Legislation

Consumer Financial Protection Bureau seeks input on non-bank entities

On June 23, 2011, the Consumer Financial Protection Bureau (CFPB) released a Notice and Request for Comment seeking public input on a key element of its non-bank supervision program — the statutory requirement to define who is a “larger participant” in certain consumer financial markets.

Created by the Dodd-Frank Act, the CFPB has been empowered to regulate non-bank financial entities. But exactly what is a “non-bank?” Various literature generally defines “non-bank” as a company that offers consumer financial products or services, but does not have a bank, thrift, or credit union charter and does not take deposits. Products from non-banks have a significant share of the overall consumer financial marketplace. Under Dodd-Frank, many of these non-banks will be subject to a federal supervision program for the first time.

In its Notice and Request for Comment, the CFPB has identified the following markets for potential inclusion in an initial rule: debt collection, consumer reporting, consumer credit and related activities, money transmitting, check cashing and related activities, prepaid cards, and debt relief services. The larger participant rule will not impose substantive consumer protection requirements. Instead, the rule will enable CFPB to begin a supervision program for larger participants in certain markets.

The issues for discussion in the Notice include:

  • What criteria to use to measure a market participant;
  • Where to set the thresholds for inclusion;
  • Whether to adopt a single test to define larger participants in all markets (measure the same criteria and use the same thresholds) or to use tests designed for specific markets;
  • What data is available to use for these purposes;
  • What time period to use to measure the size of a market participant;
  • How long a participant is to remain subject to supervision after initially meeting the larger participant threshold, and if it subsequently falls  below the threshold; and
  • What consumer financial markets to include in the initial rule.

Dodd-Frank rule disqualifies felons and bad actors from securities offerings

On May 25, 2011, the Securities and Exchange Commission (SEC) proposed a rule to deny certain securities offerings from qualifying for exemption from registration if they involve “felons and other bad actors.”

When an individual or a company offers or sells a security such as a stock or bond, generally the offering must be registered with the SEC. However, the SEC’s Regulation D provides three exemptions that can used to avoid such registration.  The most widely used exemption is Rule 506, which accounts for more than 90% of the offerings made, as well as the majority of capital raised. If an offering qualifies for the Rule 506 exemption, an issuer can raise unlimited capital from an unlimited number of “accredited investors” and from up to 35 non-accredited investors.

Section 926 of the Dodd-Frank Act requires the SEC to adopt rules that would deny this exemption to any securities offering in which certain “felons and other bad actors” are involved. This new rule is substantially similar to the bad actor disqualification provisions of another limited offering exemptive rule – Rule 262 of Regulation A – which provides for an exemption from registration for certain small offerings.

Under the proposed rule, an offering cannot rely on the Rule 506 exemption if the issuer or any other person covered by the rule (including the issuer’s predecessors and affiliated issuers, directors, officers, general partners and managing members of the issuer, 10% beneficial owners and promoters of the issuer, persons compensated for soliciting investors, and the general partners, directors, officers and managing members of any compensated solicitor) has had a “disqualifying event” identified as follows:

  • Criminal conviction in connection with the purchase or sale of a security, making of a false filing with the SEC or arising out of the conduct of certain types of financial intermediaries. The criminal conviction would have to have occurred within 10 years of the proposed sale of securities (or five years, in the case of the issuer and its predecessors and affiliated issuers).
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  • Court injunction and restraining order in connection with the purchase or sale of a security, making of a false filing with the SEC or arising out of the conduct of certain types of financial intermediaries. The injunction or restraining order would have to have occurred within five years of the proposed sale of securities.
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  • Final order from state securities, insurance, banking, savings association or credit union regulators, federal banking agencies or the National Credit Union Administration that bar the issuer from: 1) associating with a regulated entity; 2) engaging in the business of securities, insurance or banking; 3) engaging in savings association or credit union activities, or 4) orders that are based on fraudulent, manipulative or deceptive conduct and are issued within 10 years before the proposed sale of securities.
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  • Certain commission disciplinary order relating to brokers, dealers, municipal securities dealers, investment companies and investment advisers and their associated persons, which would be disqualifying for as long as the order is in effect.
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  • Suspension or expulsion from membership in a “self-regulatory organization” or from association with an SRO member, which would be disqualifying for the period of suspension or expulsion.
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  • Commission stop order and order suspending the Regulation A exemption issued within five years before the proposed sale of securities; and
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  • U.S. Postal Service false representation order issued within five years before the proposed sale of securities.

The proposed rule would provide an exception from disqualification when the issuer can show it did not know and, in the exercise of reasonable care, could not have known that a disqualification existed. Any pre-existing convictions, suspensions, injunctions and orders would be disqualifying. For further information, see http://www.sec.gov/rules/proposed/2011/33-9211.pdf

 

 

 

 

 

 

U.K. Bribery Act now slated to take effect July 1, 2011

After receiving widespread criticism for the lack of guidance and compliance clarification, the U.K. Bribery Act of 2010 (Bribery Act) originally scheduled for implementation in April 2011, is now set to take effect July 1, 2011. The act’s jurisdiction extends to commercial organizations incorporated or formed in the U.K. or “which carr

[y] on a business or a part of a business in the U.K. irrespective of the place of incorporation or formation.” Determination of such existence will be made by the U.K. courts and will require “a demonstrable business presence.” The official guide states that an organization will not be deemed to be carrying on a business in the U.K. merely by virtue of having its securities listed on the London Stock Exchange or by having a U.K. subsidiary.

Unlike the anti-bribery provisions of the U.S. Foreign Corrupt Practices Act (FCPA), which focus primarily on corruption involving non-U.S. government officials, the Bribery Act  widens its scope to prohibit domestic and international bribery across both private and public sectors. And while the FCPA allows exceptions for facilitation payments (generally small payments to lower-level officials for “routine government actions,”) the Bribery Act does not. These payments were illegal under the previous legislation and the common law, but the difference under the Bribery Act is that non-U.K. organizations are broadly subjected to these restrictions for the first time.

The Bribery Act specifically criminalizes the offering, promising or giving a bribe (active bribery) and the requesting, agreeing to receive or accepting a bribe (passive bribery) to obtain or retain business or secure a financial or other advantage. It also contains a provision whereby an organization that fails to prevent bribery by anyone associated with the organization can be charged under the Bribery Act unless it can establish the defense of having implemented preventive “adequate procedures.” The official guide recommends the following six principles as foundation for developing “adequate procedures” to prevent bribery:

  • Proportionality – Actions should be proportionate to the risk, nature, size and complexity of the organization.
  • Top-level Commitment – Board of directors, owners, officers or equivalent top level- management should establish and promote a culture where bribery is never acceptable and be committed to preventing bribery, both within the organization and with anyone associated with the organization externally.
  • Risk Assessment – Various risk exposures, both internal and external, such as country of operation, business sector, types of transaction, new markets, and business partnerships should be evaluated and documented on an ongoing basis.
  • Due Diligence – Proportionate, risk-based approach to due diligence procedures assessing existing and proposed relationships should be taken to ensure trustworthy associations and mitigate identified bribery risks.
  • Communication – Appropriate channels of communication, awareness and training, both internal and external, on anti-bribery policies and procedures should be implemented and evaluated on a regular basis.
  • Monitoring and Review – Anti-bribery policies and procedures should be monitored on an ongoing basis and amended as quickly as possible when activities and risks change.

The penalties for violating the Bribery Act are severe, with individuals facing up to 10 years in prison and organizations facing unlimited fines. Violations also may result in damaging collateral consequences such as director disqualification, ineligibility for public contracts, and asset confiscation.

 

Investment advisers miss deadline for filing new “plain English” ADV Part 2

For most investment advisers, the deadline for preparing and submitting the new Form ADV Part 2 was March 31, 2011, and many missed it, according to industry sources. All investment advisers registered with the SEC are mandated to file the new Form ADV Part 2 or disclosure brochure within 90 days of their fiscal year end. For the majority, the fiscal year ends on December 31, which means that the new form should have been filed by March 31, 2011. Most state securities regulators have ratified similar requirements.

Securities lawyers indicate that investment advisers who missed the filing deadline are likely in violation of several investment advisory rules, and may be subjected to possible actions by the regulators, ranging from warnings and fines to revocation of registration. At a minimum, a failure to submit the new form may flag the adviser as lacking strong compliance controls and requiring heightened scrutiny.

The new form rulings, adopted by the SEC in October 2010, required 18 sections on fees, soft-dollar pay arrangements, investment strategies and disciplinary histories, along with a supplement detailing each adviser’s background. An SEC spokesperson said that the changes “will allow clients access to information about advisers of a wholly different character and quality than was available under the previous regime. It will enable investors to better evaluate their current advisers, or comparison-shop for an adviser that best serves a particular need. Most significantly, this disclosure may result in advisers modifying their business practices and compensation policies which may pose conflicts, in ways that better serve the interests of the clients.” For more information, see http://www.sec.gov/answers/formadv.htm.

China’s bribery law amendment resembles a version of the FCPA

In February 2011, the People’s Republic of China (PRC) legislature, among 49 amendments, passed Amendment No. 8 to Article 164, which criminalizes the payment of bribes to non-PRC government officials and to international public organizations. Legal experts say that that the passing of this amendment is the PRC’s effort to comply with the United Nations Convention Against Corruption to which the PRC is a signatory. Although no interpretive guidance has been issued, the amendment resembles an early version of the Foreign Corrupt Practices Act (FCPA).

Before the amendment was passed, the PRC prohibited bribery of PRC officials and provided for civil and criminal liability for making commercial bribes to private parties for the purpose of obtaining illegitimate benefits, but had no specific law that criminalized the payment of bribes to non-PRC officials. Effective May 1, 2011, the amendment adds the following clause to Article 164 of the PRC Criminal Law:

“Whoever, for the purpose of seeking illegitimate commercial benefit, gives property to any foreign public official or official of an international public organization, shall be punished in accordance with the provisions of (Article 164.)”

Article 164 states that “if the payer is an individual, depending on the value of the bribes, he/she is subject to imprisonment for up to 10 years. If the payer is an entity, criminal penalties will be imposed against the violating entity and the supervisor chiefly responsible; other directly responsible personnel also may face imprisonment of up to 10 years. Penalties may be reduced or waived if the violating individual or entity discloses the crime before being charged.”

According to legal experts, the PRC Criminal Law applies to all PRC citizens (wherever located); all natural persons in the PRC regardless of nationality; and all companies, enterprises, and institutions organized under PRC law. Thus, in addition to PRC domestic companies, any joint venture or other business entity formed under PRC law, including ones involving non-PRC companies, may be criminally liable under the amendment. Non-PRC companies with representative offices in the PRC may also be subject to the provisions of the amendment.

 

Some call the new U.K. Bribery Act “The FCPA on Steroids”

The new law, called the Bribery Act, takes effect in April 2011. It resembles the U.S. Foreign Corrupt Practices Act (FCPA) which bars companies that trade on U.S. exchanges from bribing foreign government officials to gain a business advantage, but the Bribery Act goes beyond the FCPA by not just prohibiting illicit payments to foreign officials, but also bribes between private business people. It holds even if the individual who makes the payment does not realize that the transaction was a bribe.

And the Act’s impact extends beyond U.K.-based companies. It applies to entities with any “business presence” in the U.K., regardless of where the act of briberyoccurs. It also covers bribery by any person with “close connections” to the U.K., including both British citizens and citizens of others countries “ordinarily residing” in the U.K.

According to the Ministry of Justice, the law basically creates three criminal offenses: 1) giving or accepting a bribe designed to induce someone to perform a function improperly; 2) bribing a foreign public official with the intention of obtaining a business advantage, and 3) failing to prevent bribery.

Legal experts say that the most significant development in the law is a company’s strict liability for failing to prevent bribery (by an employee, a joint-venture partner or a subsidiary.) Under the Act, the company can be penalized with an unlimited fine for such actions, and further can be held liable for the acts of bribery by a person “associated” with the company who is trying to obtain a business advantage for the company. And unlike the FCPA, the Act does not exempt from prosecution what are commonly known as “facilitation payments.” (In some parts of the world, it is common practice to pay a small amount of money to ensure that an otherwise legitimate permit is approved in a timely manner.)

While the British government released some draft guidance on the Act in late 2010 and more definitive text is expected in 2011, it is unclear how vigorously the law will be enforced or what resources will be committed to investigating and prosecuting the suspected violations. Ultimately, it will be up to the courts to determine the true impact of the new law.

FTC’s latest privacy initiatives

On December 1, 2010, the Federal Trade Commission (FTC) released its long-awaited preliminary report on the protection of consumer privacy titled “Protecting Consumer Privacy in an Era of Rapid Change: A Proposed Framework for Businesses and Policymakers.” The FTC is seeking input on this proposal and intends to issue a final report sometime in 2011.

The report, which covers both online and offline data collection and use, reiterates certain concrete steps that the FTC believes organizations should take related to choice and transparency and also provides broad guidance that applies to all commercial entities that collect or use consumer data, including companies that do not interact directly with consumers, such as information brokers. The framework is not limited to personally identifiable information (PII); it applies to all consumer data that can be linked to a specific individual or to a computer or other device.

Focusing on new and growing threats to consumer privacy driven by innovations that rely on consumer data, the proposal outlines a three-step framework for data protection:

1) Privacy by Design – Organizations should integrate privacy concepts into every stage of the life-cycle of their products and services, develop marketing initiatives and data-sharing activities based on privacy guidance from the inception of such projects, and develop and maintain comprehensive information programs to protect and manage consumer data within the organization itself. Data security, reasonable collection limits, sound retention practices, and data accuracy are critical program components.

2) Choice – Organizations should offer clear and easy-to-use choice mechanisms at the point when the consumer is making a decision about his/her data, such as at the point of collection, implement a “do not track” mechanism, such as a persistent web browser setting that allows consumers to block all tracking of their online activities, obtain consumer consent before sharing data for marketing purposes with third parties or even with its affiliates if the affiliate relationship is not clear to consumers, and require enhanced consent for sensitive information, such as data about children, financial and medical information, and precise geolocation data.

3) Transparency – While privacy policies remain a critical tool for notifying consumers (and regulators) of an organization’s privacy practices, in general, most privacy polices need to be streamlined and simplified, and organizations must obtain consumer consent before implementing a change in policy that affects previously collected data. Organizations also should explore mechanisms for providing consumers with access to their data.

More on credit reports for hiring decisions

According to September 2010 congressional testimony by the Society for Human Resource Management (SHRM), credit checks are a useful tool to “assess the skills, abilities, work habits and integrity of potential hires.” However, SHRM states that only 20 percent of employers conduct credit checks on all applicants. Fifty-seven percent of these employers perform the checks only after contingent offers, and 30 percent after job interviews; 65 percent allow job candidates to explain their credit results before the hiring decision is made, and 22 percent accept explanations after the hiring decision.

A bill in the U.S. House, called the Equal Employment for All Act, would amend the Fair Credit Reporting Act (FCRA) to ban the use of credit checks on prospective and current employees for employment purposes, with the following exceptions:

  • jobs that require national security or Federal Deposit Insurance Corp. clearance;
  • jobs in state or local government that require the use of credit reports;
  • supervisory, managerial, and executive positions in financial institutions.

The states of Illinois, Oregon, Hawaii, and Washington already have passed laws to prevent employers from using credit reports in employment decisions.

Massachusetts employers cannot ask about criminal history on initial job applications

As of November 4, 2010, Massachusetts employers are prohibited from asking about criminal records on the initial job application, except for positions for which a federal or state law, regulation or accreditation disqualifies an applicant based on a conviction, or if the employer is mandated by a federal or state law or regulation not to employ
individuals who have been convicted of a crime.

The new law also has two provisions that will become effective February 6, 2012. Under the first provision, an employer in possession of criminal record information must disclose that information to the applicant, prior to asking about it. And similar to the requirements of the Fair Credit Reporting Act, if an employer decides not to hire an
applicant in whole or in part because of the criminal record, the employer must provide the applicant with a copy of the record.

The second provision requires employers who conduct five or more criminal background investigations annually to implement and maintain a written criminal record information policy. The policy, at minimum, must specify procedures for (1) notifying applicants of the potential for an adverse decision based on the criminal record, (2) providing
a copy of the criminal record and the written policy to applicants, and (3) dispensing information to applicants about the process for correcting errors on their criminal record.

The law imposes penalties (including imprisonment for up to one year or a fine of up to $5,000 for an individual and $50,000 for a company) for those who request or require an applicant to provide a copy of his/her criminal record except under conditions authorized by law, and prohibits harassment of the subject of the criminal record (punishable by imprisonment of up to one year, or a fine of not more than $5,000.)

SEC’s proposed rule requires issuers and underwriters of asset-backed securities to make due diligence findings available to the public

The Securities and Exchange Commission (SEC) issued on October 13, 2010 a proposal to enhance disclosure to investors in the asset-backed securities market. The proposed rule requires issuers of asset-backed securities (ABS) to perform a review of the assets underlying the securities, and publicly disclose information relating to the review. The proposal also requires an issuer or underwriter of ABS to make publicly available the findings and conclusions of any third-party due diligence report.

  • The SEC’s proposed rule would enhance ABS disclosure in three ways:
    Issuers of ABS that are registered with the SEC would be required to perform a review of the bundled assets that underlie the ABS.
  • Proposed amendments to Regulation AB would require an ABS issuer to disclose the nature, findings and conclusions of this review of assets.
  • Issuer or underwriter of both registered and unregistered ABS offerings would be required to disclose the findings and conclusions of any review performed by a third-party that was hired to conduct such a review.

In addition to this rule, the Commission last week proposed regulations that require issuers of ABS — and credit rating agencies that rate ABS — to provide investors with new disclosures about representations, warranties, and enforcement mechanisms. And, in April 2010, the Commission proposed rules that would revise the disclosure, reporting and offering process for ABS to better protect investors in the securitization market.

The Dodd-Frank Wall Street Reform and Consumer Protection Act requires the Commission to adopt rules regarding the review of assets, such as loans, underlying the securities no later than 180 days after enactment.

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