Pay to Play | Regulatory Filings | SEC News

Implications of SEC’s Municipal Advisor Rule

SECBy:  Jaqueline M. Hummel, Managing Director

January 9, 2015


 On July 1, 2014, the SEC enacted the Municipal Advisor Rule (the “Rule”) as mandated by the Dodd–Frank Wall Street Reform and Consumer Protection Act of 2010 (the “Act”). In its adopting release, the SEC said that the rule was meant to “mitigate some of the problems observed with the conduct of some municipal advisors, including ‘pay to play’ practices, undisclosed conflicts of interest, advice rendered by financial advisors without adequate training or qualifications, and failure to place the duty of loyalty to their clients ahead of their own interests.”


 Consequently the SEC created a new regulated entity, the municipal advisor. A municipal advisor is a person or firm, other than an underwriter, who advises a “municipal entity”[1] or “obligated person”[2] on bond offerings. State and local government employees, board members, committee members and others are specifically exempted from the Rule when acting in their official capacity. Employees and officials of obligated persons are also exempt.

Municipal advisors are required to register with the SEC, are subject to the supervision of the Municipal Securities Rulemaking Board (“MSRB”), and have an explicit fiduciary duty to their clients. Two major implications of this Rule are that (1) it is illegal for an entity to provide certain kinds of advice to municipalities unless it is registered with the SEC (or an exemption or exception applies), and (2) an entity that provides advice to a municipality regarding the issuance of municipal bonds cannot also serve as an underwriter for the bond issue. Additionally, municipal advisors are now subject to extensive regulatory obligations, including disclosure, record keeping, and compliance with pay-to-play rules (similar to those applicable to municipal dealers and investment advisers).


 Whether a person is considered a “municipal advisor” depends on the advice being given. Under the Rule, advice is defined as “a recommendation that is particularized to the specific needs, objectives or circumstances of a municipal entity or obligated person.” General advice that is disseminated for use by the public, or educational materials, are not considered advice. A person does not have to be compensated for advice under the Rule. Moreover, there is no de minimis threshold or single transaction exemption for advice given to a municipal entity.

Although exemptions and exceptions are available, investment advisers and broker-dealers should review their current business practices to determine whether they may be subject to this Rule.


 Investment advisers registered with the SEC are excluded from the definition of municipal adviser under Rule 15B1-1(d)(2)(ii), as long as they are providing investment advice under an advisory agreement within the scope of the Advisers Act of 1940. The exclusion allows advisers to provide advice on how to invest the proceeds of a municipal bond issuance, but does not allow them to provide guidance concerning the structure, timing and terms of the bond issue.  Exempt reporting advisers and state-registered advisers are not covered by this exemption.


 An investment adviser to a pooled investment vehicle that contains proceeds of an issuance of municipal securities is required to register as a municipal advisor, absent an exemption.[3]   Advisers that are registered with the SEC can rely on the exemption described in the preceding paragraph, but banks and state-registered investment advisers cannot. Therefore non-SEC registered advisers to pooled investment vehicles must now determine whether the funds invested in a pooled investment vehicle include proceeds of municipal securities and related escrow investments. In its adopting release, the SEC stated that fund managers may rely on written representations from a “knowledgeable official” regarding whether investment funds constitute proceeds of municipal securities.


 Similarly, broker-dealers may be excluded from the definition of municipal adviser as long as they are serving as an underwriter of a specific municipal securities issue, under Rule 15Ba1- 1(2)(i). This exclusion only applies to activities within the scope of an underwriting, including advice on the structure, timing, terms and other similar matters in the context of a specific issuance. A broker may act as placement agent, assist in “road shows” for investors and help prepare the preliminary and final offering statements for the municipal securities. The exclusion is very narrow, and does not apply to a broker providing advice on whether an issuance should be a negotiated sale or competitive sale.

Broker dealers acting as remarketing agents may not be required to register as municipal advisors, as long as they limit their activities to simply remarketing bonds. The remarketing agent cannot provide a recommendation, opinion, or view on a primary offering.

Broker dealers should also be more cautious when dealing with municipal entities. The SEC has stated that a broker dealer is engaging in municipal advisory activity if the funds  used to purchase securities are proceeds of a municipal securities issuance, and if the broker dealer recommends or advises which securities to buy or sell.[4]


 A municipal advisor also can be a person who solicits a municipal entity or obligated person. Under the definition of municipal advisor, a solicitor must perform such services for “direct or indirect compensation” on behalf of an unaffiliated entity. This means that a broker dealer or investment adviser soliciting on its own behalf would not be considered a municipal advisor and be required to register. Similarly, Rule 15Ba1-1(n) states that “solicitation of a municipal entity or obligated person” does not include advertising by a broker dealer or investment adviser.


 Investment advisers and broker dealers are allowed to respond to requests for proposal (RFPs) or qualifications without being considered municipal advisors, as long they do not receive separate direct or indirect compensation for advice provided as part of the response.

The broadest exemption in the Rule is the provision that anyone may be exempt from the definition of municipal advisor if the municipal entity or obligated person has engaged an independent registered investment adviser (“IRMA”).

Rule 15Ba1-1(d)(3)(vi) exempts from the municipal advisor definition any person that engages in municipal advisory activities, if the municipal entity or its obligated person is represented by an IRMA, assuming certain conditions are met. So, for example, a broker dealer or municipal securities dealer serving as an underwriter for a municipal bond issuance may provide advice outside the scope of the underwriting exemption, if the municipality has engaged an IRMA.

To rely on the IRMA exemption, the following conditions must be met. First, the IRMA has to be registered as a municipal advisor and provide advice to the municipality on the same municipal securities issuance or municipal financial product. Second, the municipality, its obligated person, and the person relying on the exemption must make certain representations. The municipal entity (or its obligated person, as the case may be) represents in writing that it is represented by, and is relying on the advice of, the IRMA to the entity relying on the exemption. The person relying on the exemption is then required to disclose to the municipality (or its obligated person, as the case may be) that in reliance on that representation, it is not a municipal advisor and that it is not acting as a fiduciary with respect to the transaction being discussed.[5]  Third, the IRMA has to be independent, which means that it is not, and has not been within the past two years, associated with the person seeking to rely on this exemption.


 Under Rule 15Ba1-1(d)(3)(iii), banks are exempted from the definition of “municipal advisor” when providing traditional banking services.  These services include:

  • Deposit accounts and other short term investments, like sweep accounts and CDs;
  • Extensions of credit to a municipality or obligated person (including issuing letters of credit or direct purchases of municipal securities by the bank); and
  • Engagement as indenture trustee

Additionally, banks are not required to register as municipal advisors for investments made by the bank while acting in the capacity of an indenture trustee or similar capacity.

This is not a blanket exemption, however. Banks that provide advice to municipalitiesor obligatedpersons,orprovideadvicewithrespecttomunicipalderivatives,maybesubjectto registration unless another exemption applies.


 Commodity trading advisors registered with under the Commodity Exchange Act are also excluded from the definition of municipal advisor, to the extent they provide advice related to swaps. Similarly, swap dealers registered under the Commodity Exchange Act are not considered to be acting as municipal advisors when recommending a municipal derivative or a trading strategy that involves a municipal derivative.


Parties that typically participate in municipal financing as part of team may also be exempt from the definition of municipal advisor, as long as they do not start providing advice as defined under the Rule.

Attorneys who provide legal advice with respect to a municipal bond issuance to clients that are municipal entities, obligated persons or other participants in the transactions are exempt from registration. Similarly, engineers who provide guidance on the engineering aspects of a project (e.g., feasibility studies, cash flow analyses) would not be subject to registration. The same holds true for accountants involved in a municipal securities issuance, as long as they only provide audit or other accounting services.


 The Rule is complicated and its full implications cannot be fully discussed in this article. If you have any questions regarding whether your investment adviser or broker dealer firm may be required to register as a municipal advisor, please contact Hardin Compliance Consulting at 724- 935-6770.


[1] A “municipal entity” is a state or local governmental entity with the power to issue municipal securities. The definition includes public employee retirement systems and benefit plans, as well as public pension plans.

[2] An “obligated person” any person who is “committed by contract or other arrangement to support the payment of all or part of an obligation on the municipal securities to be sold in an offering of municipal securities.” This can include conduit borrowers and issuers (such as hospitals, universities and private issuers of industrial development bonds) who use municipal platforms to issue tax-exempt securities. The Rule excludes bond insurers or letter of credit providers from this definition

[3] This interpretation is based on the definition of municipal financial product, which includes the term investment strategy. In The Final Release at page 110, the SEC states that a pooled investment vehicle is considered an investment strategy, and an adviser to the pool is a municipal advisor, when the pooled investment vehicle contains proceeds of an issuance of municipal securities. An adviser to such a pool is required to register as a municipal advisor, unless an exemption applies.

[4] The Final Release at pages 175-176; Rule 15Ba1-1(m)(1), which defines “proceeds of municipal securities” as (i) monies derived by a municipal entity from the sale of municipal securities, (ii) investment income derived from the investment or reinvestment of such monies, (iii) any monies of a municipal entity or obligated person held in funds under legal documents for the municipal securities that are reasonably expected to be used as security or a source of payment for the payment of the debt service on the municipal securities, including reserves, sinking funds, and pledged funds created for such purpose, and (iv) the investment income derived from the investment or reinvestment of monies in such funds.

[5] With respect to an obligated person, the entity relying on the exemption must disclose in writing that it is not a municipal advisor with respect to the transaction being discussed