Charities Breathe Easier After Court Decision on Gift Annuities; Model Law Delayed

Charities that raise money through gift annuities feel a new sense of relief after two recent actions regarding the popular planned-giving vehicles.

In late June, the National Association of Insurance Commissioners decided to send back to committee a proposed “model law” on regulating gift annuities. The proposed law, which was to have been sent to all 50 states, could have prompted many of them to step up their scrutiny of gift annuities.

Ten days earlier, the U.S. Court of Appeals for the Fifth Circuit ruled that charities are free to join together to set payout rates on gift annuities. The ruling halted a four-year-old lawsuit that charged thousands of charities nationwide with conspiring to set uniform rates, in violation of federal antitrust laws.

Gift annuities allow a donor to make a tax-deductible donation to a charity and collect regular payments from the organization until the donor’s death, at which time the non-profit group retains the remaining principal. Older donors receive higher payout rates than do younger donors because they have shorter life expectancies.

In the insurance decision, the executive committee of the National Association of Insurance Commissioners decided not to recommend to the states a model law on the regulation of gift annuities that had been drafted by a subcommittee. Because the level of gift-annuity regulation currently varies among the states, charity officials had feared that a single proposed law might have prompted those states with minimal or no regulations to step up their regulatory efforts and, in some cases, to greatly restrict the ways in which gift annuities could be invested.

Instead, the executive committee asked that the subcommittee consider drafting a second option that could be presented to the states, along with the original proposal. The second option, designed to appeal to states that currently impose little or no regulations, would be a less-restrictive version of the first.

Currently, 10 states — Arkansas, California, Hawaii, Maryland, New Jersey, New York, North Dakota, Oregon, Washington, and Wisconsin — impose detailed regulations on charities that issue gift annuities. Twenty-three states require minimal regulation or grant a blanket exemption from insurance laws. Seventeen states and the District of Columbia don’t have any laws that specifically cover gift annuities.

The executive committee also asked the subcommittee to consider refashioning a provision of the proposed law that dealt with financial reserves, which some states require charities to maintain to guarantee that annuitants are paid. Specifically, the committee suggested that the subcommittee consider recommending a uniform way to determine the level of such requirements. The group’s original proposal did not provide for a uniform method of calculating the requirement.

A dozen states currently require charities to back their annuities with a special financial reserve fund. However, the method of calculating reserve requirements varies from state to state.

Another concern of charities was the strict limitations the draft of the law recommended on the ways that gift-annuity reserve funds could be invested. Charities fear that such rules, which often place restrictions on the percentage of funds that can be invested in stocks and mutual funds, limit the reserve funds’ rate of return. The sending back of the proposal to the subcommittee indicates that the group may consider applying a more-liberal investment standard.

Charities had been calling for the insurance commissioners’ moves.

“I’m very pleased” with the decisions, said Frank Minton, a member of the executive committee of the American Council on Gift Annuities, a service organization for charities that recommends gift-annuity rates, and a planned-giving consultant in Seattle.

“If the model regulatory act had been adopted and circulated in isolation, that could have caused more states to regulate [gift annuities] than now do.”

Still, the insurance committee’s action does not settle the question of state regulation of gift annuities, noted Terry L. Simmons, president of Charitable Accord, a coalition of charity executives and planned-giving lawyers that was formed to fight the annuity lawsuit. “Until charities can feel there is a fair and balanced proposal for all 50 states, I don’t think it’s over,” Mr. Simmons said.

The proposals by the insurance commissioners’ group would simply be recommendations to states, which have the freedom to adopt them in their original form, make changes before enacting them, or ignore them altogether.

Even so, the insurance-commissioners’ group has clout with state lawmakers, creating concerns among charity officials that some states would be encouraged to impose heavy regulation on gift annuities.

The insurance commissioners have sought a model law in part to protect consumers against defaults by charities on gift-annuity contracts. Some regulators fear that such a situation could occur if a charity’s investments suffer from a drop in the stock market or a broad swing in interest rates, or if annuity holders live longer than expected.

In the court ruling, a three-judge panel said a 1997 federal law that had been specially crafted to stop the antitrust lawsuit left no doubt that the practice of collaborating to set gift-annuity rates is legal.

“There are no additional facts that await development,” declared the five-page decision, written by Circuit Judge Jerry E. Smith. The full text of the decision is available on the Fifth Circuit’s World- Wide Web site at http://www.ca5.uscourts.gov/opinions/pub/96/96-11439-cv1.htm.

Since its formation in the 1920s, the American Council on Gift Annuities has sought to recommend uniform rates for annuities so that charities would not compete for donors on the basis of financial reward but rather on the merits of each charity’s philanthropic mission.

The lawsuit was filed by the grandniece of an elderly Texas woman who obtained $200,000 in annuities from the Lutheran Foundation of Texas. The suit charged that the American Council on Gift Annuities, which recommends annuity payout rates that many charities use, conspired with charities nationwide to keep those rates artificially low. At one point the class-action suit named roughly 2,000 charities as defendants.

The appellate court’s decision was not a total victory for the council or the coalition of charities that fought the lawsuit. The judges left intact a $15,000 penalty against the charities for filing a “frivolous” appeal during a previous stage of the suit. Mr. Simmons said the penalty would probably be appealed.

In addition, the ruling allows a parallel lawsuit to remain alive in Texas state court, although it appears that the state case may meet the same fate as the federal lawsuit.

The ruling came after years of expensive legal wrangling and aggressive lobbying by Charitable Accord.

After failing to win dismissal of the antitrust case in federal court in 1995, the American Council on Gift Annuities and Charitable Accord turned to Congress for relief from the gift-annuity charges.

Congress acted swiftly, passing a law that year that was designed to stop the lawsuit. But when non-profit groups asked the federal court in Texas to dismiss the case, it refused, saying the new law left a loophole.

The American Council on Gift Annuities was not covered, the federal court decided, because it was not a charity itself. Not only that, the court ruled, the law did not protect banks and other for-profit organizations that offered gift annuities using the council’s rates. The Court of Appeals for the Fifth Circuit agreed, refusing in the spring of 1997 to dismiss the lawsuit.

Resolved to keep fighting, charities returned to Washington last summer and persuaded Congress to pass yet another law that finally spelled the end of the antitrust case. The new law extended immunity from antitrust litigation to all parties “involved in the planning, issuance, or payment of charitable gift annuities,” regardless of their tax status.

In December 1997 the U.S. Supreme Court overruled the appeals court’s decision refusing to end the suit and instructed the judges to reconsider the matter in light of the new federal law.

Mr. Simmons said that the finality of the court decision makes charities more comfortable in offering gift annuities. He also said the ruling, though preceded by a long, costly legal storm, had a “silver lining.

“Now we have a much more unified charitable community that realizes it can accomplish much more than it ever thought it could,” Mr. Simmons said.