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January 31, 2023

Complying with the SEC Pay-to-Play Rule: What should be involved in the political contributions preclearance process

For financial firms who rely on government contracted work, complying with the Securities and Exchange Commission (SEC) Pay-to-Play Rule, in addition to any other relevant political contributions compliance ruling, is essential to maintaining your contract and avoiding potential fines, sanctions, lockout periods and, ultimately, loss of revenue.

While the pay-to-play rulings do limit which campaigns your employees can contribute to, it does not completely rule out contributions across the board.

Which is where the political contribution preclearance process comes into play.

The steps to an effective political contributions preclearance process

While your employee political contributions preclearance process may not negate all risk, it will help identify any noncompliant political contributions employees may plan to make, allowing you to reject those requests and keep your firm on solid ground.

In order to maintain an effective preclearance process, we suggest:

  1. Create thorough policies and procedures.

Your political contributions preclearance process should be based on clear and concise policies and procedures which lay the groundwork for what is and isn’t acceptable for covered associates. Make sure your entire firm is well-versed on these policies and updated on any changes you make year over year.

  1. Identify who classifies as a covered associate.

Not every member of your firm will need to preclear their political contributions. Identify who your covered associates are and who you will be monitoring and preclearing contributions for. Note, this may be different as some firms will monitor non-covered associates who may transition to a covered position in the future.

  1. Implement an automated system to help track the preclearance against actual contributions.

Preclearance is only the first step in the political contributions verification process. In order to sufficiently maintain compliance, you must also track actual contributions. Which is where a technology or software can help. Political contribution verification technology, like illumis, gathers data from thousands of public records to track against your employee political contributions preclearances, which allows you to identify if any employees have made contributions without the appropriate preclearance.

The political landscape has evolved and with it has come significantly increased contributions. In order to effectively comply with the SEC’s pay-to-Play rule and avoid penalty, you must monitor, track and verify all political contributions made by employees. And it all starts with preclearance.
Why real-time data is essential to helping your investment firm avoid violating pay-to-play regulations, SEC rule 206(4)-5

Political contributions made by firm employees pose a significant threat to investment advisory firms. And even firms with the best compliance teams can be at risk of violating pay-to-play regulations, like the Securities and Exchange Commission’s (SEC) rule 206(4)-5, given the complexity of the rules and the myriad of regulations to which firms must comply.

Because of this, investment firms must arm themselves with the access to and support of real-time data, which can help identify potential violations and anomalies in the political donation process.

By leveraging real-time data, investment firms can quickly detect suspicious or unauthorized activities and take prompt action to prevent pay-to-play violations.

Beyond SEC Rule 206(4)-5: A look at state and local political contributions compliance regulations

SEC Rule 206(4)-5 is arguably the most well known regulation regarding political contributions compliance or pay-to-play compliance. However, it certainly isn’t the only regulation to which firms must comply.

In fact, beyond federal regulations, firms which take part in government contracted work must contend with numerous and varied state and local regulations as well. Such regulations present unique challenges because of the various requirements within each, which should they be neglected, can cause significant financial and reputational damage.

Aligning pay-to-play rule 206(4)-5 compliance practices with your investment firm’s regulatory compliance program

While it would be almost too easy to treat the Securities and Exchange Commissions’ (SEC) pay-to-play rule 206(4)-5 as a special requirement implemented only during election years, that mistake can cause serious, firm-wide damages. In fact, for investment firms, establishing a compliance program which actively and regularly incorporates compliance with the SEC pay-to-play rule is essential to avoiding fines, sanctions, lockout periods, loss of revenue and a damaged reputation.