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Richard Y. Roberts, Principal RR&G, LLC 1200 New Hampshire Avenue NW, Suite 300 Washington, DC 20036

The National Fixed Income Conference Denver, Colorado Federal Tax Reform and Dodd- Frank Implications for Middle Market Dealers October 7, 2011. Richard Y. Roberts, Principal RR&G, LLC 1200 New Hampshire Avenue NW, Suite 300 Washington, DC 20036 202-974-5971.

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Richard Y. Roberts, Principal RR&G, LLC 1200 New Hampshire Avenue NW, Suite 300 Washington, DC 20036

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  1. The National Fixed Income ConferenceDenver, ColoradoFederal Tax Reform and Dodd-Frank Implications for Middle Market DealersOctober 7, 2011 Richard Y. Roberts, Principal RR&G, LLC 1200 New Hampshire Avenue NW, Suite 300 Washington, DC 20036 202-974-5971

  2. I. Fiduciary Duty A. Section 913 of Dodd-Frank required the SEC to complete a study of any gaps, shortcomings or overlaps in the standard of conduct and supervision of broker-dealers and investment advisers providing personalized investment advice about securities to retail customers. 1. Section 913 provided the SEC with discretionary rulemaking authority to apply to broker-dealers providing personalized investment advice to retail customers the standard of conduct applicable to an investment adviser providing personalized investment advice to retail customers.

  3. I. Fiduciary Duty - continued 2. This standard must be no less stringent than the standard provided by Section 206(1) and (2) of the Investment Advisers Act. 3. Importantly, the SEC’s rulemaking authority under Section 913 was discretionary. 4. The Supreme Court has interpreted Section 206(1) and (2) of the Investment Advisers Act as imposing on all investment advisers, regardless of whether the adviser is registered with the SEC, the fiduciary duties of loyalty and care to their clients.

  4. I. Fiduciary Duty - continued 5. In light of their status as fiduciaries, the SEC has stated that investment advisers owe their clients, among other things, a duty of “undivided loyalty.” 6. As a more practical matter, the fiduciary obligation of investment advisers has been interpreted to require them to, among other things, allocate securities and investment opportunities between clients on a fair and equitable basis and to seek best execution of securities transactions made on behalf of clients.

  5. I. Fiduciary Duty - continued 7. In addition, Section 206(1) and (2) likely require some manner of disclosure and consent for principal trades. 8. Further, Section 913 of Dodd-Frank provided that any rule promulgated by the SEC must provide that any material conflicts of interest shall be disclosed and may be consented to by the customer. 9. Importantly, Section 913 was clear that broker-dealers are not subject to a continuing duty of care or loyalty after providing personalized advice to retail customers.

  6. I. Fiduciary Duty - continued • The SEC completed the fiduciary duty study in late January 2011 and published a report for comment.   1. The report contained an SEC staff recommendation that the SEC engage in a rulemaking to establish a uniform fiduciary standard for investment advisers and broker-dealers when providing investment advice about securities to retail customers that is consistent with the standard that currently applies.

  7. I. Fiduciary Duty - continued 2. The report also contained staff recommendations which included suggestions for the harmonization of the broker-dealer and investment adviser regulatory regimes, with a view toward enhancing their effectiveness in the retail marketplace. 3. Two SEC Commissioners opposed the release of the report to Congress, and their dissent stated that the report failed to adequately justify the recommendation that the SEC embark on fundamentally changing the regulatory regime for broker-dealers and investment advisers providing personalized investment advice to retail investors.

  8. I. Fiduciary Duty - continued 4. The dissent was also of the view that a stronger analytical and empirical foundation than provided by the report was required before regulatory steps should be taken that would revamp how broker-dealers and investment advisers are regulated. 5. The SEC is required, when engaged in a rulemaking, to analyze the direct and indirect costs and benefits of the SEC’s proposed decisions against alternative approaches, including the effects on competition, efficiency and capital formation. 6. Last July, the United States District Court of Appeals for the District of Columbia vacated the SEC’s proxy access rule.

  9. I. Fiduciary Duty - continued 7. Among other reasons supporting the decision, the Court found that the SEC failed to adequately consider the economic effects of the rule. 8. The Court held that the SEC’s actions are arbitrary and capricious for having failed to consider the rule’s effect upon efficiency, competition and capital formation as required. 9. The SEC subsequently announced that it would not seek a rehearing of this decision.

  10. I. Fiduciary Duty - continued   10. As a result of this decision, among other reasons, the SEC has announced that it will not issue proposed rules, as recommended by the SEC staff in the report, in the fiduciary duty area until next year. 11. The Department of Labor has been pursuing a parallel rulemaking proceeding to impose a fiduciary duty on advisers to retirement plans, including advisers to IRAs. 12. As a result of significant congressional opposition to the proposed rule, DOL has announced that it will issue a reproposal next year, but the reproposal is expected to continue to apply to advisers of IRAs.

  11. II. Municipal Advisors • Section 975 of Dodd – Frank requires “municipal advisors” to be registered. 1. The term “municipal advisor” includes any person that provides advice to or on behalf of a municipal entity or obligated person with respect to municipal financial products or the issuance of municipal securities.

  12. II. Municipal Advisors - continued 2. Under the legislation, “obligated persons” include an issuer or other person who is either generally or through an enterprise, fund, or account of such person, committed by contract or other arrangement to support the payment of all or part of the obligations on the municipal securities to be sold in an offering of municipal securities. 3. The term “municipal advisor” includes financial advisors, guaranteed investment contract brokers, third party marketers, placement agents, solicitors, finders and swap advisors.

  13. II. Municipal Advisors - continued 4. Broker-dealers serving as underwriters and investment advisers who are providing investment advice are excluded from the term “municipal advisor.”   5. In September of last year, the SEC adopted an Interim Temporary Final Rule establishing a registration system and form for municipal advisors.

  14. II. Municipal Advisors - continued B. Last December, the SEC proposed a rule creating a new process by which municipal advisors must register with the SEC. 1. Section 975 of Dodd-Frank specifically excluded “attorneys offering legal advice or providing services that are of a traditional legal nature or engineers providing engineering advice” from the definition of “municipal advisor.”

  15. II. Municipal Advisors - continued 2. The SEC rule proposal, like many such rule proposals, was quite broad and interpreted the exclusions narrowly. 3. The SEC definition of “municipal advisor” in the final rule will be the key. 4. The SEC has announced an intention to adopt a final rule prior to the end of the year but, of course, that schedule could slip.

  16. II. Municipal Advisors - continued C. Section 975 also provides the MSRB with authority over “municipal advisors.” 1. Through Section 975, for the first time, Congress broadened the authority of the MSRB to include the protection of municipal entities and obligated persons in addition to the protection of investors and the public interest. 2. Effective as of the end of last year, the MSRB implemented a registration scheme for municipal advisors.

  17. II. Municipal Advisors - continued 3. Under the MSRB’s registration scheme, broker-dealers and municipal securities dealers that act as municipal advisors are required to register with the MSRB even if they previously registered with the MSRB as dealers. 4. Section 975 also clarified that all municipal advisors are deemed to have a fiduciary duty to an advised municipal entity.   5. The legislation prohibits a municipal advisor from acting in any way that is not consistent with this fiduciary duty.

  18. II. Municipal Advisors - continued 6. The MSRB is required to adopt rules reasonably designed to prevent acts, practices and courses of business as are not consistent with a municipal advisor’s fiduciary duty to its clients. 7. Moreover, the legislation mandates that MSRB rules not impose an inappropriate regulatory burden on small municipal advisors.

  19. II. Municipal Advisors - continued 8. The MSRB proposed a number of rules over municipal advisors in the areas of fiduciary duty, pay to play, fair dealing, supervision, gifts and assessments.   9. In September, the MSRB announced that it was delaying these municipal advisor rule proposals until the SEC had finalized its definition of municipal advisor.

  20. III. Miscellaneous Dodd-Frank Provisions A. Section 975 of Dodd-Frank reconstituted the MSRB with a majority of board members that are independent of broker-dealers, municipal dealers or municipal advisors.

  21. III. Miscellaneous Dodd-Frank Provisions - continued 1. The SEC has approved a MSRB rule to comply with this provision of Dodd-Frank. 2. The MSRB has temporarily implemented the required change in its board membership and is in the process of permanently implementing this change. 3. Section 975 has other MSRB related provisions.

  22. III. Miscellaneous Dodd-Frank Provisions - continued B. Section 975 also mandated a number of municipal securities market related studies.   1. The GAO was required to conduct a study regarding the role and importance of the GASB in municipal securities and the manner and level at which the GASB has been funded. 2. The GAO completed the study and issued this report in January.

  23. III. Miscellaneous Dodd-Frank Provisions - continued 3. Dodd-Frank also authorized the SEC to require FINRA to establish an annual accounting support fee to fund GASB, but the SEC has not yet acted on this authority.   4. The legislation further required the GAO to study the municipal securities markets, including an analysis of the mechanisms for trading, quality of trade executions, market transparency, trade reporting, price discovery, settlement, clearing, and credit enhancements, fairness and liquidity, and the potential uses of derivatives. 5. This GAO study is to be completed within 18 months of the enactment of Dodd-Frank so a report should be published on the study early next year.

  24. III. Miscellaneous Dodd-Frank Provisions - continued 6. Moreover, the legislation required the GAO to study the value of enhanced municipal issuer disclosure and the repeal of the Tower Amendment prohibition on the SEC or MSRB requiring issuer disclosure. 7. This GAO study is to be completed within 24 months of the enactment of Dodd-Frank so a report on the study should be published next summer. 8. Aside from Dodd-Frank, the possibility looms next year of a significant assessment increase on broker-dealers to cover SIPC funds that have been paid out as a result of claims flowing from the Stanford fraud.

  25. III. Miscellaneous Dodd-Frank Provisions - continued C. Title VII is the derivatives related title of Dodd-Frank. 1. Title VII is the longest chapter of Dodd-Frank at almost 450 pages, so its breadth is beyond the scope of this presentation. 2. However, pursuant to Section 764 of Dodd-Frank, the SEC proposed rules in June that establish external business conduct standards for security-based swap dealers and major security-based swap participants.

  26. III. Miscellaneous Dodd-Frank Provisions - continued 3. Among other things, Section 764 establishes business conduct standards for “security-based swap dealers” and “major security-based swap participants” whenever those entities engage in security-based swap transactions with counterparties, including those that are “special entities.” 4. Special entities are generally defined to include federal agencies, states and political subdivisions, employee benefit plans as defined under ERISA, government plans, and endowments.

  27. III. Miscellaneous Dodd-Frank Provisions - continued 5. Under the SEC proposed rules, security-based swap dealers and major security-based swap participants would be required to: • Verify whether a counterparty is an eligible contract participant and whether it is a special entity. • Disclose to the counterparty material information about the security-based swap, including material risks, characteristics, incentives and conflicts of interest. • Provide the counterparty with information concerning the daily mark of the security-based swap.

  28. III. Miscellaneous Dodd-Frank Provisions - continued • Provide the counterparty with information regarding the ability to require clearing of the security-based swap. • Communicate with counterparties in a fair and balanced manner based on principles of fair dealing and good faith. • Establish a supervisory and compliance infrastructure. • Designate a chief compliance officer that is required to fulfill the described duties and provide an annual compliance report.

  29. III. Miscellaneous Dodd-Frank Provisions - continued 6. The proposed rules also would require security-based swap dealers to: • Determine that any recommendations they make regarding security-based swaps are suitable for their counterparties (this proposal is similar to the FINRA rule regarding suitability, including institutional suitability). • Establish, maintain and enforce policies and procedures reasonably designed to obtain and retain a record of the essential facts concerning each known counterparty that are necessary to conduct business with such counterparty. • Comply with rules designed to prevent “pay-to-play.”

  30. III. Miscellaneous Dodd-Frank Provisions - continued 7. In addition, the proposed rules would define what it means to “act as an advisor” to a special entity, and would require that a security-based swap dealer who acts as an advisor to a special entity: • Act in the “best interests” of the special entity. • Make reasonable efforts to obtain information that it needs to determine that the recommendation is in the “best interest” of the special entity.

  31. III. Miscellaneous Dodd-Frank Provisions - continued 8. Further, the proposed rules would require security-based swap dealers and major security-based swap participants acting as counterparties to special entities to reasonably believe that the counterparty has an independent representative who meets the following requirements: • Has sufficient knowledge to evaluate the transaction and risks. • Is not subject to a statutory disqualification. • Is independent of the security-based swap dealer or major security-based swap participant. • Undertakes a duty to act in the best interest of the special entity.

  32. III. Miscellaneous Dodd-Frank Provisions - continued • Makes appropriate disclosures of material information concerning the security-based swap. • Provides written representations to the special entity regarding fair pricing and appropriateness of the security-based swap. 9. The SEC is not expected to issue final rules in this area until next year.

  33. Conclusion • Questions • Comments

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