In August the Securities and Exchange Commission proposed a new Rule under the Investment Advisors Act of 1940 ( the "Advisers Act" ) to eliminate the so-called "pay to play" practice in the investment advisor industry. The proposed Rule 206(4)-5, which is modeled after Municipal Securities Rulemaking Board Rule G-37, prohibits an investment adviser from providing investment advisory services to a government entity for compensation during the two year period after contributions have been made to certain government officials by the investment adviser, its executive officers, solicitors, or a PAC controlled by any of these enumerated persons. As proposed, the concept of officials includes an incumbent or a candidate for a governmental office that has the authority to influence the selection of an investment adviser by a public fund or to appoint an official with such influence.

The SEC proposing release confidently states that evidence gathered by it "suggests strongly that political contributions can play a significant role in the selection of investment advisers," but industry participants believe this evidence to be anecdotal in nature. SEC Chairman Levitt has indicated that passage of this Rule is a personal priority for him. As such, securities industry comments are likely not to challenge the Rule's issuance, but to highlight the difficulties in complying with the Rule as proposed.

A concern of investment advisers is that there is a great likelihood that the proposed Rule will indiscriminately impose a two year ban on businesses whose employee either gives an inadvertent contribution or a contribution that was never intended to influence the selection of an investment adviser. For example, the only exception to the prohibition permits an individual to give up to $250 to an official for which he or she is entitled to vote.

The proposed Rule permits the SEC to grant exemptions from the Rule's two-year ban based on public interest and the establishment by the adviser of control procedures. In practice, however, the experience of municipal securities dealers in seeking exemptions from the NASD for violations of Rule G-37, which contains similar provisions, is not encouraging: The NASD denies most exemption applications.

An objection to the constitutionality of Rule G-37 on First Amendment grounds was unsuccessful. Blount v. SEC, 61 F.3d 938 (D.C. Cir. 1995). Determining whether this proposed Rule addressing investment advisers has different infirmities, constitutional or otherwise, will require a plaintiff willing to make the challenge.

Ms. Medero is Managing Director and Chief Counsel of Barclay Global Investors and the chairman-elect of the Corporations, Securities & Antitrust Practice Group of The Federalist Society.