MSRB NOTICE 2011-16 (FEBRUARY 22, 2011)

REQUEST FOR COMMENT ON GIFTS AND GRATUITIES RULE FOR MUNICIPAL ADVISORS

The Municipal Securities Rulemaking Board (“MSRB”) is requesting comment on draft amendments to MSRB Rule G-20 (on gifts and gratuities), which would apply the rule to municipal advisors, as well as associated draft amendments to Rule G-8 (on books and records) and Rule G-9 (on preservation of records).  The text of the draft amendments is set forth below. 

Comments should be submitted no later than April 5, 2011.  Comments should be sent via e-mail to CommentLetters@msrb.org. Please indicate the notice number in the subject line of the e-mail.  To submit comments via regular mail, please send them to Ronald W. Smith, Corporate Secretary, MSRB, 1900 Duke Street, Alexandria, VA 22314.  Written comments will be available for public inspection on the MSRB’s web site.

Questions about this notice should be directed to Peg Henry, Deputy General Counsel, or Leslie Carey, Associate General Counsel, at 703-797-6600.

BACKGROUND

Existing MSRB Rule G-20.  Rule G-20 was adopted by the MSRB to prevent brokers, dealers, and municipal securities dealers (“dealers”) from attempting to induce other organizations active in the municipal securities market to engage in business with such dealers by means of personal gifts or gratuities given to employees of the organizations, including but not limited to acts of commercial bribery,[1] and to help to ensure that dealers’ municipal securities activities are undertaken in arm’s length, merit-based transactions in which conflicts of interest are minimized.

The MSRB has interpreted Rule G-20 to preclude the payment by dealers of “excessive or lavish” entertainment or travel expenses of issuer personnel, as follows:[2]

Payments of excessive or lavish entertainment or travel expenses may violate Rule G-20 if they result in benefits to issuer personnel that exceed the limits set forth in the rule, and can be especially problematic where such payments cover expenses incurred by family or other guests of issuer personnel.  Depending on the specific facts and circumstances, excessive payments could be considered to be gifts or gratuities made to such issuer personnel in relation to the issuer’s municipal securities activities.

Dodd-Frank Act.  The Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”)[3] authorized the MSRB to establish a comprehensive body of regulation for all municipal advisors.[4]  The Dodd-Frank Act requires the MSRB to adopt rules for municipal advisors that are designed to prevent fraudulent and manipulative acts and practices and to promote just and equitable principles of trade.[5]  It also expands the mission of the MSRB to include the protection of municipal entities[6] and obligated persons in addition to the protection of investors and the public interest.

DRAFT AMENDMENTS TO MSRB RULE G-20

Pursuant to the authority granted to it by the Dodd-Frank Act, the MSRB is requesting comment on draft amendments to Rule G-20.  Just as the existing rule helps to ensure that dealers’ municipal securities activities are undertaken in arm’s length, merit-based transactions in which conflicts of interest are minimized, the MSRB seeks to reduce the potential for conflicts of interest in municipal advisory activities.[7]  The draft amendments to Rule G-20 would help to ensure that engagements of municipal advisors, as well as engagements of dealers, municipal advisors, and investment advisers for which municipal advisors serve as solicitors, are awarded on the basis of merit and not as a result of gifts made to employees controlling the award of such business. 

The draft amendments to Rule G-20 would make the rule applicable to municipal advisors and would:

  • prohibit municipal advisors from giving or permitting to be given, directly or indirectly, any thing or service of value, including gratuities, in excess of $100 per year to a person other than an employee or partner of the municipal advisor, if such payments or services are in relation to the municipal advisory activities of the municipal advisor (including, but not limited to, the solicitation of potential engagements on behalf of the municipal advisor, even if such municipal advisor is not then undertaking any municipal advisory activities with such person);[8]
  • provide certain exemptions from the above prohibition, including: (i) occasional gifts of meals or tickets to theatrical, sporting, and other entertainments hosted by the municipal advisor; (ii) legitimate business functions sponsored by the municipal advisor that are recognized by the Internal Revenue Service as deductible business expenses; or (iii) gifts of reminder advertising, provided that such gifts must not be so frequent or so extensive as to raise a suggestion of unethical conduct; and[9]
  • permit contracts of employment or compensation for services rendered by a person other than an employee of the municipal advisor; provided that there is a written agreement[10] between the municipal advisor and the person who is to perform such services, prior to the time of employment or before the services are rendered.[11]

Municipal advisors would not be subject to Rule G-20(d), which relates to non-cash compensation in connection with primary offerings.

The “municipal advisory activities” of the municipal advisor covered by draft Rule G-20(a)(ii) would include both advice provided to municipal entities and obligated persons and solicitations of municipal entities on behalf of third parties.  For example, the draft rule would apply to gifts and entertainment provided by a municipal advisor to employees of municipal entities and obligated persons for which the municipal advisor is providing advice or seeking to provide advisory services.  It would also apply to gifts and entertainment provided by a municipal advisor to employees of municipal entities being solicited by a municipal advisor to award business to a client of the municipal advisor (e.g., employees of a public pension fund who could influence the pension fund’s decision to invest in a private equity fund represented by the municipal advisor).  The draft rule language clarifies that, even if a municipal advisor is not then engaging in any municipal advisory activities with a municipal entity or obligated person, a gift or gratuity that could be reasonably viewed as an attempt by the municipal advisor to curry favor with a municipal entity or obligated person for the purpose of becoming engaged to undertake municipal advisory activities at some point in the future also would be covered by the provisions of draft Rule G-20.

DRAFT AMENDMENTS TO MSRB RULES G-8 and G-9

The amendments to Rule G-20 would necessitate conforming amendments to Rule G-8 (on books and records) and Rule G-9 (on preservation of records).  The proposed amendments to Rule G-8 would require municipal advisors to create and maintain records of any gifts and gratuities referred to in Rule G-20 and all agreements for services referred to in Rule G-20 along with the compensation paid as a result of such agreements. The proposed amendments to Rule G-9 would require municipal advisors to preserve records required to be made pursuant to the proposed amendments to Rule G-8.  The proposed amendments to Rules G-8 and G-9 would subject municipal advisors to the recordkeeping and record retention requirements to which dealers are already subject under existing Rule G-20.

REQUEST FOR COMMENT

The MSRB requests comments on (i) the draft amendments to Rule G-20 and (ii) the associated draft amendments to Rules G-8 and G-9.  Commenters should note that the draft amendments to Rule G-20 are based upon the statutory definition of municipal advisor set forth in Dodd-Frank without regard to any interpretation of that term proposed by the SEC in its proposed permanent registration rule for municipal advisors (Exchange Act Release No. 34-63576 (December 20, 2010).  If the SEC’s permanent registration rule is adopted in its current form, the MSRB may request comment on revisions to the draft amendments.     

February 22, 2011

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TEXT OF DRAFT AMENDMENTS TO RULE G-20[12]

Rule G-20: Gifts, Gratuities and Non-Cash Compensation

(a) General Limitation on Value of Gifts and Gratuities.

(i) Brokers, dealers, and municipal securities dealers.   No broker, dealer or municipal securities dealer shall, directly or indirectly, give or permit to be given any thing or service of value, including gratuities, in excess of $100 per year to a person other than an employee or partner of such broker, dealer or municipal securities dealer, if such payments or services are in relation to the municipal securities activities of the employer of the recipient of the payment or service.  For purposes of this rule the term "employer" shall include a principal for whom the recipient of a payment or service is acting as agent or representative.

(ii) Municipal advisors.  No municipal advisor shall, directly or indirectly, give or permit to be given any thing or service of value, including gratuities, in excess of $100 per year to a person other than an employee or partner of such municipal advisor, if such payments or services are in relation to the municipal advisory activities of (including but not limited to solicitation of potential engagements on behalf of) the municipal advisor. 

(b) Normal Business Dealings.  Notwithstanding the foregoing, the provisions of section (a) of this rule shall not be deemed to prohibit occasional gifts of meals or tickets to theatrical, sporting, and other entertainments hosted by the broker, dealer, or municipal securities dealer, or municipal advisor; the sponsoring by the broker, dealer, or municipal securities dealer, or municipal advisor of legitimate business functions that are recognized by the Internal Revenue Service as deductible business expenses; or gifts of reminder advertising; provided, that such gifts shall not be so frequent or so extensive as to raise any question of propriety.

(c) Compensation for Services.  Notwithstanding the foregoing, the provisions of section (a) of this rule shall not apply to contracts of employment with or to compensation for services rendered by another person; provided, that there is in existence prior to the time of employment or before the services are rendered a written agreement between the broker, dealer, or municipal securities dealer, or municipal advisor subject to this rule and the person who is to perform such services; and provided, further, that such agreement shall include the nature of the proposed services, the amount of the proposed compensation, and the written consent of such person’s employer.

(d) No change.

* * * * * *

TEXT OF DRAFT AMENDMENTS TO RULES G-8 AND G-9

Rule G-8: Books and Records to be Made by Brokers, Dealers, and Municipal Securities Dealers, and Municipal Advisors

(a) - (g)  No change.

(h) Municipal Advisor Records Concerning Compliance with Rule G-20. Each municipal advisor shall maintain:

(i) a separate record of any gift or gratuity referred to in Rule G-20(a); and

(ii) all agreements referred to in Rule G-20(c) and all compensation paid as a result of those agreements.

Such records shall be maintained in the manner described in subsection (b) of this rule.

* * * * * *

Rule G-9: Preservation of Records

(a) - (g)  No change.

(h) Municipal Advisor Records.  Every municipal advisor shall preserve for no less than six years the records regarding information on gifts and gratuities and employment agreements required to be maintained pursuant to Rule G-8(h).  Such records shall be accessible and available as required by subsection (d) of this rule and retained in the manner required by subsection (e) of this rule.


[2] See Rule G-20 Interpretation -- Dealer Payments in Connection with the Municipal Securities Issuance Process (January 29, 2007); see also In the Matter of RBC Capital Markets, SEC Rel. No. 34-59439 (Feb. 24, 2009) (settlement in connection with broker-dealer alleged to have violated MSRB Rules G-20 and G-17 for payment of lavish travel and entertainment expenses of city officials and their families associated with rating agency trips, which expenditures were subsequently reimbursed from bond proceeds as costs of issuance); In the Matter of Merchant Capital, L.L.C., SEC Rel. No. 34-60043 (June 4, 2009) (settlement in connection with broker-dealer alleged to have violated MSRB rules for payment of travel and entertainment expenses of family and friends of senior officials of issuer and reimbursement of the expenses from issuers and from proceeds of bond offerings).

[3] See Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111-203, 124 Stat. 1376 (2010).

[4] “Municipal advisor” is defined in Section 15B(e)(4) of the Securities Exchange Act of 1934, as amended by the Dodd-Frank Act (the “Exchange Act”), as “a person (who is not a municipal entity or an employee of a municipal entity) that: (i) provides advice to or on behalf of a municipal entity or obligated person with respect to municipal financial products or the issuance of municipal securities, including advice with respect to the structure, timing, terms, and other similar matters concerning such financial products or issues; or (ii) undertakes a solicitation of a municipal entity.

[5] See Section 15B(b)(2)(C) of the Exchange Act.

[6] “Municipal entity” is defined in Section 15B(e)(8) of the Exchange Act 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.”

[7] MSRB Rule D-13 defines the term “municipal advisory activities” by reference to Section 15B(e)(4)(A) of the Securities Exchange Act of 1934 (the “Exchange Act”) (i.e., (i) providing advice to municipal entities or obligated persons on municipal financial products or the issuance of municipal securities and (ii) solicitations of municipal entities on behalf of others). 

Section 15B(e)(9) of the Exchange Act defines the term “solicitation of a municipal entity or obligated person” to mean: “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 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.”

[8] See draft Rule G-20(a)(ii).

[9] See draft Rule G-20(b).

[10] The written agreement must include the nature of the proposed services, the amount of the proposed compensation, and the written consent of such person’s employer.

[11] See draft Rule G-20(c).

[12] Underlining indicates additions; strikethrough indicates deletions.