Legacy Consulting Group, LLC v. Brenda Gutzman, in Her Capacity as the of the Estate of Grace W. McGaughey

• Court: Kentucky Supreme Court
• Decided: December 13, 2021
• Docket: 2020 SC 0288
• Status: Unknown

Opinion

RENDERED: DECEMBER 16, 2021 TO BE PUBLISHED

Supreme Court of Kentucky 2020-SC-0288-DG

LEGACY CONSULTING GROUP, LLC; AND APPELLANTS MONEY CONCEPTS CAPITAL CORPORATION

ON REVIEW FROM COURT OF APPEALS V. NO. 2018-CA-1580 FAYETTE CIRCUIT COURT NO. 18-CI-00444

BRENDA GUTZMAN, IN HER CAPACITY AS APPELLEES THE EXECUTRIX OF THE ESTATE OF GRACE W. MCGAUGHEY, DECEASED; AND JACKSON NATIONAL LIFE INSURANCE COMPANY

OPINION OF THE COURT BY JUSTICE VANMETER

AFFIRMING

Under federal and state law, arbitration agreements validly entered into

are generally enforceable. However, arbitration agreements contained within

insurance contracts are not enforceable. The primary issue we decide in this

case is whether Grace McGaughey and, by extension, her estate are bound by

the arbitration provisions contained within the agreement which she signed

with Money Concepts Capital Corporation and Legacy Consulting Group, LLC

in December 2009 when she purchased a variable annuity with Jackson National Life Insurance Company.1 We hold that under the facts of this

proceeding, neither Ms. McGaughey nor her estate is bound. We therefore

affirm the Court of Appeals.

I. Facts and Procedural Background.

In 2009, Ms. McGaughey, then age 89, was the trustee of the William A.

McGaughey Non-Marital Trust dated April 12, 1992 (“Trust”). From documents

in the record, the Trust owned, or was the beneficiary of, a Hartford Life

annuity with respect to Paul McGaughey who died prior to December 2009.

The payout from that annuity was to be approximately $400,000 to $425,000.

Upon the advice of David W. Hudson,2 an investment advisor/registered

representative of Money Concepts, Ms. McGaughey decided to invest $401,000

in a variable annuity with Jackson, specifically Jackson Perspective L Series

Fixed & Variable Annuity. The 2009 contract between Ms. McGaughey and

Money Concepts, consisting of eleven pages, contained an arbitration

agreement. The Jackson paperwork gave reasons for replacement as

“Annuitant is deceased, to realize gains in tax year 2009, and step up the death

benefit.”

1 As will be explained, this case is an interlocutory appeal from the Fayette Circuit Court which denied Money Concepts’ and Legacy Consulting’s joint motion to enforce arbitration terms in their agreement with Ms. McGaughey. We will sometimes refer to these two parties jointly as “Appellants.” Jackson, while a named party to this proceeding, did not have arbitration terms in its contract and therefore has not participated herein. 2According to the Kentucky Secretary of State’s business records, David W. Hudson formed Legacy Creek, LLC in April 2009. In 2010, its name was changed to Legacy Consulting Group, LLC.

2 The Contract Data Page for the Jackson Annuity indicated that the

Owner was the Trust. The Annuitant was to be Ms. McGaughey, age 89. The

stated Initial Premium was $401,988.36; the Issue Date was December 29,

2009; and the Income Date was December 29, 2015. The Annuity’s terms

provided that the Premium could be withdrawn at anytime prior to the Income

Date, subject to a possible withdrawal charge. Similarly, in the event of the

death of the Annuitant prior to the Income Date, since the Owner was the

Trust and not a natural person, the Annuity appears to provide for payout to

designated beneficiaries, in this case, the Trust. Because Ms. McGaughey lived

beyond the Income Date, the Income Provisions set forth in the Annuity, pages

23-26, became operable, and Ms. McGaughey was provided with at least five

options: 1) lump-sum distribution; 2) Life Income annuity; 3) Joint and

Survivor annuity; 4) Life annuity with 120 or 240 Monthly Periods Guaranteed;

or 5) Income for a Specified Period. In addition, Jackson provided that other

income options were available, and that the available annuities could be either

Fixed Annuity Payments or Variable Annuity Payments. Annuity, page 24. The

record is clear that Ms. McGaughey did not select a payout option until the

month prior to the Income Date and that Ms. McGaughey chose, or was

advised to choose, the Life Income Annuity with a Fixed Annuitization. Over

the ensuing fifteen or so months, Ms. McGaughey apparently received monthly

payments of $9,695.90, payable quarterly, or a total of approximately

$145,000.

3 Following Ms. McGaughey’s death in March 2017, her daughter, Brenda

Gutzman, was appointed Executrix under her will. Gutzman apparently

questioned the propriety of the Life Income Annuity with Jackson and was

advised that the annuity payments terminated following her mother’s death.

Gutzman then sued Money Concepts, Legacy Consultants and Jackson in the

Fayette Circuit Court alleging several common law and statutory claims. Based

on the arbitration agreement, Money Concepts and Legacy Consulting moved to

compel arbitration. The trial court initially held the motion in abeyance,

pending limited discovery as to the signed documents, and ultimately denied

the motion to compel. Money Concepts and Legacy Consulting then filed an

interlocutory appeal with the Court of Appeals. That court affirmed the trial

court, opining that “the product at issue is for insurance based on the

description of the portfolio as a fixed account and the regular payments of the

same amount . . . consistent with an insurance product.” Legacy Consulting

Grp., LLC v. Gutzman, 2018-CA-001580-MR, 2020 WL 2781708, at *9 (Ky. App.

May 29, 2020). Consequently, that court held that the arbitration agreement

was unenforceable. KRS3 417.050(2). Money Concepts and Legacy Consulting

filed a petition for discretionary review, which we granted.

3 Kentucky Revised Statute.

4 II. Analysis.

The analytical framework for this dispute is relatively simple. If the

investment product which Ms. McGaughey selected, with the advice of Legacy

Consulting and Money Concepts, was “insurance,” which under KRS 304-1.030

includes a fixed payment annuity, then the arbitration agreement is

unenforceable. KRS 417.050(2); see also Ernest & Young, LLP v. Clark, 323

S.W.3d 682, 688 (Ky. 2010) (stating that McCarran-Ferguson Act, 15 U.S.C. §

1012(b), “establishes a doctrine of ‘reverse preemption’ that expressly exempts

from federal preemption state statutes enacted to regulate insurance, leaving

the regulation of insurance to the individual state[]”). Conversely, if the

investment product was a security, including a variable rate annuity, then the

arbitration agreement applies. As might be expected, the parties diverge as to

their respective views on the investment product. Appellants focus on the

original 2009 Jackson Annuity and its Accumulation Phase in which Ms.

McGaughey bore the risk of the investment. Gutzman, by contrast, focuses on

the post-Income Date during which Ms. McGaughey received a fixed rate

annuity.

Appellants argue that the determination of whether a contract

constitutes “insurance” within the meaning of the McCarran-Ferguson Act is

determined by federal law. SEC v. Variable Annuity Life Ins. Co., 359 U.S. 65,

69 (1959) (stating “the meaning of ‘insurance’ or ‘annuity’ under these Federal

Acts [the McCarran-Ferguson Act and the Security Act of 1933, 15 U.S.C. §§

77a-77aa] is a federal question[]”). In Variable Annuity, the Court discussed

5 the differences between the variable annuities at issue in that case and

traditional fixed annuities. As to the latter, the Court noted that “traditionally

and customarily they . . . offer[] the annuitant specified and definite amounts

beginning with a certain year of his or her life. The standards for investment of

funds underlying these annuities have been conservative.” Id. Conversely,

variable annuities were invested to a greater degree in common stocks, and the

benefit payments vary with the success of the investment policy. Id. The Court

concluded that “the concept of ‘insurance’ involves some investment risk-

taking on the part of the company.” Id. at 71.

Justice William J. Brennan, Jr., wrote a concurring opinion in which he

fleshed out in more detail the provisions of the variable annuity at issue. Like

Ms. McGaughey, the annuitant had the option to cash out. Id. at 86 (Brennan,

J., concurring). Importantly for our decision, the variable aspect of the annuity

payout continued following the pay-in period. Justice Brennan noted:

Before the maturity date, when the schedule of payments in the contract ceases and the payments out commence, the investor can draw down his ‘units' in cash, and dispense with all ‘annuity’ features. Failing this, he is entitled to elect one of several annuity alternatives. These are in the sample policy, a straight life annuity on the life of the investor, a straight life annuity with 10 years' payments certain, and a joint and survivor annuity on the life of the investor and another. Again, while the duration of the company's obligation to pay is independent of its investment experience, the amount of each payment is not a direct money obligation but a function of the status of the company's portfolio.

Id. at 86. In this case, Ms. McGaughey elected a fixed payout that was not

dependent on Jackson’s portfolio.

6 Appellants argue that a focus on the post-December 2015 aspect of the

annuity ignores the plain language of the contract as established in December

2009. Again, we turn to the Supreme Court for guidance.

Eight years after Variable Annuity, the Court had an occasion to address

another variable annuity product. SEC v. United Benefit Life Ins. Co., 387 U.S.

202 (1967). In United, the annuity premiums were invested in a “‘Flexible

Fund’ with the object of producing capital gains as well as an interest return,

and the major part of the fund is invested in common stocks.” Id. at 205. The

Court noted,

After maturity the policyholder has no further interest in the “Flexible Fund.” He has either received the value of his interest in cash, or converted to a fixed-payment annuity in which case his interest has been transferred from the “Flexible Fund” to the general reserves of the company, and mingled, on equal terms per dollar of cash value, with the interests of holders of conventional deferred annuities.

Id. The SEC’s position was that the portion of the contract involving the

“Flexible Fund” in the pre-maturity phase was “separable and a ‘security,’

within the meaning of the Securities Act.” Id. The Court noted the parties’

agreement that “the provisions dealing with the operation of the fixed-payment

annuity were purely conventional insurance provisions, and thus beyond the

purview of the SEC.” Id. The lower courts ruled against the SEC on the basis

that the contract was to be considered as a whole and not fragmented as

argued by the SEC. Id. They held that under the contract as a whole, the

company bore investment risk which “gave the entire contract the character of

insurance.” Id.

7 The Supreme Court disagreed, stating “[f]irst, we do not agree with the

Court of Appeals that the ‘Flexible Fund’ contract must be characterized in its

entirety. Two entirely distinct promises are included in the contract and their

operation is separated at a fixed point in time.” Id. at 207. Thus, and contrary

to Appellants’ argument, we, in fact, look at the distinct promises included in

the contract and their operation at fixed points in time. See also Nat’l Home

Ins. Co. v. King, 291 F. Supp. 2d 518, 527 (E.D. Ky. 2003) (noting well-

established principle that “whether a particular contract is one of insurance

does not depend on what it is called, but what it does[]”) (citations omitted).

This conclusion is buttressed by the Ninth Circuit Court of Appeals

decision in Patenaude v. Equitable Life Assurance Society, 290 F.3d 1020 (9th

Cir. 2002), abrogated on other grounds by Kircher v. Putnam Funds Tr., 547

U.S. 633, 636 n.1 (2006), in which the court addressed whether state law

claims involving variable annuities were preempted by the Securities Litigation

Uniform Standards Act. Pub. L. No. 105-353, 112 Stat. 3227 (codified in

scattered sections of 15 U.S.C.). The court noted that variable annuities are

“hybrid” products, “retain[ing] some aspects of both a security and an

insurance product. To understand the interplay, we must deconstruct the

product.” 290 F.3d at 1027. The Court then stated,

As hybrid products, variable annuities are properly subjects of hybrid regulation. There is nothing inappropriate or inconsistent about the securities component being subject to federal securities regulation and the insurance aspects being subject to state regulation. For that reason, nothing in SLUSA displaces state insurance regulation, nor “invalidate[s], impair[s],

8 or supersede[s] any law enacted by any State for the purpose of regulating the business of insurance.” 15 U.S.C. § 1012(b).

290 F.3d at 1027 (emphasis added).

The annuity in this case was initially set up as a variable rate annuity.

Under case law, that initial investment was not insurance, but rather a

security. The issue, however, in this case is whether, following the Income

Date, when Ms. McGaughey elected a fixed income annuity, did the annuity

become insurance? The question seems to answer itself. If Ms. McGaughey

had elected in December 2009 to invest in the variable annuity and, at that

same time, elected a fixed rate payout, then perhaps Appellants would stand

on firmer ground.4 The facts are, however, that the payout was left open and

Jackson provided Ms. McGaughey with multiple options. From the limited

record before us, Legacy Consulting may have been involved in some form or

fashion in advising Ms. McGaughey as to her options.5 In other words, Ms.

McGaughey was making a new investment, which could have continued as a

security or become insurance. In this case, her investment in December 2015

4 Appellants cite a number of opinions to support their argument that a variable rate annuity is a security and not insurance: Am. Equity Inv. Life Ins. Co. v. SEC, 613 F.3d 166 (D.C. Cir. 2010) (holding that variable annuities were covered securities under the Securities Litigation Uniform Standards Act); Lander v. Hartford Life & Annuity Ins. Co., 251 F.3d 101 (2nd Cir. 2001); Peoria Union Stock Yards Co. v. Penn Mut. Life Ins. Co., 698 F.2d 320 (7th Cir. 1983); Cooper v. Pac. Life Ins. Co., 229 F.R.D. 245 (S.D. Ga. 2005); Malone v. Addison Ins. Mktg., Inc., 225 F. Supp. 2d 743 (W.D. Ky. 2002); Dean & Homer, Inc. v. Commonwealth, Pub. Prot. Cabinet, 451 S.W.3d 659 (Ky. App. 2014). None of these opinions, however, compel the result Appellants seek as none deal with the issue presented in this case. 5 The record contains Ms. McGaughey’s December 2015 election as to the Fixed Annuity. This document appears to have Legacy Consulting as its source. Appellants’ Brief, App’x 4.

9 was insurance. As a result, KRS 417.050(2) provides that the arbitration

provision is unenforceable.

III. Conclusion.

We affirm, therefore, the Court of Appeals opinion affirming the Fayette

Circuit Court’s Order denying Money Concepts Capital Corporation and Legacy

Consulting Group, LLC’s motion to compel arbitration. This matter is

remanded to the Fayette Circuit Court.

All sitting. All concur.

COUNSEL FOR APPELLANTS:

Eric Gribbon Akerman LLP

Andrew Robinson Smith Steptoe & Johnson PLLC

COUNSEL FOR APPELLEE, BRENDA GUTZMAN:

Thomas Kelly Herren Herren & Adams LLP

COUNSEL FOR APPELLEE, JACKSON NATIONAL LIFE INSURANCE COMPANY:

Jacinta F. Porter Frost, Brown & Todd LLC