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Self-funding for the SEC?

Mary-Jo Kranacher, MBA, CPA, CFE

After the SEC failed to detect Bernard L. Madoff's Ponzi scheme (despite persistent warnings over a 10-year period), U.S. investors lost confidence in the agency's ability to regulate our nation's securities markets and follow up on credible investigative leads to enforce related laws. Consequently, you might think that the commission would have limited defenders and supporters when it comes to expanding the agency's responsibilities and increasing its funding. Yet the question of SEC self-funding has brought together investors, securities lawyers, and six former SEC chairmen—from both major political parties—to argue for exactly that.

A provision in a bill currently being considered in Congress, section 991 of the Restoring American Financial Stability Act of 2010, would make the SEC self-funded— that is, it would become like other governmental agencies that use the fees they generate from those they regulate to support their operations. Self-funding is relatively common among regulatory agencies; in fact, the SEC is an anomaly because it is funded through appropriations from tax revenues, while most other agencies, including the Federal Reserve Board, the Federal Deposit Insurance Corporation (FDIC), the Office of the Comptroller of the Currency (OCC), and the Financial Industry Regulatory Authority (FINRA), are self-funded.

Concerns and Potential Benefits

While the financial reform bill is debated by legislators, something that all observers seem to believe is that changes to the U.S. regulatory structure are likely to impose additional oversight of hedge funds, private equity funds, and credit rating agencies—and these responsibilities are expected to fall on the SEC.

If effective regulation of the capital markets is a priority for the proper functioning of our economic system, then it is essential that we provide adequate resources to achieve that goal. According to statistics cited in a letter from the Federal Bar Association's securities law committee, “the SEC enforcement and examination staff declined 10% between 2004 and 2007 and its information technology initiatives plunged 50%, while at the same time trading volume doubled, the number of investment advisors jumped 50%, and the funds they managed grew almost 60%.” Is it any wonder that this environment created fertile ground for the Madoff scandal?

Under the proposed financial reform bill, SEC funding would be generated by transaction and registration fees, while the penalties collected by the SEC would continue to be paid to victims of securities crimes. This arrangement would diminish the risk that the SEC would demand higher penalties just to increase its own coffers. One of the concerns voiced by opponents of this proposal is the potential reduction in congressional oversight. Although SEC budgets would continue to be submitted to legislators for their review, they would not have the ability to cut them. Congress would, however, retain the authority to limit the maximum amount of fees the SEC could charge and review how those fees are used. The creation of a separate fund into which these fees would be deposited, subject to audit by the Government Accountability Office (GAO), could provide greater transparency and oversight.

Other benefits of SEC self-funding were cited in a letter that was signed by six former SEC chairmen—Richard C. Breeden, William H. Donaldson, Roderick M. Hills, Arthur Levitt, Jr., Harvey L. Pitt, and David S. Ruder—and addressed to Senator Christopher J. Dodd (D-CT), chairman of the Senate Banking Committee, and Representative Barney Frank (D-MA), chairman of the House Financial Services Committee. The letter stated that self-funding would—

  • Allow the Commission to meet its new obligations and plan efficiently;

  • Create flexibility to permit the SEC to respond to unanticipated market developments;

  • Enable the Agency to obtain the vital services of those with market-based expertise the SEC so vitally requires;

  • Permit improved market surveillance by the SEC;

  • Improve the Agency's ability to identify developing trends in advance of those trends turning into crises;

  • Upgrade the SEC's critically needed technology resources; and

  • Ensure the SEC's continuing and critical independence.

There is no question that the SEC needs to improve its oversight of our capital markets and make good on its legal mandate to protect investors. When it comes to the question of where that funding should come from, I believe the answer is clear: To pay for the regulator's related costs, fees should be collected from those whose activities make this regulation necessary—not from taxpayers. Creating a reliable source of support is a vital step in eliminating the chronic under-funding of the SEC that we've witnessed in recent years.

As always, I welcome your comments.

Mary-Jo Kranacher, MBA, CPA, CFE. Editor-in-Chief. mkranacher@nysscpa.org.

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