## Facts

- Variable Annuity Life Insurance Company (VALIC) sold tax-deferred “fixed annuity” contracts, often to employees investing for retirement.
- The contracts guaranteed a minimum interest rate for specified periods and provided that any “excess interest” above the minimum would be declared by VALIC in its discretion.
- Contributions were invested through a separate account primarily in long-term instruments (e.g., mortgages and bonds), with VALIC crediting interest to contract holders.
- The plaintiff alleged VALIC failed to disclose how it credited excess interest—specifically whether it used a “banding/new money” method (different rates for different contribution periods) or a “portfolio” method (one blended rate for all contributions).
- The plaintiff also alleged VALIC failed to disclose a strategy by which a participant could transfer funds to a variable annuity for 120 days and then back to the fixed annuity to obtain a higher credited rate.
- Beverly J. Otto purchased a VALIC fixed annuity in 1975 and sued in 1982 individually and on behalf of a putative class.

## Issues

1. Whether alleged nondisclosure of VALIC’s excess-interest crediting method (banding versus portfolio) and the alleged transfer strategy was a material omission or misrepresentation actionable under federal securities law.
2. Whether VALIC and related entities owed duties under ERISA (including fiduciary duties) requiring disclosure of the challenged practices.
3. Whether the complaint stated RICO and conspiracy claims based on the alleged marketing and administration scheme.
4. Whether the district court properly dismissed pendent state-law claims after disposing of the federal claims.

## Decision

- The Seventh Circuit affirmed summary judgment for defendants on the federal securities and ERISA claims.
- The court affirmed dismissal of the RICO and conspiracy claims for failure to state a claim.
- The court approved dismissal of pendent state-law breach-of-contract and common-law fraud claims after the federal claims were resolved.
- On rehearing, the court considered and rejected additional arguments concerning VALIC’s asserted ability to alter “past interest bands,” concluding the arguments did not change the outcome on the record and pleadings.

## Legal Principles

- A securities-law omission is actionable only if the omitted information is material in light of what was disclosed and the basic bargain offered to investors.
- When offering materials disclose a guaranteed minimum return and state that additional interest is discretionary, failure to disclose internal mechanics of allocating non-guaranteed excess interest does not necessarily constitute a material omission.
- A strategy that might allow some investors to take advantage of a rate-setting practice is not necessarily required disclosure where it does not alter the disclosed contractual terms (minimum guarantee plus discretionary excess interest).
- ERISA liability depends on whether the challenged conduct is fiduciary in nature; interest-crediting decisions characterized as part of an insurer’s business function rather than plan-asset management do not automatically create ERISA fiduciary disclosure duties.
- RICO requires adequately pleaded predicate acts and a pattern of racketeering activity; conclusory allegations of a “scheme” without the required specifics are insufficient.
- After federal claims are dismissed or resolved, a federal court may decline jurisdiction over remaining state-law claims.

## Conclusion

The Seventh Circuit held that, given disclosures of a guaranteed minimum interest rate and VALIC’s discretion over any excess interest, the alleged nondisclosure of the excess-interest methodology and an asserted transfer strategy did not support federal securities or ERISA liability; it also affirmed dismissal of inadequately pleaded RICO and conspiracy claims and upheld dismissal of remaining state-law claims once federal claims failed.


Otto v. Variable Annuity Life Ins. Co., 814 F.2d 1127 (7th Cir. 1986)