The SEC should not rescind its rule preventing pay-to-play schemes

The Securities and Exchange Commission (SEC) should abandon its proposal to rescind its political contribution rule which restricts investment advisers from giving to public officials who have influence over choosing the investment advisers who will manage public pension funds. CREW submitted a comment laying out how the proposed rescission would remove a critical federal backstop aimed at curbing state and local pay-to-play corruption schemes.

The SEC suggests that the rule inhibits political contributions, is overly burdensome for investment advisers to implement and imposes a de facto liability standard under which small donations can potentially trigger severe penalties. However, the SEC has not adequately shown that the rule has led to such unintended consequences. The political contribution rule was adopted in response to a series of high-profile scandals that implicated public officials and private investors across the country. The SEC previously acknowledged that prosecuting quid pro quo arrangements is difficult because they are “rarely explicit and often hard to prove,” especially for public pension funds. Because of these challenges, and because evidence of such illegal dealings generally is not apparent until after there is public harm, the SEC had implemented the rule in 2010 to preemptively stop these dealings.

The SEC now claims that this rule is no longer necessary. SEC Chairman Atkins argued that “matters involving political contributions are more properly governed by local ordinances, state laws, and federal election regulations” and that the Investment Advisers Act provides sufficient protection against pay-to-play schemes, despite it doing little to stop the scandals that played out in the early 2000s. The current rescission fails to explain how historical evidence of conduct prior to the rule supports its repeal. Additionally, handing responsibility to state and local officials would return to a compliance system that varies from state to state and includes jurisdictions that have no restrictions on political contributions.

Between 2000 and 2009, there were thirteen enforcement actions brought against investment advisers related to alleged pay-to-play schemes. Since the rule’s compliance date, the SEC has not brought a similar enforcement action. However, the SEC has made conflicting statements about the effectiveness of the political contribution rule. The SEC appears to view the lack of enforcement actions since the rule’s compliance date as justification for the rule’s rescission, but the opposite could be true. If a rule is aimed at stopping pay-to-play schemes at the onset, the lack of enforcement actions could support the idea that the rule is successful.

At a time when 89% of U.S. adults believe that government corruption is widespread, rescinding a rule combating pay-to-play schemes would send the wrong message to the public. Given that the Trump administration has signaled an intention to ease access to private equity in 401(k)s, there is a significant risk that states and municipalities will entrust the public’s pension funds with whoever gives the biggest donation, potentially eroding public trust in government officials and the individuals chosen to manage funds. Rescinding the rule could also lead to what the SEC called a “collective action” problem, where government officials could be incentivized to accept campaign contributions to avoid being disadvantaged relative to their opponents and advisers may feel compelled to contribute to avoid being overlooked post-election. While the SEC acknowledges these concerns, it argues that the savings from the rules’ rescission could go toward establishing more efficient and profitable funds. However, evidence suggests that any such savings could be shifted to political contributions. One study found that “firms whose political action committees (PACs) donate to federal officeholders receive more, and larger, federal contracts.”

For these reasons, the SEC must withdraw its proposal to rescind the political contribution rule. The rule successfully deters pay-to-play schemes and its rescission would send a negative message to those who rely on pension funds free from political mismanagement.