SEC Delays Municipal Advisor Registration and Record-Keeping Obligations

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1 Updated January 16, 2014 Practice Group(s): Public Finance SEC Delays Municipal Advisor Registration and Record-Keeping Obligations By Scott A. McJannet, Erica R. Franklin, Laura D. McAloon and Cynthia M. Weed Pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd- Frank Act ), the Securities and Exchange Commission (the SEC or Commission ) has adopted final rules and forms establishing a permanent registration and record-keeping regime for municipal advisors. New Registration Requirement Required by Dodd-Frank President Obama signed the Dodd-Frank Act into law in The Dodd-Frank Act amended Section 15B of the Securities Exchange Act of 1934 (as amended, the Exchange Act ), rendering it unlawful for municipal advisors to provide certain kinds of advice to, or to solicit municipal entities without registering with the Commission. The Dodd-Frank Act also granted the Municipal Securities Rulemaking Board ( MSRB ) regulatory authority over municipal advisors and imposed a fiduciary duty on municipal advisors. The Exchange Act requires municipal advisors to register with the Commission as a prerequisite to (1) soliciting a municipal entity or obligated person or (2) providing advice to or on behalf of a municipal entity or an obligated person with respect to municipal financial products or the issuance of municipal securities. The Exchange Act charges the Commission with prescribing the information and documents municipal advisors must provide with their application for registration. To ensure timely compliance with the new requirements, the Commission adopted interim final temporary rule 15Ba2-6T on September 1, On January 6, 2011, the Commission published proposed Rules 15Ba1-1 to 15-Ba1-7 under the Exchange Act, as well as a number of accompanying forms. On September 20, 2013, having received more than 1,000 distinct comment letters in response to the proposed rules, the Commission adopted Rules 15Ba1-1 to 15Ba1-8 and 15Bc4-1 under the Exchange Act, as well as Forms MA, MA-I, MA- W, and MA-NR. These rules and forms will go into effect on July 1, To comply with the new rules, municipal advisors must file applications for registration during their assigned filing periods. Filing periods are staggered on the basis of temporary registration numbers, with the first filing period beginning in July For firms that file new applications within the assigned filing period, temporary registrations will remain in effect pending the grant or denial of the new applications, but for firms that fail to file new applications within the applicable period, temporary registrations will expire 45 days after the close of the filing period. Prior to the applicable filing period but after the effective date, firms may continue to register under the temporary regime. Rule 15Ba1-1: The Definition of Municipal Advisor and Related Terms

2 Municipal Advisor. The Exchange Act defines the term, municipal advisor as a person (other than a municipal entity or employee of a municipal entity) who (1) provides advice to or on behalf of a municipal entity or an obligated person with respect to municipal financial products or the issuance of municipal securities or (2) solicits a municipal entity. This definition includes financial advisors, guaranteed investment contract brokers, third-party marketers, placement agents, solicitors, finders, and swap advisors that engage in municipal advisor activities. It excludes the following classes of persons and entities: Brokers, dealers, or municipal securities dealers serving as underwriters; Attorneys providing legal advice or services of a traditional legal nature; Engineers providing engineering advice; Investment advisers registered under the Investment Advisers Act of 1940 or individuals associated with such investment advisers who are providing investment advice; and Commodity trading advisors registered under the Commodity Exchange Act or individuals associated with commodity trading advisors providing advice relating to swaps. Advice. Rule 15Ba1-1 (d)(ii) provides that advice excludes the provision of general information that does not involve a recommendation with respect to municipal financial products or the issuance of municipal securities, including recommendations with respect to the timing, structure, terms, and other like matters concerning such financial products or issues. For example, factual information without subjective opinions, assumptions, or views; information that is not specific to a particular municipal entity or type of municipal entity; information that is widely distributed for use by the public, clients, or market participants other than municipal entities or obligated persons; and general information in the form of educational materials do not constitute advice. The determination of whether advice has been given is an objective, not subjective, matter. Municipal Entity. The Exchange Act defines the term municipal entity as any State, political subdivision of a State, or municipal corporate instrumentality of a State, including (A) any agency, authority, or instrumentality of the State, political subdivision, or municipal corporate instrumentality; (B) any plan, program, or pool of assets sponsored or established by the State, political subdivision, or municipal corporate instrumentality or any agency, authority, or instrumentality thereof; and (C) any other issuer of municipal securities. Rule 15Ba1-1(g) reflects the Commission s belief that a municipal entity organized as a municipal corporate instrumentality of a political subdivision of a state is a municipal corporate instrumentality of a state. The Commission also noted in the release accompanying the final rules (the Release ) that the definition of municipal entity is not limited to issuers of municipal securities. Obligated Person. Section 15B(e)(10) of the Exchange Act defines the term, obligated person as any person, including an issuer of municipal securities, who is either generally or through an enterprise, fund, or account of such person, committed by contract or other arrangement to support the payment of all or part of the obligations on the municipal securities to be sold in an offering of municipal securities. Rule 15Ba1-1(k) provides that the term obligated person has the same meaning as in section 15B(e)(10) of the Act... provided, however, the term obligated person shall not include: (1) a person who provides municipal bond insurance, letters of credit, or other liquidity facilities; (2) a person whose 2

3 financial information or operating data is not material to a municipal securities offering, without reference to any municipal bond issuance, letter of credit, liquidity facility, or other credit enhancement; or (3) the federal government. Municipal Financial Products. The Exchange Act defines municipal financial products as municipal derivatives, guaranteed investment contracts, and investment strategies. The Commission proposed incorporating the statutory definition of municipal financial product into the rule and has adopted the proposed definition of municipal financial product. Municipal Derivatives. Section 15B of the Exchange Act does not provide a definition of municipal derivatives. The Commission has adopted a definition of municipal derivatives that is similar to the proposed definition but includes some minor clarifications. Specifically, Rule 15Ba1-1(f) defines municipal derivatives as any swap (as defined in Section 1a(47) of the Commodity Exchange Act (7 U.S.C. 1a(47)) and section 3(a)(69) of the Act (15 U.S.C. 78c(a)(69)), including any rules and regulations thereunder) or security-based swap (as defined in section 3(a)(68) of the Act (15 U.S.C. 78c(a)(68)), including any rules and regulations thereunder) to which (1) [a] municipal entity is a counterparty; or (2) [a]n obligated person, acting in such capacity, is a counterparty. Guaranteed Investment Contracts. Section 15B(e)(2) of the Exchange Act defines guaranteed investment contract as including any investment that has specified withdrawal or reinvestment provisions and a specifically negotiated or bid interest rate, and also includes any agreement to supply investments on two or more future dates, such as a forward supply contract. The Commission has adopted Rule 15Ba-1-1(a), which narrows the statutory definition of guaranteed investment contract by providing that it has the same meaning as in section 15B(e)(2) of the Act (15 U.S.C. 78o-4(e)(2)); provided, however, that the contract relates to investments of proceeds of municipal securities or municipal escrow investments. Investment Strategies. Section 15B(e)(3) of the Exchange Act provides that the term, investment strategies includes plans or programs for the investment of the proceeds of municipal securities that are not municipal derivatives, guaranteed investment contracts, and the recommendation of and brokerage of municipal escrow investments. Rule 15Ba-1(b) provides that the term investment strategies has the same meaning as in section 15B(e)(3) of the Act (15 U.S.C. 78o-4(e)(3), and includes plans or programs for the investment of proceeds of municipal securities that are not municipal derivatives or guaranteed investment contracts, and the recommendation of and brokerage of municipal escrow investments. In its Release, the Commission notes that a pooled investment vehicle is an investment strategy, and an advisor to such a pool a municipal advisor, when the pooled investment vehicle contains proceeds of an issuance of municipal securities, whether or not all funds invested in the vehicle are those of municipal entities. Solicitation of a Municipal Entity or Obligated Person. Under the Exchange Act, a municipal advisor includes a person who undertakes a solicitation of a municipal entity or obligated person. Section 15B(e)(9) of the Exchange Act defines the term, solicitation of a municipal entity or obligated person as a direct or indirect communication with a municipal entity or obligated person made by a person, for direct or indirect compensation, on behalf of a broker, dealer, municipal securities dealer, municipal advisor, or investment adviser (as defined in section 202 of the Investment Advisers Act of 1940) that does not control, is not controlled by, or is not under common control with the person undertaking such solicitation for the purpose of obtaining or retaining an engagement by a municipal entity or obligated 3

4 person of a broker, dealer, municipal securities dealer, or municipal advisor for or in connection with municipal financial products, the issuance of municipal securities, or of an investment adviser to provide investment advisory services to or on behalf of a municipal entity. The Commission has adopted Rule 15Ba1-1(n), which provides that the term [s]olicitation of a municipal entity or obligated person has the same meaning as in section 15B(e)(9) of the Act (15 U.S.C. 78o-4(e)(9)); provided, however, that a solicitation does not include: (1) Advertising by a broker, dealer, municipal securities dealer, municipal advisor, or investment adviser; or (2) Solicitation of an obligated person, if such obligated person is not acting in the capacity of an obligated person or the solicitation of the obligated person is not in connection with the issuance of municipal securities or with respect to municipal financial products. Exclusions and Exemptions from the Definition of Municipal Advisor Public Officials and Employees of Municipal Entities and/or Obligated Persons. The Exchange Act excludes municipal entities and employees from the definition of municipal advisor. The final rules broaden the exemption for municipal employees to include [a]ny person serving as a member of a governing body, an advisory board, or a committee of, or acting in a similar official capacity with respect to, or as an official of, a municipal entity or obligated person to the extent that such a person is acting within the scope of such person s official capacity as well as any employee of a municipal entity or obligated person to the extent that such person is acting within the scope of such person s employment. Broker, Dealer, or Municipal Securities Dealer Serving as an Underwriter. Under Section 15B(e)(4)(c) of the Exchange Act, the term, municipal advisor does not include a broker, dealer, or municipal securities dealer operating as an underwriter. The Commission has adopted Rule 15Ba1-1(d)(2)(i), which clarifies that this exemption only exempts brokers, dealers, or municipal securities dealers operating as underwriters to the extent that the broker, dealer, or municipal securities dealer engages in activities that are within the scope of an underwriting of such issuance of municipal securities. For purposes of this exclusion, underwriting does not include advice on investment strategies, advice on municipal derivatives, and advice otherwise identified by the Commission as outside the ambit of underwriting. Registered Investment Advisers. The Exchange Act excludes from the definition of municipal advisor any investment adviser registered under the Investment Advisers Act of 1940, or persons associated with such investment advisers who are providing investment advice. The Commission has adopted Rule 15Ba1-1-1(d)(2)(ii), which clarifies that the definition of municipal advisor excludes [a]ny investment adviser registered under the Investment Advisers Act of 1940 or any person associated with such registered investment adviser to the extent that such registered investment adviser or such person is providing investment advice in such capacity. Rule 15Ba1-1(d)(2)(ii) further provides that for purposes of this rule, investment advice does not include advice concerning whether and how to issue municipal securities, advice concerning the structure, timing, and terms of an issuance of municipal securities and other similar matters, advice concerning municipal derivatives, or a solicitation of a municipal entity or obligated person. Registered Commodity Trading Advisors; Swap Dealers. The Exchange Act excludes from the definition of municipal advisor commodity trading advisors registered under the Commodity Exchange Act and individuals associated with a commodity trading advisor who 4

5 are providing advice relating to swaps. In interpreting this statutory exclusion, the Commission has adopted a rule similar to the proposed rule but with some minor clarifications. Rule 15Ba1-1(d)(2)(iii) provides that the term, municipal advisor excludes commodity trading advisors registered under the Commodity Exchange Act and persons associated with such advisors to the extent that such persons are providing advice relating to swaps. Accountants. The exclusions under the Exchange Act do not explicitly extend to accountants. The proposed rules, however, would have excluded accountants from the definition of municipal advisor to the extent the accountant is preparing financial statements, auditing financial statements, or issuing letters for underwriters for, or on behalf of, a municipal entity or obligated person. In adopting Rule 15Ba1-1(d)(3)(i), the Commission broadened the exemption for accountants to include audit and other attest services, providing that the term municipal advisor does not include accountants, to the extent that the accountant is providing audit or other attest services, preparing financial statements, or issuing letters for underwriters for, or on behalf of, a municipal entity or obligated person. Engineers. The Exchange Act excludes engineers providing engineering advice from the definition of municipal advisor. In line with the statutory definition and the proposed rule on this subject, the Commission has adopted a final rule providing that engineers are excluded from the definition of municipal advisor to the extent they are providing engineering advice. In its Release, the Commission noted that activities within the scope of this exclusion include feasibility studies, cash flow analyses and like activities. The Commission further noted that this exception does not cover an engineer who is providing advice to a municipal entity or obligated person regarding municipal financial products or the issuance of municipal securities. Banks. The statutory definition of municipal advisor does not include banks. In issuing proposed rules, the Commission sought comment on whether it should adopt certain exemptions for banks. The final rule, Rule 15Ba1-1(d)(3)(iii) excludes from the definition of municipal advisor [a]ny banks, as defined in section 3(a)(6) of the Act (15 U.S.C. 78c(a)(6)), to the extent the bank provides advice with respect to the following: (A) [a]ny investments that are held in a deposit account, savings account, certificate of deposit, or other deposit instrument issued by a bank; (B) [a]ny extension of credit by a bank to a municipal entity or obligated person, including the issuance of a letter of credit, the making of a direct loan, or the purchase of a municipal security by the bank for its own account; (C) [a]ny funds held in a sweep account that meets the requirements of Section 3(a)(4)(B)(v) of the Act (15 U.S.C. 78c(a)(4)(B)(v)); or (D) [a]ny investment made by a bank acting in the capacity of an indenture trustee or similar capacity. This rule does not exempt banks engaging in municipal advisory activities, such as banks that provide advice to municipal entities or obligated persons regarding the issuance of municipal securities or municipal derivatives, unless the bank otherwise qualifies for an exemption. Registration Process As noted, the Exchange Act requires municipal advisors to register with the Commission as a prerequisite to (1) soliciting a municipal entity or obligated person or (2) providing advice to or on behalf of a municipal entity or an obligated person with respect to municipal financial products or the issuance of municipal securities. The adopted rules set forth registration procedures and requirements for municipal advisors. Specifically, Rule 15Ba1-2(a) requires 5

6 persons applying for registration with the Commission to complete and electronically file Form MA. Rule 15Ba1-(2)(b) requires persons applying for registration with the Commission, or persons already registered with the Commission to complete and electronically file Form MA-I for each natural person who is associated with the municipal advisor and engaged in municipal advisory activities on its behalf. Rule 15Ba1-3 exempts from registration requirements any natural persons who are associated with, and provide municipal advisory services solely on behalf of, a municipal advisor. In other words, employees of municipal advisory firms who do not provide municipal advisory services independently of their firm (e.g., as sole proprietors), are not required to register as municipal advisors. The registration scheme embodied in the final rules differs markedly from the proposed scheme. In particular, the proposed rules would have required individual employees engaging in municipal advisory activities on behalf of municipal advisory firms to register independently with the Commission. The final rules do not require such individual employees to register independently but require the municipal advisory firms with which they are associated to provide certain information about them, using Form MA-I. Form MA. Form MA is largely modeled after Form ADV (Part 1), which is the form used for the registration of investment advisers with the Commission. Form MA requests the following categories of information from municipal advisors, among others: Identifying information, including (among other information) name, CRD number, Employer Identification Number or Social Security Number, registration status and history, address, websites, contact information for chief compliance officer, location of books and records, and affiliations; Form of organization (e.g., corporation, partnership, sole proprietorship, limited liability company, etc.); Information on whether the applicant is succeeding a registered municipal advisor; Information regarding number and activities of employees and unrelated firms or persons soliciting business on the applicant s behalf; Information on employees who do business independently as affiliates; Number and types of municipal advisory clients; Types of municipal advisory activities the applicant conducts; Types of solicitation activities in which the applicant engages, if applicable; Modes of compensation for municipal advisory activities; Other business activities; Financial industry and other activities of associated persons; Owners, officers, and other control persons; Information regarding criminal, regulatory, and civil judicial actions relating to the applicant or its associated persons; and Information to determine whether applicant qualifies as a small business. 6

7 Form MA-I. Form MA-I is similar to FINRA s Form U4. Form MA-I requests the following categories of information, among others: Identifying information, including employee/ independent contractor status and history and location; Residential history; Employment history (past 10 years); Other business activities in which the individual is currently engaged; and Disciplinary information, including disclosures regarding criminal actions, regulatory actions, civil judicial actions, customer complaints, termination, certain financial matters, judgments, and liens. Amendments to Forms MA and MA-I. Rule 15Ba1-5(a) requires a municipal advisor to amend the information in its Form MA (1) at least annually, within 90 days of the close of the municipal advisor s fiscal year (or the calendar year if the municipal advisor is a sole proprietor), or (2) more frequently, as required by the General Instructions. The General Instructions enumerate a number of circumstances that require a municipal advisor to amend its Form MA. Rule 15Ba1-5(b) requires registered municipal advisors to file an amended Form MA-I at any time the information in that form becomes inaccurate. Approval or Denial of Application. The Exchange Act provides that within 45 days of the filing of an application for registration, the Commission must either (1) grant registration or (2) institute proceedings to determine whether registration should be denied. Such proceedings shall include notice and an opportunity for the applicant to be heard and must be completed within 120 days of the filing of the application. Books and Records Requirements The Exchange Act requires registered municipal advisors to make, retain, and provide copies of records and disseminate reports as prescribed by the Commission. The Commission has adopted the proposed rules on record-keeping with minor modifications, including renumbering. As adopted, Rule 15Ba1-8(a) requires municipal advisory firms to make and keep current the following records: All written communications sent and received relating to municipal advisory activities (including inter-office memoranda and communications); All checkbooks, bank statements, general ledgers, cancelled checks, and cash reconciliations; Policies and procedures currently in effect or in effect within past five years (excluding those in effect prior to the effective date of the new rule); Any documents created by a municipal advisor that were material to making a recommendation to a municipal entity or obligated person and that state the basis for the recommendation; All written agreements between the municipal advisor and municipal entity, employee of municipal entity, or obligated person relating to the business of the municipal advisor; 7

8 Names of individuals currently associated, or associated within past five years, with the municipal advisor (excluding those who were associated with the municipal advisor prior to effective date of new rule); Names, titles, and addresses of all persons associated with the municipal advisor; All municipal entities or obligated persons with which the municipal advisor is engaging, or has engaged within the past five years, in municipal advisory activities (excluding engagements prior to the effective date of the new rule); The name and address of each individual whom the municipal advisor pays or agrees to pay to solicit a municipal entity, an employee of a municipal entity, or an obligated person on its behalf; The name and address of each person who pays or agrees to pay the municipal advisor to solicit a municipal entity, employee of a municipal entity, or obligated person on its behalf; and Written consents to service of process from each natural person associated with the municipal advisor who engages in municipal advisory activities solely on its behalf. Rule 15Ba1-8(b)(1) requires municipal advisory firms to retain all required books and records for at least two years in an accessible location and at least five years in total. In addition, the municipal advisory firm must maintain certain corporate governance documents in the firm s principal office for at least three years after withdrawing as a registered municipal advisor or terminating the business. These new record-keeping requirements are largely drawn from existing requirements for municipal advisors who are also registered as broker-dealers and investment advisers. Rule 15Ba1-8(e)(1) provides that books made, maintained, and preserved pursuant to the requirements of Rules 17a-3 and 17a-4 under the Exchange Act, the rules of the MSRB, or Rule of the Investment Advisers Act will be deemed compliant with the similar requirements of 15Ba1-8. In contrast, municipal advisors who were not previously subject to such books and records requirements face new and substantial record-keeping burdens with the advent of the new regime. The new rules may pose particular challenges for firms that provide integrated services and will now be required to segregate their municipal advisory activities for books and records requirements. Conclusion Understanding the requirements and impact of the new rules is an ongoing task; please contact us if you would like to discuss your concerns and whether the new requirements apply. The new rule is available here. Authors: Scott A. McJannet Scott.McJannet@klgates.com

9 Erica R. Franklin Laura D. McAloon Cynthia M. Weed Anchorage Austin Beijing Berlin Boston Brisbane Brussels Charleston Charlotte Chicago Dallas Doha Dubai Fort Worth Frankfurt Harrisburg Hong Kong Houston London Los Angeles Melbourne Miami Milan Moscow Newark New York Orange County Palo Alto Paris Perth Pittsburgh Portland Raleigh Research Triangle Park San Diego San Francisco São Paulo Seattle Seoul Shanghai Singapore Spokane Sydney Taipei Tokyo Warsaw Washington, D.C. Wilmington K&L Gates practices out of 48 fully integrated offices located in the United States, Asia, Australia, Europe, the Middle East and South America and represents leading global corporations, growth and middle-market companies, capital markets participants and entrepreneurs in every major industry group as well as public sector entities, educational institutions, philanthropic organizations and individuals. For more information about K&L Gates or its locations, practices and registrations, visit This publication is for informational purposes and does not contain or convey legal advice. The information herein should not be used or relied upon in regard to any particular facts or circumstances without first consulting a lawyer K&L Gates LLP. All Rights Reserved. 9