The Securities and Exchange Commission approved a new rule on June 30, 2010 to curb so-called “pay to play” practices in which investment advisers make campaign contributions to elected officials in order to influence the award of contracts to manage public pension plan assets and other government investment accounts.
The rule is intended to combat pay to play arrangements in which advisers are chosen based on their campaign contributions to political officials rather than on merit. The potential for fraud to invade the various, intertwined relationships created by pay to play arrangements is without question, and the new rule is meant to reduce the occurrence of fraudulent conduct resulting from these practices and to protect public pension plans, beneficiaries, and other investors from the resulting harms.
The corrupting influence of pay to play practices could, for example, lead a political official to choose an investment adviser with higher fees or inferior investment performance because the adviser contributed funds to the official’s election campaign. Choosing an adviser with higher fees or weaker performance could reduce the amount of money available to plan participants. Moreover, advisers’ participation in pay to play activities may diminish investor confidence, as pay to play practices are inconsistent with the high standards of ethical conduct required of investment advisers.
Pay to play practices often are not explicit, but appear to be widespread. In recent years, the SEC has brought enforcement actions against investment advisers involved in pay to play activities. In addition, other authorities in various states have brought civil and criminal cases alleging pay to play activities.
The new rule, adopted under the Investment Advisers Act of 1940, applies to SEC-registered investment advisers and certain advisers exempt from registration with the SEC who provide investment advisory services, or are seeking to provide investment advisory services, to government entities. The rule will subject these advisers to certain restrictions (described below) designed to curb pay to play activities.
The rule will help protect the interests of government entities that hire investment advisers and others, including participants in public pension plans and state-sponsored college savings plans (known as 529 plans). It will also help level the playing field so that the advisers selected to manage retirement funds and other investments for the public are more likely to be selected based on the quality of their advisory services.
The new rule:
An SEC-registered investment adviser subject to the rule also will have to maintain certain records under a related amendment to the Investment Advisers Act recordkeeping rule that the Commission adopted along with the new rule.
The Office of Investor Education and Advocacy has provided this information as a service to investors. It is neither a legal interpretation nor a statement of SEC policy. If you have questions concerning the meaning or application of a particular law or rule, please consult with an attorney who specializes in securities law.