Monthly Archives: September

When governments issue bonds they deposit the bond proceeds (and occasionally other monies) in various funds, which may include a construction fund, debt service fund, capitalized interest fund, debt service reserve, or in the case of a refunding, an escrow fund. In some cases these funds may be held by a third party trustee. Monies allocated to these funds usually are invested until needed. The investment strategy for each fund will depend, in part, on federal or state statutes and regulations governing the types of instruments permitted to be used for the investments, the arbitrage yield permitted for the fund, requirements from rating agencies and/or credit enhancement providers, and the anticipated drawdown of bond proceeds. Additionally, each of these funds will have different investment objectives, so there are many factors that must be considered by the government when selecting the investment instrument. Governments need to be mindful that cash flow analyses are critical components of the process and are useful in reducing the possibility of negative arbitrage that may occur. Furthermore, the presence or lack of arbitrage could affect the entire structure and sizing of the debt financing.

Due to the Dodd Frank Act and the Securities and Exchange Commission’s (SEC) Municipal Advisor Rule (the “Rule”), brokers may be considered municipal advisors if they provide advice on investments of bond proceeds to governments. Under the Rule, municipal advisors have a fiduciary duty to their government clients, and, if brokers wish to avoid becoming fiduciaries, they will be unable to provide advice to government clients unless they meet one of the exemptions to the Rule, which are described in this section. Broker-dealers will be deemed to have provided “advice” when they make a recommendation to their government clients to buy a particular security. However, brokers may provide certain information without it being considered advice.
For example, the SEC has said that brokers may provide information about their firm’s currently available investments (e.g., the terms, maturities, and interest rates at which the firm offers these investments) or price quotes for investments available for purchase or sale in the market that meet criteria specified by a municipal entity. This is considered general information and therefore is not considered advice. Also, a broker may respond to requests for offers for investments of bond proceeds and escrows as long as the broker is just quoting a price and not otherwise commenting on the advisability of those investments.

There are also two exemptions that will allow a broker to provide advice without becoming a municipal advisor with a fiduciary duty. The first is the RFP exemption. Under this exemption an issuer could send out an RFP for investments to at least 3 reasonably competitive providers, asking for recommendations on how it should invest bond proceeds for a particular period of time. The broker could respond to that RFP by providing advice on which investments are good candidates for the issuer. A form of RFP document that would satisfy this exemption, along with model language for the other exemptions in the Rule, is available in the GFOA MA Rule Alert, which is linked to in the reference section of this document. A definition of the term Municipal Advisor can also be found in the Alert.

There is also an exemption if the issuer has an independent registered municipal advisor (IRMA) that will provide it with advice on investments. It requires a written representation on the part of the issuer and a corresponding disclosure on the part of the broker to both the issuer and the municipal advisor. A form of an issuer IRMA representation and a form of broker required disclosure is also available in the GFOA MA Rule Alert. Note: A government may not use an SEC-registered investment adviser as its IRMA, because SEC-registered investment advisers are exempt from the definition of “municipal advisor.” Additional resources to help governments become familiar with the Rule are included in the References section of this Best Practice.

There is also an exemption if the issuer has an independent registered municipal advisor (IRMA) that will provide it with advice on investments.  It requires a written representation on the part of the issuer and a corresponding disclosure on the part of the broker to both the issuer and the municipal advisor.  A form of an issuer IRMA representation and a form of broker required disclosure is also available in the GFOA MA Rule Alert.  Note: A government may not use an SEC-registered investment adviser  as its IRMA, because SEC-registered investment advisers are exempt from the definition of “municipal advisor.”  Additional resources to help governments become familiar with the Rule are included in the References section of this Best Practice.