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Hedge Fund Seeks Absolution from the SEC Claiming the Potential Pay-to-Play Penalty Doesn’t Fit the Violation

Pershing Square Capital Management has found itself in the unenviable position of having to seek absolution from the Securities and Exchange Commission for the consequences of an unintended $500 pay-to-play error by one of its former analysts, which may result in the hedge fund being forced to return millions of dollars in fees.  It has not gone unnoticed by this blog and others that the SEC has made clear it intends for the regulated community to be very, very aware of the restrictions imposed by Advisers Act Rule 206(4)-5 and has little sympathy for the potentially draconian consequences the rule can impose.  It has also not gone unnoticed by the regulated community that the penalties for failure to comply with the law can be severe – violators are debarred from receiving payment of fees (to be distinguished from being forbidden to do the work) for a period of two years from the date of the violation.

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According to Pershing Square’s application for exemption from 206(4)-5’s penalty provisions, which was filed with the SEC in September but only made public this week,  a single Pershing Square analyst made a single $500 contribution to a Massachusetts candidate for governor in excess of the $150 limit proscribed by 206(4)-5.  As the law makes clear, it did not matter that Pershing Square employs a robust compliance program and that the analyst’s contribution was made in violation of firm policy and apparently without the knowledge of Pershing Square’s Chief Compliance Officer.  It did not matter that the analyst never spoke with the state fund or its representatives.  It did not matter that the analyst was arguably not sufficiently senior to fit the definition of a “covered associate”.   It did not matter that the recipient of the funds was the sister of family friend who the donor never spoke with.  It did not matter that the candidate did not even receive sufficient votes to get on the ballot and it did not matter that the contribution was returned.  All that matters under the regulation is that Pershing Square is one of many funds managing the Massachusetts  Pension Reserves Investment Fund and that one of its lower-level investment analysts donated to a candidate seeking election to an office (governor) that has the power to appoint members of the state pension fund who, in turn, would have the power to select those firms hired to manage the fund’s money.

From the somewhat-biased perspective of an adviser to those seeking to comply with the myriad of pay-to-play rules at the federal, state and local levels, Pershing’s application for an exemption would appear well-founded and the relief sought appropriate.  Past experience, however, has made clear that the Commission has historically viewed the virtues of its enforcement mission as superior to the unintended consequences borne by those who, quite frankly, appear to have done as much as a large operation could possibly do to enforce internal compliance with pay-to-play requirements.  One needs look no further than the SEC’s response to another unfortunate Massachusetts political contribution by a former Goldman Sachs investment banker to discern where the Commission’s sympathies are likely to lie.

As stated by Pershing Square in its application for exemption from 206(4)-5’s penalty provisions, the rule “can be violated as a result of circumstances wholly unrelated to the harm the Rule was designed to prevent. . . . Despite the best efforts of an adviser, an employee’s unintentional violation of the adviser’s internal policies could cause the adviser to suffer a financial loss many thousands of times greater than the value of a contribution that the adviser would have never approved in the first place.”

As of yet, the SEC has declined to comment.  Gulp.

Hedge Fund Seeks Absolution from the SEC Claiming the Potential Pay-to-Play Penalty Doesn’t Fit the Violation

California State Treasurer Sets His Sights on Curbing Pay-to-Play in the Municipal Bond Arena

California Treasurer SealWhile it’s easy for mainstream news outlets to get caught up in the mid-summer drama of Vice-Presidential selections, national political party conventions, and the geopolitical repercussions of Brexit, we remain focused on sharing updates on the real hot button issues of 2016 – like municipal bond pay-to-play. Don’t worry… you can thank us after you get back from your summer vacations and tune back into the reality of regulatory creep.  (“You want us on that wall.  You NEED us on that wall!”)

As many in the regulated community were enjoying some well-earned time away from the office last week, California State Treasurer John Chiang was hard at work in Sacramento announcing new policies aimed at curbing the ability of municipal bond counsels, underwriters, and financial advisors to participate in local bond election campaigns.  These policies are part of a new enforcement initiative launched July 27 that requires municipal finance firms seeking California state business to certify that they will no longer make contributions to local bond election campaigns.

As detailed in Treasurer Chiang’s letter to law firms, underwriters and financial advisors currently in the California state bond pool, continued participation in the underwriter pool will now be contingent upon the making of “an affirmative statement that the firm, or any officer, director, partner, co-partner, shareholder, owner, or employee of the firm, will not make any cash or in-kind service contributions … to promote or facilitate any bond or ballot measure in California.”  Additionally, access to the underwriter pool will also be premised on a concurrent certification by covered entities and officials that they will not provide “bond campaign services” in connection with California municipal bond campaigns or ballot measures.

This second certification will effectively prevent municipal bond attorneys, underwriters and financial advisors from performing or facilitating any of the following activities in conjunction with local bond campaigns or ballot measures: fundraising; public opinion polling; election strategy and management; volunteer organization; get-out-the-vote services; development of campaign literature; or the production of advocacy materials.  Certain exceptions to these prohibitions will apply, but the Treasurer’s Office is clearly looking to take an aggressive stance against any and all behaviors that it views as pay-to-play tactics designed to engender favoritism in the issuance of bond packages approved by local California voters.

While the addition of a few basic certification statements may seem minor to the untrained eye, requiring affirmative statements such as these will also almost certainly heighten the compliance risk borne by the regulated community.  After all, the “inadvertent non-compliance” defense is dramatically more difficult to assert, and a “false statement” indictment is dramatically more easy to obtain, when affirmative certifications are a compliance obligation.

The launch of this new initiative was met with strong support from members of the local government community, including the California Association of County Treasurers and Tax Collectors, and by transparency advocacy organizations such as California Forward and Common Cause.  Those entities and individuals caught in the regulatory crosshairs of the Treasurer’s new policies, however, undoubtedly have a more cynical view of their adoption.  This is particularly the case given the fact that the initiative targets forms of political engagement that are already highly-limited by Municipal Securities Rulemaking Board Rule G-37, and was introduced at a time when Treasurer Chiang is launching his candidacy for California Governor.  Coincidence?  They think not.

Regardless of timing, the restrictions put in place by this new enforcement initiative require entities in the current California state bond pool to comply by August 31, 2016 or risk suspension from participation.  Those entities and individuals seeking to gain entry into the current pool will also face similar certification requirements as of that date.  So, a small public service announcement to those of our readers in either category – be sure to get your Golden State pay-to-play house in order before summer comes to an end.

California State Treasurer Sets His Sights on Curbing Pay-to-Play in the Municipal Bond Arena

Connecticut Stands Firm to Enforce Pay-to-Play Against State Party Committee

In announcing a $325,000 settlement with the Connecticut Democratic State Central Committee, the State Elections Enforcement Commission (“SEEC”) has made clear that it will not tolerate efforts to circumvent the state’s pay-to-play laws.  At issue was the state party’s solicitation of state contractor money into the party’s federal account and subsequent use of those funds to finance mailers in support of Governor Dannel Malloy’s re-election campaign.  The agency, which oversees enforcement of Connecticut’s pay-to-play law (Ct. Gen. Stat. 9-612), had earlier chosen to offer a friendly warning not to use federal political party accounts to circumvent the state’s pay-to-play regulatory scheme.  As we have previously noted, Connecticut takes some degree of pride in its restrictive pay-to-play statute, and in the fact that the statute’s constitutionality was upheld in federal court.  Connecticut is one of those states which will debar a state contractor or prospective state contractor from future business for a full year if it, or its employees, directors, spouses, or children, engage in impermissible contribution activity.

You can thus imagine that the SEEC was none too amused to read news reports back in 2014 highlighting Connecticut Governor Malloy’s prowess in raising funds in $10,000 chunks from state contractors for the Connecticut Democratic Party’s federal account.  (PRO TIP: If you are going to “launder” state contractor funds through your federal account, don’t issue press releases airing your dirty laundry).  Thus, on February 11, 2014, the SEEC convened a special meeting for the purpose of issuing an unsolicited advisory opinion “clarify[ing] and publish[ing] advice on the use of money and assets of the federal account in Connecticut elections”.  Mostly, however, the SEEC used the opportunity to clarify that “[o]f most concern is the fact that much of the reported fundraising has involved Connecticut state contractors, who are prohibited from making contributions to party committees registered with the SEEC,” and to make clear everyone understands that federal “funds that are generally prohibited from being used in Connecticut elections are not, in fact, used to make expenditures in Connecticut elections.”

When the state party failed to acquiesce and acknowledge the SEEC’s inherent wisdom, the Commission filed suit in state court asserting the long-standing principles of administrative law and common law sovereignty referred to by legal scholars as the “Doctrine of Can You Hear Me Now?”

While Connecticut Republicans expressed dismay that the Democratic Party will not have to abandon its argument that federal campaign finance laws “Trump” the Connecticut statute and were able to characterize their payment of $325,000 as “voluntary”, the fact remains that SEEC executive director Michael Brandi was able to state that the penalty was “probably in the range of multiple times what the commission has ever issued in the past” and that to his recollection the previous high-water mark for such a “voluntary” payment was $20,000.

Ultimately, the solution set forth in the proposed settlement agreement involves the common use of separate “Compliance Accounts” within the state party’s federal account.  The fix is relatively simple but one which allows state regulators to ensure their guidance is being heard.

Connecticut Stands Firm to Enforce Pay-to-Play Against State Party Committee

Maryland Just Can’t Help Itself When It Comes to Pay-to-Play Revisions

Avid followers of the Pay to Play Law Blog know how active the State of Maryland has been over the past few years with regard to the amendment and revision of its pay-to-play framework for those contracting with or otherwise doing business with state and local governments.  In 2014, we saw a new pay-to-play regime implemented that instituted an array of new filing obligations, contribution reporting requirements, and enhanced record retention and certification obligations for Maryland government contractors.  Then, in 2015, state legislators followed up with a collection of amendments to the new regime that closed unintended disclosure loopholes and shifted the semi-annual reporting calendar to the May and November schedule that now applies to covered contractors across the Old Line State.  A few months after those legislative changes, the State Board of Elections (“SBOE”) joined the party with the promulgation of an array of regulations clarifying how the rapidly evolving pay-to-play regime would be administered and enforced moving forward.

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Fast forward to 2016 and the regulated community probably feels like it’s having deja vu all over again.  During this year’s General Assembly session, lawmakers in Annapolis once again took it upon themselves to pass legislative amendments tweaking their beloved pay to play framework.  The changes, which are relatively minor in comparison to last spring’s modifications, codify an interpretive rule proposed by the SBOE last year that sought to broaden the political contribution disclosure obligations of covered contractors who have politically-active business affiliates.

Under the existing regulatory regime codified in state law, pay-to-play filers are required to report the political donations of their subsidiaries provided such affiliates are “doing business with” Maryland state or local government and 30% or more owned or controlled by the covered contractor.  The 2016 amendments, however, broaden the scope of potential affiliate disclosure.  The recent legislative revisions, which were signed into law by Governor Larry Hogan in late April and go into effect on October 1 of this year, clarify that covered contractors should disclose the donations of all politically-active subsidiaries (which are 30% owned or controlled) regardless of whether or not such affiliates do business with state or local governments in Maryland.  An express exemption to this disclosure obligation was provided for a very narrow group of subsidiaries that are affiliated with publicly-traded, bank holding companies and that are not doing public business in Maryland.  The legislative changes will, however, require that most covered contractors disclosure the political contributions of their affiliated subsidiaries.

A few short days after these legislative changes were signed into law, the SBOE followed the General Assembly’s lead in preening over Maryland’s “precious” pay-to-play framework.  The Board, in a Notice of Proposed Action published in the State Register, recommended changes to several of its current regulatory provisions governing the disclosure of political contribution activity by covered state and local government contractors.  First, as one might expect, the proposed regulations seek to align current SBOE rules with this year’s legislative changes regarding the attribution of contributions by the subsidiaries of covered government contractors.  Perhaps more interestingly, however, the proposed rules also seek to alter the current timing of the “initial” pay to play disclosure filings required of new Maryland contractors and to clarify how entities doing business in the state can comply with the “CEO reporting obligations” concerning disclosable political contributions.

As those in the regulated community know well, Maryland’s current regulations require specific state and local government contractors to file with the SBOE an initial registration statement (highlighting specific contract information) and a statement of reportable political contributions (covering the two years prior to the contract) within one business day of the contract’s award.  The Board’s new proposal advocates for an extension of the filing window for the registration from one business day to fifteen business days after the contract’s award.  The proposed rules also request that the time frame for submitting the political contribution disclosure report be extended to fifteen business days after the registration statement is filed.

In addition to these administrative changes, the Board’s newly-proposed rules seek to clarify how covered government contractors can meet their CEO-reporting requirements under existing law.  Under current law, the officers, directors and partners of covered contractors are required to report disclosable political contributions to the CEOs of their entities as part of the state disclosure requirements.  Such CEOs are also obligated to notify all reporting individuals with their entities (and reporting subsidiaries) that Maryland law requires public disclosure of their contributions.  To ease the administrative burdens associated with the incoming notification process, the SBOE’s proposed rules would permit a designee of the CEO to collect contribution information on behalf of a reporting entity provided such collection is completed within five business days of the close of the applicable reporting period.  In regard to the outgoing notification process, the proposed rules would allow CEOs to avoid their obligation to warn all reporting individuals about their reporting requirements under state law if the disclosing entity implements a legal pre-clearance framework and a written compliance policy that is annually reviewed by such donors.

These proposed rules and regulations are open for public comment with the SBOE until May 30, 2016.  As the comment period comes to a conclusion and final provisions are adopted, Pay to Play Law Blog will be sure to closely monitor any relevant changes to help the regulated community stay abreast of the latest on Maryland pay-to-play law.

Maryland Just Can’t Help Itself When It Comes to Pay-to-Play Revisions

SEC Pumps the Breaks on the Adoption of FINRA’s Proposed Pay-to-Play Rule

We’ve all been there before – charging headlong down the interstate at a few (or more than a few) miles per hour over the speed limit, when we suddenly come upon a speed trap conveniently tucked into a service road in the highway median.  The natural reaction – pump the breaks, keep it at the limit for the next half mile or so, and hope upon hope that you are not the unlucky one singled out for the traffic stop and corresponding ticket.   Sometimes you escape unscathed…. sometimes you don’t.

Slow Road Picture

Well, who says federal regulators aren’t just like the rest of us.  On Tuesday, in our nation’s capital, the Securities and Exchange Commission (SEC) did its best interstate speed trap impression when it announced that it would delay the adoption of the pay-to-play regulatory proposal submitted by the Financial Industry Regulatory Authority (FINRA) in late December of 2015 so as to allow further comment on the potential impact of the provisions.  The delay itself is likely a surprise to many of our loyal readers – after all, it’s not often that our blog gets the chance to cover regulators (federal or otherwise) who decide to slow the push toward stricter pay-to-play and transparency regulations .  In all likelihood, however, most members of FINRA and others in the regulated community see the SEC’s action as nothing more than a pump of the bureaucratic breaks as the Commission navigates its way past some constitutional speed traps and on its way back up to high-speed regulation.

For those who haven’t followed our recent coverage of this issue (here and here), FINRA first proposed a set of pay-to-play provisions way back in 2014 that, although modeled on SEC Rule 206(4)-5, included unique compensation disgorgement and disclosure elements that drew a slew of negative public comments from many in the regulated community.  In light of those objections, FINRA reconsidered the structure of its initial proposal and submitted a new framework to the SEC late last December for review, approval and adoption.

The main component of the proposed regulatory structure – Rule 2030(a) – again borrowed from SEC Rule 206(4)-5 and sought to restrict the ability of FINRA member firms to engage in distribution or solicitation activities on behalf of registered investment advisers that provide or seek to provide investment advisory services to government entities if “covered employees” of the broker-dealers make prohibited political contributions.  The submitted rule, like other federal pay-to-play regulations already in effect, would not specifically ban or limit the amount of political contributions covered FINRA members and their covered associates can make to government officials.  Rather, Rule 2030(a) seeks to impose a two-year “time out” on the earning of compensation for distribution or solicitation engagements with a government entity on behalf of an investment adviser when a FINRA member or its covered associate makes a disqualifying contribution.

So, if FINRA’s new pay-to-play proposal merely tracks the provisions already in place against registered investment advisors under current SEC rules, why did the Commission even bother to pump the breaks at all on its approval?  Well, many in the regulated community believe that the delay is a direct result of the SEC’s concern about the constitutional “speed trap” the Commission has once again run into in the pay-to-play context.  As we here at Pay to Play Law Blog have highlighted with some frequency these past few years, recent First Amendment jurisprudence coming out of the federal courts has (in many people’s eyes) begun to erode much of the constitutional justification for pay-to-play rules that restrict political speech for the sake of regulating the appearance of corruption rather than actual quid pro quo corruption.

The SEC first tangled with such a free-speech “speed trap” in litigation with the New York and Tennessee Republican Parties, who sought declaratory and injunctive relief invalidating and enjoining the Commission from enforcing Rule 206(4)-5.  Although the Commission was able to escape this pay-to-play constitutional challenge without being pulled over and ticketed – due to the dismissal of the suit at the District Court level and affirmation of that decision by the D.C. Circuit – it nevertheless made the regulators stand up and become slightly more defensive drivers when cruising down the regulatory highway.  The Commission’s reaction to the present FINRA proposal makes this readily apparent.

Just months after concluding its litigation battle with the GOP state parties, the SEC received a flurry of well-reasoned comments from groups (including the NY and TN GOP, the Center for Competitive Politics, and others) opposing the FINRA proposal on similar constitutional grounds to what the Commission faced in the Rule 206(4)-5 suit.  Seeing this same free-speech “speed trap” appearing again on the horizon, the SEC thoughtfully withheld its rubber stamp for the FINRA proposal and decided to pump the breaks on its regulatory activity until a more thorough rulemaking could be conducted.  Depending on the outcome of that process, which will permit the submission of additional written comments and the presentation of oral testimony on the FINRA proposals, the delay could be a full blown traffic stop for the SEC, or nothing more than an obligatory slowdown by the Commission as it makes its way past the radar gun.

Those in the regulated community who question the constitutionality of the FINRA provisions (and the analogous SEC rules), see this delay as a key opportunity to reign in the Commission and its approach to federal pay-to-play provisions.  Others, however, simply see the delay as a postponement of the inevitable – a move by the SEC that simply allows it to get its ducks in a row regarding the FINRA provisions and insulate itself against any future legal challenges.  Only time will tell which part of the regulated community is correct, but we here at Pay to Play Law Blog will be right here to keep our readers apprised of the next steps in this ongoing saga.

SEC Pumps the Breaks on the Adoption of FINRA’s Proposed Pay-to-Play Rule

FINRA Submits Final Pay-to-Play Provision for SEC Approval

When the average American looks back on the close of another holiday season, they think about all the longstanding traditions that were renewed yet again – the family gatherings, the holiday parties, the celebrations of faith, and the resolutions for self improvement.  When we here at the Pay-to-Play Law Blog look back on the end of the holiday season, we gaze warmly back at the Federal Register and determine which of our favorite regulatory agencies left a surprise under the tree for our loyal readers.  We know, we know… we’re the Ebenezer Scrooge of legal blogs.

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One of this year’s regulatory gift givers is a repeat holiday patron – the Financial Industry Regulatory Authority (FINRA) – that preliminarily proposed an initial suite of pay-to-play provisions in late 2014.  Those provisions, although modeled closely on Securities and Exchange Commission (SEC) Rule 206(4)-5, included unique compensation disgorgement and disclosure elements that drew the attention of many in the regulated community.  After consideration of the public comments surrounding those elements and the regulatory proposals as a whole, FINRA reconsidered the structure of its initial provisions and submitted the newly framed Rule 2030(a) and Rule 4580 to the SEC on December 24th for adoption.

From a pay-to-play perspective, Rule 2030(a) is where the rubber meets the road.  If formally enacted, Rule 2030(a) would effectively restrict the ability of FINRA member firms to engage in distribution or solicitation activities on behalf of registered investment advisers that provide or seek to provide investment advisory services to government entities if “covered employees” of the broker-dealers make prohibited political contributions.  The proposal, like Rule 206(4)-5 and other federal pay-to-play rules, would not specifically ban or limit the amount of political contributions covered FINRA members and their covered associates can make to government officials.  Rather, Rule 2030(a) seeks to impose a two-year “time out” on the earning of compensation for distribution or solicitation engagements with a government entity on behalf of an investment adviser when a FINRA member or its covered associate makes a disqualifying contribution.

For the purposes of the newly-proposed rule, a disqualifying contribution is defined as any political donation made to an official of a government entity that is valued at an aggregate value of more than $350 in an election year or more than $150 in a non-election.  In the case of an inadvertent or mistaken contribution above these levels, Rule 2030(a) permits a broker-dealer to cure the potential pay-to-play violation without penalty so long as a refund of the donation is received within a four-month period of the initial contribution.

With the publication of the proposed rules in the Federal Register on December 30th, the regulated community now has just over two weeks left in the 21-day comment period to respond to the SEC with pertinent observations and concerns about both Rule 2030(a) and Rule 4580 (which represents a formal recitation of FINRA’s new recordkeeping requirements for broker-dealer members).  For those of our readers who are interested in participating in the open comment process, submissions must be made on or before January 20, 2016 and may be filed online at https://www.sec.gov/cgi-bin/ruling-comments.

Following the completion of the formal notice and comment process and finalization of the provisions by the SEC, both FINRA rules should be put into effect in short order – likely during the second half of 2016 or early 2017.  Broker-dealers looking to engage politically during the 2016 election cycle should take heed, monitor the situation accordingly, and ensure their compliance and recordkeeping systems are fully up-to-date.  And we here at Pay-to-Play Law Blog will be sure to keep the regulated community posted on any future developments or changes.

 

FINRA Submits Final Pay-to-Play Provision for SEC Approval

In the Wake of Maryland’s Recent Pay-to-Play Changes … A Chance to Weigh In on Pending State Regulations

detailsAs the reader’s of this blog know well, the State of Maryland has been hard at work over the past few years refining and retooling its pay-to-play framework for those contracting with or otherwise doing business with Annapolis or local governments across the Old Line State.  In late August, companies with one or more Maryland government contracts valued at $200,000 or more were obligated to file their first semi-annual disclosure reports under the state’s newest regulatory regime.  With the second round of reports coming due in November, the State Board of Elections (SBOE) has finally proposed regulations for public comment that deserve the attention of our readers and all businesses engaged in government procurement activities in Maryland.

The proposed regulations, which were published in the Maryland State Register last Friday, provide important insight into how the SBOE plans on administering and enforcing the currently-operative, pay-to-play framework.  The released rules touch on a wide range of significant subjects, including registration procedures and timelines, disclosure protocols for registrants with parent companies, certification and affidavit systems for registrants, waiver procedures, and internal corporate reporting mandates.

These are the “details” made famous by the phrase “The Devil is in . . . ”

From the registration perspective, SBOE’s regulations seek to speed up the timeline by which prospective registrants are obligated to submit their initial political contribution reports following the award of a covered contract or contracts.  These initial disclosures, covering the two years leading up to the start of the procurement, would effectively become same-day reports contemporaneously due at the time the agreement is signed.  This tweak to the statutorily-referenced “one business day” deadline is minor, but would undoubtedly place greater time pressure on prospective state and local contractors to complete their pre-contract, due diligence concerning organizational political activity.

In the technical disclosure context, the recently-released regulations help to clarify the disclosure obligations of registrants with corporate parent entities, and likewise seek to formalize the certification requirements for registrants who have no reportable contributions in a given disclosure period.  For registering companies with parent entities, the SBOE’s proposed rules confirm that only the immediate parent of a registrant with a qualifying contract need register and report with the state for pay-to-play purposes (provided the parent company possesses the requisite 30% ownership or controlling stake in the registrant).  The regulations also attempt to clarify the meaning of the terms ownership and control as they relate to this standard.

For registrants with qualifying Maryland contracts but no applicable political contributions in a given disclosure period, the new regulations also specify the process by which proper notice of this fact may be given to the SBOE.  Specifically, the regulations allow for an electronic system through which registrants can certify that no reportable contributions were given and list their qualifying procurement relationships with state and/or local governments in Maryland.

In addition to the above subject matters, the proposed SBOE regulations also provide meaningful insight into the state’s proposed waiver system for registrants seeking leave of the standard procedures for contribution disclosure, contract reporting, and the payment of late filing fees.  The released rules also shed light on how the SBOE believes the internal corporate reporting mandates contained in the present pay-to-play structure should be implemented.

All of the rules and regulations set forth in SBOE’s proposal are open for public comment until November 16, 2015.  We here at Pay-to-Play Law Blog anticipate a wide range of letters of opposition and support for the proposed rules and will be ready to offer further insight on any major changes incorporated into the final adopted provisions.

 

 

 

In the Wake of Maryland’s Recent Pay-to-Play Changes … A Chance to Weigh In on Pending State Regulations

April Showers Bring… Another Round of Pay-to-Play Changes in the State of Maryland

Spring may have sprung in the mid-Atlantic, but those contracting and doing business with the State of Maryland don’t feel like they’re receiving anything close to a flowery reception from the Maryland General Assembly this April. On the heels of a winter of discontent in the Old Line State, where those in the regulated community had to scramble to adjust to a new pay-to-play regime that involved unwieldy online filing obligations, modified contract valuation standards and contribution reporting requirements, and enhanced record retention and certification obligations, another new set of legislative changes has been adopted that will further alter the compliance playing field. You know what they say – when it rains it pours.unnamed

This new round of amendments to Maryland’s pay-to-play framework, contained in House Bill 769, was passed by the state legislature earlier this month and has been sent to new Governor Larry Hogan for his signature. If the bill is signed into law, as anticipated, Maryland state contractors will have until June 1, 2015 to “unlearn” some of what they just learned about Maryland’s comprehensive pay-to-play overhaul on January 1st of this year. Given that we’re currently less than four months into the new framework, at least the regulated community can say it hasn’t had time to get comfortable with the “suddenly-old” regime.

Under the changes proposed by House Bill 769, entities with more than $200,000 in total Maryland contracts as of the end of 2014 will be required to submit semi-annual pay-to-play contribution disclosure reports with the State Board of Elections starting in August of this year. This is the case even if such contractors receive no new government contracts from the state during 2015 – a change from the pay-to-play regime that went into effect on January 1, 2015, which exempted companies with no new 2015 contracts from having to file disclosures.

In addition to closing this potentially-unintended loophole in the recently-enacted pay-to-play regime, the legislative amendments in House Bill 769 also attempt to somewhat ease the existing reporting burden for disclosing contractors. Specifically, the new changes will excuse companies without reportable political contributions (by either the entity or its covered representatives) from having to openly disclose the minute details of all of their existing state contracts. Moving forward, contractors without such reportable contributions will need only indicate the specific government agencies with which they do business, but will no longer need to report the value, start date and termination date of all their state contracts. This will undoubtedly be seen as a small ray of sunshine for those in the reporting community.

Before those doing business with the State of Maryland go getting all giddy, however, they should also take note of how House Bill 769 will alter the traditional pay-to-play reporting schedule for state contractors. As noted above, the next semiannual disclosure filing for contractors will be due in August of this year. The filing deadline for that report, however, has been moved from the customary date of August 5th to a new date of August 31st. The August disclosure will be required to cover reportable contractor activities between February 1, 2015 and July 31, 2015.

Following the completion of that submission, filing parties will be required to submit another pay-to-play report by November 30, 2015 covering reportable activities between August 1st and October 31st. Subsequent to that November 30th filing, all government contractors will face a semi-annual filing schedule for 2016 and beyond. Such reports will be due on May 31st and November 30th of each year, and will cover reportable activities during the preceding six month periods.

Keeping the above amendments in mind, the good news for the regulated community is that these changes will be the only new legislative wrinkles in Maryland pay-to-play law for at least the next 8 months. The bad news is that regulators in Annapolis will have ample time between now and next January (when the General Assembly goes back into session) to weigh in on the changes and unleash their own brand of administrative storm clouds. No matter when the next storm hits, however, you can count on your friendly legal meteorologists here at Pay-to-Play Law Blog to keep you up to date

April Showers Bring… Another Round of Pay-to-Play Changes in the State of Maryland

Amicus Brief Highlights the Massive Reach and Unintended Consequences of SEC Rule 206(4)-5

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We have been following for some time the legal challenge brought by various political parties to the SEC’s pay-to-play Rule 206(4)-5.  That lawsuit, you will recall, challenges both the constitutionality and administrative jurisdiction of the SEC’s efforts to regulate campaign activity (“protected speech” by another name?) by investment advisors.  Litigation continues to press forward as the parties are set to square off again before the Court of Appeals on March 23. The latest briefing is here and our take on the appellate issues is set forth here in case you were getting popcorn and missed the action.

Now, the ongoing litigation has revealed a new plot line that this blog has written about several times: pay-to-play rules in general (and Rule 206(4)-5 specifically) have a really annoying way of converting well-intentioned policy aspirations into a morass of unintended compliance uncertainty and costs for the regulated community.  Simply stated, it is very easy to say, “Gee, it would be nice for my regulating agency to give the public confidence that government largesse isn’t handed out on the basis of who writes the biggest campaign checks.”  It is very, very hard for the appropriate regulating authority to write restrictions into law that don’t violate constitutional principles of free speech, become unconstitutionally overbroad, or otherwise create a compliance nightmare for the 99.98% of the private sector, who simply want to go about the process of doing business with the government without unknowingly finding themselves subjected to massive liability.

That tension has manifested in the thoughtful – and, quite frankly, scary – amicus brief filed by the Center for Competitive Politics on behalf of the Financial Services Institute.  In that brief, FSI notes that it is a network of independent financial advisors which are each independent broker-dealers operating entirely separately from each other as independent contractors.  Because some of these advisors are registered to provide services to pension funds and other government retirement plans, FSI member firms are subject to Rule 206(4)-5.  Makes sense, right?  Sure, until one contemplates the fact that 206(4)-5 as crafted treats all of these Mom-and-Pop advisers who happen to be performing as independent contractors under the same FSI logo are inter-related “covered associates” for pay-to-play purposes.  They are all responsible for each other’s campaign activity because the SEC chooses to treat “independent contractors” as “employees” for pay-to-play enforcement purposes (Black’s Law Dictionary having no jurisdiction over the Wisdom of the Sovereign).

Think about that.  Part-time FSI advisor Mabel in Topeka can make a political contribution that prevents Reggie in Trenton from being able to get paid under his investment advisory services contract for two years even though the two have never met (or, possibly, Reggie really pissed Mabel off with something he said at the FSI Christmas gathering in Orlando)!  What can FSI do other than what every rational, responsible, compliance-based organization would do?  It simply bans all contribution activity by all agents; regardless of the fact that the contributing agent has no intentions of ever doing business with the recipient politician.  (Amicus Brief, p. 6).

That can’t be the answer mandated by the Constitution.  It is, however, the logical response to the current morass of unintended compliance uncertainty suffered by the FSIs of the world.

Amicus Brief Highlights the Massive Reach and Unintended Consequences of SEC Rule 206(4)-5

FINRA Quietly Proposes Pay-to-Play Type Rules for Its Broker-Dealer Members

FINRA

Late last week, the Financial Industry Regulatory Authority (FINRA) quietly posted a new regulatory notice proposing a series of pay-to-play type rules for its broker-dealer members that closely track the pay-to-play provisions set forth by the Securities and Exchange Commission (SEC) in Rule 206(4)-5. FINRA, the self-regulatory organization for broker-dealers, announced three specific rule proposals in its notice – Rule 2390, Rule 2271 and Rule 4580.

Proposed Rule 2390, which is clearly modeled on Rule 206(4)-5, would restrict FINRA’s member firms from engaging in distribution or solicitation activities on behalf of registered investment advisers that provide or seek to provide investment advisory services to government entities if “covered employees” of those advisors make a disqualifying political contribution. The proposed rule would not specifically ban or limit the amount of political contributions covered FINRA members or their covered associates could make to government officials, but would instead impose a two-year time out on engaging in distribution or solicitation activities for compensation with a government entity on behalf of an investment adviser when the FINRA member or its covered associates make a disqualifying contribution.

While this type of pay-to-play framework should be familiar to those in the regulated community, what might not be so familiar are the disgorgement of profit provisions contained in proposed Rule 2390. Unlike SEC Rule 206(4)-5, the currently-announced framework of Rule 2390 would obligate covered FINRA members to disgorge any compensation or other remuneration received in association with, pertaining to, or arising out of, distribution or solicitation activities during the two-year time out period caused by a disqualifying contribution. The proposed rule would also prohibit covered FINRA members from entering into arrangements with investment advisers or government entities to recoup any such disgorged compensation at a later time period.

The remaining two proposals set forth in FINRA’s regulatory notice – Rule 2271 and Rule 4580 – deal with disclosure and recordkeeping requirements for broker-dealer members engaged in covered government distribution and solicitation activities. Specifically, proposed Rule 2271 would obligate covered FINRA members engaging in distribution and solicitation activities with a government entity to make specified disclosures to such entity regarding the identity of the investment adviser(s) being represented and the nature of the compensation arrangement associated with the representation.  Meanwhile, proposed Rule 4580 would require covered FINRA members engaging in distribution and solicitation activities with a government entity on behalf of any investment adviser to maintain specified records that could be examined by FINRA for compliance with the obligations of proposed Rules 2390 and 2271.

In conjunction with the publication of its current regulatory notice, FINRA has requested public comment from both members and non-members on all aspects of the planned provisions, including “any potential costs and burdens of the proposed rules.” For those interested in participating in the open comment process, December 15 has been set as the current response deadline. Given the likelihood of swift adoption of the proposed rules following that date, broker-dealers subject to the regulatory reach of FINRA should begin updating their compliance programs in short order.

FINRA Quietly Proposes Pay-to-Play Type Rules for Its Broker-Dealer Members