Tightening the rules Featured

6:57am EDT May 24, 2005
The Municipal Securities Rulemaking Board (MSRB) has proposed amendments to Rule G-37 that would effectively require financial services companies to isolate their municipal securities operations from all company political activities.

The proposed amendments would force political action committees (PACs) operated by bank holding companies or affiliates of municipal securities dealers to impose strict new controls on the way PACs make campaign contributions.

The MSRB adopted Rule G-37 in 1994 to combat the perception that a pay-to-play system had corrupted municipal securities markets by forcing municipal securities dealers to make campaign contributions to state or local officials in order to receive underwriting business. The existing rule does not prohibit dealers from making campaign contributions per se.

Instead, it bars a municipal securities dealer from doing business with any issuer of municipal securities for two years after the dealer makes a campaign contribution to any official with the ability to influence the awarding of municipal securities business. The rule applies to campaign contributions made by municipal securities dealers, the dealer's municipal finance professionals (MFPs), any PAC controlled by the dealer or any of its MFPs.

The proposed amendments are a direct result of a series of articles in the New York Times that reported that campaign workers for New York Gov. George Pataki were exploiting a loophole by soliciting contributions from MFPs and instructing them to send their contributions to the New York State Republican Housekeeping Fund instead of the Pataki campaign.

The Times reported that a J.P. Morgan Chase PAC contributed $100,000 to the New York State Republican Housekeeping Fund in 2002, the same year J.P. Morgan Chase was chosen to be the lead underwriter of $1.8 billion in New York Metropolitan Transportation Authority bonds.

In response, the MSRB issued an extraordinary notice concerning indirect violations of Rule G-37 on Aug. 6, 2003. The MSRB stated that it was "concerned with increasing signs that individuals and firms subject to the rules may be seeking ways around Rule G-37 through payments to political parties or nondealer-controlled PACs that find their way to" issuer officials, and by "significant political contributions by dealer affiliates (e.g. bank holding companies and affiliated derivative counterparty subsidiaries) to both issuer officials and political parties."

The MSRB reminded dealers that Rule G-37 "covers indirect as well as direct contributions to issuer officials" and that "the rule also prohibits MFPs and dealers from using conduits -- be they parties, PACs, consultants, lawyers, spouses or affiliates -- to contribute indirectly to an issuer official if such MFP or dealer cannot give directly to the issuer without triggering the ban on business."

Finally, the MSRB warned that if it learned "of specific problematic dealer practices that it believes must be addressed more directly, the board may proceed with additional rulemaking" to expand the scope of Rule G-37.

On Feb.15, 2005, the MSRB issued proposed amendments to prevent these indirect contributions by effectively expanding the rule to apply to any entity affiliated with the dealer as well as any PAC operated by any affiliated entity. The MSRB proposes to add a new section (c)(ii) to Rule G-37 to prohibit a dealer and certain MFPs from soliciting any affiliated entity or PAC "to make or coordinate a payment to a political party of a state or locality where the dealer is engaging or seeking to engage in municipal securities business."

The MSRB's proposed rulemaking states that this "clarification" of Rule G-37 is "intended to alert dealers and MFPs that influencing the disbursement decisions of affiliated entities or PACs may constitute a direct violation of Rule G-37" and trigger the ban on business.

If adopted, the proposed amendments would effectively require integrated financial services companies and bank holding companies to insulate their municipal securities operations from all company political activities and adopt stringent new controls on campaign contributions by all of the companies' subsidiaries, affiliates and federal and state PACs.

Brett Kappel is of counsel in the Government Relations and Lobbying Practice Group of Vorys, Sater, Seymour and Pease LLP. His practice is focused on government relations and campaign finance law. For more information, reach Kappel at (202) 467-8886 or bgkappel@vssp.com.