Over the past month, the Competitive Enterprise Institute (CEI) and others have pointed to #NeverNeeded regulations that have served no purpose for years and are now hindering our response to the COVID-19 pandemic and to the economic dislocation that enforced social distancing has caused. Now CEI has joined with other industry and policy groups to petition the Securities and Exchange Commission (SEC) to cease regulatory actions that were not only #NeverNeeded, but never authorized.
Among the worst actions of the regulatory state is the promulgation of “dark matter,” in the words of CEI’s Wayne Crews, that never went through the formal rulemaking and notice-and-comment process of the Administrative Procedure Act (APA). These dark matter edicts sometimes come in the form of regulatory “guidance” documents that are thinly disguised mandates. But often, they can be a series of enforcement actions meant to send a message against a particular business practice, even though that practice has never been banned by a statute from Congress or by formal rulemaking.
The SEC has utilized both types of regulatory dark matter recent in recent crackdowns on the legitimate, longstanding practice of fees that mutual fund managers pay to investment advisers as compensation for selling the given funds to investors.
Called 12b-1 fees, after the SEC rule in 1980 that set parameters for their use, these fees are disclosed in full by investment advisers, so that clients can evaluate the funds for purchase while being aware of potential bias of their advisers who receive the outside payments. Practices with 12b-1 fees are similar to the process by which home buyers evaluate whether to purchase a home recommended by a real estate agent, knowing that this intermediary is being compensated by the seller.
Because fund advisers receive this compensation from mutual funds they recommend, they can charge less in fees to their investor clients. As CEI points out in the petition—which is also signed by the Financial Services Institute, the New Civil Liberties Alliance, and the American Securities Association—“For many investors, particularly those with relatively smaller amounts to invest,” advisers who receive 12b-1 fees “have proven to be the best available option to obtain . . . the ongoing services of a financial professional.” The petition adds that were the SEC to curtail these fees, “advisers would have to abandon . . . smaller accounts or transition them into a much higher fee-based wrap account.”
Given their importance to mutual funds, a ban on 12b-1 fees would have very harmful effects no matter how it was enacted, especially in these volatile economic times. But what makes the SEC crackdown worse is that it is trying to curtail the fees through “regulation by enforcement,” without going through the formal rulemaking process prescribed by the APA. As CEI and the other groups note in the petition, “Having failed to repeal or seriously refashion Rule 12b-1 through conventional means, the Commission has turned to ‘guidance,’ coupled with ‘voluntary’ self-reporting programs for those in violation of the ‘guidance,’ and punitive enforcement actions for those who refuse to turn themselves in.”
The petition calls on the SEC to “end these unlawful “regulation by enforcement” practices.” As CEI and the other groups conclude, “Americans should never be at the mercy of independent agencies’ extralegal ‘guidance,’ particularly when that guidance seeks to retroactively coerce compliance outside the rulemaking process prescribed by Congress and impose massive penalties on them for failure to conform to such extralegal standards.”