Pay-to-play ‘death penalty’ scaring the life out of advisers

New regulations aimed at ending the cozy relationship between government and those who advise the government on investment matters sound good on first blush. But as firms have discovered, the devil's in the details.

For most political campaigns, the 2012 election cycle is well under way, with candidates scrambling for cash.

But investment advisers who do business with government entities are trying to steer clear of the political process. Many fear that they might unintentionally violate a new SEC regulation intended to curtail attempts to curry favor with officials who can influence the selection of advisers for municipal securities and public-pension funds.

Under the regulation, advisers are prohibited from making political contributions above a certain amount to candidates in a position to hire advisers. They are limited to $350 per election cycle for candidates for whom the adviser is eligible to vote and $150 for those outside the advisers’ voting area.

The regulation also bans soliciting donations for a candidate, a practice known as “bundling.”

Starting in September, third-party organizations that drum up government business for advisers will be required to register as advisers and also will fall under the new rule.

Advisers also must maintain records of political contributions.

Advisers who violate any of the restrictions, and subsequently gain work after making a contribution, will be barred from being paid for providing government advisory services for two years — the so-called death penalty.

An adviser who works in a state known for passionate politics in-tends to play it safe and stay out of the electoral fray — beyond casting his own ballot.

“You have to approach this up-coming election in 2012 very, very carefully,” said John Levins, a principal at Levins & Associates in Manchester, N.H. “There are too many political, economic and government agendas on the table that will fire up compliance-related matters.”

The potential fallout from making any kind of political contribution isn’t worth the trouble, Mr. Levins said.

“It will put you into the audit — and you want to avoid that at all costs,” he said. “It’s not in the best interests of the investment industry to get involved, whether it’s on the federal or state level.”

SEC CRACKDOWN

The Securities and Exchange Commission promulgated the political-contribution curbs to ensure that the hiring of advisers to manage public funds is “based on the best interests of the plans and their beneficiaries, not kickbacks and favors,” SEC Chairman Mary Schapiro said when the regulation was proposed last summer.

The rule is complicated.

For instance, it requires that firms review two years of the political-contribution history of anyone who will be covered by the donation limits.

That means that a career-changing adviser, who may have worked at an auto dealership and contributed to local political candidates, could trigger the “death penalty” if he or she works on government accounts.

The steep penalty could encourage firms to enforce the political-activity curbs on all their advisers, not just those who may be affected by the pay-to-play rule.

“The rule almost requires that advisers take this broader approach because of the unique look-back feature,” said Ki Hong, a partner at Skadden Arps Slate Meagher & Flom LLP.

In doing so, advisers could find that their ability to contribute to political candidates, or participate in party work, is significantly limited.

“There may be some employees who feel they’re being disenfranchised,” Mr. Hong said.

For the moment, many firms are erring on the side of caution.

LOTS OF ‘NUANCES’

“There are a lot of nuances of the rule that make it difficult and complex,” said David Tittsworth, executive director of the Investment Adviser Association. “It is definitely a topic of discussion among a lot of firms out there.”

One adviser hopes that the pay-to-play rule evens the playing field for government business.

Diane Pearson, an adviser and shareholder at Legend Financial Advisors Inc., said that her firm has been on the losing end of the competition for government business because other advisers have had some kind of relationship with a member of an advisory board to a municipal account.

“From a pricing standpoint, we’re always competitive,” she said. The new rule “may open up some windows for us,” Ms. Pearson said.

E-mail Mark Schoeff Jr. at [email protected].