Dodd-Frank mandates fundamental changes in the oversight of the municipal securities market. Section 975 amends section 15B of the Securities Exchange Act of 1934 by requiring that municipal advisors register with the SEC in a similar manner as traditional investment advisors. The proposal has been met with controversy, as critics like Clifford Kirsch, a partner at Sutherland Asbill & Brennan, state that the proposal “goes much further than what was anticipated in Dodd-Frank.”
Municipal securities, such as municipal bonds, are issued by local governments and cities to fund their operations, as well as large projects. Historically, the municipal securities market has been less regulated than other capital markets, but Section 975 of Dodd-Frank significantly increases regulatory oversight of issuers and industry professionals. In December 2010, the SEC proposed rules specifying potential registration requirements and criteria governing mandatory registration for municipal securities advisors. Until Dodd-Frank, the activities of these advisors were largely unregulated. However, regulators came to the conclusion that change was needed when several municipalities were rocked by unscrupulous advice regarding the issuing of securities. For instance, Jefferson County, Alabama is in the midst of rare municipal bankruptcy proceedings after it relied on advice from JPMorgan and borrowed 3.2 billion dollars in floating instead of fixed rate debt. With the proposed municipal advisor rule, the SEC intends to protect municipalities from excessive risks and fees.
The SEC’s proposed rule employs broad language in defining a municipal advisor as a person that provides advice to a municipal entity with respect to the issuance of municipal securities or municipal financial products, including advice with respect to the “structure, timing, and terms” concerning those financial products. The proposal immediately generated controversy – in addition to raising costs for municipalities, many believe the potential rules unnecessarily require certain classes of individuals to register as municipal advisors. For example, engineering firms have suggested that cash-flow modeling, a normal part of project budgeting tangential to municipal securities, could be construed as advice that would require certain engineers to register as municipal advisors. Len Weiser-Varon, a high-ranking attorney at Mintz Levin PC, believes that unpaid volunteer board members of municipal entities will have to register as municipal advisors and bear the costs of continuing compliance under the current proposal. The broad and unexpected consequences of the proposed rule may surprise municipal industry professionals. Elizabeth Derbes, partner at Wilmer Hale, states that many firms are unaware of municipal advisor registration and compliance requirements, which would expose these firms to potential liability for violations of federal securities law.
It is unclear exactly how the SEC will respond to the commentary and criticism. The Commission is expected to narrow the rule and issue a new proposal before year-end.