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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

DC Circuit Court of Appeals Provides Major Support For the Constitutionality of Pay-to-Play Laws . . . And Probably Makes an Executive Order Mandating Contractor Disclosure of Political Spending Likely

Ever since the US Supreme Court’s landmark rulings in Citizens United and McCutcheon, significant questions have been raised (mostly by real scholars but also by agitators and pot-stirrers such as myself) as to whether pay-to-play laws – based as they are on appearances of potential corruption and not direct bribery – are constitutional.   The DC Circuit has now weighed in to provide significant legal and factual justification for the constitutionality of laws limiting personal campaign activity in order to prevent the appearance of corruption and to promote the “merit-based administration” of our government (which is only a GRADE 3 oxymoron, falling as it does on the scale between “pretty ugly” and “jumbo shrimp”).

The case in question is Wagner v. FEC in which a number of federal contractors brought free speech and associational challenges to a federal law prohibiting their planned contributions to federal candidates and political parties.  Federal law (2 USC 441c) prohibits government contractors from making campaign contributions to candidates, political committees, or political parties. 2 USC 441b imposes similar restrictions on corporations, national banks, and labor unions.  Of most importance to those of us tasked with pay-to-play compliance is not that 2USC 441c was upheld, that law has been on the books a long time and really only impacts individuals who directly contract with the federal government (in contrast with the myriad of people who work as employees of government contractors).  The Court also did not examine the issue of whether federal contractors may give to independent expenditure groups (SuperPACs).  What is significant about Wagner is the fact that the DC Circuit appears to contravene the US Supreme Court’s analysis in McCutcheon to hold that federal and state governments may enact pay-to-play laws admittedly abridging speech and associational rights in order to assure the public believes that government servants are not corruptible and are fulfilling their public duties “effectively and fairly”, free of “improper influence or corruption”.  (Wagner, Slip Op. 12-15).

Other federal courts have not agreed with the DC Circuit’s reading of McCutcheon to allow such latitude:

Our Supreme Court has made clear that only certain contribution limits comport with the First Amendment. Since contributing money is a form of speech, preventing quid pro quo corruption or its appearance is the only governmental interest strong enough to justify restrictions on political speech. Citizens United v. FEC, 558 U.S. 310, 357-61 (2010). More recently in McCutcheon, the Court concluded that “the possibility that an individual who spends large sums may garner influence over or access to elected officials or political parties . . . does not give rise to such quid pro quo corruption.” Id. at 1438. In effect, it is only direct bribery—not influence—that the Court views as crossing the line into quid pro quo corruption.

New York Progress and Protection PAC v. James Walsh, 13 Civ. 6769, S.D.N.Y, April 24, 2014, Slip Op. 3.

It will be interesting to see whether the Supreme Court reads its own opinion in McCutcheon as the DC Circuit does.  Recent reversal statistics of DC Circuit cases might indicate that the DC Circuit’s reading is not a slam dunk.

One civil servant who might not be inclined to wait for additional guidance from the Supreme Court on the issue is the one who resides at 1600 Pennsylvania Avenue.  As we have written previously, the White House is very serious about mandating contribution and issue advocacy disclosure obligations on federal contractors.  There are many who now believe that the Wagner decision will encourage President Obama to issue a long-awaited Executive Order mandating contractor disclosure of all political spending.  Recent reports by The Brennan Center that in the 2014 cycle, the top 25 federal contractors all made disclosed contributions through their PACs and, in total, gave more than $30 million are sure to spur additional calls for mandatory contractor disclosure.

DC Circuit Court of Appeals Provides Major Support For the Constitutionality of Pay-to-Play Laws . . . And Probably Makes an Executive Order Mandating Contractor Disclosure of Political Spending Likely

Pay-to-Play Law Blog Makes The Law Review!

It had to happen eventually.  It was inevitable.  Sooner or later, an intelligent, articulate legal scholar was bound to apply legitimate intellectual rigor and research to this blog’s musings.  That scholar is Allison C. Davis, J.D. candidate and graduate fellow in election law at William & Mary Law School, and her note, “Presupposing Corruption:  Access, Influence, and the Future of the Pay-to-Play Legal Framework, which been accepted for publication in the William & Mary Business Law Review, Vol. 7 (2016), is an excellent contribution to pay-to-play scholarship.

WMMs. Davis’ note takes on a theme, which this blog has attempted to tackle several times previously, to reach the conclusion “that the legal and constitutional framework for much of pay-to-play law as it currently stands rests on shaky ground.” Id., p. 2.  Specifically, Ms. Davis’ note undertakes a thorough analysis of pay-to-play and Supreme Court jurisprudence as articulated through cases such as McCutcheon v. FEC to conclude that the “status crime” represented by many pay-to-play laws is inconsistent with the Court’s thinking on First Amendment protections:

If courts choose to apply the same First Amendment analysis to pay-to-play laws as they do to campaign finance regulation, the compelling state interest behind the pay-to-play legal framework—that is, the presupposition of corruption—may well come into question in the near future.

Id., p. 40.  I couldn’t agree more.

This note, particularly footnote 42, is a very well-written, thoughtful and insightful read.  Soon enough, the opportunity will present itself to see whether the Supreme Court agrees.  Good job, Allison.

Pay-to-Play Law Blog Makes The Law Review!

MSRB Announces Pay-to-Play Rules are Coming for Municipal Advisors

MSRB

The Municipal Securities Rulemaking Board (“MSRB”) announced this week that it has decided to propose amendments to existing pay-to-play rules governing broker dealers (Rule G-37) to have them also cover municipal advisors. Basically, a “municipal advisor” is simply a technical way to describe a financial advisor who provides her services to local municipalities which have shown themselves to date to be in dire need of quality financial advice. (Seriously, read this last link – it alone is worth the price of your subscription to this blog).

Regular followers of this blog (there’s gotta’ be one right?) will recall that Rule G-37 is designed to prevent broker-dealers from engaging in municipal business within two years of making campaign contributions to issuers. Interestingly, MSRB Board Chair Daniel Heimowitz was quoted after the Board’s quarterly meeting as saying that the need for this curb on campaign activity is the “appearance of corruption” manifest in municipal advisor contribution activity:

For two decades, MSRB Rule G-37 has played a central role in curbing the use of, and the appearance of the use of, political contributions to secure municipal securities business,” . . . “Extending these provisions to municipal advisors will help prevent quid pro quo political corruption, or the appearance of such corruption, in public contracting for both dealers and municipal advisors.

This rationale is noteworthy, of course, because the United States Supreme Court just announced in McCutcheon v. FEC that the “appearance of corruption” rationale behind limitations on political speech is precisely the kind of thing that won’t withstand first amendment scrutiny.

Public comment on the proposed revisions should be offered within a month. I’m guessing Chief Justice Roberts will wait until later to offer public comment.

 

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MSRB Announces Pay-to-Play Rules are Coming for Municipal Advisors

Federal Judge Notes the Implications of McCutcheon in Striking New York’s Limits on Contributions to SuperPACs

NewYorkDistrictCourt

Our last post analyzed the clear implications of the US Supreme Court’s reasoning in McCutcheon v. FEC to pay-to-play laws everywhere. Now, it would appear, at least one federal judge in New York has reluctantly, but decisively, relied upon that same reasoning to strike New York State’s contribution limits for SuperPACs. In that case, New York Progress and Protection PAC v. James Walsh, Judge Crotty opined that he was compelled to “apply the Supreme Court’s binding decisions” notwithstanding the Court’s “concern” over the “misguided” result:

“Our Supreme Court has made clear that only certain contribution limits comport with the First Amendment. Since contributing money is a form of speech, preventing quid pro quo corruption or its appearance is the only governmental interest strong enough to justify restrictions on political speech. Citizens United v. FEC, 558 U.S. 310, 357-61 (2010). More recently in McCutcheon, the Court concluded that “the possibility that an individual who spends large sums may garner influence over or access to elected officials or political parties . . . does not give rise to such quid pro quo corruption.” Id. at 1438. In effect, it is only direct bribery—not influence—that the Court views as crossing the line into quid pro quo corruption. The Court agrees with Justice Breyer. He said that, “[t]his critically important definition of ‘corruption’ is inconsistent with the Court’s prior case law.” McCutcheon, 134 S. Ct. at 1466 (Breyer, J., dissenting). But this Court is bound to apply this definition “no matter how misguided . . . [the Court] may think it to be.” Hutto v. Davis, 454 U.S. 370, 375 (1982).”

It is only a matter of time before this same analysis is applied to state pay-to-play laws. When that happens, one can anticipate that several such laws will fail to withstand the scrutiny.

Editor’s Note: If you did not catch Peter Overby’s thoughtful reflection on the 20th anniversary of federal pay-to-play laws on NPR, it is worth listening to.

Editor’s Note to the Editor’s Note: Be aware, the first editor uses the adjective “thoughtful” as a euphemism for “it’s really cool that NPR referred to the blog on ‘All Things Considered’.”

Federal Judge Notes the Implications of McCutcheon in Striking New York’s Limits on Contributions to SuperPACs

Did the US Supreme Court’s ruling in McCutcheon v. FEC Put the Constitutionality of Some Pay-to-Play Laws in Doubt?

McCutcheon

Much has already been written about the impact of the US Supreme Court’s ruling in McCutcheon v. FEC this week; some of it actually accurate. On its face, the ruling in that case has to do with aggregate contribution limits and has nothing to do with state pay-to-play laws. (If you want to read one of the fifty law firm client alerts that breathlessly delved into the nuances of the case on the very day the opinion issued, why not read ours? It’s a good one.). The reasoning employed by the Supreme Court in reaching the holding it did in McCutcheon, however, would appear to threaten the constitutional foundation upon which many state pay-to-play laws are based.

In McCutcheon, the US Supreme Court weighed whether federal laws prohibiting individuals from giving contributions in excess of aggregate limits over a two-year period ($123,200 of which no more than $48,600 could go to candidates and no more than $74,600 could go to PACs and parties) could withstand constitutional analysis. (We should all have such problems). In ruling as it did, the Court made clear that First Amendment freedoms of speech will invalidate virtually any effort to restrict political spending other than direct contribution limits which are designed to prevent direct quid pro quo corruption (fancy legal language for “bribes”). If the law can’t be shown to be narrowly drawn solely to prevent corruption, First Amendment freedoms of speech will trump even laudable goals such as circumvention or public distaste for a system whereby wealthy insiders enjoy undue influence. This is why the Court did not strike down (this time) contribution limits, but did find that limits on contributions to an unlimited number of candidates are unconstitutional.

This leads us to an analysis of the potential impact the Court’s ruling might have on the myriad of state and federal pay-to-play laws on the books. As we have pointed out since our inaugural blog post, pay-to-play laws are not designed to prohibit pure corruption; state bribery laws are already on the books for that purpose. Rather, pay-to-play laws typically ban all (otherwise legal) contractor contributions to procurement officials expressly because proving direct quid pro quo corruption (bribery) is so difficult. Statistically, legislators, regulators, and the public can see a correlation between vendor political contributions and success in winning contracts but can’t prove corruption (unless they are fortunate to live in Chicago where politicians are willing to be audio taped doing such things). Because such a correlation is unseemly, but direct corruption difficult to prove, pay-to-play laws are born whereby actual corruption need not be proven but its appearance generally is prevented through a blanket restriction on contributions (speech?) imposed upon an entire suspect class.

Framed that way, there are a number of pay-to-play laws, including those put forth by the Securities and Exchange Commission, which might not sleep quite as soundly after McCutcheon. Colorado’s pay to play provisions have already experienced the consequences to straying too far in restricting contractor contribution activity. Others might follow closely behind.

Did the US Supreme Court’s ruling in McCutcheon v. FEC Put the Constitutionality of Some Pay-to-Play Laws in Doubt?