Suitability

Definition

The suitability standard is a regulatory standard of care requiring that a recommended financial product be suitable for the customer based on the customer's investment profile, applied to broker-dealer transactions under FINRA Rule 2111 and to insurance product sales under state adoptions of the NAIC Suitability in Annuity Transactions Model Regulation.

Why it matters

The suitability standard was for decades the principal standard of care governing how annuities and other commission-paid financial products were recommended to consumers, and it remains the baseline standard for many transactions today. Its substantive requirements — reasonable basis suitability, customer-specific suitability, and quantitative suitability — establish the structural elements that subsequent standards of care have built on.

How it works

A recommendation under the suitability standard must satisfy three components. Reasonable basis suitability requires the recommending party to have a reasonable basis to believe the product is suitable for at least some investors. Customer-specific suitability requires the recommendation to be suitable for the particular customer based on the customer's age, financial situation, tax status, investment objectives, risk tolerance, investment experience, time horizon, liquidity needs, and other relevant factors collected as the customer's investment profile. Quantitative suitability addresses suitability of a series of recommended transactions taken together. The standard does not require the recommendation to be the best available option, only that the recommendation be suitable based on the customer profile.

In practice

An individual purchasing an annuity through a registered representative or insurance-licensed seller operating under the suitability standard has a regulatory protection that the product is suitable, but does not have a regulatory protection that the product is the best available option for their situation. Useful questions to ask the seller include: which standard of care applies to this recommendation, what alternative products were considered, what features of the recommended product align with the customer profile collected, and what conflicts of interest exist in the recommending party's compensation structure.

In the Longevity Standard Framework

The suitability standard is a regulatory standard governing how lifetime income arrangements are recommended to individuals. The Longevity Standard framework's mechanical legibility produces structural evidence relevant to evaluation under any standard of care — the claim profile, the cost-of-income comparison, and realized value all describe arrangements in terms that the suitability analysis can incorporate — but the framework does not itself endorse a standard of care.

Related terms

• Best interest standard
• Regulation Best Interest
• Annuity disclosure requirements
• NAIC model regulation
• Mechanical legibility
• Cost of income
• Realized value