SEC Adopts New Pay-to-Play Rule

The Securities and Exchange Commission (SEC) adopted a final “pay-to-play” rule on June 30, 2010. Under this rule, investment advisers that contribute to an elected official or candidate who is in a position to influence the selection of the investment adviser for a public investment fund (e.g., pension, retirement and 529 funds) will be banned for two years from working for that fund. This ban applies to certain executives and employees of the investment adviser, political action committees (PACs) controlled by the investment adviser, and certain third parties, including spouses, attorneys and affiliated companies.

The rule also prohibits an investment adviser from soliciting candidate and political party contributions from individuals or political action committees, and the use of third-party placement agents, unless they are SEC-registered investment advisers or broker-dealers subject to similar pay-to-play restrictions. There are de minimis exceptions for individual contributions of $350 or less to candidates if the contributor is eligible to vote for the candidate, and $150 or less if the contributor is not eligible to vote for the candidate. This rule includes a two-year “look-back” provision, requires certain record-keeping, and provides a limited cure provision for inadvertent violations.

The SEC pay-to-play rule will not affect contributions related to the 2010 elections.

The final rule will become effective 60 days after publication in the Federal Register. Compliance is required either six months or one year after enactment, depending on the provision. Accordingly, clients should begin to develop and implement an internal compliance program well in advance of these dates.

The SEC final rule can be found online.

The SEC press release on the rule can also be found online.

Additional Background

Pay-to-play laws are a growing trend at the federal, state and local levels. Although all jurisdictions prohibit bribery, pay-to-play laws go beyond these restrictions to regulate otherwise legal political activity. Congress enacted a federal pay-to-play law in 1940 and made revisions in 1971. California passed the original state pay-to-play law in 1982. Most recent pay-to-play laws trace their origin to Municipal Securities Rulemaking Board (MSRB) Rule G-37, which was approved by the SEC in 1994.

MSRB Rule G-37 prohibits brokers, dealers and municipal securities dealers from engaging in municipal securities business with an issuer within two years after any contribution to an official of such issuer made by: (i) the dealer; (ii) any municipal finance professional associated with such dealer; or (iii) any PAC controlled by the dealer or any municipal finance professional. The prohibition does not apply if the only contributions to officials of issuers are made by municipal finance professionals entitled to vote for such officials, and provided such contributions, in total, are not in excess of $250 by each such municipal finance professional to each official of such issuer, per election. On June 22, 2009, the MSRB proposed amendments to Rule G-37 to require the disclosure of contributions to bond ballot measures.

In addition to the SEC and MSRB, certain state investment funds have enacted pay-to-play restrictions, including:

• The California Public Employees’ Retirement System
• The California State Teachers’ Retirement System
• The New Mexico State Investment Council, Private Equity Investment Advisory Committee and State Investment Office
• The New York Comptroller and Common Retirement Fund
• The Texas Teacher Retirement System

States with pay-to-play laws currently include: California, Colorado, Connecticut, Florida, Hawaii, Illinois, Kentucky, Louisiana, Maryland, Missouri, New Jersey, New Mexico, Ohio, Pennsylvania, Rhode Island, South Carolina, Vermont, and West Virginia. Localities with pay-to-play restrictions currently include: Chicago, Dallas, Denver, Houston, Los Angeles, New York, Oakland, Philadelphia, Salt Lake City, San Antonio, San Francisco and other localities in California, Louisiana, New Jersey and New York. Additional states and localities are considering pay-to-play laws.

Some pay-to-play laws regulate contributions made by the business entity itself while others cover contributions made by individual employees, officers, directors or PACs. Certain pay-to-pay laws apply to contributions made by family members (including minor children in some cases).

Pay-to-play laws are constantly changing and violations can result in fines, the voiding of existing contracts, and/or a ban on future contracts. Accordingly, please consult with the relevant regulatory agency and with counsel prior to making any campaign contributions.