    The cracks in the system become sealed and misbehavior is rooted out, not to find fertile ground on another installation or in another state or foreign country. Ignorance breeds ignorance. If there is no ability for commanders to communicate or for regulators to communicate and to have this system put in place here in Washington to provide information, corrective action will never be taken.
    Thank you, Mr. Chairman, again, for allowing me to address these important topics and ideas. We at ACLI are eager to help address effectively the problems under investigation by the GAO. We very much believe we can be part of the solution and that our recommended best practices provide a path to success.
    Thank you.
    [The prepared statement of Hon. Frank Keating can be found on page 120 in the appendix.]
    Chairman BAKER. Thank you for your participation.
    Specialist Conger, at the time that you were first approached by the sales representative for the American Amicable investment, do you recall whether the words ''front loaded'' were used or that there was any disclosure made about fees that you would pay in that first or second year or financial penalties that might be associated with any premature actions on your part?
    What can you tell me, from your memory, about the presentation, when they said, ''This is a good deal. This is what we need from you. And here is what you get?''
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    Did they tell you where your money was going to go when they asked you to make that check out?
    Mr. CONGER. They did not tell us exactly where it was going to go. They showed us on charts pretty much how much money we would make. And they told us the sooner we put our money into it and if we decided later on to take it out, that there would be a very big penalty, very big fine.
    And that is about all I know.
    Chairman BAKER. Do you recall did they tell you how long you had to leave it in to avoid paying that big penalty? Did they tell you that?
    Mr. CONGER. They said, at the time, we had to leave it in up to 2 years, I believe.
    Chairman BAKER. 2 years.
    Mr. CONGER. I believe.
    Chairman BAKER. That is interesting. Okay.
    Thank you very much, sir.
    Mr. CONGER. Yes, sir.
    Chairman BAKER. Ms. Jetton, a contract plan with a 50 percent first-year commission, as American Amicable provides, starting with a $900 premium for a $21,000 death benefit, is that a good deal?
    Ms. JETTON. Well, in the civilian marketplace, just to give you comparison, if we are talking about term life insurance, someone of a young age could get $250,000 of term insurance for $200 or less.
    We have two different things here and I think even we are getting confused at times. On the contractual mutual fund plan, where you have the 50 percent sales charge on the first year's contributions as Mr. Bullard and I commented, in the civilian marketplace you cannot charge more than 8.5 percent front-end load. And that comes out only as you invest new monies.
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    And typical practice is you do not really see front loads higher than 6.5 percent. And truly a very reputable financial adviser who is, by law, putting the interests of their client first, can find good quality investments in a commission front load product, where the commission might be between 4 to 5.75 percent.
    Chairman BAKER. Well, let me state it a little different way, then. If you were sitting in the room with some of these young men and women, typically, as I understand the profile of most of the customers, they are about 24 median age, total annual compensation of about $30,000, very minimal net worth calculations not really any identifiable near-term financial needs because of their military obligation.
    How does someone come to the conclusion that either of these products are professionally appropriate for their financial next step?
    Ms. JETTON. Well, that is the question. I have met with young enlisted and officers in the course of my career and typically their primary concerns are living within their means, avoiding debt, having just some liquid reserves in a savings account to protect them from all the kind of uncertainties, such as a car breaking down or a child needing some medical attention. So I would in no way ever recommend this type of product.
    What we are always looking to do is make their dollars stretch as far as we can to cover all of the financial issues that they are facing, both what they are facing today in their lives and, if there is a life insurance need, finding the most economically viable, quality insurance product possible with the highest death benefit that would be appropriate.
    Chairman BAKER. Generally, I am just appalled that this level of advice was permitted to be given to frankly individuals who were not in a position or mental state to make judgments, in light of the exorbitant financial costs associated with the extraordinarily low benefit. I just keep looking for an explanation from somebody as to how this happens.
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    And apparently, it has happened to a great extent over a considerable period of time because there are several companies that appear to be doing quite well selling this product. I am advised that this series of votes, commencing now, will be a series of three votes. I leave it to the gentleman's discretion whether we would like to just recess now and go for the votes, or would you care to proceed with your questions? If you would like to be recognized, sir?
    Mr. KANJORSKI. Sure.
    Chairman BAKER. I would recognize Mr. Kanjorski for his questions.
    Mr. KANJORSKI. The testimony poses some disturbing facts. No one likes to see the armed forces, their personnel being taken advantage of. But it raises the other side of the issue on consumer protection generally and how far government and regulation should get involved, really.
    It reminds me of a hearing the chairman participated with me several months ago in Monroe County in the purchase of homes and mortgaging and brokerage of homes. And the question was that people from the greater New York area were buying homes sometimes twice their value.
    And as a result, once they purchased the home and they started to pay on their mortgage for a year or two and they went for a refinancing, they found out the value of their home was about half what they paid for it. And needless to say, hundreds of people either went into foreclosure or were very disturbed with that fact.
    And it raises the question: just what should the role of government be in saving people from their own misjudgment or failure to exercise reasonable procedures in the marketplace? I keep thinking of: is Casablanca shocking, that there is gambling in the casino? Well, is it shocking that there is profiteering in business?
    We are really going to raise the question here: just how much do we hold the hands of not only military personnel, but consumers generally? And what the constraints of that will be on the free enterprise system.
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    In an ideal world, I would like every member of the armed forces to have a financial planner. I would like to be certain that they do not get charged any greater amount than the median amount in cost of investments.
    But the reality and the practicality of that is we are going to have to block the military from having any activities with financial transactions while they are in the service because invariably, unless we are able to write some sort of regulatory provisions or legal provisions that guarantee that we will stand behind the failure to use good financial judgment and I do not think it is possible to do that.
    The question is: do you find—and maybe I should direct this question to Ms. Jetton and Mr. Bullard—do you find that the practices are so outlandish that the government should, in a very heavy-handed way, step in and restrict any participation except for those that are qualified to be absolutely foolproof to potential armed forces personnel? Or is this just the risk we take?
    Mr. BULLARD. As a general matter, we should step in only where there is some evidence of market failure. And sales practices on military bases, I think, would clearly qualify.
    It is a closed market. It is controlled by the Pentagon. It is highly susceptible to affinity marketing, which is another word for using relationships to exploit consumers.
    And therefore, given that some degree of market failure, I think it is appropriate to think about stepping in.
    But another answer to your question would be we already regulate and impose price restrictions with respect to sales practices. The reason we do that and not, for example, impose price limits on mutual funds themselves is that the potential for abuse in sales practices is so much greater.
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    You have someone who is very difficult to regulate on the ground, engaged in interpersonal reactions, where it is very hard to prevent sales abuses from occurring. And decades ago, Congress decided that it was appropriate to impose limits.
    The mistake it made was that when it gave the NASD the ability to impose limits on mutual fund sales, it did not then also repeal the provisions for periodic payment plans and also send that along with the same package. So we have really answered the question as to sales loads.
    They are regulated. They are regulated by imposing very specific restrictions.
    But we have an archaic set of provisions that allowed accelerated payments that really would have gone by the wayside if the industry itself had been regulating these securities products. So I think the answer would be that in evidence of market failure and a long history of already providing those kinds of restrictions, that there is a very strong argument for having some more government oversight in this case.
    Ms. JETTON. And I would agree. And I would also note that we do have fairly heavy-handed regulation in the civilian marketplace through the NASD and the SEC. And the military, in some ways, has been carved out as a niche, when in fact, it is probably an area that needs at least the same level of protection because of the very people we are talking about, who are so very often young, who are coming into it with a focus on serving their country.
    And their lives are complex and chaotic as a result of that. And I think they need our very special care.
    There is also a problem in that anyone can call themselves a financial planner in this country without having credentials. There is a credential, the Certified Financial Planner. There is a meaning to the term ''investment adviser'' that should mean—and does mean—that you are registered with the SEC and have a fiduciary relationship.
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    But unfortunately, those terms are battered around. And there is no statutory regulation there, so that anyone can just use the language and be the wolf in sheep's clothing.
    And I am certainly not denigrating the insurance profession overall. But again, there is a difference in our regulatory standard and professional standard. There is not a fiduciary standard in place for insurance. And therefore, I think Congress has a role.
    Mr. KANJORSKI. Are you suggesting a special regulatory entity for defense personnel, as opposed to a more broadly regulated entity?
    Ms. JETTON. I am not necessarily making that case. We have had so little time to really consider the issue. But we would be happy to consider and make more comments.
    Mr. KANJORSKI. Thank you.
    Gentlemen, I just want to get to you for a second. Are you full of scoundrels in your industry? Or is this an aberration?
    Mr. KEATING. No, our industry is not full of scoundrels. But I disagree with this nice lady. If you are selling a product, you may almost have a fiduciary relationship to the person to whom you are selling the product.
    But let me say this, as you know, Congressman, bad facts frequently make bad law. We have to reflect, before we take action or propose action, that an 18-year-old in this country is an adult. An 18-year-old can serve in the military. An 18-year-old can enter into a personal property contract.
    Mr. KANJORSKI. They do not vote very often though, governor.
    Mr. KEATING. The same thing with real estate; the same thing with serving on a jury and sending somebody to their execution or to a prison term. So what we propose is to say, look, this is an unusual environment.
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    What we ought to have is a full, complete and utterly impartial financial services seminar for military personnel, because this is a family decision—their retirement, their savings, these are matters of real interest to them. It obviously is of real interest to the military: to not permit its people to sign unknowingly on the dotted line at those kinds of events. If there is a bad apple—and there are bad doctors; there are bad lawyers; there are bad insurance salesmen it is important to have that information provided to the Department of Defense, and shared among insurance commissioners.
    There already is a system in place that can communicate, insurance commissioner to insurance commissioner, to all the agents and all the companies. So to bring together the regulators in an office at Defense and give the opportunity for base commanders to access that information so that they are not dealing with someone who has been booted off another base is readily available. I think it is rather simply handled.
    But I think we do not need to patronize people. We need to give them the very best information and not permit abusive practices on bases.
    Mr. BALLARD. Could I respond to one comment? It is factually and legally incorrect to say that sellers of life insurance have a fiduciary duty. They do not, never have. And Ms. Jetton is exactly right.
    And the product you describe, Chairman Baker, would have been a violation of that seller's fiduciary duty. But because they are not subject to fiduciary duty, we have this issue in front of us today.
    Mr. KEATING. That is not true.
    Mr. BALLARD. We do not need to debate that.
    Chairman BAKER. No, we do not. We are down to about 5 minutes on the vote. With everyone's tolerance, since there are two pending matters, I understand the second vote may now be a 15-minute vote, we will stand in recess until 12:30 to accommodate everyone.
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    Thank you.
    Chairman BAKER. I would like to call this meeting of the Capital Markets Subcommittee back to order. We will certainly have members returning, as circumstances warrant. But in order not to delay our panel any longer, I wish to proceed in recognition of members for questions.
    Mr. Kanjorski had been previously recognized prior to our recess. Mr. Lucas would now be in order.
    Mr. LUCAS OF OKLAHOMA. Thank you, Mr. Chairman.
    Governor Keating, you testified that ACLI had sat down with the GAO office to help them plan their investigation into the accusations leveled by all sides concerning military insurance sales. Could you describe to the committee a little bit the nature of some of those accusations and the inappropriate practices and then what ACLI's suggestions were to the GAO in regards to that?
    Mr. KEATING. Congressman Lucas, as I alluded to in my formal testimony, I came aboard just after the first of last year, mid-January. And one of the first letters I wrote was to the Department of Defense after we heard about allegations of oppressive sales practices and inappropriate products being sold, asking for a meeting with the Department of Defense.
    That meeting was declined. In the course of the inquiries from GAO, we have taken up with them these issues, as recently we did with the Department of Defense in a meeting with them. We have subsequently had a meeting with officials from the Department of Defense and taken the position that the answer must always be a regulatory scheme that works.
    And it is very difficult if a state insurance commissioner who has responsibility over life insurance sales does not know about an accusation. It is very difficult for that insurance commissioner to take action against either the company or the agent.
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    It is particularly difficult for the company if they do not know that there is a problem on a base with a particular agent. So with the GAO, as well as with the Department of Defense, our position has consistently been a clearing house at DOD, with access to the computerized information of all the agents and companies in the country.
    Let's say an agent acts improperly at, let's say, Fort Sill in Oklahoma. That individual should not be able to just go on to Fort Lewis, Washington and begin business as usual because his name, the fact that he has been excluded from the base, would be in this national system, accessible by the Department of Defense, by state insurance regulators. And not only can action be taken by the department in the barring of that individual, but also the license can be suspended by the insurance commissioner.
    The problem has been, as I indicated, there really has been no communication or very little communication. And we are representing the companies involved—some 400 life companies, most of whom do not do business, by the way, on military bases.
    So we are very anxious and insistent that there be communication between the Department of Defense and the state insurance regulators, a consistent system of sharing information and taking action when those bad apples and actors do surface.
    Mr. LUCAS OF OKLAHOMA. Understood. And clearly, in that kind of a scheme, situation, regulatory regime, where the state insurance commissioners were involved in the regulatory process, if there was a problem with a company, with an agent, it would be possible for the insurance regulators surely to report to the base commanders that those entities are no longer licensed to do business in that state, I would think.
    In the long haul, governor, do you think that this is a situation that, granted it is a limited number of companies perhaps that specialize in this kind of a business, but is it a situation, based on your insights, you think, that has been a problem perhaps at a number of military bases across the country, as opposed to just a limited number of isolated incidents?
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    Mr. KEATING. I only know, Congressman, anecdotally, because again there has not been a universal sharing of accusations and information. But certainly the information provided in the New York Times pieces would suggest there were more than just a few bases involved.
    And that is why the timeliness and the urgency of action is upon us. And to the extent that we can make sure that bad actors are identified and removed by the companies, to the extent we can make sure that bad actors are identified and either fined or removed by insurance commissioners, we need to do that.
    And as you well know, as long as life and casualty and medical insurance are state regulated, you are going to have a wide variety of interest in these things. But if the Department of Defense can collate the information and share it with the insurance commissioners and become the bully pulpit to insist that action is taken in a public way, I think you are going to see this problem moderate very dramatically and very quickly.
    Mr. LUCAS OF OKLAHOMA. Thank you.
    Specialist Conger, thinking back to the information that was made available to you, how much time was spent by anyone for that matter discussing the various options that could be available to you, all the way from buying savings bonds on down to not participating in things. How much time would you say, in your military experience, was actually devoted to this kind of information providing? Guesstimate?
    Mr. CONGER. Congressman, I would say probably about three hours. There was a discussion on investing money into mutual funds and the options. There really were not any other options that they gave us.
    They kind of hurried us up in this situation and never really gave us any options or anything.
    Mr. LUCAS OF OKLAHOMA. Thank you, Specialist.
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    Thank you, Mr. Chairman, for your time.
    Chairman BAKER. Thank you, sir.
    Mr. Scott, did you have questions?
    Mr. SCOTT. Thank you very much, Mr. Chairman.
    We are missing somebody at this hearing and that is the military. We have private insurance companies who are being given access to U.S. military bases, to sell young Americans in uniform expensive insurance that they do not need. And they are charging our soldiers high fees for investments that have been disgraced and outlawed in the civilian market.
    And because these insurance salesmen have been given the military's permission to sell such products on their bases, many of our soldiers, like Specialist Conger, believe the products have their commander's stamp of approval. And we are having this hearing to come to a way to fix this problem. And we do not have a representative of the Pentagon or the military here.
    And I was just wondering, Mr. Chairman, if you could share with us: were they invited? Is there any reason why they are not here? I do believe that they are an important part of getting to the core of this issue.
    Mr. Chairman?
    Chairman BAKER. I am sorry, I was not listening.
    Mr. SCOTT. My question was: did we invite the military here? I was very concerned that we have a problem that expressly happens in an environment that the military controls, been happening for 30 years, being perpetrated by agents who themselves are retired military and by companies on whose boards the military is highly represented. And here we are, trying to come to a solution to this and the military and the Pentagon is not here to answer questions before this committee.
    And I wanted to know: were they invited? And if they were, why did they not come? And certainly, I would certainly want to make the case that before we move further to try to come up with answers to a problem, we certainly need the input of the defense and the Pentagon here to help us with this.
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    Chairman BAKER. I certainly understand the gentleman's concerns. The military would be the second tier level of concern, at least from my perspective at this time.
    This is a free enterprise product, marketed through the approval or permission of the military administrations who allow a product to be brought to the attention of enlisted personnel for the enlisted personnel to be able to make independent financial decisions. However, it is clear to me, given the manner by which the marketing was conducted through retired officers to enlisted personnel in happy hour environments, that it was not a judgmental circumstance in which personnel could exercise independent financial judgments.
    Therefore, at the appropriate time, I assure the gentleman that we shall engage military personnel responsible for authorization to explain to us their review processes. Now military personnel who allow private vendors on to military bases can not always be held accountable for unprofessional conduct.
    If a private vendor was to come on to a military base with vending machines that took quarters on every occasion, that would not necessarily be an oversight of military personnel. However, given the longstanding practice, the excessive charges, the limited benefit, the reported incidences in which individuals reported their unwillingness to participate, there will be a requirement to have some thorough explanation as to how this practice and methodology was continued on such a longstanding basis.
    But to the military's defense today, they were not extended an invitation to appear. We, rather, chose to focus on the financial aspects as a consumer product first.
    Mr. SCOTT. Okay, Mr. Chairman. I certainly look forward to an opportunity, at the appropriate time, that I might be able to ask the military and the Defense Department.
    Chairman BAKER. Oh, without question, the gentleman will reserve that right.
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    Mr. SCOTT. Let me ask Mr. Bullard, in your opinion, can you explain to me how contractual mutual fund plans are better suited for the military when it is almost non-existent in the civilian market? And are these insurance products commonly sold by other firms?
    Mr. BULLARD. The contractual plans you are talking about, I assume are the ones through which you can charge up to the 9 percent sales load and deduct the sales load, up to 50 percent of each contribution for the first couple of years. And those are not sold in the civilian marketplace simply because they cannot compete with other mutual fund products.
    In the civilian marketplace, you have an open marketplace. There is a great deal of competition and information out there. And it is for that reason only are periodic payments that sell mutual funds not sold, but even mutual funds competing for business set their sales loads at levels that are substantially below what is allowed by the NASD.
    So the obvious explanation is competition, which leads me to look at the military base environment and, not surprisingly, find a lot of examples of why the markets are not working efficiently. You have a command structure, which lends itself to officers and enlisted personnel who are vulnerable to influence by senior officers, senior retired officers.
    You have an environment where you have a selective group of persons who have access, thereby creating high barriers of entry to that market. So there are a lot of market reasons why this is probably a fairly inefficient market and additional regulatory scrutiny is needed.
    Mr. SCOTT. All right.
    Governor Keating, let me ask you this. Are you familiar with First Command Financial Planning?
    Mr. KEATING. Only from the news reports. That is correct, Congressman.
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    Mr. SCOTT. Only from the news reports?
    Mr. KEATING. Yes. They are not a member of our association.
    Mr. SCOTT. What about American Amicable Life Insurance Company?
    Mr. KEATING. From the news reports as well.
    Mr. SCOTT. They are not a part of your organization?
    Mr. KEATING. They are.
    Mr. SCOTT. They are?
    Mr. KEATING. Yes.
    Mr. SCOTT. Pioneer American Insurance Company?
    Mr. KEATING. No.
    Mr. SCOTT. A part of, I think, our task here is, as I see it from the enterprise standpoint and our oversight of coming up with legislation, is: how do we get at the bad actors here? And can you share with me your experiences with trying to get any assistance on this?
    And secondly, and perhaps Mr. Woods too with his organization that comes I with the insurance, were there any bureaucratic barriers in your way? And if you could give to me what was the genesis of the GAO investigation?
    Mr. KEATING. Well maybe Mr. Woods can comment about the GAO investigation. But I can say that when it came to my attention—and ACLI represents about 400 life insurance companies, most of whom do not do any sales on military bases—but this was a challenge to our franchise, the ethics and integrity of the institution of life insurance and life products.
    So I contacted by letter the Defense Department and asked for a meeting so we could discuss: what can we do to make sure that bad actors and bad companies do not misbehave on military bases and take advantage of young and frequently uninformed military servicemen and women? Their information back, their response back was, ''We cannot meet with you.''
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    Now as a result of the passage of some months and even before the New York Times article appeared and some additional efforts to try to have them meet with us, we did meet with them. We explained that it was very difficult for a company to know if they have a bad agent if the base commander and/or the Department of Defense do not share that information.
    And the response back was, ''Well, FOIA.'' And you know, a lot of things in the FOIA exchange are redacted. It is difficult to find out: what did go on here? Can I really fire this person?
    So that is the reason we have been insistent, Congressman, from the start, that there be transparency—very much like the Emanuel bill, quite truthfully—that there be transparency, full sharing of information and a proactive role on the part of the Department of Defense to make sure that the agents and the companies doing business—because banks, securities firms and life companies have been on bases for many, many years and they are, in fact, not abusing, and not taking advantage of servicepeople.
    This is a $3.5 trillion industry, an extraordinarily important industry to America, to our economic vitality and success. We want to make sure that only good men and women are in it and particularly only good men and women are on military bases.
    So I think, from my standpoint, the thing that was frustrating to me was on the Department of Defense's reaction. It was not as urgent as it was to us. But again, we represent the industry. And we felt great urgency to address this problem.
    Mr. SCOTT. Do you think that these companies that I mentioned, that throughout this whole investigation or research we have been doing, appear to be repeat offenders of this, like Amicable, First Command, those companies? Do you think companies themselves who engage in this should be banned from the military bases?
    Or do you see this in terms of bad actors, as rogue agents? Do you see them doing it on their own? I mean, it is hard to think that——
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    Mr. KEATING. Again, Congressman, all I know is anecdotal. And the companies or several companies are here to answer your specific questions about your specific concerns about conduct, practices or sales.
    But the reality is there is authority in every state to take action against bad companies and bad agents. And just as I indicated, we have bad lawyers, bad doctors, bad siding salesmen in this country. And you need—we need—to take action against them.
    Chairman BAKER. Mr. Scott, we have been quite liberal, but you are well over your time.
    Mr. SCOTT. And I appreciate your generosity, Mr. Chairman.
    Chairman BAKER. Thank you, Mr. Scott.
    Mr. Emanuel?
    Mr. EMANUEL. Thank you, Mr. Chairman.
    I think what would be helpful is, rather than mixing up mutual funds or contractual mutual funds with life insurance products, we kind of separate the two. And even though the legislation puts the two together, there are actually a different set of problems and a different set of solutions, number one.
    And I think on the contractual plans, what I find interesting through—and I will make one observation, at least as I understand what you said, Mercer, and if I got it wrong, I apologize for the characterization—is that there is not enough of a marketplace, so you had one product driving through.
    And I think, on the insurance side, you have in a weird way too much competition and not enough information. And therefore, people are buying the wrong products. So they have different problems associated with them. That is number one.
    On the contractual mutual funds, given this product is not in the civilian market and given it is not part of the general public, we should approach and try to wean it out in the same way—not wean it out, either end it and eliminate it, as my legislation calls for, or give a clear warning to all the men and women in uniform of how this product is perceived by the SEC, so it is unambiguous in the understanding for any consumer.
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    So if they want to buy it, there is what I call a surgeon general label on it from the SEC. ''This is absolutely looked down upon, frowned upon. We do not think this product is good.''
    Now I think we should ban it. But if, for whatever reason, we cannot get ourselves, like the prior Congresses, to ban it, put a clear warning on it with all the red, flashing lights so everybody knows what that is.
    And then maybe we should deal and look at further, as people want to look at mutual funds or other types of investment vehicles, of how we can get those products out.
    But the learning lesson on the insurance side is: one, although the Defense Department seems to come for some criticism, I would like to come to at least one note of defense. We actually provide a product, the $250,000 life insurance product, that is a good product at very cost-effective basis.
    And what should be done—since nobody else will tout my legislation, I will do it—is raise that ceiling to $500,000. I do not think the insurance industry would have a problem if the government was doing that.
    And give people the option of $250,000 or whatever other breakpoints they want to make, but up to $500,000. Ninety-six percent of all people in uniform are in that insurance product, as I think I got that statistic right.
    And then allow people in the private insurance industry to sell different products, niche products. So obviously you would tailor these on a customer-by-customer basis and inform them, which leads me to my question to Governor Keating.
    What do you think is the knowledge basis—and again, you are not on the base knowing, but through your associated firms—the knowledge basis on some of the servicemen and women? If one product is being sold something like a savings plan, but it is really a life insurance policy, et cetera, what is the knowledge basis that they know of what they are buying and what they are purchasing?
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    What is the knowledge basis of what they think they need going in? And what can we do?
    We have a general public problem of information, knowledge, et cetera. They are not there to be trained on financial literacy. That is not what they are there for.
    So what can we do to make this easier? They can do what they need to do for themselves and their family? What knowledge basis do they have?
    And then I have one other statement after that.
    Mr. KEATING. Congressman, many years ago, when I became an FBI agent, we had a session in the course of our training about retirement and savings and all those things. But we were 22 to 25, 27 years old. And we did not care about it.
    So everybody sat and listened. But how much really was absorbed was anybody's guess; probably not very much. Perhaps people who had children and families absorbed more than those of us who were single.
    I think a similar challenge exists with respect to military families and military singles. The reality is that the military is a family, just like in my service in the Bureau, it was a family.
    And they cared about us to make sure that if anything happened to us, our families were taken care of. And we should have listened more.
    And in their case, they had a very transparent, very broad, very open information. Here are the things you need to think about; here are some of the solutions out there.
    But in the FBI no one signed on the dotted line. And there was not a salesman who made the presentation. It was a series of professionals that did not try to sell us anything.
    And I think to take, like Specialist Conger's example, enlisted men, single people, men and women with families and say, okay, you have so many dollars in pay. You can buy a little bit more insurance, a lot more, or another $250,000. You can buy even more coverage than that, a half a million dollars worth.
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    But if you do not have any kids, you probably do not need that. If you have children, you probably need that coverage or perhaps more.
    Here are some thoughts that you need, with respect to mutual funds or retirement products or savings products to best secure you and your family's security. Openness, transparency, and full information about the product. Then let adults make decisions for themselves and not be bludgeoned or coerced into a decision by a superior officer or a superior enlisted man.
    If you can do that—and I think it can be done—then I think you virtually solve the problem.
    Mr. EMANUEL. I think that I am sympathetic to your case as a 27-year old young enlisted in the FBI. My wife accuses me of having the adult version of ADD. I am sympathetic to that attention and what people had.
    I do think one of the things that we can do in this legislation is clarify the role of the Defense Department, the commanders on the base, et cetera, so it does not look like they are blessing, encouraging or directing enlistees to sign up for something. So as the hosts, we may be sending an ambiguous if not—I do not want to say duplicitous, that is not exactly the right word—a message that should not be sent by encouraging people.
    I do think one of the solutions is allowing the government to offer more life insurance than the $250,000 cap. That would be an opportunity so those who think they need more can, purchase more. They do it at a very cost effective basis.
    The second thing we need to do at the Defense Department is set some clear guidelines so they do not write their own rules that give ambiguous messages to the enlistees of what they are or are not doing, are or are not saying. But the most important thing is to get to the contractual mutual funds and not allow $15 billion to exist.
    And one last thing is then on the variable, as my legislation does, it grandfathers those in so we do not hold people and harm them in the process of making a transition.
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    Mr. KEATING. Congressman, looking at your proposals only of course in very summary form, those make a lot of sense. Congressman Burns' bill makes a lot of sense: to provide a regulatory apparatus, a sharing of information and a role for the Department of Defense to make sure that servicemen and women are not taken advantage of.
    And particularly, I believe in your bill, where you literally sign a statement that there is no requirement that you buy a certain product or that there is no encouragement that a particular product be purchased. And I think that is sound public policy.
    Mr. EMANUEL. Just because it is sensible, we would not want that to get in the way.
    Thank you, Mr. Chairman.
    Chairman BAKER. Thank you, Mr. Emanuel.
    Mr. Burns?
    Mr. BURNS. Thank you, Mr. Chairman. I appreciate the input from the panel.
    We have a tough challenge and a difficult problem. Let me start first with Specialist Conger. Thank you for your service. Thank you for being a part of the 82nd Airborne. I spent a little bit of time at Fort Bragg and crawled around those hills a bit.
    Can you give me—just a simple question—the allotment that you signed, how much per month did you have withdrawn?
    Mr. CONGER. Congressman, I had $100 withdrawn a month.
    Mr. BURNS. Was that fairly typical?
    Mr. CONGER. Just about everybody in my platoon that signed up for it had about the same amount of money.
    Mr. BURNS. Just about everybody?
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    Mr. CONGER. About 45 percent of everybody in my platoon.
    Mr. BURNS. Okay. And how long was that allotment withheld?
    Mr. CONGER. I would say——
    Mr. BURNS. Eighteen months?
    Mr. CONGER. I believe about 18 months.
    Mr. BURNS. And again, the challenge that we face is when you agree to have your pay reduced and diverted, you were unfortunately not aware of what that was going for. Is that a fair statement?
    Mr. CONGER. Yes, Congressman.
    Mr. BURNS. Okay.
    Ms. Jetton, in your testimony, one of the statements that you made is that contractual plans are seldom—seldom—the best investment product for these members of the military. Can you identify times when perhaps they would be?
    Ms. JETTON. I think the positive that those plans are trying to address can be accomplished in other ways more efficiently; and that is, encouraging people to invest over a long period of time, to save money. And that is a wonderful thing to encourage.
    But it is not necessary to encourage it at such a cost in the early years when folks are struggling to meet other financial demands. In any mutual fund you might purchase, mutual fund companies may at no additional cost have automatic drafts withdrawn from one's checking account.
    So very often in our practice, we will encourage an individual to do a savings plan of $100, $200, whatever they can afford, on a regular basis. They can turn that spigot on and off at any time with no consequences. And again, they will pay a lower sales charge of typically no more five, at most 6.5, percent, only withdrawn as they make those contributions.
    So I really cannot think of a time when there is not a better alternative that can accomplish the goals that these are apparently designed to address.
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    Mr. BURNS. I appreciate the certified financial planner's willingness to help in the education process, the counseling process. As an individual, if I were to ask you to evaluate my financial position and develop a plan for me, what kind of a challenge would that be? And how much time or how many dollars might that require?
    Ms. JETTON. Congressman, it would depend. Different financial planners work in different niches. And we tend to work with middle class. We have a structure where we may work on an hourly basis with those who are starting out and charge $100 an hour, just for advice.
    We have a signed engagement that every client would sign, that is basically outlining the scope of the relationship. In other words, it would say: this is how I am compensated. You do not have to buy anything from me.
    But if you do, this is how I might be compensated. If I am working with you hourly, we can only cover so much, so be warned that I may not have a chance to address these issues.
    So it is very clearly defined. And that is one of the steps of the financial planning process that all certified financial planners must abide by, is first of all outlining the scope.
    I might also work in an engagement that is an annual fee, where it is almost carte blanche service for an individual. Other financial planners may receive commission as a way to be compensated for their advice, but they make that very clear.
    I guess the point I would make here is that full advance disclosure is a requirement. And that disclosure includes specifically how you are compensated.
    So if it is a life insurance contract, exactly how much percentage. If it is a term policy, it is not unusual in the first year to be paid 90 percent of the first year's premium.
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    But in the case of a certified financial planner, that has to be disclosed. The actual dollar amounts and how you will be compensated must always be disclosed in advance of any engagement.
    Mr. BURNS. Okay, thank you.
    Mr. Bullard, in your testimony, you were comparing maybe the Investment Company Act with the statutory Section 27 requirements versus the NASD Rule 2830. Is the solution to adopt NASD Rule 2830?
    Mr. BULLARD. Well, I think the problem that we have with periodic payment plans is that they are periodic, it is that you can accelerate the payments, as Ms. Jetton was talking about. And it is the Investment Company Act that expressly authorizes that.
    And it is for that reason, if I were the NASD, I would not want to touch the regulation of that issue because of the obvious conflict with federal law. So by repealing that provision, what you would do is you would let the NASD step in and apply the same kind of analysis they apply to mutual funds and probably arrive at the same results, which is to have similar regulation.
    So I think it would be preferable, instead of Congress trying to continue to be in the business of trying to regulate with specificity the exact charges that can be imposed on a product, which is not what I think Congress is best at, instead to let the self-regulatory organization that knows the product well, is down there at the grass roots level, to take on that responsibility, which really should have been done back in the 1970s when it took on responsibility for mutual funds.
    Mr. BURNS. Should contractual plans be eliminated?
    Mr. BULLARD. No. I think that if contractual plan means the ability to sign a contract whereby you would have an amount deducted on a periodic basis and commit to that, that is a wonderful product. That is a great thing and is ideally suited for someone like Specialist Conger.
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    The problem is if he put his $100 a month in a mutual fund that was under the kind of sales load I described, they take $50 out of that $100 and put it in the broker's pocket. And he only gets $50 invested.
    If he invested in a mutual fund with a 1 percent 12b1-fee, he would pay seven cents instead of $50.
    Mr. BURNS. Right. Specialist Conger unfortunately was not involved in a contractual plan.
    Is that correct, Specialist? You were involved with a product that supposedly was a mutual fund, but in reality was an insurance policy. Is that a fair statement?
    Mr. CONGER. That is correct, Congressman.
    Mr. BURNS. And the value, the face value of the insurance policy was? For that $100 a month, you finally got a copy of it after repeated attempts. But the face value was, do you recall?
    Mr. CONGER. Around $2,000, Congressman.
    Mr. BURNS. Wow. Okay. Now I think we have two problems and we are just trying to differentiate. But if I understand, Mr. Bullard, correctly, you feel that the NASD Rule 2830, if it were allowed to be appropriately applied, could help the problem?
    Mr. BULLARD. Right. I imagine that what the NASD would do would be to eliminate acceleration of payments and subject the sales holds on period payment plans to the same 8.5 outside limit and the other provisions as well.
    Mr. BURNS. Okay, thank you.
    I appreciate NAIFA and ACLI's input. And I appreciate their willingness to work with the committee and the Congress in helping resolve this problem because I think we all share the same goal.
    We want to make sure that our men and women in uniform and that serve our nation receive the highest quality financial products and the best investment advice and the best insurance advice. And to my good friend, Mr. Emanuel, I am delighted to know that his ideas are well received. And we will work together to find opportunities to craft legislation.
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    This committee has been exceptionally helpful in not only providing the hearing, but in addressing the issue that has, for years, been unfortunately ignored. And we do have some challenges in the Department of Defense. And I do agree that we need some kind of a mechanism for the monitoring and reporting and management of those who might abuse their privileges on one base, to make sure that they do not just go to a different base or go to a foreign installation.
    So I think all of those things are challenges that we can address within the legislation that I have proposed or within the legislation that will come out of the discussions we are having today and other members' input. And I thank the chairman for the opportunity to be here and yield back.
    Chairman BAKER. I thank the gentleman. There being no further members for questions for this panel, I want to express to each of you my appreciation for your patience and participation today. It has been most helpful.
    The hearing today is certainly not the conclusion of our work on this matter. But your testimony has been most helpful in taking us to the next step.
    The committee does reserve the right to have additional questions forwarded to each witness within an additional 5 days. Thank you very much. And this panel is dismissed.
    Mr. CONGER. Thank you, Chairman.
    Chairman BAKER. I would like at this time to proceed with our second panel. We have appearing with us today: Mr. Lamar C. Smith, chairman and chief executive officer, First Command Financial Planning, Incorporated; and Mr. Joe W. Dunlap, executive vice president, operations, American Amicable Life Insurance Company of Texas.
    And I do wish to extend to you my appreciation for your willingness to appear. Others were asked to come today and had scheduling conflicts.
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    Under our normal committee procedures, you are encouraged to make your statements within a five-minute period. In light of the number of members actually participating at this time, certainly liberties will be given on that. But your full statement will be made part of the official record.
    Mr. Smith, please proceed as you wish.
    Mr. SMITH. Thank you, Chairman Baker. I am Lamar Smith, chairman and chief executive officer of First Command Financial Planning. It is my privilege to lead this 45-year-old company, which is 100 percent employee-owned. I have been with the company for 29 years and served at most levels within the company.
    We are the largest provider of financial plans to the military families in the leadership ranks. We currently serve 305,000 client families including 129,000 who are still on active duty. We only recommend products offered by the leading insurance and investment companies.
    I would like to address three issues in my statement today. First, I want to correct certain misimpressions about First Command. These misimpressions have been continued here this morning in the testimony and in the questions.
    First Command is not the company recently portrayed in the media. In fact, First Command has been a leading voice for reform and improvements within our industry. And we renew that call today.
    Therefore, in my second point, I would like to highlight four reform recommendations that we detail on pages five and six of our written statement. Several of these proposals are extensions of recommendations we presented last year at a Defense Department public forum.
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    Third, I want to comment on the systematic investment product known as ''contractual plans,'' which is a subject of today's hearing. Please allow me to commend the members of the committee for investigating sales practices that target junior enlisted servicemembers with questionable financial products.
    At the same time, let me take a moment to ensure there is no further misunderstanding about First Command, information which is outlined in greater detail on pages two and three of my written statement.
    Please listen carefully.
    First Command does not solicit business from junior enlisted servicemembers. We serve the military's leadership ranks of senior sergeants and petty officers, warrant officers and commissioned officers of all grades, including the flag ranks.
    Unfortunately, the recent press reports confused this point. And there has been a great deal of confusion in the marketplace and this morning in this hearing. And I call on members of the press who are here present to straighten out that misunderstanding in any reports going forward.
    Further, First Command does not recommend life insurance for savings or investment purposes. First Command does not sell at mandatory formations.
    We are honored, as the market leader, with a 20 percent market share. Further, 90 percent of our clients recently surveyed said they would recommend us to their peers.
    We take our mission as a company seriously, serving those who serve all of us in the defense of freedom and democracy. Keeping faith with this goal is our highest priority. That is why, as detailed in my written statement, we are proposing the following four recommendations to help address some of the matters before this panel.
    One idea: require junior enlisted personnel to meet with a specially trained independent counselor from their installation prior to enrolling in a financial product affecting their pay. Secondly, create a centralized DOD registry of agents and the companies that they represent to identify trends and any unscrupulous practitioners.
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    Thirdly, require companies to provide lapse rate date, which refers to the rate at which purchasers on average terminate a given financial product. A low lapse rate indicates the marketplace values a product and receives a benefit from it. A high lapse rate indicates the contrary.
    Concerning contractual plans, we support extending the period of time from 18 to 36 months in which a purchaser can terminate a plan and receive a substantial refund of their sales charges. Further, the portion of the refund should be increased.
    This brings me to my final point, a further word on contractual plans. These plans are only recommended to investors who have long-term goals for wealth accumulation, such as most of our clients, who will likely enjoy many years of steady employment.
    Critics have implied that contractual plan customers are somehow locked into these plans. No one is locked into them. The contractual plan purchaser can terminate his plan at any time.
    Since we are here to seek ways to protect and serve military families, I would like to read a few passages from letters we have received from our clients very recently.
    First letter, just a passage, that is written by a military wife: ''I firmly believe in their systematic programs for making payments to my investments. If they had not made it so easy to do my investments through systematic monthly payments, I would not likely have any kind of retirement plan.''
    A passage from a second letter: ''Looking back over the 11 years of our association with First Command, Frank and I have moved from being essentially newlyweds with no plan for our financial future to now. Frank is a colonel approaching retirement. And we are within a few years of complete financial independence.''
    ''It is amazing how far we have come in little more than a decade. We both consider the discipline required by our systematic investment plan as the key to that remarkable progress.''
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    Another letter: ''I have been so pleased with the programs that First Command developed for me that I referred both my sons to them. Both boys are in their mid-20s and have started systematic investment plans recommended by First Command, so they too can be financially prepared for retirement.''
    And lastly: ''In the 12 years we have been clients, we have been relocated nine times.'' That is very typical, by the way, in today's military. ''Always, it has been a smooth transition with First Command. And we have never been without a representative to help us answer questions.''
    ''We believe that it is a great company. And we are thankful for their guidance and support.''
    We believe these statements are common among our clients. I do look forward to answering your questions. And I want the distinguished members of this panel to know that First Command stands ready to work with you and to support whatever course of action Congress takes.
    Thank you.
    [The prepared statement of Lamar C. Smith can be found on page 129 in the appendix.]
    Chairman BAKER. Thank you very much.
    Mr. Dunlap, proceed at your leisure.
    Mr. DUNLAP. Chairman Baker and members of the subcommittee, thank you for the opportunity to appear before the committee today. My name is Joe Dunlap. And I am here on behalf of the American Amicable Life Insurance Company.
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    I have worked at American Amicable for 26 years and have served as executive vice president of operations for the past 1.5 years. Prior to that, I served as vice president of policy administration for 18 years.
    On behalf of American Amicable, I would like to commend the committee for holding this hearing today. We believe that our company—and, more importantly, our customers—benefit when all salespeople and agents from all companies selling financial and insurance products and services comply with the applicable rules and regulations.
    We also support all reasonable efforts that can be made to provide additional financial education opportunities to military personnel to help them make informed financial decisions for themselves and their families.
    We believe that those who have a high level of understanding about our products and the other financial and investment products sold within the military bases will benefit substantially.
    On behalf of American Amicable, I also want to commend Representative Burns' and Representative Emanuel's legislative proposal and to say that we support the insurance provisions as we understand them today, including a stronger role for the state regulators in regard to on-base military sales. American Amicable does not sell the other investment products that are addressed in the proposed legislation
    Our company, American Amicable Life Insurance Company of Texas, dates back to 1910. Today, it is part of the American Amicable Group, a nationwide company that provides benefits and protection to over 180,000 policyholders.
    We sell life insurance. We do not sell mutual funds.
    The majority of our military business today is sold off-base. And one-third of our Horizon Life policyholders are civilians, not military.
    Over the past 20 years, the group has paid more than $428 million in death benefits across the full line of business. Last year alone, we paid $8.2 million in death claims on policies issued in the military market.
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    To date, we have paid nearly $1.5 million to beneficiaries of servicemembers who unfortunately lost their lives in Iraq. We are proud of the service we provide to our customers, including many members of the U.S. military. But we are not proud of the conduct of the agents who sold our products at Fort Benning and Camp Pendleton in a manner totally inconsistent with our compliance policies.
    While those agents constitute a small percentage of the nearly 3,000 independent agents who are authorized to sell our products, there is no excuse for their conduct. It is inconsistent not only with our standards and policies, but with the certifications we require our agents to sign, pledging compliance with all military, state and local regulations.
    I want to assure you that we take these matters very seriously and expended a considerable amount of time, resources and effort to investigate these matters and take corrective action, to include terminating the agents that were involved, terminating their contracts, offering full refunds to all affected policyholders, developing new and improved compliance programs, including a new agent audit system that includes surprise inspections of field agent offices that we believe will make us an industry leader in compliance.
    And further, we are working with outside counsel today on a companywide investigation of agent compliance. We do not want a single member of our armed forces to feel taken advantage of by our products or by the agents who sell them.
    But I want to make clear that we believe our Horizon Life policy, which we market to both military and civilians, is a strong product. It offers benefits to our military policyholders, such as the ability to accumulate cash with no load whatsoever, not provided by the Servicemembers' Group Life Insurance subsidized by DOD.
    I want to emphasize that we market Horizon Life as a supplement to, not a replacement for, SGLI.
    Thank you, Mr. Chairman and members of the committee for your time and attention today. We at American Amicable pride ourselves on our integrity. We have already taken corrective action regarding the incidents at Fort Benning and Camp Pendleton. And we will take any additional action that is warranted by our continuing investigation.
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    We would be pleased to work with the committee to assist in the development of legislative measures to strengthen the financial education of our customers and to improve and better regulate the sales practices of companies who sell mutual funds, other investment vehicles, financial products and insurance policies on military installations.
    I welcome your questions.
    [The prepared statement of Joe W. Dunlap can be found on page 92 in the appendix.]
    Chairman BAKER. I thank you both, gentlemen. You do come in to an environment where strong opinions are already established. And in that light, I have just a brief set of slides I want to show you.
    [The following information can be found on page 157 in the appendix.]
    They are going to bring you, because it is on the wall behind you and I do not want you to have to turn around, they will present you with a hand copy. This is just a typical Horizon Life presentation sheet, just promotional in nature.
    It is what the young man who was here earlier would have gotten, talking about the potential return for Horizon Life. And it is not really very descriptive of what the product is about.
    Next slide. This gives sort of the rates of return. You focus more on that annuity accumulation thing, where the annuity and the life policy benefits kind of get cloudy.
    If you read real close up at the top, then you can see that it is referencing a life policy. But the big things that catch the eye of someone is: ''You give us your money.'' As a matter of fact, that is the line below the box that has the big word ''opportunity'' in it.
    ''You provide the time,'' meaning you stay alive. ''You give us your money. And then we are going to take care of you.''
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    And then those numbers in those blue boxes down there are very important. I will come back to that with some other additional data. I did not have time to get the chart prepared.
    Go to the next slide. And this is just a typical demographic so the committee has an understanding: 24; $30,000; ranking three and up; typical service time, 7 years. That is important for everybody to remember.
    Next slide. Now here is the thing that is perhaps the most striking. When you look at the Horizon Plan and your premium of $900 and the death benefit of $20,950, contrasted with the militarily available program of $240 annual premium for a $250,000 government benefit, this is where we begin to question the value of that life product.
    And although it is supplemental to the military offering, why would most young people with few assets, few debts, headed to military service, concern themselves with coverage in excess of $250,000? I am not sure. But this helps to frame the problem in my mind as to the appropriateness of it.
    Next slide. This looks at it over the 7-year term. Now the reason for the 7-year term, its significance, is this is the timeframe over which the average military term lasts.
    So the typical retiree would have $4,945 paid in within the earned benefit of $20,950. You would have, in term premium paid into the government program, $1,680, with still the $250,000 coverage for that same period.
    Next slide. And this is sort of an annuity, which most of those young men do not really understand very well. What is extraordinary about it is that in year 1 and 2, you note that you are actually in a negative return rate position, which as I understand, if someone were to choose to leave, there are significant consequences to that.
    You do not get back to break even until just at year 2. And you track it on out all the way to the end and you are at about 3.75. That is also significant because there is a guaranteed effective rate return of 4 percent.
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    But that is exclusive of sales and commission cost. So you are actually netting about 3.75, 3.8 percent, depending on the performance of the markets.
    That is it. And the reason why I just wanted to get those facts into the debate, when we go to Fidelity's—this is the prospectus of a November 28, 2003, so I am using Fidelity's data—and we look at the annualized 5-year rate of return for Fidelity Destiny I, it had an annualized 5-year rate of return of—20.27 percent.
    Now that was a rough period in the market. So we chose the S&P 500 index as a comparable, which is available through the thrift savings plans, which federal employees have and now military personnel have access to.
    They would have earned a paltry 1.13 percent, had they been in the TSP. But that is still a 21.5 percent improvement over the Fidelity Destiny I product.
    The facts are what trouble me here. It is that no matter how I come at this, who is it that designs the product and recommends that this be marketed?
    I am not alleging you gentlemen are devising the product and intentionally going out and selling young people things that they do not need. From your testimony, it is clear you believe you are, in fact, providing a service that otherwise would not be made available.
    But in the free market, if we had base commanders in the position to allow 20 companies on the base and had an insurance seminar and let people go around and pick what they wanted, I do not see how you survive in the comparison.
    I will state it another way. If you had the choice to buy your life product at a monthly premium of $75, which is what it works out to be, with a guaranteed $20,950 life benefit, versus a military product at $20 a month for a $250,000 life benefit, which one would you buy?
    Mr. DUNLAP. If I may, Mr. Chairman, can I explain or provide you comparisons?
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    Chairman BAKER. Please.
    Mr. DUNLAP. Okay. As I said earlier, the Horizon Life product is absolutely not intended to replace Servicemembers' Group Life Insurance. In fact, we think that SGLI is a very good product. And certainly, we do not encourage any soldier to drop that coverage.
    But to compare Horizon Life to Servicemembers' Group Life is very much an apples and oranges comparison. And if I may, I would like to give you just a few additional provisions about Horizon Life that hopefully will serve to distinguish it from SGLI.
    Horizon Life is a combination of life insurance and an accumulation fund. It has two distinct components. But it always has these two components.
    There is a seven-pay, 20-year term life insurance coverage in the product. By seven-pay, I mean that the premiums for the life insurance are fully paid up in 7 years.
    Chairman BAKER. Isn't that because most servicemen leave the service in 7 years, so you make sure you get your premium?
    Mr. DUNLAP. No, sir. We do not make that correlation.
    Chairman BAKER. Then why would you pick a 7-year period to get a repayment? Why would you do that?
    Mr. DUNLAP. I do not know.
    Chairman BAKER. I was not alleging you were doing it. I am just saying, I am looking at it across the desk and saying, ''Okay, why would I pay up 7 years for a product that has a 20-year life span?''
    Virtually everything else you buy, the amortization schedule fits with the life of the product or close to it.
    Mr. DUNLAP. Mr. Chairman, the product is sold as a long-term commitment. It is emphasized to the purchaser that it is a long-term commitment.
    We have a building success program that we use in the majority of our field offices today. And it emphasizes just that. It does a needs-based analysis of the ability to pay.
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    And it also emphasizes the fact that this plan is a long-term commitment. That is the way that it works to the benefit of the customer.
    Chairman BAKER. Now on your point about a needs-based ability to pay, are you suggesting that you sit down with an individual enlisted person, you get his financial condition and then you develop a product that fits his particular need? I thought this was pretty much a standard, boilerplate, $20,950 guaranteed death benefit. The annuity is on top of the life benefit.
    Mr. DUNLAP. Part of the building success program does analyze the existing debts and payments that the applicant has.
    Chairman BAKER. And what effect does that have on the premium or the benefit?
    Mr. DUNLAP. I would assume in some cases that the agent would sell either a higher or lower premium, depending upon the facts that he determined through that analysis.
    Chairman BAKER. So that you have a higher or lower benefit? I am not following. I thought we were looking at sort of a fixed package here.
    Mr. DUNLAP. Certainly, you can pay a higher premium and have a higher death benefit or a lower premium with a lower death benefit.
    If I may continue, Mr. Chairman, with a couple of other aspects of the product? As I was saying, the life insurance element is fully paid up after 7 years. At the end of the 20-year term period, all of the life insurance premiums are returned to the policyholder.
    In year 2, the premium reduces by 25 percent. And in years 2 through 7, that premium is the amount payable. After 7 years, the life premiums are fully paid up.
    I should add that not only does this product not have a war clause, none of the products that our companies offer today have a war clause; in other words, a clause that would prevent the payment of a death benefit in the event that death occurred in a war zone or due to hostile combat. In fact, this product, the Horizon Life product, has a benefit that, after the policy has been in force 1 year, the face amount is increased by 50 percent in the unfortunate event that death occurs in a combat zone.
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    And in fact, we have had a number of those cases in Iraq, unfortunately.
    Chairman BAKER. I would hope that would be the case. My goodness, if you were selling a policy to an enlisted military personnel about to be deployed to an active theater and you would have an exclusion for war, there would be a reaction in this room that would be—let me put it this way, that did not help your defense. But please proceed.
    Mr. EMANUEL. Yes.
    Chairman BAKER. Mr. Emanuel says ''yes.''
    Mr. DUNLAP. The other element is the accumulation fund. The accumulation fund does not have any loads. You deposit money into the accumulation fund, it goes into the accumulation fund. There are no loads.
    There is a 5-percent withdrawal charge in the event that money is taken out during the first 10 years. After 10 years, there is no charge for withdrawals at all.
    The current rate on the money in the accumulation fund is 6.5 percent. The guaranteed interest rate on the fund is 4 percent. And in fact, the historical average of the fund, I believe as I understand it, is approximately 10 percent.
    Chairman BAKER. I am sorry, I did not mean to cut you off. Do you have further comment?
    Mr. DUNLAP. I have gone to the FirstCommand.com Web page and looked at—well, this is called Cardinal Cornerstones. And in it, we discuss the availability of seminars. And in the explanation of the benefit, attending the seminar, it is described as ''no get rich quick schemes.''
    That is the first thing that I found that is probably right on target. And I have reviewed all of the marketing information associated with the First Command product line.
    I still do not have a good understanding as to how you feel that the rate of return for the individual involved in your product is being well served, given the information we have been provided. And I want to give you every opportunity to make us understand that our impressions of performance are not accurate. Can you help me?
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    Mr. SMITH. I would be pleased to, sir. Perhaps the best thing to do is to give you my personal example as a starting point.
    I was a 29-year-old Air Force captain in 1976, back from Vietnam, newlywed. My wife and I were trying to get ahead. We had bought an annuity that did not seem to be promising too much.
    We were saving a little money. We were not overspending.
    But we were trying to get a bead on what the long term looked like. And I received an invitation in the mail to one of those seminars. And it was interesting to me. So my wife and I attended.
    It was off the base. It was mostly my peers were in attendance. They were officers from the base in those days. And it was an informational and motivational seminar that gave me some ideas about how to structure a blueprint for success that would make sense.
    I was then given an opportunity to have a personal financial plan developed. A representative came to our home in those days; we now work in offices.
    He took a lot of information. He sat with my wife and I. We clarified our goals. We answered his questions.
    He went away. And a plan of recommendations came back. It addressed insurance. It was very needs-based, which is a term I have heard here today that we subscribe to greatly.
    The purpose of insurance is peace of mind and then actual benefit to survivors if death occurs. And I got a lot of peace of mind from knowing that my insurance was straightened out.
    It contained savings recommendations. Savings are appropriate for near-term planned spending needs and emergency purpose. And the savings component of a plan is very important to protect the investment component, which fluctuates in value if it is equity-based, if you are investing in stocks or stock portfolios, which fluctuate in value. And it contained a recommendation for a Fidelity Destiny contractual mutual fund plan, 1976.
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    We bought it, $150 per month. That year, I made $22,700 as an Air Force captain on flying status. So $150 a month was not insignificant.
    Today, that plan has been face changed increased. And I am investing $1,000 per month in that plan, that same plan. I have missed 4 months in all of those years.
    And after that brief period of income interruption was completed, I made up that lost time. So essentially, I have not missed any lost time since 1976 in investing monthly.
    I have invested $179,000 out of pocket, real money, my money, into that plan. I can liquidate it today for $531,000.
    Chairman BAKER. Over what period of time? I am sorry.
    Mr. SMITH. Since 1976 to about 3 days ago when these calculations were done.
    Chairman BAKER. Have you ever taken that same set of figures and cranked it into, say, an S&P 500 rate of return or a no-load mutual fund return or any other program?
    Mr. SMITH. Certainly it can be compared. And I have not specifically done that, but that is easily done.
    Interestingly, my brokerage on that account is a hair under 3 percent at that point. And that is not the only contractual mutual fund account my family and I own.
    We have six accounts. We have invested $438,000 out of pocket. And we have a bit over $1 million in there, including my only daughter's college money.
    She is an entering freshman at Wake Forest. And her $120,000 for that experience is sitting in her contractual plan in her name, having invested for, guess what? 18 years.
    Chairman BAKER. That has to be the trick, the fact that you were able to be in control of that fund for 18 years and not have her elect to make an early withdrawal. It is that point that is the key on which your plan works.
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    Mr. SMITH. Yes, sir.
    Chairman BAKER. It is a rare set of individuals who are going to put money at risk and leave it in the market for 18 years. In this case, it was your infant child in whom you made this appropriate decision.
    Almost investing in anything for your child over 18 years is better than no investment at all. My point is that the extraordinary front-end costs associated with participating in these plans has led the private market to all but eliminate them from offering to traditional civilians.
    If this is such a great product, why isn't it offered to the civilian marketplace?
    Mr. SMITH. Thank you for the question, sir. Mr. Emanuel indicated that the contractual plan industry is about $15 billion. We have a hair over $9 billion invested from our clients. So it is being sold.
    We understand from the plan sponsors, the big mutual fund companies that offer these, that there are 106 brokers who have sold these plans in the last 2 years. Now we do sell the majority of them. But it is sold in the civilian world.
    Chairman BAKER. By majority, that would be like X percent?
    Mr. SMITH. We understand that we represent about 70 percent of the sales.
    Chairman BAKER. I thought it was closer to 90, but that is okay.
    Mr. SMITH. I am giving you the information that I have from them.
    Chairman BAKER. Sure.
    Mr. SMITH. Also, there is some confusion, I think, based on earlier comments, about them being illegal in the civilian world. Not true. They are specifically authorized by the federal law.
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    And there is no different set of laws—federal laws—that pertain to military installations and military personnel. And your comment was that my infant daughter, who did not have any choice and I did it for her, had the discipline.
    Part of the answer to your question is that this product is ideally suited to people who have steady income, relative insulation from financial catastrophe, who have the ability to understand commitment and planning and to make plans for their long term and commit.
    Chairman BAKER. Mr. Emanuel?
    Mr. EMANUEL. Mr. Chairman. You would agree though, Mr. Smith, nobody said they were illegal. They were discouraged over a long period of time.
    Pretty much of the $15 billion that exists in contractual mutual funds, almost 90 percent, if not all, are in the military. Correct or incorrect?
    Mr. SMITH. That is not my understanding, sir. And I am not here to speak for the entire industry. I am here to answer questions about our firm.
    Mr. EMANUEL. That product has been discouraged by the SEC in the general public; is almost nonexistent as a product being sold in the general public; and of the $15 billion out of $7 trillion in the mutual fund industry, almost all of it is held by individuals in the military. And so you may not know that. But given that you sold 70 percent of it and your company sells it, I find it hard to believe that you do not know that information.
    And if you have information to refute it, I would be interested. But right now, that is what is in the public knowledge, that basis.
    Mr. SMITH. I can speak to the $9-plus billion that we have. And it is mostly military. It is almost all military.
    Mr. EMANUEL. I appreciate that.
    Mr. SMITH. And I am not here to refute.
    Mr. EMANUEL. Okay.
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    Can I ask another question?
    Chairman BAKER. Oh, please proceed. I have abused the time, so please go ahead.
    Mr. EMANUEL. Mr. Smith, to follow up, what percentage of your product mix is contractual mutual funds? And I have a follow-up question on how you compensate your agents.
    Mr. SMITH. Of the mutual fund operation, it is about 70 percent. Of the company at large, the revenues from contractual plans is about 20 percent.
    Mr. EMANUEL. Okay. But in the mutual fund area, it represents 70 percent. And you represent about 70 or 80 percent of that market?
    Mr. SMITH. We understand 70 percent.
    Mr. EMANUEL. Okay. And almost all of it is held in the hands of people that are servicemen and women.
    Mr. SMITH. Yes, in the leadership ranks.
    Mr. EMANUEL. Okay. Second, in the compensation, in that area for your agents, do you have an open architecture? How are they rewarded in the selling of contractual mutual funds versus other products? Do they get a higher fee?
    Mr. SMITH. The reason for the contractual plan——
    Mr. EMANUEL. No, no. I asked you: how do you compensate your agents?
    Mr. SMITH. We compensate them from the first-year commission, which is where the commission is, which mirrors the effort to create the sale, to create the service, to create the investor. That is the piece that is missing, Mr. Emanuel.
    The big problem in this country is the savings rate. People are overspending. Credit card debt is going up; Personal bankruptcy. And those same features are represented in our all-voluntary military force.
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    The problem is not that they have the wrong investments; it is that they are not saving. It is that they are running up their debts and they do not have a plan for the future.
    Our representatives spend time with these precious people and create a financial awakening. We help them get a spending plan on the table.
    Oftentimes, we will help them cut up their credit cards. And we help them become savers and investors. That is immensely valuable.
    Mr. EMANUEL. Mr. Smith, I do appreciate that. I agree with you that we need to have general savings in our society better than the consumption that goes on. But I asked you about the compensation of your agents.
    But I will take that answer as is. Let me ask you this question: is there any scenario that you can have that you can describe, or any circumstance that you can describe, in which your product—the contractual mutual fund—is less expensive than a no-load savings?
    Mr. SMITH. The no-load implies or the typical term ''no-load'' means that there is no brokerage. That does not mean that there are not fees.
    Mr. EMANUEL. Okay.
    Mr. SMITH. There is an expense to operate the fund. It is an expense ratio that is attached to——
    Mr. EMANUEL. We have spent a lot of time here on 12b1-fees and associated costs, so we are okay.
    Mr. SMITH. There are no-load funds with higher expense ratios, which when you do a hypothetical run out or an actual experience over a lot of years, where the total expenses charged against the portfolio actually exceed the expenses and the brokerage charged against the contractual plan. They do exist.
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    Mr. EMANUEL. I am done.
    Chairman BAKER. Thank you, Mr. Emanuel. I am waiting——
    Mr. EMANUEL. Thank you very much for being here.
    Chairman BAKER. I am waiting on Mr. Burns to return. And in that brief moment—I will hold my questions until Mr. Burns is done.
    Mr. Burns?
    Mr. BURNS. I apologize for having to step out. I had some constituents here that needed just a moment of time.
    I appreciate both of you being here. I know that sometimes criticisms have been public and heated and demanding. And I appreciate the fact that you are willing to come and you are willing to help and you are willing to work through this process and to find a solution that will be in the best interests of the clients that you have.
    I have just a number of questions that I want to try and ensure. And I know that the chairman and Mr. Emanuel covered these. But there is always the question, as we look at insurance.
    The young man who was with us in the first panel was from Fort Bragg and with the 82nd. Was he advised clearly about the SGLI availability, Mr. Dunlap? Do you know?
    Was he informed? Did he have full disclosure? Was there transparency in this transaction?
    Mr. DUNLAP. Congressman, no, I do not know that for sure. Obviously, there were some sales malpractices that occurred at Fort Benning. So I certainly do not know that for sure.
    I do know there was a mention, in fact a documented SGLI coverage amount of $250,000 on the Army insurance solicitation form that came in with the application. But no, I do not know if he was advised of that. No, sir.
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    Mr. BURNS. Was it common practice for agents who may have marketed your products to present financial planning seminars in a group form? Was that typical or common practice?
    Mr. DUNLAP. Congressman, we do not think so. We are very disappointed in what happened at Fort Benning. And we are trying to take remedial actions to guard against those things happening again.
    Mr. BURNS. Were senior NCOs or junior officers compensated in any way to promote or provide access to an agent that might market your product? In other words, was there any form of remuneration or compensation to that drill sergeant who said, ''This a good deal, you ought to sign up?''
    Mr. DUNLAP. Congressman, I do not know. I have seen the investigative file at Fort Benning, which is heavily, heavily redacted. And I do not recall any reference to that in the investigative file.
    Mr. BURNS. I think that is a tough question, but we have to—the reality of life is certain agents were given certain access. And they violated standing DOD regulations. And the question is: what motivated those individuals to do that?
    And again, I want to thank you for accepting the challenge of dealing with the problem and recognizing it. Do you sell a term life policy that does not include an annuity?
    Mr. DUNLAP. Yes, we do have one pure term life policy that does not include any accumulation element to it. Yes, Congressman.
    Mr. BURNS. And again, I think part of the challenge we face is that as these products were marketed, they were not always clearly defined. In many cases—or, I should say, it appears that at least in some cases—individuals signed up for things they did not know what they were signing up for. And that is disturbing. So I think disclosure and the distinction between insurance and investments.
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    Now in your program, you refer to ''the fund.'' Could you expand a little bit on the fund? You say you do not sell mutual funds, so this is not an instrument that you would take these dollars and purchase Fidelity or some other mutual fund investment, I assume.
    What is the fund?
    Mr. DUNLAP. Each Horizon Life policy has two components: the life insurance component and the accumulation fund component. The accumulation fund is a no-load fund. There are no charges, no deductions for deposits made to the fund.
    The current interest rate on that fund is 6.5 percent.
    Mr. BURNS. Right. And the minimum guaranteed is four. I heard the testimony. Now my question is: what do you do with the money? Where do you invest it?
    Is this something that American Amicable invests? And is it not put into a particular mutual fund or a particular strategy, perhaps, as the chairman suggested, maybe an S&P 500 index or whatever?
    Mr. DUNLAP. No, it is the funds accumulated for the benefit of the customer. But there are certainly no separate investment objectives for money in the accumulation fund.
    Mr. BURNS. It just sits there?
    Mr. DUNLAP. Well, obviously——
    Mr. BURNS. It has to be managed. My point is it has to be managed.
    Mr. DUNLAP. Obviously, the company has an investment portfolio, as all companies do.
    Mr. BURNS. Right.
    Mr. DUNLAP. And those funds are managed.
    Mr. BURNS. But the purchaser of the product would not in any way have control over how those funds are invested. Those are pretty much the determination by your investment specialists?
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    Mr. DUNLAP. That is correct.
    Mr. BURNS. Okay. As we look at contractual plans, I think I appreciate the input and the testimony. And I have tried to understand the challenges associated with those.
    And again, we have talked about contractual plans being marketed in the military environment and not being marketed to the general public. Is there a specific reason for that?
    Mr. SMITH. I believe so, Mr. Burns. The financial services industry—the brokers and the financial planners—have limited services available and limited attention given to the beginning investor. And I think that what has happened with the contractual plan being less available in the civilian world is really a part of a bigger picture of the industry moving away from those who do not already have sums to invest accumulated.
    The typical broker and financial planner today that is brokerage-based is looking for people who generally have $100,000 or more of investable income and can supplement that with on the order of $10,000 a year going forward. It is uneconomic, as a matter of fact, to spend the time necessary to do a lot of financial planning, of the type Ms. Jetton talked about.
    She talked about a $100 per hour fee. Our representatives spend between nine and 17 hours with the clients and additional time on the case, working up the financial plans that we provide, which are comprehensive.
    And that is an expensive process. And if the client is going to get the benefit, if the consumer is going to get the benefit, somebody has to pay for it. And generally, that has to be the consumer.
    There are various models and ways for that to happen. Very few beginning investors, however, who are debt-ridden and stressed or they are just really getting started, even though they are in a position to get started financially, very few understand the benefit of the planning process and the advice given.
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    The contractual plan is a great way for us to reach our military customers. The reason they are still sold in the military is, I think, First Command. We are committed to this market.
    They are generally beginning investors. And the contractual plan product is a model, which is legal, authorized in the federal law and which has worked well and which our clients appreciate and find benefit from.
    Mr. BURNS. Mr. Bullard in his testimony, I had asked him the question about the statutory Investment Company Act versus the NASD limits. If we adopted—if we repeal the statutory regulations on contractual plans and set NASD or allowed NASD to set the limits on sales loads, how does that affect contractual plans?
    How does that affect the marketing of contractual plans? And again, civilian versus military?
    Mr. SMITH. That is for me, sir?
    Mr. BURNS. Yes, sir. Please.
    Mr. SMITH. I would believe that if Section 27 of the Investment Company Act of 1940, amended in 1970, is amended in the way that your bill calls for, that basically the contractual plan product would go away.
    Mr. BURNS. What if it was an NASD as opposed to ban?
    Mr. SMITH. It is difficult for me to predict how the regulators would view it. But it would be my estimation that the result would be about the same.
    Mr. BURNS. Okay. Mr. Bullard also made a comment in his testimony—and you may not have had a full copy of it—but in his comment, he said that the level of compensation paid to brokers who sell the periodic payment plans—I am quoting him—''virtually assures that abusive sales practices will be more egregious and frequent than for other products.''
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    How do you respond? He suggests that because of the front load, that abusive sales practices would be more egregious and more frequent.
    Mr. SMITH. Well, sir, at First Command, we enjoy the client relationships that I have already described in the leadership ranks of the military. These include 40 percent of the general officers on active duty today, in excess of about 30 percent of the commissioned and warrant officers and about 16 percent of the senior NCOs.
    These are people with judgment. These are people with education. These are people who are used to decisionmaking and taking lots of data.
    If they were being ill-served, they would speak up. And yet, if you review our complaint history, our consumer complaint history——
    Mr. BURNS. It is very nominal.
    Mr. SMITH. There is very little. The people who know us best—our clients—enjoy the relationship and feel that they benefit from it. And the numbers support that.
    Mr. BURNS. Let's shift back to the insurance world for just a moment. In the agents' environments, these are independent agents that are marketing products that you would provide. Is that correct, Mr. Dunlap?
    Mr. DUNLAP. Yes, they are independent.
    Mr. BURNS. They are independent agents. One of the suggestions that has been made today is a registry of bad apples. And again, another suggestion was a disclaimer on some other products.
    But let's talk about federal oversight and state oversight of insurance products marketed on our military bases. Your agents tend to be licensed within a state. Is that a fair statement?
    Mr. DUNLAP. Yes.
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    Mr. BURNS. They are all licensed by a state either in securities or insurance or both. I think the clarification—I do not see any dissension as far as clarifying the position that insurance agents should be under the jurisdiction of the state that the military installation resides. I do not see any dissension there. Do we agree on that?
    Mr. DUNLAP. Absolutely.
    Mr. BURNS. My question then becomes: how do we deal with foreign installations? How do we deal with foreign installations where there is not an insurance commissioner on a foreign base? And I am asking for input.
    Mr. DUNLAP. Well, that is a good question. And in fact, I think one comment that Governor Keating made earlier, which I thought was very good, is there needs to be increased coordination between the Department of Defense and the state insurance departments, in terms of identifying what these problems are and making sure that the information is communicated to the people that can take action on them.
    Mr. BURNS. There have been several suggestions just in casual dialogue. But it could be the home-based installation.
    For example, I have the 3rd Infantry Division, which is at Fort Stewart, Georgia. They were deployed to Iraq. They tend to receive multiple deployments over time.
    If they were marketed a product, it could be at their home-based installation. Some of these are permanently assigned overseas.
    They might be associated with a particular command. Or they may be associated with an individual's home community. Or they may be associated with the agent's home state.
    So there are any number of options. And I am just saying we have to address that issue.
    I think the problem that we face is we have to provide effective oversight and effective control and management in the sale of a product that is in the marketplace. And your agents, when they market your products off of a military installation, they certainly adhere to those regulations and those guidelines within a state, for example.
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    So if they are not in Fort Stewart and they are in Savannah, Georgia, then they are under the insurance commissioner in Georgia, who I think has done an excellent job of managing and monitoring that. We can clarify that. I think part of the challenge is: how do we deal with it from an international perspective?
    Mr. SMITH. Mr. Burns?
    Mr. BURNS. Yes?
    Mr. SMITH. May I comment?
    Mr. BURNS. Certainly.
    Mr. SMITH. I would suggest that the DOD develop rules or strengthen their rules, that any agent that is going to market in aforeign area must have a stateside license in some state and that be on file with the installation. And he has to live by those rules, the rules of that state. And if there is a problem, then the insurance commissioner in that state has jurisdiction.
    Further, Congress may consider in this connection encouraging the states, through the NAIC, through model regulations, for the states to adopt regulations in their states that require insurance agents who market to the military who are registered in their states to comply with the military regulations. And that gives an additional tooth to the state regulation if there are violations of military regulations.
    Chairman BAKER. Mr. Burns, if I could get you to yield for a moment? Mr. Emanuel had another question before he has to leave.
    Mr. BURNS. Certainly. Be happy to yield.
    Mr. EMANUEL. Thank you, Mr. Burns. In 2000, if I am not mistaken, military men and women were allowed to get into the thrift saving plan that we have access to as members of Congress. And my gut tells me that their involvement—and it is a good enough plan for members of Congress and I think it is actually not just a good enough plan, I think it is an excellent plan—that plan has become a competitor to the contractual mutual fund.
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    And I believe that these should be banned and, if we cannot ban them, a clear warning be put on them. But now that we have another savings vehicle as a 401(k) plan, the type of thrift saving plan that we have that now the military can get in, that is that market opportunity and that choice that will steer them. And I would be interested: do you have any records of what has happened to your selling of your products since 2000?
    Mr. SMITH. Our sales are stronger today than they were then. However, Mr. Emanuel, you said that the military has the TSP that members of Congress and the other federal workers have. And that is not exactly true.
    They do not enjoy one of the most significant benefits; and that is, matching funds. It is authorized within the law. But it has not been budgeted yet. And we hope that it will be.
    And when it is, you are right. It is a hands-down favorite and should be the top recommendation. We believe that the comparison of the TSP to the other alternatives that are available—for instance, the Roth IRA—they are very sensitive to the assumptions that you make about taxation in retirement.
    Mr. EMANUEL. I understand.
    Mr. SMITH. If you plan to be successful, if you expect to be successful in a relatively higher tax bracket, the Roth IRA actually, we believe, offers some benefits worth considering. If you believe that you are not as likely to be in a high tax bracket at that time, then the military version of the TSP, even without the matching, is probably the superior product.
    We work very hard to point this out to our clients and disclose this information and discuss it with them. And we did a sample of a recent 12,000 plans. And about 17 percent of those did have TSP recommendations.
    Mr. EMANUEL. Thank you.
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    Mr. SMITH. Thank you, sir.
    Chairman BAKER. Mr. Burns?
    Mr. BURNS. Thank you, Mr. Chairman. Just a couple of points. Mr. Smith, are your employees, are they CFP or are they certified in financial planning or investing?
    Mr. SMITH. Not a large number of them are. We have several. But that is not a requirement. However, we are moving in that direction.
    Mr. BURNS. Finally, the New York Times mentioned a situation where an officer was in debt and still was encouraged by First Command to invest in contractual plans. Why would that be to his advantage? Why would that be a good recommendation?
    Mr. SMITH. Thank you, sir, for that question. I am very pleased to talk about that. I have a four-page letter from that client, talking about the experience.
    He is very pleased. I will summarize the letter briefly. He is very pleased with his financial progress that he has made since he became a First Command client and very pleased with our service.
    He described his situation at the time that he first was referred to us as ''a bit less than ideal.'' And I have his permission to give this information.
    He had large credit card debt. He had missed some payments, not due to lack of financial ability to make them, but he was disorganized and he described himself as ''less mature.'' His interest rate had kicked up in one case to 25 percent on one of those credit cards.
    He had no car insurance. And you are required to have car insurance in that state. So he was very much at risk there.
    He had set no goals and he had no savings habit. However, he had never been contacted by anybody else offering any help—no fee only planner, nobody else. He was promoted and received a pay raise. And he thought that was a grand opportunity—correctly so—a grand opportunity for him to address his situation.
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    And so he asked around among his peers. And one of our clients, a satisfied client, referred him to us.
    And he describes the situation, how our representative met with him a number of times to get to know him and to talk about the situation that he was in. He was impressed by the fact that it was not high pressure and it was focused on his best circumstance.
    Our representative tried to get him a debt consolidation loan to pull down those debts, the effective interest rate. But he could not qualify because of his blemished credit history.
    So the representative helped him understand the need to get on a regular habit with those payments. And he accelerated the financial payoff of the higher interest debt with a plan, which the lieutenant agreed with, that he would try again for a debt consolidation loan in about 6 months, with an expectation of a better credit history that he could qualify.
    We put him in a balanced financial plan involving some life insurance, a savings—as we typically do to protect the investments—and starter investment plans. What we have found is that people who are in debt and who are needing to dig out, mathematically the case can be made without question that if someone has, for instance, 15 percent debt, any extra money that you can put against that 15 percent is like a guaranteed 15 percent return.
    Mr. BURNS. It certainly is.
    Mr. SMITH. However, if someone has dug himself into a hole and all he is going to do with every spare dollar is put it in the hole, put it in the hole, put it in and he does not see anything building up, our experience is that they typically become discouraged after a few months and they go back to the old habits. Or at least they are at risk of that.
    So a small investment and some savings to see something building up above ground, so to speak, as well as emphasis on debt payoff, has been the winning formula. And this young man today describes himself as on-track, getting better fast. He has now qualified for that debt consolidation loan. And his effective interest rate is way down and his debts are being liquidated very rapidly.
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    Mr. BURNS. One of the biggest concerns that I have and especially among our younger adults is they are carrying an excessively high burden of high-interest debt. And I tell you, every dollar that reduces that debt is, to me, like you suggest, a very positive return.
    Again, I want a balanced, effective solution. I want markets that work for our military. I do not wish our servicemen or women to be taken advantage of in any way. And I want them to be given quality advice and quality products.
    If we have agents who are marketing either insurance products or investment products that need to be labeled as ''dangerous to your financial health,'' then I think that is something that this Congress needs to pursue. I do appreciate the panel today and the input that they have provided because I think that helps us focus on what we need to do within the legislation.
    And I am very grateful to the chairman and the ranking member for the opportunity to be a part of the hearing today. And I look forward to working with them as we pursue the legislation.
    Thank you, Mr. Chairman.
    Chairman BAKER. I thank the gentleman. I also want to extend my appreciation to you individually for appearing here. I think in fairness to you, I should say that you have not necessarily won me over to your position. But by getting your facts on the record, it may help you to a degree.
    Mr. Dunlap, I would really recommend that you get to the committee some explanation of how the company executives do invest those annuity funds. It is not a mystical process. They are taking dollars from military personnel, putting them in a pool——
    Mr. DUNLAP. Mr. Chairman?
    Chairman BAKER. Yes?
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    Mr. DUNLAP. Just to make sure that I am clear on that and I gave the appropriate answer, any money that is accumulated for an individual policyholder is kept as a part of that policy.
    Chairman BAKER. Sure. No, I understand that. And there is an accounting. But the money is fungible. And it is used in some investment strategy.
    I am not saying the investment strategy is bad. I am not saying it is not working. I am saying we do not know what it is.
    We do not know what fees or costs are associated with it. If they are taking those funds and putting them into equities and there is constant turnover in mutual fund holdings, that turnover generates fees for the sales and transaction costs. All of that has to be paid by that consumer.
    And so the net rate of return from an annuity to the individual investor, to a great extent, is adversely impacted by managerial sales loads and undisclosed costs. It would be helpful for us to understand the performance of the fund by knowing more detail about what is going on, not within your purview, but within the investment side of the company for which you cannot speak today.
    Further, you defend the life product performance and the costs associated with it because of that annuity portion of the product, which is the reason why I brought those annuity performance factors up for discussion. But even when you take the annuity performance, as reported by company documents, and look at the premium assessed for the package as it has been developed, the appropriateness of that product being sold to young individuals who do not have the financial sophistication—which both of you acknowledge they do not have—and that they are counseled to wind up at this conclusion is troubling.
    Because if we look at options that would be available to them through the private market, through competitive opportunity, if we were to have the military go out and ask the top 20 companies to put together a package for military personnel across the country to provide an average $200,000 life benefit for some 10-and 20-year period, I guarantee you we could get a really good competitive product provided.
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    What seems to have happened here is that we have had a closed marketplace with military personnel—not in all cases, but in the reported press examples—using their stature among enlisted personnel to make them feel comfortable that this investment need no further examination. You have acknowledged that this marketing practice is not appropriate. We certainly agree on that point.
    It is still very much a concern that once we get by those marketing practices and we look at the underlying consequence of the product being offered, not the manner in which it is offered, and the funds being collected, and the benefits potentially generated still do not square up in my book. But the committee is still open to further information, should the company choose to provide it.
    Mr. Smith, without regard to your company or its practices, just with regard to contractual plans, they really are inconsistent with the financial goal of most Americans and certainly young military personnel. And I say that because the vast majority of financial planners who would have no vested interest in any particular direction will say with neutrality that only a few Americans who are fully invested in all retirement options, with idle cash looking for a place to get a rate of return, would likely look to a contractual plan as an advisable investment strategy.
    As to your own company's practices, your goal of helping unsophisticated, troubled young folks with financial difficulties by taking half their initial year's investment out of the market is a problem from my perspective. If that were the goal, it would seem to either have a low annualized rate spread over the term of the product offering or at least a zero at the beginning, rising over time, as the assets develop in the individual's portfolio.
    It is those early dollars in that get them out quicker. And by having the initial years' contributions, when it is most difficult for them to juggle paying off prior existing debts, perform their military duty and have half of their investment egg spent on company commissions is a problem.
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    I am not yet fully determined of the direction that the committee should take. And I regret that you gentlemen voluntarily appeared and that I have expressed opinions, which I know you do not appreciate. I thank you because I sense from each of you sincerity about your product and what you are doing.
    We just have a disagreement about the value and the inconsequence of those products. Certainly, going forward, there are going to be definitive and decisive actions taken. And I would strongly recommend that senior officials from both companies urgently communicate any other information that might be advisable for this committee to know.
    Chairman Oxley has indicated we need to do our due diligence. We need to make sure we understand. But we better get it done quick.
    So with that, I thank you. And our meeting stands adjourned.
    [Whereupon, at 2:20 p.m., the subcommittee was adjourned.]