WASHINGTON -- The Municipal Securities Rulemaking Board's proposal to exempt retail sales representatives from its pay-to-play rule will undermine the rule's intent and give larger securities firms an unfair advantage in obtaining municipal bond business; several firms told the SEC.

Three securities firms and one consultant asked the Securities and Exchange Commission to reject the exemption in written comments about the board's proposed revisions to the rule.

The MSRB's Rule G-37, which took effect in April, generally bars municipal dealers that make contributions to issuer clients from doing business with those clients for two years afterwards.

The rule applies to "municipal finance professionals" or anyone "primadly engaged" in municipal securities activities.

The board proposed exempting retail sales representatives from the rule in August after the Public Securities Association complained that it would be difficult for firms, particularly large firms, to determine whether their retail sales representatives were primarily engaged in municipal bond activities and therefore subject to the rule's restrictions.

The PSA said most retail sales representatives sell a variety of products, not just municipal bonds, and are not usually involved in the solicitation of bond business or underwriting.

The SEC must still decide whether to approve this and other revisions to the rule that were proposed by the MSRB.

But at least three firms and one consultant -- roughly half of those that commented on the revisions -- told the SEC that exempting retail sales representatives will create a huge loophole that will allow large firms to continue making the kinds of political contributions the rule was designed to stop.

"It is our strong conviction that the proposed revision to Rule G-37 will serve as a loophole which will destroy the very purposes for which the rule was promulgated," said William R. Hough, president of William R. Hough & Co., a firm based in St. Petersburg, Fla., that has six offices in the state and only about a dozen retail sales representatives.

Robin L. Wiessmann, a principal at Artemis Capital Group Inc., said her firm "is extremely concerned" that the proposed revision "will not only erode the rule's effectiveness as a means of ending "pay-to-play practices in the industry" but will also "significantly facilitate circumvention of the rule."

Artemis Capital is a woman-owned broker-dealer firm that is based in New York City with six offices throughout the nation but no retail salesforce. Aimee S. Brown, another principal of the firm, is an MSRB board member.

George K. Baum & Co. urged the SEC to "reconsider this unfair amendment that favors some firms over others."

"If the purpose of Rule G-37 is to avoid the appearance of impropriety created by awarding business to firms or individuals on the basis of political contributions, then the rule should apply regardless of the [assumed] position of any individual," said William H. Coughlin, the firm's president, and Robert K. Dalton, its vice chairman.

George K. Baum, a regional broker-dealer that deals with institutional investors, is based in Kansas City and has 18 offices throughout the nation but only about 35 retail sales representatives.

Coughlin and Dalton said broker-dealers with large retail sales forces typically expect their local representatives to identify potential municipal bond offerings and participate in obtaining underwriting business.

Local brokers often attend meetings and presentations by municipal finance specialists in the broker's community because they are familiar with the community and its elected or appointed officials, said Coughlin and Dalton. These brokers often receive finders' fees for bringing in business and may even sell bonds to local investors if their firms are selected to help underwrite an issue, the two said.

"Whenever a local broker is identifying potential transactions, participating in obtaining that business, and directly or indirectly receiving compensation, that broker is acting as a surrogate municipal finance professional," Coughlin and Dalton said.

If that broker "has lavished large contributions on elected officials in the community, an appearance that the contributions resulted in obtaining or retaining municipal finance business is created," they said, adding that is exactly what Rule G-37 was designed to avoid.

Mark Schwartz, a former investment banker with Prudential Securities Inc., also urged the SEC not to exempt retail sales representatives.

An SEC official said Rule G-37 covers anyone who solicits municipal bond business, but conceded it may sometimes be difficult to draw the line between some sales activities and solicitations.

Hough said larger firms' concerns that they might be prohibited from doing business with an issuer if they inadvertently hire a retail sales representative that contributed to the issuer "is a red herring."

Hough said firms can use "reasonable judgment" in determining whether sales representatives qualify as "municipal finance professionals" and are subject to the rule.

George K. Baum's Coughlin said in an interview that the rule should not be too difficult for firms to comply with if they "tell [their sales representatives] they just can't write checks."

"What is it about 'no' that they can't understand?" he asked.

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