About our Contributors
ICS Group is a regulatory compliance consulting firm specializing in providing compliance support to the financial services and insurance industries. We help our clients comply with regulatory requirements and industry standards. Our clients include: registered investment advisers, private equity funds, hedge funds, mutual funds, broker-dealers, insurance companies and state pension plans. Our team of highly experienced compliance professionals know from first-hand experience what regulators are looking for, the industry standards that apply, and how to develop and implement cost-effective business-oriented solutions.
In August 2016 the SEC approved FINRA rules for a new category of advisers known as “Capital-Acquisition Brokers” or “CABs”. CABs are firms that engage in a limited range of activities, essentially advising companies and private equity funds on capital raising and corporate restructuring, and acting as placement agents for sales of unregistered securities to institutional investors under limited conditions. But, unlike full-service brokers, CABs are not authorized to handle customer accounts or trade customer securities. The CAB rules subjected CABs to certain FINRA rules, but did not expressly provide that the FINRA pay-to-play rules apply to CABs. Accordingly, CABs were not “regulated persons” under the SEC’s pay-to play rules and therefore could not be retained by investment advisors to solicit government entities.
On September 29, 2017 this loophole was addressed, and the SEC approved new rules by FINRA subjecting registered brokers and financial advisors to the same pay-to-play rules that registered investment advisors have been subjected to under the SEC. The rule now makes it possible for investment advisors to hire CABs to solicit government work since all entities are now operating under the same pay-to-play rule book.
“The commission believes that the proposal will help protect investors and the public interest by, among other things, clarifying that CABs and non-CAB member firms are subject to the same rule regime as they engage in distribution or solicitation activities with government entities on behalf of investment advisers, and by deterring pay-to-play practices,” the SEC said.
Throughout 2017 the SEC, FINRA and other primary regulatory authorities have placed an importance on their pay-to-play rules. In the month of January 2017 alone, the SEC settled 10 cases involving violations of the pay-to-play rules with investment advisory firms. These cases settled with firms paying fines ranging from $35,000-$100,000 in addition to relinquishment of 2 years of management fees. All 10 firms were punished for accepting compensation from public pension funds for advisory services before the end of the mandatory two-year time out. While it is unclear whether these violations were purposeful or an unfortunate accident all firms paid a hefty price. Now that placement agents and other firms registered with FINRA are subject to similar rules of the SEC, advisors to private funds must now also be aware of their placement agents’ contributions made to government officials or candidates for political office.
The SEC’s hypervigilance on conflicts of interest, including political contributions, warrants an equal degree of vigilance by investment advisors to make sure that their employees’ political contributions can overcome regulatory scrutiny. The SEC and FINRA are looking to draw a clear line between acquiring public pension investments through the proper channels and acquiring such business through unethical channels (i.e. making political contributions in exchange for investment business). Due to several high-profile conflicts of interest cases that necessitated the pay-to-play rule, the SEC seems to be looking to avoid another scandal by “bringing down the hammer” on any and all offenders. Firms have received significant fines in addition to imposition of the two-year waiting period mandated by the SEC and FINRA which means disgorgement of management fees received from the governmental plan for the past 2 years. Investment advisors need to stay up to date and compliant with both FINRA and SEC rules as both regulators’ rules can have a significant impact on their bottom line. Most firms recently fined for violations of the SEC rules were not even aware of political contributions made by their third-party placement agents.
A few best practices can be implemented at your firm to ensure compliance with the SEC and FINRA pay-to-play rules:
With the penalty for violating the pay-to-play rule so severe, why leave it to chance? Contact ICSGroup, a firm with proven experience for help.