The New York Republican State Committee and Tennessee Republican Party (the “State Republican Committees”) have initiated a lawsuit to overturn Securities and Exchange Commission (SEC) rule 206(4)-5 (the “Rule”) promulgated under the Investment Advisers Act of 1940, commonly known as the “Pay-to-Play Rule.” The suit comes less than two months after the SEC announced its first settlement under the Rule which forced the adviser to disgorge more than $250,000 in fees earned since the alleged violation and a penalty of $35,000. The SEC, in a follow-up statement on that case, has indicated that it would be the first of many actions to come enforcing the Rule.
The Rule took effect in 2011 and either (i) prevents investment advisor firms, and their employees, from providing more than nominal contributions to state officials and political parties for state or federal elections, if such official has the ability to direct state contracts with investment advisors, or (ii) if the firm/employee makes such contributions, bars the firm from managing the governmental assets. The Rule is intended to ensure that state pension funds and college savings plans, the primary assets in question, are steered towards advisory firms with the best performance, lowest fees, or other tangible benefit to investors, rather than to the firm having made the largest campaign contributions. The public pension system market represents more than three trillion dollars in potential assets. For many financial institutions and managers, the possibility of losing their ability to do business with the pension funds and college savings plans has proved to be too great of a risk and they have decided to simply not make any donations.
The State Republican Committees contend that the Rule impermissibly restricts freedom of speech and is a territorial overstep by the SEC onto ground that is clearly the domain of the Federal Elections Commission. The plaintiffs argue that as a basic matter, the SEC violated their constitutional rights and further, the SEC lacks the expertise in campaign financing to have either properly (i) devised a rule or (ii) enforce the rule. The State Republican Committees and their attorneys are hopeful that recent decisions by the Court related to the right of corporations and individuals to donate, and to donate large sums, to campaigns, political action committees, and parties indicate that the court system will be receptive to this challenge as well.
The case is New York State Republican Committee v. SEC, 14-cv-1345, U.S. District Court, District of Columbia (Washington).
For further information on the Rule, please see the final rule release, available here.
For information regarding the action settled by the SEC in June, 2014, please see the SEC release available here.