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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

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

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

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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

SEC Starts Hitting the Private Sector Hard for Pay-to-Play Violations

Stay AlertFor the first time ever, the SEC has brought a pay-to-play case against an investment advisor for making political contributions. Previously, and with the requisite lack of subtlety and fanfare you have come to expect from this blog, we highlighted the SEC’s massive consent judgment against Goldman Sachs over a series of “in kind” contributions by one of its bankers. What makes this case equally noteworthy in the wake of the Goldman precedent is not only the fact that the SEC is signaling that its enforcement efforts will not be tempered either by a lack of intent to influence and investment decisions, but that such efforts will also not be deterred even by a lack of opportunity to influence those decisions.

The investment community needs to take note and heed these warnings immediately. TL Ventures gives us all 285,000 reasons to do so.

As spelled out in greater detail in a recent, articulate, insightful, and well-crafted law firm client alert, in April 2011, a “covered associate” of TL Ventures made contributions to the campaign of a candidate for Mayor of Philadelphia and the Governor of Pennsylvania. The Mayor of Philadelphia appoints three of the nine members of the Philadelphia Retirement Board and the Governor of Pennsylvania appoints six of the eleven members of the board of the Pennsylvania SERS. The SEC charged TL Ventures with pay-to-play violations under Rule 206(4)-5 of the Advisers Act because the contributions triggered the two-year “time out” from receiving advisory fees from the Philadelphia Retirement Board and SERS. As was the case with Goldman, TL Ventures agreed to settle the matter without admitting or denying the allegations, disgorging its fees of over $250,000, and paying a penalty of $35,000.

For the uninitiated, Rule 206(4)-5 generally prohibits investment advisors from providing advisory services for compensation to a government entity for two years after the adviser or certain of its executives or employees make political contributions above specified thresholds to an elected official or candidate for political office if the office is “directly or indirectly responsible for, or can influence that government entity’s selection of the adviser.”

It is a significant question whether the facts alleged in this matter represent the type of case that was envisioned when the pay-to-play rules were adopted, and whether this is the type of case that combats what the SEC described as a significant problem of influence in the management of public funds. Absent from the SEC’s allegations was any assertion that TL Ventures or the covered associate at issue attempted to influence an investment decision of either the Philadelphia Board or SERS. Indeed, the SEC went out of its way in its consent order to declare that “Rule 206(4)-5 does not require a showing of quid pro quo or actual intent to influence an elected official or candidate.”

Of particular relevance here, TL Ventures did not appear even to have an opportunity to influence an investment decision. The SEC alleged that both SERS and the Philadelphia Board were investors in the funds prior to the political contribution and that the funds were in wind down mode, and that both SERS and the Philadelphia Board were already committed to TL Venture funds until the funds officially wound down. Additionally, there was no allegation that TL Ventures marketed any additional funds for investments during the two-year period after the covered associate at issue made the prohibited political contributions. Thus, the political donations in question could not have had any effect on any investment decision because there was simply no investment decision to be made.

In addition to being a bit scary and a large neon flashing compliance alert for the regulated community, one has to wonder whether the SEC’s enforcement action against TL Ventures and its pay-to-play rules are constitutional under the Supreme Court’s recent decision in McCutcheon v. Federal Election Commission, 572 U.S.__(2013).  Readers of this blog will recall that in McCutcheon, the Supreme Court found that aggregate political contribution limits violated the First Amendment because the  regulation of political speech must be limited to targeting instances of “quid pro quo” corruption or its appearance. No such concern was found by the Court in the aggregate campaign contribution limit context. Coincidentally, the existence or appearance of quid pro quo corruption is precisely the standard the SEC has gone out of its way to assert is NOT required to allege a Rule 206(4)-5 violation. In turn, one has to wonder how the Roberts Court would view the SEC’s attempted application of a strict liability standard for Rule 206(4)-5 violations that involve absolutely no opportunity to influence an actual investment decision.

SEC Starts Hitting the Private Sector Hard for Pay-to-Play Violations

Do SEC and MSRB Pay-to-Play Rules Scare Off Donations to Federal Candidates?

As readers of this blog know well, the avowed goal of the SEC’s pay-to-play framework is to protect the integrity of the public procurement process by preventing registered investment advisors from improperly influencing the award of state and local contracts for the management of public investment funds. On its surface, Rule 206(4)-5, which bars investment advisors from managing public investment funds in jurisdictions where their political contributions or the contributions of their “covered associates” exceed $150 per election to elected officials who directly or indirectly oversee such funds, seems well suited to this task. The problem is that many covered by these provisions – and their helpful in-house compliance officers – erroneously believe that SEC restrictions apply to contributions to ALL candidates. This is incorrect.

The language of Rule 206(4)-5 neither prohibits nor restricts investment advisors from contributing to federal candidates who presently hold no state or local office – only state “officials” from a “government entity” who have the power to directly or indirectly influence the outcome of the hiring of investment advisors (check out page 43 of the SEC’s link above if you don’t believe me). As we, and others, have pointed out previously, this rule does not apply to contributions to sitting federal candidates or to private citizens running to replace those federal candidates. Likewise, the SEC’s pay-to-play provisions place no restrictions on political donations from covered entities or individuals to state or municipal candidates who play no role in the direct or indirect oversight of public investment funds. Of course, state and local pay-to-play rules might still apply in certain circumstances – such as where a sitting state official is running for federal office, but there is no need (as a reaction to SEC pay-to-play regulations) to adopt caps that artificially restrict the ability of investment firm employees to engage in constitutionally-protected political speech.

Much the same error of interpretation can be seen in the MSRB pay-to-play context. Like their brethren in the investment advisory world, many municipal finance professionals covered by Rule G-37 erroneously believe that its provisions restrict political contributions to ALL candidates. This is simply not the case. Rule G-37’s candidate contribution provisions only restrict donations to “official(s) of any issuer” who can directly or indirectly influence the hiring of a municipal securities professional, or donations to state officials or candidates who have the authority to appoint persons with such influence. The MSRB’s regulatory framework does not prohibit contributions to federal candidates who hold no state or local office, nor does it bar contributions to private citizens turned federal candidates.

Keeping these points mind, we hope that our readers working in the investment advisory and municipal finance arenas take a moment to examine their current political contribution policies, and ensure that they successfully protect their business development interests without unnecessarily curbing otherwise legitimate and beneficial political activities. On the other hand, it could be that the SEC and MSRB pay-to-play rules are simply an inoffensive way to say “thanks, but no thanks” to your friendly neighborhood federal candidate. Can’t do anything about that…

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Do SEC and MSRB Pay-to-Play Rules Scare Off Donations to Federal Candidates?

SEC Gives Registered Investment Advisers More Time to Bring Themselves Into Compliance with the “Pay-to-Play” Ban on Third-Party Solicitation

For more than two years, this blog has been covering the Securities and Exchange Commission’s foray into the world of pay-to-play regulation and the Commission’s attempt to implement federal pay-to-play restrictions for registered investment advisers. The latest chapter in this long and winding saga occurred earlier this month, when the SEC formally extended the compliance date for the third-party solicitation ban imposed by the recently-crafted amendments to Rule 206(4)-5 under the Investment Advisers Act of 1940. As a result, the formal compliance deadline, which had been set for June 13, 2012, has now been reset to a indeterminate date nine months following the compliance date set forth in the Commission’s final rules for the registration of municipal advisors, which have been proposed but not yet adopted. To put it simply – the SEC has chosen to “kick the can down the road” for a second time on pay-to-play solicitation compliance.

By way of a quick refresher, the third-party solicitation ban, which officially went into effect on September 13, 2010, effectively prohibits SEC-registered investment advisers (and certain executives and employees of such advisers) from paying any third party for the solicitation of advisory business from any governmental entity unless the solicitor is an SEC-registered investment adviser, broker-dealer or municipal advisor. In the case of broker-dealers and municipal advisors, the ban also provides that any such solicitors must be subject to the pay-to-play restrictions that are purportedly due to be adopted  in the future by either the Financial Industry Regulatory Authority (FINRA) or the Municipal Securities Rulemaking Board (MRSB).

At the time of Rule 206(4)-5’s initial adoption by the SEC, the third-party solicitation ban’s compliance date was set for September 13, 2011, thus providing registrants with a so-called transition period in which to come into conformity with the rule. This transition period was intended to provide investment advisers and third-party solicitors with sufficient time to revise their compliance policies and procedures so as to prevent future regulatory violations. Likewise, the period was designed to provide an opportunity for FINRA and the MRSB to adopt analogous pay-to-play rules and for the Commission to assess how such rules would dovetail with Rule 206(4)-5’s provisions.

Due to delays in the adoption of a FINRA pay-to-play regulation and complications in the MSRB rulemaking process caused by various provisions of the Dodd-Frank Act, the SEC made the decision last summer to move the official third-party solicitation ban compliance deadline from September 13, 2011 to June 13, 2012. The additional nine months, the Commission posited, would provide registrants with sufficient time for an orderly transition under the rules.

Fast forward to present day and the same justification is again being put forth by the SEC – this time to explain this month’s indeterminate extension of the compliance deadline. According to the SEC’s explanation in Release No. IA-3418, an orderly regulatory transition under the solicitation ban can only be accomplished through the extension of the present transition period beyond the Commission’s finalization of the new Dodd-Frank-imposed registration requirements for municipal advisor firms and subsequent to the MSRB’s re-introduction and implementation of its draft pay-to-play proposals.

What are we to make of this second round of “can kicking” on the part of the SEC? From a practical perspective, registered investment advisers and third-party solicitors now have additional time to bring their corporate compliance policies and procedures up to speed with SEC standards. The benefit of this additional time, however, is partially undone by the fact that the present compliance standards are not yet set and will not be set until the pending mishmash of regulations makes its way out of the SEC, FINRA and MSRB sausage grinders.

From a policy and political perspective, the SEC’s action is equally as ambiguous. Do we take the SEC at its word and classify both compliance extensions as necessary steps to ease the transition of businesses into an unchartered regulatory environment? Or do we simply characterize the extensions as additional examples of the federal government “kicking the can down the road” when it comes to implementing difficult actions or decisions?

Our most cynical readers likely view it as the later – patchwork political punting on the part of a governmental agency in a highly-charged election year. By contrast, our less-jaded readers may attach a more innocent explanation to the delays in implementation – after all, the SEC is forced to operate in conjunction with other entities in this instance. Whatever your particular take on the Commission’s action, however, Pay-to-Play Law Blog will be here to keep you updated and to help potential registrants understand their full compliance obligations moving forward.

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SEC Gives Registered Investment Advisers More Time to Bring Themselves Into Compliance with the “Pay-to-Play” Ban on Third-Party Solicitation

Additional Settlements in New York Pension Fund Investigation

New York State Attorney General and Governor-Elect Andrew Cuomo has announced additional settlements in his investigation of “pay-to-play” practices and conflicts of interest at public pension funds. Veteran Albany lobbyist Patricia Lynch Associates, Inc. will pay a $500,000 fine and be banned for a period of five years from appearing before the State Comptroller’s Office. The State Comptroller is the sole trustee of New York State’s approximately $133 billion Common Retirement Fund (CRF).

Cuomo’s investigation showed that Lynch, a former top aide of Assembly Speaker Sheldon Silver, arranged contributions to former Comptroller Alan Hevesi’s campaign. She also assisted in securing a consulting contract for the daughter of the Comptroller’s Chief of Staff and provided thousands of dollars in gifts to the daughter. Lynch met with the Comptroller and with senior staff in his office to discuss proposed investments by her lobbying clients. She and a partner, L.W. Strategies, also received fees from a client for lobbying the New York City Police and Fire pension fund.

Cuomo also announced a settlement with fund advisor Aldus Equity, a Dallas-based private equity firm, which includes a $1 million restitution payment. The agreement concerns the firm’s responsibility for securities fraud engaged in by former Aldus principal Saul Meyer, who pleaded guilty in October 2009 to a Martin Act securities fraud felony charge for his conduct.

At the time of Meyer’s conduct, Aldus was a leading outside advisor to several public pension funds including the state and NYC funds. Meyer is scheduled to be sentenced in the criminal case later this month.

Brief Summary of NY Rules / Reforms:

– The NYS Common Retirement Fund (“CRF”) has banned placement agents, meaning paid intermediaries and registered lobbyists, regarding investments with the Fund. The ban includes entities compensated on a flat fee, contingent fee or any other basis (contingent lobbying fees are never permitted in New York).

The NYS Comptroller has issued an executive order that prohibits the CRF from hiring, investing with or committing to any Investment Adviser after a contribution has been made by the Investment Adviser or any Covered Associate of an Investment Adviser (i.e. general partner, managing member, executive officer) who has made a political contribution to the State Comptroller or a candidate for State Comptroller. There is a limited exception that allows individuals to contribute no more than $250 to their own representatives. The prohibition applies to contributions made within the past two years. The definition of “Investment Adviser” includes investment advisers registered with the SEC and those investment advisers exempt from registration with the SEC.

– The NYS Comptroller has created a pension fund task force and a special commission, co-chaired by Mayor Koch and Frank Zarb, to review operations of the State Comptroller. They have also hired special ethics counsel and created an Inspector General position. Legislation has been introduced to codify some of the reforms that were promulgated by Executive Order.

– In New York City, there is a ban on placement agents for private equity. In June of 2010, Comptroller Liu announced a series of new disclosure requirements for those who do business with the City pension system, including both the Teachers Retirement System and the New York City Employees Retirement System (“NYCERS”). For example, investment managers must disclose all contacts with the City Comptroller’s Office; must certify that no placement agent was used in connection with securing private equity; and must disclose all fees.

– Placement agents and other third parties who are engaged in the business of effecting securities transactions are required to be licensed and affiliated with broker-dealers that are regulated by an entity now know as the Financial Industry Regulatory Authority (“FINRA”). See, Attorney General’s Assurance of Discontinuance In the Matter of Patricia Lynch Associates, Inc., p. 4, citing sections 3(a)(4) and 15(b) of the Securities Exchange Act of 1934. To obtain such licenses, agents are required to pass the “Series 7” or equivalent examination administered by FINRA. Id. In addition, the Martin Act (NY General Business Law Article 23-A) requires that all dealers, brokers, or salesmen (e.g., placement agents) who sell or purchase securities within or from New York State must file broker-dealer registration statements with the Attorney General. Id., citing New York General Business Law section 359-e(3).

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Additional Settlements in New York Pension Fund Investigation

MSRB Files Rule Change with SEC

As we highlighted in our November 11, 2009 blog post, in June the Municipal Securities Rulemaking Board (“MSRB”) announced plans to file a rule change with the SEC to revise Rule G-37. The MSRB created Rule G-37 in 1994 to prevent municipal securities dealers from being awarded business based on political contributions. The rule prohibits dealers from engaging in municipal securities business with issuers for two years if they make certain contributions to the political campaigns of officials of such issuers. The proposed revision to Rule G-37 would require municipal securities dealers, their muni professionals, and political action committees to disclose the political contributions they make to bond ballot election campaigns. On December 4, 2009, the MSRB filed with the SEC amendments to Rule G-37 and Rule G-8. Rule G-8 pertains to books and records to be made by brokers, dealers, and municipal securities dealers. Below please find a link to the text of the proposed rule changes. The SEC must approve the rules before they would become effective.

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MSRB Files Rule Change with SEC