Self-Regulatory Organizations; Notice of Filing of Proposed Rule Change by the Municipal Securities Rulemaking Board Relating to Rule G- 37 on Political Contributions and Prohibitions on Municipal Securities Business, and Rule G-8 on Recordkeeping

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-34630; File No. SR-MSRB-94-14]

Self-Regulatory Organizations; Notice of Filing of Proposed Rule

Change by the Municipal Securities Rulemaking Board Relating to Rule G-

37 on Political Contributions and Prohibitions on Municipal Securities

Business, and Rule G-8 on Recordkeeping

September 1, 1994.

Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934

(``Act''), 15 U.S.C. 78s(b)(1), notice is hereby given that on August

18, 1994, the Municipal Securities Rulemaking Board (``Board'' or

``MSRB'') filed with the Securities and Exchange Commission

(``Commission'' or ``SEC'') the proposed rule change as described in

Items I, II, and III below, which Items have been prepared by the

Board. The Commission is publishing this notice to solicit comments on

the proposed rule change from interested persons.

I. Self-Regulatory Organization's Statement of the Terms of Substance

of the Proposed Rule Change

The Board is proposing to amend rule G-37 on political

contributions and prohibitions on municipal securities business, and

rule G-8 concerning recordkeeping.\1\

---------------------------------------------------------------------------

\1\The Board plans to publish the text of the proposed rule

change in the August 1994 MSRB Reports (Vol. 14, No. 4, pp.--). The

text of the proposed rule change also is available for inspection

and copying at the Commission's public reference room and at the

Board.

---------------------------------------------------------------------------

II. Self-Regulatory Organization's Statement of the Purpose of and

Statutory Basis for, the Proposed Rule Change

In its filing with the Commission, the Board included statements

concerning the purpose of and basis for the proposed rule change and

discussed any comments it received on the proposed rule change. The

text of these statements may be examined at the places specified in

Item IV below. The Board has prepared summaries, set forth in sections

(A), (B), and (C) below, of the most significant aspects of such

statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and

Statutory Basis for, the Proposed Rule Change

On April 7, 1994, the Commission approved Board rule G-37,

concerning political contributions and prohibitions on municipal

securities business.\2\ In response to numerous inquiries received by

the Board concerning the application of the rule, on May 24, 1994, the

Board filed with the Commission a Question and Answer (``Q&A'')

interpretation of the rule.\3\ On June 3, 1994, the Commission approved

amendments to the rule which (i) provide a procedure whereby dealers

may seek relief from the rule's prohibition on business, in limited

circumstances, and (ii) clarify certain definitions in the rule.\4\

Notwithstanding these efforts, the Board is aware of continued industry

concern over certain aspects of rule G-37. Thus, in an effort to

ameliorate such concern, the Board has proposed to amend the proposed

rule change, as described below. In addition, the Board has published a

second Q&A notice.\5\

---------------------------------------------------------------------------

\2\Securities Exchange Act Release No. 33868 (April 7, 1994), 59

FR 17621 (April 13, 1994) (``Approval order''). The rule applies to

contributions made on and after April 25, 1994.

\3\See Securities Exchange Act Release No. 34161 (June 6, 1994),

59 FR 30379 (June 13, 1994). The interpretations were published in

the June 1994, MSRB Reports.

\4\Securities Exchange Act Release No. 34160 (June 3, 1994); 59

FR 30376 (June 13, 1994).

\5\File No. SR-MSRB-94-15 (filed August 18, 1994). Securities

Exchange Act Release No. 34603 (August 25, 1994). The Board plans to

publish the interpretations in the August 1994 MSRB Reports (Vol.

14, No. 4, pp. 27-32). The interpretations also are available for

inspection and copying at the Commission's public reference room and

at the Board.

---------------------------------------------------------------------------

Primarily Engaged in Municipal Securities Representative Activities

Rule G-37(g)(iv) provides that the term municipal finance

professional means:

(A) Any associated person primarily engaged in municipal

securities representative activities, as defined in rule G-3(a)(i);

(B) Any associated person who solicits municipal securities

business, as defined in paragraph (vii);

(C) Any associated person who is a direct supervisor of such

persons up through and including, in the case of a broker, dealer or

municipal securities dealer other than a bank dealer, the Chief

Executive Officer or similarly situated official and, in the case of

a bank dealer, the officer or officers designated by the board of

directors of the bank as responsible for the day-to-day conduct of

the bank's municipal securities dealer activities, as required

pursuant to rule G-1(a); or

(D) Any associated person who is a member of the broker, dealer

or municipal securities dealer (or, in the case of a bank dealer,

the separately identifiable department or division of the bank, as

defined in rule G-1) executive or management committee or similarly

situated officials, if any.

Each person listed by the broker, dealer or municipal securities

dealer as a municipal finance professional pursuant to rule G-

8(a)(xvi) is deemed to be a municipal finance professional.

A number of dealers have expressed confusion over which retail

sales persons fall within the definition of ``municipal finance

professional'' based upon the municipal securities representative

activities of such persons.\6\ Many of these dealers believe that such

confusion arises from the fact that a retail sales person's product mix

can vary significantly, depending on the economy and customers'

investment objectives. For example, a retail sales person's production

over a particular quarter may include a preponderance of municipal

securities transactions, whereas, in the next quarter, that same sales

person's production may involve a preponderance of equity transactions.

Such fluctuations in patterns of sales activity make it difficult for

dealers to determine which retail sales persons are ``primarily engaged

in municipal securities representative activities.''

---------------------------------------------------------------------------

\6\See Letter from Heather L. Ruth, President, Public Securities

Association to Diane G. Klinke, General Counsel, MSRB (July 25,

1994) (``PSA Letter''); Letter from Gordon Reis III, Seasongood &

Mayer, to Christopher A. Taylor, Executive Director, MSRB (July 25,

1994) (``Seasongood & Mayer Letter'').

---------------------------------------------------------------------------

In addition, rule G-37 requires a record to be made of all

contributions by municipal finance professionals for the past two

years.\7\ Prohibitions on municipal securities business may result from

such contributions. Thus, there is industry concern that a dealer

employing hundreds or thousands of individuals who might become

municipal finance professionals based on a percentage of sales of

municipal securities during a certain period could find itself

prospectively prohibited from engaging in certain municipal securities

business, for up to two years, based on contributions from persons who

were not municipal finance professionals when the contributions were

made and who have little or no connection to the dealer's municipal

securities business activities.

---------------------------------------------------------------------------

\7\Pursuant to rule G-8(a)(xvi)(I), these recordkeeping

requirements apply to contributions made on or after April 25, 1994.

---------------------------------------------------------------------------

The Board noted in its initial filing of rule G-37 that the

definition of municipal finance professional includes those individuals

who have an economic interest in seeing that the dealer is awarded

municipal securities business and thus may be in a position to make

political contributions for the purpose of influencing the awarding of

such business by issuer officials. Such persons would include those in

the public finance department, as well as underwriters, traders and

institutional and retail sales persons primarily engaged in municipal

securities representative activities. The Board continues to believe

that there may be limited instances in which retail sales persons make

contributions for the purpose of influencing the awarding of municipal

securities business. However, the Board is persuaded that, at this

time, the rule currently imposes a compliance burden on dealers that is

not outweighed by the benefit to be achieved by determining municipal

finance professional status based upon the municipal securities

representative activities of retail sales persons. Accordingly, the

Board proposes to amend the definition of municipal finance

professional in rule G-37(g)(iv)(A) by providing that sales activities

with accounts, other than institutional accounts, shall not be

considered to be municipal securities representative activities.\8\ The

proposed amendment to the definition of municipal finance professional

still includes those persons in the public finance department, as well

as underwriters, traders and institutional sales persons primarily

engaged in municipal securities representative activities, but does not

include retail sales persons. If, in the future, the Board learns of

problems in connection with retail sales persons making contributions

to influence the awarding of municipal securities business, then it

will reconsider the propriety of exempting such persons from the

definition of municipal finance professional.

---------------------------------------------------------------------------

\8\The term ``institutional account'' is defined in rule G-

8(a)(xi) to mean the account of: (i) A bank, savings and loan

association, insurance company, or registered investment company;

(ii) an investment adviser registered under Section 203 of the

Investment Advisers Act of 1940; or (iii) any other entity (whether

a natural person, corporation, partnership, trust, or otherwise)

with total assets of at least $50 million.

---------------------------------------------------------------------------

The proposed amendment would continue to permit a retail sales

person or any associated person to be designated a municipal finance

professional under rule G-37(g)(iv)(B) if he or she solicits any

municipal securities business. The Board notes that a dealer has an

obligation to determine whether any of its associated person (including

retail sales persons) have solicited municipal securities business and,

if so, to designate those persons as municipal finance professionals

subject to rule G-37.

Supervisors of Municipal Finance Professionals

As noted previously, the definition of municipal professional

includes any direct supervisor of a municipal finance professional up

through and including, in the case of a broker, dealer or municipal

securities dealer other than a bank dealer, the Chief Executive Officer

or similarly situated official and, in the case of a bank dealer, the

officer or officers designated by the board of directors of the bank as

responsible for the day-to-day conduct of the bank's municipal

securities dealer activities, as required pursuant to rule G-1(a). Some

dealers have expressed concern that this part of the definition extends

unnecessarily beyond the typical municipal department supervisors. For

example, if a person from the corporate department assists the

municipal department by soliciting work from a municipal issuer, such a

person will become a municipal finance professional because of these

activities. Under the current rule, all direct corporate department

supervisors of that individual also would be defined as municipal

finance professionals, even though the person's municipal securities

activities are subject to the supervision of a principal in the

municipal securities department.

In an effort to facilitate compliance with rule G-37, the Board

proposes to further amend the definition of municipal finance

professional by designating as a municipal finance professional any

associated person who is both (i) A municipal securities principal or a

municipal securities sales principal and (ii) a supervisor of any

person primarily engaged in municipal securities representative

activities or who solicits municipal securities business. Thus, in the

example given above, the corporate department supervisors would not be

included in the definition of municipal finance professional. The Board

notes, however, that if a retail sales person solicits municipal

business and thus becomes a municipal finance professional, then the

municipal securities principal responsible for supervising that

person's municipal securities activities (including any solicitation

activities) would be designated a municipal finance professional. In

most cases, this would include the sales person's branch manager (a

municipal securities sales principal). The Board has determined to

continue to include such supervisory personnel within the definition of

municipal finance professional because it is concerned about situations

in which retail sales persons are soliciting municipal securities

business at the request of, or at least with the knowledge of, their

supervisors. Thus, the Board wishes to ensure that, if retail sales

persons are soliciting municipal securities business, the supervisors

of such persons also are included within the definition of municipal

finance professional.

Finally, the Board also proposes to revise the definition of

municipal finance professional to clarify that the supervisors of the

municipal securities principals and municipal securities sales

principals included within the definition also are considered municipal

finance professionals.

Designation as a Municipal Finance Professional Extends for Two Years

The Board has been asked whether a dealer can establish its own

standards under which someone who solicits municipal securities

business could relinquish municipal finance professional status upon

completing the solicitation activity.\9\ The Board proposes to further

amend rule G-37(g)(iv) to provide that each person designated by a

dealer as a municipal finance professional shall retain this

designation for two years after the last activity or position which

gave rise to the designation. For instance, if an associated person is

designated a municipal finance professional as a result of solicitation

activities, then that designation shall extend for two years from the

date of the particular solicitation. Moreover, if this person continues

to solicit municipal business, then each such solicitation triggers a

new two-year period. Thus, if a municipal finance professional wants to

divest himself of this designation, he must forego all soliciting of

municipal business for two years (as well as avoid the other

situations, set forth in rule G-37(g)(iv), giving rise to the

designation of municipal finance professional). So too, if an

institutional sales person primarily engaged in municipal securities

representative activities is transferred to the corporate department,

such person's contributions to officials of issuers and payments to

political parties must be recorded for two years after such transfer.

The Board believes that this designation period extension will help to

ensure that contributions and payments by municipal finance

professionals are not being made to influence the awarding of municipal

securities business. It also will allow dealers, after this two-year

period, to remove these persons from their list of municipal finance

professionals.

---------------------------------------------------------------------------

\9\See PSA Letter, supra n. 6.

---------------------------------------------------------------------------

Contributions and Other Payments Made to Political Parties

Pursuant to rule G-37, contributions to political parties do not

trigger the rule's prohibition on business. Such contributions,

however, are subject to the rule's recordkeeping and reporting

provisions, as set forth in rule G-8(a)(xvi). These disclosure

requirements were adopted to help ensure that dealers are not

circumventing the prohibition on business in the rule by indirect

contributions to issuer officials through contributions to state or

local political parties. For example, if a contribution to a political

party is earmarked or known to be provided to an official or officials

of a particular issuer, then the dealer would violate the rule's

proscription against indirect violations, thereby triggering the two-

year prohibition on business with that issuer.

In its rule G-37 filing with the Commission, the Board stated that

it:

Has adopted . . . [rule G-37] as a first step toward eliminating

the problems associated with political contributions in connection

with the awarding of municipal securities business. It believes the

rule is targeted to the reported major problem areas and should be

an effective deterrent to activities which have called into question

the integrity of the market. Once the proposed rule is put into

place, the Board will closely monitor its effectiveness. If it

determines that compliance problems exist, or if dealers seek to

circumvent the proposed rule's requirements, the Board will not

hesitate to amend the . . . rule to make its prohibitions applicable

to a broader range of entities and individuals or to include other

prohibitions or disclosure requirements.\10\

---------------------------------------------------------------------------

\10\File No. SR-MSRB-94-2 at 17.

The Board has been notified by dealers and other industry

participants that certain political parties currently are engaging in

fundraising practices which, according to these political parties, do

not invoke application of rule G-37. For example, some of these

entities currently are urging dealers to make payments to political

parties earmarked for expenses other than political contributions (such

as administrative expenses or voter registration drives). Since these

payments would not constitute ``contributions'' under the rule, the

recordkeeping and reporting provisions would not apply.

The purpose of those disclosure requirements in rule G-37

pertaining to political parties is to ensure that funds contributed to

political parties by dealers, Political Action Committees (``PACs''),

municipal finance professionals and executive officers do not represent

attempts to make indirect contributions to issuer officials, in

contravention of the letter and the spirit of the rule. The Board

continues to believe that disclosure is an adequate means of addressing

this matter. However, the Board is concerned, based upon information

provided by dealers and others, that the same pay-to-play pressures

that motivated the Board to adopt rule G-37 may be emerging in

connection with the fundraising practices of certain political parties,

as described above. Accordingly, the Board proposes to amend the

recordkeeping and reporting provisions of rule G-37 (as set forth in

rule G-8(a)(xvi)) to require dealers to record and disclose all

payments made to political parties. The term ``payment'' is proposed to

be defined as any gift, subscription, loan, advance or deposit of money

or anything of value. This definition is derived from the definition of

``contribution'' in rule G-37(g)(i), but does not include the limits on

the purposes for which such money is given, as currently set forth in

the definition of contribution.

Thus, the proposed amendment would require dealers to record and

report any payments (including contributions) to political parties by

dealers. PACs, municipal finance professionals and executive officers.

The Board believes that these disclosure requirements will help to

sever any connection between the giving of payments (including

contributions) to political parties and the awarding of municipal

securities business.

Finally, the Board does not seek, through its proposed definition

of payment, to restrict the personal volunteer work of municipal

finance professionals for political parties.

Definition of Issuer

Under rule G-37, the term ``issuer'' is defined as any governmental

issuer specified in Section 3(a)(29) of the Act (i.e., a state or any

political subdivision thereof, or any agency or instrumentality of a

state or any political subdivision thereof, or any municipal corporate

instrumentality of one or more states) and the issuer of any separate

security, including a separate security as defined in Rule 3b-5 under

the Act. This definition was taken from the SEC's definition of issuer

in Rule 15c2-12. The Board has received a number of questions regarding

the second portion of the definition--the issuer of a separate

security. This portion of the definition was intended to include, for

example, a municipality that signs a take-or-pay contact used as a

guarantee of the underlying bonds. However, in most instances, the

issuers of separate securities are corporate obligors of industrial

revenue bonds and bank issuers of letters of credit.

Dealers have complained to the Board that the inclusion in the

definition of the issuer of any separate security requires them to go

through a ``separate security'' analysis to determine if a certain

corporate obligor fits within this definition of issuer and then to

determine if any personnel dealing with such issuers would be deemed

municipal finance professionals. These determinations, however, do not

result in any connection between the corporate issuers of separate

securities and political contributions. In its May 1994 Q & A, the

Board noted that, when filing Form G-37, dealers do not have to include

corporate issuers in industrial development bond issues, since no

contributions (as defined in rule G-37) would be made to such

corporations.\11\ As a result of these concerns, the Board proposes to

amend the rule G-37 definition of issuer by omitting issuers of

separate securities from the definition of issuer.

---------------------------------------------------------------------------

\11\Pursuant to rule G-37, a contribution is defined as ``any

gift, subscription, loan advance, or deposit of money or anything of

value made: (A) For the purpose of influencing any election for

federal, state or local office; (B) for payment of debt incurred in

connection with any such election; or (C) for transition or

inaugural expenses incurred by the successful candidate for state or

local office.'' Thus, by definition, any funds given to corporate

issuers would not constitute a ``contribution'' since such

corporations are not the issuers or issuer officials contemplated by

the rule.

---------------------------------------------------------------------------

The Board believes that the proposed rule change is consistent with

Section 15B(b)(2)(C) of the Act, which provides that the Board's rules

shall be designed to prevent fraudulent and manipulative acts and

practices, to promote just and equitable principles of trade, to foster

cooperation and coordination with persons engaged in regulating,

clearing, settling, processing information with respect to, and

facilitating transactions in municipal securities, to remove

impediments to and perfect the mechanism of a free and open market in

municipal securities, and, in general, to protect investors and the

public interest.

B. Self-Regulatory Organization's Statement on Burden on Competition

As discussed below, the Board received two comment letters.

Seasongood & Mayer argues that, by not including all dealer employees

within the definition of municipal finance professional, rule G-37

places regional firms at a disadvantage compared to the larger firms by

allowing these firms to continue using political contributions to

influence the awarding of municipal securities business. In its order

approving rule G-37, the Commission addressed the impact of the rule on

regional firms, and concluded that the rule ``will not have a

disproportionate effect on * * * small and regional firms.''\12\ The

Board continues to believe, as stated in its initial rule G-37 filing,

that the rule:

\12\Approval Order, Supra n. 2.

---------------------------------------------------------------------------

Will ensure that ``pay-to-pay'' practices in the municipal

market will be halted without impacting every employee of the dealer

* * *. [The rule will] promote just and equitable principles of

trade by ensuring that dealers compete for the awarding of municipal

securities business on merit rather than political contributions.

Such healthy competition * * * [will] remove artificial barriers to

those dealers not willing or able to make such payments, thereby * *

* fostering competition.\13\

\13\File No. SR-MSRB-94-2 at 18 and 51.

---------------------------------------------------------------------------

C. Self-Regulatory Organization's Statement on Comments on the Proposed

Rule Change Received From Members, Participants, or Others

The Board did not publish or solicit comment on the proposed rule

change. However, the Board has received two letters addressing some of

the issues contained in the proposed rule change.\14\ The PSA Letter

expressed concerns about the inclusion of retail sales persons in the

definition of municipal finance professional. This issue was addressed

in Section II.A. supra. The Seasongood & Mayer Letter stated that a

public official's decisions are influenced when that official receives

funds from sales personnel affiliated with any firm, and therefore

recommended that the Board expand the definition of municipal finance

professional to include ``any individual directly or indirectly

affiliated with an organization that engages in the negotiated

underwriting of tax-exempt municipal bonds.'' The Board continues to

believe that it is not necessary or appropriate to include all such

persons within the definition of municipal finance professional.

---------------------------------------------------------------------------

\14\See supra n. 6.

---------------------------------------------------------------------------

The PSA Letter also expressed concern about the ``direct

supervisors'' category of municipal finance professional and asked that

the Board clarify that this category of municipal finance professional

does not include supervisors outside of the municipal securities

department. As previously discussed, the proposed definition focuses on

the municipal securities supervisors of those primarily engaged in

municipal securities representative activities and solicitors of

municipal securities business.

III. Date of Effectiveness of the Proposed Rule Change and Timing for

Commission Action

Within 35 days of the date of publication of this notice in the

Federal Register or within such longer period (i) as the Commission may

designate up to 90 days of such date if it finds such longer period to

be appropriate and publishes its reasons for so finding or (ii) as to

which the self-regulatory organization consents, the Commission will:

A. By order approve such proposed rule change, or

B. Institute proceedings to determine whether the proposed rule

change should be disapproved.

IV. Solicitation of Comments

Interested persons are invited to submit written data, views, and

arguments concerning the foregoing. Persons making written submissions

should file six copies thereof with the Secretary, Securities and

Exchange Commission, 450 Fifth Street NW., Washington, DC 20549. Copies

of the submission, all subsequent amendments, all written statements

with respect to the proposed rule change that are filed with the

Commission, and all written communications relating to the proposed

rule change between the Commission and any person, other than those

that may be withheld from the public in accordance with the provisions

of 5 U.S.C. 552, will be available for inspection and copying in the

Commission's Public Reference Room. Copies of the filing will also be

available for inspection and copying at the Board's principal office.

All submissions should refer to File No. SR-MSRB-94-14 and should be

submitted by September 30, 1994.

For the Commission by the Division of Market Regulation,

pursuant to delegated authority, 17 CFR 200.30-3(a)(12).

Margaret H. McFarland,

Deputy Secretary.

[FR Doc. 94-22253 Filed 9-8-94; 8:45 am]

BILLING CODE 8010-01-M