Report on the Municipal Securities Market

____________________________________________________ 

U.S. Securities and Exchange Commission

July 31, 2012

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EXECUTIVE SUMMARY

Background on Report on the Municipal Securities Market

The mission of the SEC is to protect investors – including investors in municipal 

securities – maintain fair, orderly, and efficient markets, and facilitate capital formation. In 

furtherance of that mission, Chairman Mary L. Schapiro announced in May 2010 that 

Commissioner Elisse B. Walter, along with staff from across the agency, would lead an effort to 

examine the municipal securities market. 

In 2010 and 2011, Commissioner Walter and the Commission staff (“Staff”) held public 

field hearings in San Francisco, California; Washington, DC; and Birmingham, Alabama. At 

each of the hearings, the Staff invited individuals representing many different perspectives to 

participate in panels on specific topics, including disclosure, accounting, pre-trade price 

transparency, and other investor and municipal issuer concerns. In addition to the field hearings, 

the Staff held meetings and conference calls with market participants and public comment was 

invited by email, by mail, through the Commission’s web-based comment submission form, or 

through a dedicated telephone line. 

The development of this Report on the Municipal Securities Market (“Report”) included 

consideration of the transcripts of the field hearings, the comment letters received, academic 

studies, other publicly available materials, Staff-generated statistics based on certain data

sources, and the input received during meetings and conference calls with market participants.

This Report commences with an overview of the municipal securities market, the 

regulatory structure and the roles of key market participants. Next, the Report focuses on two 

key areas of concern in the municipal securities market: disclosure and market structure. 

Finally, the Commission provides a number of recommendations for potential further 

consideration, including legislative changes, Commission rulemaking, Municipal Securities 

Rulemaking Board (“MSRB”) rulemaking and enhancement of industry “best practices.” These 

recommendations are designed to address the various concerns raised by market participants and 

others and to provide avenues to improve the municipal securities market, including transparency 

for municipal securities investors. While we believe, based on our review of the market as 

described in this Report, that these recommendations could help improve the municipal securities 

market, we recognize that further action on specific recommendations will involve further study 

of relevant additional information, including information as applicable related to the costs and 

benefits of the recommendations and the consideration as applicable of public comment. 

Overview of the Municipal Securities Market

The municipal securities market is critical to building and maintaining the infrastructure 

of our nation. State and local governmental entities issue municipal securities to finance a wide 

variety of public projects, to provide for cash flow and other governmental needs, and to finance 

non-governmental private projects (through the use of “conduit” financings). As of December 

31, 2011, there were over one million different municipal bonds outstanding, in the total 

aggregate principal amount of more than $3.7 trillion.
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 Depending on the type of financing, payments of the principal and interest on an issue of 

municipal securities may come from general revenues of the municipal issuer, specific tax 

receipts, revenues generated from a public project, or payments from private entities or from a 

combination of sources. In addition to being issued for many different purposes, municipal 

securities are also issued in many different forms, such as fixed rate, zero coupon or variable rate 

bonds. The interest paid on municipal securities is typically exempt from federal income 

taxation and may be exempt from state income and other taxes as well.

Municipal bonds also may be accompanied by a form of credit enhancement, such as a 

letter of credit issued by a bank, a governmental guarantee, or an insurance policy issued by a 

bond insurance company. Credit enhancements were common during 2000-2007, with more 

than half of the municipal principal issued supported by at least one type of credit enhancement 

during that period. However, private sector credit enhancement in the form of bond insurance in 

particular has decreased since 2008 due to the effect of the financial crisis on banks and 

municipal bond insurers. This decline has impacted the market for municipal securities and 

renewed investor focus on the disclosure practices and underlying credit quality of municipal 

securities, municipal issuers, and conduit borrowers. 

Historically, municipal securities have had significantly lower rates of default than 

corporate and foreign government bonds. Studies indicate that the risk of ultimate non-payment 

for municipal debt historically has been low, both when compared to total municipal debt 

outstanding and total municipal debt in default. Nevertheless, municipal bonds can and do 

default, and these defaults can negatively impact investors in ways other than non-payment, 

including delayed payments and pricing disruptions. Reports indicate that a majority of defaults 

in the municipal securities market are in conduit revenue bonds issued for non-governmental 

purposes, such as multi-family housing, healthcare (hospitals and nursing homes), and industrial 

development bonds (for economic development and manufacturing purposes).

Overview of the Federal Regulatory Structure for the Municipal Securities Market

Despite its size and importance, the municipal securities market has not been subject to 

the same level of regulation as other sectors of the U.S. capital markets. The Securities Act of 

1933 (“Securities Act”) and the Securities Exchange Act of 1934 (“Exchange Act”) were both 

enacted with broad exemptions for municipal securities from all their provisions, except for the 

antifraud provisions of Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act, 

and Rule 10b-5 promulgated thereunder. Congress, as part of the Securities Acts Amendments 

of 1975 (“1975 Amendments”), created a limited regulatory scheme for the municipal securities 

market at the federal level in response to the growth of the market, market abuses, and the 

increasing participation of retail investors. 

The 1975 Amendments required firms transacting business in municipal securities to 

register with the Commission as broker-dealers, required banks dealing in municipal securities to 

register as municipal securities dealers, and gave the Commission broad rulemaking and 

enforcement authority over such broker-dealers and municipal securities dealers. In addition, the 

1975 Amendments created the MSRB and granted it authority to promulgate rules governing the 

sale of municipal securities by broker-dealers and municipal securities dealers. 
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 The 1975 Amendments did not create a regulatory regime for, or impose any new 

requirements on, municipal issuers. Pursuant to provisions commonly known as the “Tower 

Amendment,” the 1975 Amendments expressly limited the Commission’s and the MSRB’s 

authority to require municipal securities issuers, either directly or indirectly, to file any 

application, report, or document with the Commission or the MSRB prior to any sale of 

municipal securities by the municipal issuer. The 1975 Amendments do not, by their terms, 

preclude the Commission from promulgating disclosure standards in municipal offerings, but 

there is no express statutory authority contained in the Exchange Act over disclosure by 

municipal issuers. 

The Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) 

did not change these provisions, but required a study and review by the U.S. Comptroller 

General of municipal securities disclosure, possible recommendations for municipal issuer 

disclosure requirements and the advisability of the repeal or retention of the Tower Amendment. 

In addition, the Dodd-Frank Act contained other provisions that affected the municipal securities 

market. Among other things, it amended Section 15B of the Exchange Act to require the 

registration of municipal advisors with the Commission and provide for their regulation by the 

MSRB. Additionally, the Dodd-Frank Act expanded the MSRB’s authority by explicitly 

requiring it to protect municipal entities and obligated persons. 

In the absence of a statutory scheme for municipal securities registration and reporting, 

the Commission’s investor protection efforts in the municipal securities market have been 

accomplished primarily through regulation of broker-dealers and municipal securities dealers, 

including through Exchange Act Rule 15c2-12, Commission interpretations, enforcement of the 

antifraud provisions of the federal securities laws, and Commission oversight of the MSRB. The 

existing regulatory scheme for broker-dealers and municipal securities dealers can significantly 

impact municipal entities’ and obligated persons’ business practices and the availability of 

information about them in the marketplace. 

Overview of Disclosure Practices in the Municipal Securities Market

Disclosure practices in municipal securities offerings and on an ongoing basis have 

developed as a result of the antifraud provisions of federal and state securities laws, Exchange 

Act Rule 15c2-12, Commission interpretive guidance, MSRB rules, and voluntary guidelines 

published by various industry groups. Some field hearing participants noted significant 

improvements over time in the disclosure practices of issuers in the municipal securities market, 

including the widespread use of the Internet, the creation of the MSRB’s Electronic Municipal 

Market Access system (“EMMA”), and implementation of rule changes such as recent 

amendments to Rule 15c2-12. 

Other market participants and investors emphasized an interest in greater and timelier 

disclosures in several key areas. The disclosure issues discussed arise in the primary offering 

and continuing disclosure contexts. In the primary offering context, many participants raised 

specific concerns, particularly with respect to smaller, less sophisticated issuers and nongovernmental conduit borrowers. These concerns related to content and timeliness of financial 

information in primary offerings. The major challenge in secondary market disclosure, 
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according to many market participants, is the timeliness and completeness of filings as well as 

compliance with continuing disclosure agreements. 

In addition, the Report discusses several key areas (highlighted below) in which market 

participants and others have raised concerns and called for expanded and timelier disclosure. 

The Report notes concerns about access to issuer information; the presentation and comparability 

of information; and the existence/adequacy of disclosure controls and procedures. At the same 

time, the Report notes concerns raised by issuers about the potential burdens that could result 

from increased regulation. Some emphasized that a “one size fits all” approach would not be 

appropriate. 

• Financial Statements and Financial Information 

o Timeliness of Financial Information. The timeliness of financial information in 

primary offerings and on an ongoing basis is an area of concern. Studies have 

shown that disclosure of audited annual financial statements by many municipal 

issuers is particularly slow. By the time annual financial statements are filed or 

otherwise publicly available, many municipal market analysts and investors 

believe the financial information has diminished usefulness or lost relevance in 

assessing the current financial position of a municipal issuer. Market participants 

have not only called for more timely disclosure of annual financial information, 

but also for disclosure of interim financial information, such as budgets and cash 

flow reports.

o Comparability of Financial Information. There are no uniformly applied 

accounting standards in the municipal securities market and the Commission 

generally lacks authority to prescribe the accounting standards that municipal 

issuers must use. The Governmental Accounting Standards Board (“GASB”) 

establishes generally accepted accounting principles (“GAAP”), which are used 

by many state and local governments of widely varying size and complexity. 

Market participants noted that adherence to GASB standards promotes 

consistency and comparability of financial information among municipal issuers 

and differing municipal securities. 

• Disclosure by Conduit Borrowers. Historically, conduit borrowers in many types of 

conduit municipal financings have provided substantially less continuing information 

than issuers of municipal securities involving non-conduit financings. Some market 

participants thought that the same registration requirements and disclosure standards 

should apply to non-governmental conduit borrowers that apply to other nongovernmental issuers selling securities directly into the corporate securities market.

• Pension Funding Obligations and Other Post-Employment Benefits (“OPEBs”) 

Disclosure. Obligations to provide pension and OPEBs can significantly affect a 

municipal issuer’s financial health and may impact the issuer’s ability to make debt 

service payments on municipal securities. The accuracy and adequacy of disclosure 
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regarding pension and OPEB funding obligations by municipal securities issuers is a 

focus of legislators, the Commission, issuers, investors, and other market participants. 

• Exposure to Derivatives. Some municipal issuers use derivative products in connection 

with their municipal securities offerings. Although the use of derivatives can provide 

municipalities with benefits, such as the potential to reduce borrowing costs and/or 

manage interest rate risk, derivatives also pose special risks to municipalities. 

Additionally, several field hearing panelists noted conflicts of interest and other factors 

that may cause some municipal issuers to enter into disadvantageous derivatives 

transactions. We note, however, that some market participants stated that, in their 

experience, risks, including credit risk, interest rate risk and termination risk, were

carefully explained to issuers and understood by them. The increased use of derivative 

instruments by municipal issuers has underscored the benefits of enhanced disclosure to 

provide investors and issuers a clear understanding of the terms and risks to the municipal 

issuer. 

• Disclaimers of Responsibility for Information Included in Official Statements and Other 

Disclosures. Some municipal market participants attempt to disclaim responsibility for 

information included in official statements and other disclosure documents. We are also 

aware that some counsel have encouraged the use of disclaimers in official statements 

and other disclosure documents in an attempt to protect against liability under Section 

10(b) of the Exchange Act for portions of offering documents that have been prepared by 

“experts” and, in part, to avoid common law liability for implied warranties.

• Disclosure of Conflicts of Interest and Other Relationships or Practices. As highlighted 

in the 1994 Interpretive Release and Commission enforcement actions, information 

concerning certain financial and business relationships or practices, such as undisclosed 

payments, political contributions, and bid rigging, by offering participants and municipal 

entity decision makers may be critical to investors. The role of advisors to issuers, such 

as swap advisors and other municipal advisors, also has raised questions regarding 

undisclosed conflicts of interest. 

Overview of the Municipal Securities Market Structure

Individuals, or “retail” investors, directly or indirectly hold more than 75% of the 

outstanding principal amount of municipal securities. The municipal securities market 

traditionally has been described as a “buy-and-hold” market because many investors hold 

municipal securities until maturity. Indeed, following the initial distribution period, municipal 

securities trade infrequently. 

Those municipal securities that trade do so in a decentralized over-the-counter dealer 

market that is illiquid and opaque. Brokers, dealers, and municipal securities dealers 

(collectively, “municipal bond dealers”) execute virtually all customer transactions in a principal 

capacity, with a portion of these principal trades effected on a “riskless principal” basis. A 

handful of these intermediaries account for the majority of trading in municipal securities. The 
vi 

relatively high transaction costs in the municipal securities market have been attributed the 

market’s illiquidity, opacity, and fragmentation. 

A retail investor wishing to buy municipal securities would typically request that its 

municipal bond dealer identify bonds with credit, payment, tax, maturity, and other 

characteristics that meet the customer’s investment needs. The municipal bond dealer may 

recommend municipal securities that it holds in its inventory or that are available in the over-thecounter market, either from another municipal bond dealer or through a broker’s broker or an 

alternative trading system (“ATS”). Although investors tend to hold these bonds to maturity, 

they may decide to sell their bonds for a variety of reasons. An investor wishing to sell 

municipal securities would typically contact its municipal bond dealer, who may offer to 

purchase the municipal securities from the customer and take them into its inventory, or may find 

a buyer by contacting other municipal bond dealers directly or using a broker’s broker or an 

ATS. When finding a buyer, these municipal bond dealers would execute the customer’s 

transaction on a riskless principal basis. 

Although there have been improvements in the availability of pricing information about 

completed trades (i.e., post-trade information), the secondary market for municipal securities 

remains opaque. Investors have very limited access to information regarding which market 

participants would be interested in buying or selling a municipal security, and at what prices (i.e., 

pre-trade information). Firm bid and ask quotations are generally unavailable and municipal 

bond dealers typically do not widely display firm quotations electronically. To the extent there is 

pre-trade price transparency, it tends to be provided through electronic networks operated by 

broker’s brokers, ATSs, or similar trading systems. This information, however, is not broadly 

accessible by the public, but rather is generally available only to participating municipal bond 

dealers.

Market participants have developed alternative means to value municipal securities. The 

necessity for market participants to undertake a more exacting analysis to value municipal 

securities has been made more apparent due to the declining use of bond insurance and other 

types of credit enhancement, as well as concerns about the reliability of credit ratings. Credit 

enhancements and credit ratings previously had been viewed as serving to “commoditize” 

assessments of the credit quality of disparate municipal securities and often led market 

participants to make more simplified pricing judgments. 

Municipal bond dealers may look at recent trades in “comparable” bonds for insight into 

the price at which market participants may be willing to transact in a municipal security that has 

not traded recently. They may also rely on benchmark yield curves to assist in valuing a bond. 

Independent professional pricing services that estimate the current market price of a particular 

municipal security are also available to municipal bond dealers and their evaluated prices are 

often included in account statements provided to individual investors. 

Market participants have varying access to pricing information. Municipal bond dealers, 

particularly those with significant order flow, have access to the broadest range of pricing 

information. Larger institutional investors also tend to have access to a variety of sources of 

pricing information. Retail investors, on the other hand, have access to relatively little pricing 
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information about municipal securities, and generally have limited knowledge about the 

execution options that are available to them. 

Within this market structure, municipal bond dealers owe their customers certain duties. 

In general, MSRB rules require municipal bond dealers effecting transactions with customers, 

whether as principal or agent, to trade at a fair price and to exercise diligence in establishing the 

market value of the municipal security and the reasonableness of the compensation they receive. 

Many municipal bond dealers face challenges in fulfilling these duties due to a market structure 

that provides uneven transparency and access to the best prices. 

Recommendations

The Commission recommends that Congress, the Commission, and other market 

participants such as the MSRB could consider several potential approaches to improve the 

municipal securities market. We believe that improvements in the municipal securities market 

could involve a combination of approaches, including legislative, regulatory, and industry-based 

initiatives. While we believe these recommendations could potentially help improve the 

municipal securities market and enhance investor protection, we are sensitive to changes in legal 

or regulatory standards that could lead to certain costs and believe that such costs should be 

considered in connection with the economic analysis conducted as appropriate in the context of 

specific proposals, including when evaluating the appropriateness of pursuing such proposals. 

Recommendations Relating to Disclosure 

First, in light of the Commission’s limited regulatory authority, we recommend a number 

of potential legislative changes which, if implemented by Congress, would provide the 

Commission with additional authority to initiate changes to improve municipal securities 

disclosures made by issuers. The legislative changes would not result, however, in the repeal or 

modification to the existing proscriptions on the SEC or the MSRB requiring any presale filing 

of disclosure documents, known as the “Tower Amendment” (discussed in more detail in the 

Report). The legislative recommendations would nonetheless give the Commission the authority 

to take regulatory steps that it determines to be appropriate to meaningfully enhance disclosure 

practices by municipal issuers, which could be accomplished in a short period of time. 

Second, there are a number of regulatory approaches that the Commission could consider 

pursuing under its existing authority. Although such measures could effect improvements, they 

may not be sufficient, on their own, to address the concerns discussed in this Report. Also, we 

recognize that further action on specific recommendations will involve further study of relevant 

additional information, including information as applicable related to the costs and benefits of 

the recommendations and the consideration as applicable of public comment. 

Third, we recommend that market participants continue to strive for high-quality 

disclosure practices through development and enhancement of best practices guidelines. 
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Legislative 

The following are possible legislative approaches that could be considered in order to 

provide the Commission authority to establish improved disclosures and practices in the 

municipal securities market.

• Authorize the Commission to require that municipal issuers prepare and disseminate 

official statements and disclosure during the outstanding term of the securities, including 

timeframes, frequency for such dissemination and minimum disclosure requirements, 

including financial statements and other financial and operating information, and provide 

tools to enforce such requirements. 

• Amend the municipal securities exemptions in the Securities Act and Exchange Act to 

eliminate the availability of such exemptions to conduit borrowers who are not municipal 

entities under Section 3(a)(2) of the Securities Act, without differentiation based on the 

size of the financing due to the continuing availability of other exemptions, including 

those available for small businesses, private offerings, and non-profit entities that take 

into account different types of offerings and issuers. 

• Authorize the Commission to establish the form and content of financial statements for 

municipal issuers who issue municipal securities, including the authority to recognize the 

standards of a designated private-sector body as generally accepted for purposes of the 

federal securities laws, and provide the Commission with attendant authority over such 

private-sector body. 

• Authorize the Commission, as it deems appropriate, to require municipal securities 

issuers to have their financial statements audited, whether by an independent auditor or a 

state auditor.

• Provide a safe harbor from private liability for forward-looking statements of repeat 

municipal issuers who are subject to and current in their ongoing disclosure obligations 

that satisfy certain conditions, including appropriate risk disclosure relating to such 

forward-looking statements, and if projections are provided disclosure of significant 

assumptions underlying such projections. 

• Permit the Internal Revenue Service to share with the Commission information that it 

obtains from returns, audits, and examinations related to municipal securities offerings in 

appropriate instances and with the necessary associated safeguards, particularly in 

instances of suspected securities fraud. 

• To provide a mechanism to enforce compliance with continuing disclosure agreements 

and other obligations of municipal issuers to protect municipal securities bondholders, 

authorize the Commission to require trustees or other entities to enforce the terms of 

continuing disclosure agreements. 
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Regulatory 

There are a number of possible actions that the Commission could pursue under its existing 

regulatory authority to improve disclosures and practices in the municipal securities market. 

• The Commission could host market participants, regulators, and academics at an annual 

conference on the municipal securities markets.

• The Commission could consider issuing updated interpretive guidance regarding 

disclosure obligations of municipal securities issuers and others. 

• The Commission could consider amendments to Exchange Act Rule 15c2-12 to further 

improve the disclosures made regarding municipal securities. 

• The Commission should continue to work with the MSRB to strengthen its rules and 

further enhance EMMA. 

Municipal Market Initiatives

We also recommend that municipal issuers and other market participants continue to work 

together on initiatives to improve municipal securities market disclosures and other practices. 

• Municipal market participants should follow and should encourage others to follow 

existing industry best practices and expand and develop additional best practices 

guidelines in a number of areas to enhance disclosures and disclosure practices in the 

municipal securities market.

Recommendations Relating to Market Structure

Transparency is a vital aspect of promoting competition, and it enables customers and 

regulators to assess whether market professionals are providing best execution. Enhancing price 

transparency and promoting fair access to those prices could improve market efficiency, promote 

competition, and ultimately facilitate the best execution of retail customer orders in municipal 

securities. There are a number of recommendations that could achieve these goals. As these 

possible recommendations are examined in more detail, consideration as applicable should be 

given to the potential impacts on investor protection, liquidity and dealer participation in the 

market. 

Improve Pre-Trade Price Transparency 

• The Commission could consider amendments to Regulation ATS to require an ATS with 

material transaction or dollar volume in municipal securities to publicly disseminate its 

best bid and offer prices and, on a delayed and non-attributable basis, responses to “bids 

wanted” auctions. 

• The MSRB could consider rules requiring a brokers’ broker with material transaction or 

dollar volume in municipal securities to publicly disseminate the best bid and offer prices 
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on any electronic network it operates and, on a delayed and non-attributable basis, 

responses to “bids wanted” auctions. 

Improve Post-Trade Price Transparency 

• The MSRB could consider requiring municipal bond dealers to report “yield spread” 

information to its Real-Time Transaction Reporting System to supplement existing 

interest rate, price and yield data. 

• The MSRB should promptly pursue enhancements to its EMMA website so that retail 

investors have better access to pricing and other municipal securities information. 

Buttress Existing Dealer Pricing Obligations 

• The Commission and the MSRB should consider initiatives to improve the understanding 

of retail investors as to the various ways in which they might buy or sell a municipal 

bond, and the relative advantages and disadvantages of each. 

• The Commission and the MSRB could consider ways to encourage the use of ATSs or 

similar electronic networks that widely disseminate quotes and provide fair access. 

• The MSRB should consider encouraging or requiring municipal bond dealers to provide 

retail customers relevant pricing reference information in connection with any municipal 

securities transaction a municipal bond dealer effects for such customer. 

• The MSRB should consider issuing more detailed interpretive guidance to assist dealers 

in establishing the “prevailing market price” for a municipal security, for purposes of 

determining whether the price offered a customer (including any markup or markdown) is 

fair and reasonable.

• The MSRB should consider requiring municipal bond dealers to disclose to customers, on 

confirmations for riskless principal transactions, the amount of any markup or markdown. 

• The MSRB should consider a rule that would require municipal bond dealers to seek 

“best execution” of customer orders for municipal securities.
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Table of contents

EXECUTIVE SUMMARY ............................................................................................................. i

I. INTRODUCTION ............................................................................................................... 1

A. Overview of the Municipal Securities Market ..................................................................... 1

B. Review of the Municipal Securities Market ........................................................................ 2

C. Summary of Report .............................................................................................................. 3

II. OVERVIEW OF THE MUNICIPAL SECURITIES MARKET ........................................ 5

A. The Municipal Securities Market......................................................................................... 5

1. Municipal Securities Issuers ......................................................................................... 5

2. Description of Municipal Securities ............................................................................. 7

a. Types of Municipal Securities ...................................................................................... 7

b. Different Features of Municipal Securities ................................................................... 8

c. Tax Treatment of Interest............................................................................................ 11

3. Investors in Municipal Securities................................................................................ 12

4. Municipal Securities Offerings ................................................................................... 15

a. Negotiated Sale ........................................................................................................... 16

b. Competitive Sales ....................................................................................................... 17

c. Certain Primary Market Practice: Reporting of Not Reoffered Bonds ...................... 18

5. The Secondary Market for Municipal Securities ........................................................ 19

6. Default and Bankruptcy Risk ...................................................................................... 22

a. Rates of Default .......................................................................................................... 22

b. Municipal Bankruptcy ................................................................................................ 24

c. Market Participant Observations and Other Commentary .......................................... 26

B. Regulatory Structure .......................................................................................................... 27

1. Federal Securities Laws .............................................................................................. 27

a. Overview ..................................................................................................................... 27

b. Antifraud Authority .................................................................................................... 29

c. Rule 15c2-12 ............................................................................................................... 30

d. Enforcement Actions .................................................................................................. 31

2. Internal Revenue Service ............................................................................................ 32

3. Self-Regulation ........................................................................................................... 33

a. Municipal Securities Rulemaking Board .................................................................... 33

b. Financial Industry Regulatory Authority .................................................................... 36

4. Federal Bank Regulators ............................................................................................. 38

5. State Laws ................................................................................................................... 38

C. Municipal Securities Market Participants .......................................................................... 39

1. Broker-Dealers, Municipal Securities Dealers, and Related Market Participants ...... 39

a. Overview ..................................................................................................................... 39
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b. Registration and Regulation ........................................................................................ 40

i. Fair Dealing and Duty of Disclosure to Customers ................................................ 41

ii. Suitability for Customer .......................................................................................... 43

iii. Fair Pricing and Compensation ............................................................................... 44

iv. Fair Dealing and Duty of Disclosure to Issuers ...................................................... 45

2. Alternative Trading Systems....................................................................................... 45

3. Municipal Advisors ..................................................................................................... 45

4. Trustees ....................................................................................................................... 47

5. Attorneys ..................................................................................................................... 47

6. Credit Enhancers ......................................................................................................... 49

a. Market Participant Observations and Other Commentary .......................................... 51

7. Nationally Recognized Statistical Rating Organizations (“NRSROs”) ...................... 52

a. Regulation of NRSROs ............................................................................................... 53

b. Market Participant Observations and Other Commentary .......................................... 54

III. DISCLOSURE ................................................................................................................... 56

A. Overview of Disclosure Practices and Issues .................................................................... 56

1. Voluntary Disclosure Initiatives and Disclosure Guidelines ...................................... 56

2. Initial Disclosure ......................................................................................................... 58

3. Continuing Disclosure ................................................................................................ 61

4. Market Participant Observations and Other Commentary .......................................... 63

a. General Observations .................................................................................................. 63

b. Initial Disclosure ......................................................................................................... 65

c. Continuing Disclosure ................................................................................................ 66

d. Disclosure by Conduit Borrowers ............................................................................... 68

B. Substantive Disclosure Topics ........................................................................................... 69

1. Financial Statements and Financial Information ........................................................ 69

a. Overview ..................................................................................................................... 69

b. Content of Financial Statements - Governmental Accounting Standards .................. 71

c. Market Participant Observations and Other Commentary Regarding Content of 

Financial Statements – Governmental Accounting Standards .................................... 73

d. Timeliness of Financial Information ........................................................................... 74

i. Recent Studies of Timeliness of Annual Financial Information ............................. 76

ii. Interim Financial Information ................................................................................. 78

iii. Market Participant Observations and Other Commentary Regarding Timeliness of 

Financial Information ..................................................................................................... 80

2. Pension Funding Obligations and Other Post-Employment Benefits Disclosure ....... 84

a. Enforcement Actions .................................................................................................. 84

b. Calculation of Funding Levels .................................................................................... 85

c. OPEBs ......................................................................................................................... 88
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d. Disclosure of Pension and OPEB Funding Obligations ............................................. 88

e. Voluntary Disclosure Initiatives and GASB Standards Revisions ............................. 90

3. Exposure to Derivatives .............................................................................................. 91

a. Overview ..................................................................................................................... 91

b. Municipal Issuer as “Purchaser” of a Derivative Product .......................................... 92

i. Market Participant Observations and Other Commentary ...................................... 92

c. Enforcement Actions .................................................................................................. 95

d. Business Conduct Standards of Swap Entities and Security-Based Swap Entities .... 96

e. Disclosure Issues ......................................................................................................... 99

i. Market Participant Observations and Other Commentary ...................................... 99

4. Disclaimers of Responsibility for Information Included in Official Statements and 

Other Disclosures ................................................................................................................ 100

5. Disclosure of Conflicts of Interest and Other Relationships or Practices ................. 101

a. Pay-to-Play and Political Contributions.................................................................... 102

b. Enforcement Actions ................................................................................................ 103

C. Other Identified Disclosure Issues ................................................................................... 105

1. Access to Information ............................................................................................... 105

2. Use of Issuer Websites .............................................................................................. 106

3. Presentation of Information and Comparability ....................................................... 108

4. Disclosure Controls and Procedures ......................................................................... 109

a. Enforcement Actions ................................................................................................ 109

b. Market Participant Observations and Other Commentary ........................................ 110

IV. MARKET STRUCTURE ................................................................................................ 112

A. Overview of Secondary Market for Municipal Securities ............................................... 112

1. Municipal Securities ................................................................................................. 112

a. Overview ................................................................................................................... 112

b. Investors .................................................................................................................... 112

c. Trading ...................................................................................................................... 113

B. Specific Market Structure Topics .................................................................................... 117

1. Price Transparency.................................................................................................... 117

a. Post-Trade Price Transparency ................................................................................. 117

b. Pre-Trade Price Transparency................................................................................... 118

c. Other Sources of Pricing Information ....................................................................... 120

d. Access to Pricing Information .................................................................................. 121

2. Transaction Costs ...................................................................................................... 123

3. Dealer Pricing Obligations to Customers ................................................................. 126

a. Fair Prices ................................................................................................................. 126

b. Best Execution .......................................................................................................... 131

c. Customer Disclosure ................................................................................................. 132
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V. RECOMMENDATIONS ................................................................................................. 133

A. Disclosure ........................................................................................................................ 133

1. Legislative ................................................................................................................. 134

2. Regulatory ................................................................................................................. 139

3. Municipal Market Initiatives ..................................................................................... 141

B. Market Structure .............................................................................................................. 142

1. Improve Pre-Trade Price Transparency .................................................................... 143

2. Improve Post-Trade Price Transparency ................................................................. 144

3. Buttress Existing Dealer Pricing Obligations ........................................................... 145
1 

I. INTRODUCTION

A. OVERVIEW OF THE MUNICIPAL SECURITIES MARKET

Over the past 30 years, the municipal securities market has grown significantly1

 and now 

represents an increasingly important part of the U.S. capital markets. The municipal securities 

market is also an extremely diverse market, with close to 44,000 state and local issuers, and with 

a total face amount of $3.7 trillion (face amount is hereinafter referred to as “principal”).

2

 Depending on the type of financing, payments of the principal and interest on an issue of 

municipal securities may come from general revenues of the municipal issuer, specific tax

receipts, revenues generated from public projects, payments from private entities, or from a 

combination of sources. The interest paid on municipal securities is typically exempt from 

federal income taxation and may be exempt from state income and other taxes.

 

The municipal securities market is critical to building and maintaining the infrastructure 

of our nation. The municipal securities market raises hundreds of billions of dollars each year3

on behalf of states, localities, and other public and private entities. Many individuals play a dual 

role in the market – not only as taxpayers and residents of the states and localities that borrow 

through the municipal securities market, but also as the source of those funds as purchasers of 

municipal securities. Individual (or “retail”) investors hold as much as 75% of outstanding 

municipal securities both directly and indirectly, through mutual funds, money market funds, and 

closed-end funds.4

Although the municipal securities market is often characterized as a “buy-and-hold” 

market, significant secondary market trading occurs.

 

5

 Almost $3.3 trillion of municipal 

securities were traded in 2011 in close to 10.4 million transactions.6

 

1

 In 1975 there were $235.4 billion of municipal securities outstanding after an issuance of $58 billion in that 

year. See The Bond Buyer’s Municipal Finance Statistics, 1975 (June 1976).

 Customer trades of retail 

2

 Staff generated statistics. Data source: Mergent’s Municipal Bond Securities Database (“Mergent’s 

MBSD”). This data is current through December 31, 2011. The number of issuers is inferred by the 

number of unique six-digit CUSIPs. The amount outstanding is consistent with data from the Federal 

Reserve Board, which points to $3.74 trillion of municipal securities outstanding at the end of the fourth 

quarter of 2011. See also Federal Reserve Board, “Flow of Funds Accounts of the U.S.,” Table L.211 

(Fourth Quarter 2011), available at http://www.federalreserve.gov/releases/z1/Current/z1.pdf (“Fourth 

Quarter Flow of Funds Data”). 

3

 See Securities Industry and Financial Markets Association (“SIFMA”), “US Bond Market Issuance, 

quarterly data,” available at

http://www.sifma.org/WorkArea/linkit.aspx?LinkIdentifier=id&ItemID=25100&libID=9266. 

4

 See Fourth Quarter Flow of Funds Data, supra note 2. See infra § II.A.3 (Investors in Municipal 

Securities).

5

 See, e.g., SIFMA, “U.S. Bond Markets Average Daily Trading Volume,” available at

http://www.sifma.org/uploadedFiles/Research/Statistics/StatisticsFiles/CM-US-Bond-Market-TradingVolume-SIFMA.xls (Mar. 14, 2012), accessed Apr. 18, 2012. See infra § II.A.5 (The Secondary Market 

for Municipal Securities).

6

 Municipal Securities Rulemaking Board (“MSRB”), “2011 Factbook (2011)” at 8-9, available at

http://www.msrb.org/msrb1/pdfs/MSRB2011FactBook.pdf (“MSRB 2011 Factbook”).
2 

size (up to $25,000) accounted for less than $58 billion of principal traded in more than 3.8 

million transactions.7

Despite its size and importance, the municipal securities market historically has not been

subject to the same level of regulation as other sectors of the U.S. capital markets. Except with 

respect to securities fraud, the Securities and Exchange Commission’s (the “SEC” or 

“Commission”) authority over the disclosure practices of municipal issuers is significantly

constrained under existing laws. Investors in municipal securities are often not afforded access 

to the types of timely and accurate information available to investors in other securities. 

Additionally, because of the decentralized, dealer-intermediated over-the-counter market in 

which municipal securities trade, investors do not typically have access to the same types of 

pricing information as investors in other markets. 

 

B. REVIEW OF THE MUNICIPAL SECURITIES MARKET

The mission of the SEC is to protect investors – including investors in municipal 

securities – maintain fair, orderly, and efficient markets, and facilitate capital formation. In 

furtherance of that mission, and with the specific goal of promoting enhanced transparency for 

municipal securities investors, Chairman Mary L. Schapiro announced in May 2010 that 

Commissioner Elisse B. Walter and Commission Staff (the “Staff”) from across the agency

would lead an effort to examine the municipal securities market.8

In 2010 and 2011, the Staff held public field hearings in San Francisco, California;

 Commissioner Walter and the 

Staff held a series of public field hearings designed to elicit the analyses and opinions of a broad 

array of municipal market participants. Ultimately, the initiative helped to inform the

preparation of this Report on the Municipal Securities Market (“Report”) concerning the state of

the municipal securities market, which includes recommendations for further action that 

Congress, the Commission, and municipal market participants should consider. 

9

Washington, District of Columbia;10 and Birmingham, Alabama.11

 

7

 If the retail-size cutoff was $100,000 instead of $25,000, the amount of principal traded in 2011 in “retail 

sized” trades was less than $183 billion in more than 5.9 million transactions. Staff generated statistics. 

Data source: MSRB 2011 Factbook at 44-45. 

 At each of the hearings, the 

Staff invited individuals representing many different perspectives to participate in panels on 

8

 See Chairman Mary L. Schapiro, “Remarks at Investment Company Institute 2010 General Membership 

Meeting” (as delivered by Andrew J. Donohue), Washington, DC (May 7, 2010), available at

http://www.sec.gov/news/speech/2010/spch050710mls.htm. 

9

 See SEC Release No. 2010-164 “SEC Sets Field Hearings on State of Municipal Securities Markets: First 

Hearing Scheduled for San Francisco September 21” (Sep. 7, 2010), available at

http://www.sec.gov/news/press/2010/2010-164.htm. 

10 See SEC Release No. 2010-233 “SEC Announces Agenda and Panelists for Second Field Hearing on State 

of Municipal Securities Markets: Hearing Scheduled for December 7 in Washington, DC” (Nov. 23, 2010), 

available at http://www.sec.gov/news/press/2010/2010-233.htm. 

11 See SEC Release No. 2011-148 “SEC Announces July 29 Field Hearing on the State of the Municipal

Securities Market” (July 15, 2011), available at http://www.sec.gov/news/press/2011/2011-148.htm. 

Budgetary constraints caused the Commission to reduce the number of hearings from six, as originally 

planned, to three.
3 

specific topics, ranging from disclosure and accounting to pre-trade price transparency and

investor concerns, among others.12 Transcripts of all three hearings and archived webcasts for 

two of the hearings are available on the Commission’s website.

13

In addition to the field hearings, the Staff held more than 35 meetings and conference 

calls with market participants to gather further information, analyses, and opinions on the 

municipal securities market.

 

14 The team of staff members from across the agency participating 

in these meetings and calls included staff from the Office of Municipal Securities, the Division 

of Trading and Markets, the Division of Corporation Finance, the Office of the Chief 

Accountant, the Division of Risk, Strategy, and Financial Innovation, the Division of 

Enforcement, the Office of Investor Education and Advocacy, and the Office of Compliance 

Inspections and Examinations, in addition to Commissioner Walter and members of her staff. 

Public comment was invited by email, by mail, through the Commission’s web-based comment 

submission form,15 or through a dedicated telephone line.16

The development of this Report included consideration of the transcripts of the field 

hearings, the comment letters received, academic studies, other publicly available materials, 

Staff-generated statistics based on certain data sources, and the input received during meetings 

and conference calls with market participants.

C. SUMMARY OF REPORT 

Section I of this Report provides an overview of the municipal securities market, the 

regulatory structure, and the roles of key market participants. Section I incorporates, where 

relevant, the views of market participants gathered during the field hearings. 

Section II addresses issues relating to disclosure, with a particular emphasis on the 

observations of market participants. Section II begins with a summary of voluntary industry 

initiatives and guidelines, followed by an overview of initial disclosure, continuing disclosure, 

and market participant views. Next, Section II discusses in detail several key substantive 

disclosure areas: financial statements and financial information, including governmental 

accounting; pension and OPEBs; exposure to derivatives; disclaimers of responsibility for 

information included in official statements and other disclosure; and conflicts of interest and 

 

12 Agendas for each of the hearings, listing panel topics and panelist names and affiliations, are available at 

http://www.sec.gov/spotlight/municipalsecurities.shtml. 

13 These transcripts and videos, as well as a number of other documents, are available for reference at

http://www.sec.gov/spotlight/municipalsecurities.shtml. The transcript of the San Francisco Field Hearing 

is hereinafter referred to as the “San Francisco Hearing Transcript.” The transcript of the Washington, DC 

Field Hearing is hereinafter referred to as the “Washington, DC Hearing Transcript.” The transcript of the 

Birmingham Field Hearing is hereinafter referred to as the “Birmingham Hearing Transcript.” 

14 See Exchange Act Release No. 62853, “State of the Municipal Securities Market Field Hearings” (Sept. 10, 

2010), 75 FR 53392 (Sept. 10, 2010), available at http://www.sec.gov/rules/other/2010/34-62853.pdf. 

Memoranda documenting these meetings and conference calls, as well as comments from the public, are 

available at http://www.sec.gov/comments/4-610/4-610.shtml. 

15 The comment submission form is available at the website reference above. See supra note 13. 

16 At least fifty submissions from market participants, investors and others were made.
4 

other relationships or practices. Finally, it summarizes other issues raised by market participants 

pertaining to disclosure, including issues relating to access to and presentation of information 

and issuer disclosure controls and procedures. 

Section III of this Report examines the structure of the municipal securities market and 

issues related to price transparency. Section III begins with an overview of the secondary market 

for municipal securities, including a discussion of how transactions occur in this market. Next, it

addresses specific market structure topics, including price transparency and a summary of 

relevant literature concerning transaction costs in the municipal securities market. Finally, 

Section III discusses the pricing and best execution obligations of municipal bond dealers. 

Section IV of this Report sets forth a number of recommendations for further 

consideration concerning potential legislative changes, Commission rulemaking, MSRB 

rulemaking and enhancement of industry “best practices.” These recommendations are designed 

to address the various concerns raised by market participants and others and to provide avenues 

to improve the municipal securities market.
5 

II. OVERVIEW OF THE MUNICIPAL SECURITIES MARKET

A. THE MUNICIPAL SECURITIES MARKET 

1. Municipal Securities Issuers 

State and local governmental entities issue municipal securities to finance a variety of 

public projects, to meet cash flow and other governmental needs, and to finance nongovernmental private projects (through the use of “conduit” financings on behalf of private 

organizations that obtain lower-cost tax-exempt financing).17 Issuers of municipal securities 

consist of a diverse group of entities that includes states, their political subdivisions (such as 

cities, towns, counties and school districts), and their instrumentalities (such as housing, health 

care, airport, port, and economic development authorities and agencies). State and local laws, 

including state constitutions, statutes, city and county charters, and municipal codes govern these 

public bodies.18 Such constitutions, statutes, charters, and codes impose on municipal issuer’s

requirements relating to governance, budgeting, accounting, and other financial matters.19 The 

governing bodies of municipal issuers are as varied as the types of issuers, ranging from state 

governments, cities, towns, and counties with elected officials to special purpose entities with

appointed members.20

In 2011, there were over one million different municipal bonds outstanding

 

21 compared 

to fewer than 50,000 different corporate bonds.22 These municipal bonds totaled $3.7 trillion in 

principal, while corporate (and foreign) bonds and corporate equities outstanding totaled $11.5 

trillion and $22.5 trillion, respectively.23

 

17 The Internal Revenue Code (“IRC”) delineates the purposes for which tax-exempt municipal bonds may be

issued for the benefit of organizations other than states and local governments, i.e., conduit borrowers. See

IRC § 141.

18 See generally American Bar Association Section of State and Local Government Law, American Bar 

Association Section of Business Law Committee on Federal Regulation of Securities, & National 

Association of Bond Lawyers, Disclosure Roles of Counsel In State and Local Government Securities 

Offerings (3d ed. 2009) (“Disclosure Roles of Counsel”).

19 Id. at 2.

20 Id. at 78.

21 Staff generated statistic. Data source: Mergent’s MBSD, supra note 2. 

22 Staff generated statistic. Data source: Mergent’s Fixed Income Securities Database (“Mergent’s FISD”) 

(data available as of June 2011).

23 Fourth Quarter Flow of Funds Data, supra note 2, at Tables L.
6 

Newly Issued Municipal Securities

$0

$100

$200

$300

$400

$500

$600

0 

5,000

10,000

15,000

20,000

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Number of Issuances Principal Issued ($B)

Staff generated statistics. Data source: Thomson Reuters’ SDC Platinum, Global Public Finance module (“SDC 

Platinum”). 

As shown above, the primary market for municipal securities is large both in terms of 

number of issuances and principal amount of securities issued. While municipal securities

issuances slowed following the onset of the 2008 financial crisis, they appeared to rebound in

2010, in part due to the popularity of Build America Bonds (“BABs”), as discussed in more 

detail below.

24 In 2011, there were only 13,463 municipal issuances totaling $355 billion of 

principal, down from 16,848 issuances and $499 billion of principal in 2010.25 Some attributed 

the drop in issuances to budget pressures and the rise of fiscal austerity;

26 the end of the BABs 

program at the end of 2010;27 and new governors in more than half of the states.

28

 

24 See infra note 

 

58 and accompanying text.

25 Staff generated statistics. Data Source: SDC Platinum. Long-term issuances – those with maturity of 13 

months or longer – represented 78.5% of issuances and a corresponding 83.0% of principal in 2011. 

Issuance of long-term securities has experienced a general upward trend over the past 10 years, whereas the 

amount of short-term securities has fluctuated within a narrow band of $41-72 billion over the same period. 

The significant drop in municipal-bond issuance in 2011 was reflected in lower issuances of both long-term 

and short-term securities.

26 See, e.g., Ben Levisohn, “Five Reasons to Rethink the Muni Rally,” Wall Street Journal, May 21, 2011, 

available at http://online.wsj.com/article/SB10001424052748704281504576329791701338436.html; 

Morgan Stanley SmithBarney, Municipal Bond Monthly, Feb. 10, 2012 (“MSSB February Report”) 

(discussing issuance patterns that were prevalent in 2011). 

27 See, e.g., Rafael Costas, “2011 Year-End Municipal Bond Market Review,” Franklin Templeton 

Investments Commentary, Dec. 8, 2011, available at

https://www.franklintempleton.com/retail/app/commentary/views/commentary_detailedpage.jsf?category=

FUNDMGRCOM&commentaryURL=%2Ftemplatedata%2FCommentary%2FCommentary%2Fdata%2FU

S_Market_Perspectives%2FCostas_2011_YearEndMuniReview.xml; MSSB February Report, supra note 

26. 

28 See, e.g., Lyle J. Fitterer and Robert J. Miller, “Low levels of municipal bond issuance may provide 

technical pricing support during the low-yield environment,” Wells Fargo Advantage Funds, Municipal 

Fixed Income, Sept. 2011, available at
7 

2. Description of Municipal Securities 

a. Types of Municipal Securities

Municipal entities primarily issue securities that are generally classified as either general 

obligation bonds or revenue bonds.29

 Conduit revenue bonds are issued by a municipality or an agency or instrumentality of a 

municipality on behalf of a third party (often called a “conduit borrower” or “obligated 

person”).

 General obligation bonds are backed by the taxing power 

and/or “full faith and credit” of the issuing entity. A holder of a general obligation bond may 

look for repayment to all sources of revenue received by the municipal entity that may legally be 

used for such payments or, for example, the receipts of unlimited ad valorem taxes levied for that 

purpose. Revenue bonds may be backed by specific non-ad valorem revenues, such as sales and 

use taxes or the revenues of the specific project or enterprise being financed (e.g., a utility 

system, a toll road, or an airport or port facility). 

30 If certain requirements in the federal Internal Revenue Code (“IRC”) and Internal 

Revenue Service (“IRS”) regulations are met, conduit revenue bonds may be tax-exempt. Taxexempt conduit revenue bonds include industrial development bonds on behalf of private 

entities, as well as financings for both non-profit and for-profit borrowers: such as hospitals; 

colleges and universities; power and energy companies; resource recovery facilities; multi-family 

housing projects; hotels; and sports stadiums. In a conduit revenue bond financing, the 

bondholder cannot look to the municipal issuer for payment of the bonds but rather must rely on 

payment from the conduit borrower.31 As discussed later, reports indicate that a majority of 

defaults in the municipal securities market are in conduit revenue bonds issued for nongovernmental purposes, such as multi-family housing, healthcare (hospitals and nursing homes), 

and industrial development bonds (for economic development and manufacturing purposes).32

 

http://www.wellsfargoadvantagefunds.com/wfweb/wf/funds/perspectives/ip_20110926.jsp?sel=%2fDTF%

2fFunds%2fCommentaries&pf=1

 

. 

29 For a description of the types of municipal securities issued, see generally Robert A. Fippinger, The 

Securities Law of Public Finance, §1:6 (3d. ed. 2011) (“Fippinger”). See also Robert Doty, Bloomberg 

Visual Guide to Municipal Bonds (2012) at 43-78, for suggestions of municipal securities categories. 

30 In the last four years, conduit bonds represented roughly 10% of municipal principal issued. Staff 

generated statistic. Data source: Mergent’s MBSD (based on corporate-backed bond data). For an 

alternative estimate see Nathaniel Popper, “Conduit Muni Bond Defaults Draw Scrutiny,” Los Angeles 

Times, June 14, 2011, available at http://articles.latimes.com/2011/jun/14/business/la-fi-risky-municipals20110614 (suggesting that conduit bonds represent 20% of all municipal bonds based on data from Income 

Securities Advisors). 

31 Definition of “Conduit Financing” in Glossary of Municipal Securities Terms, Municipal Securities 

Rulemaking Board (“MSRB”) (2d ed. 2004), available at http://www.msrb.org/msrb1/glossary/default.asp

(“MSRB Glossary”); Exchange Act Release No. 33741, “Statement of the Commission Regarding 

Disclosure Obligations of Municipal Securities Issuers and Others” (Mar. 9, 1994), 59 FR 12748 (Mar. 9, 

1994) (“1994 Interpretive Release”).

32 See infra notes 124 - 126 and accompanying text. 
8 

 Derivative products are used by both municipal issuers and investors for financial and 

risk management.33 Municipal market derivatives often must be structured in accordance with 

the provisions of the IRC and other laws that apply to the issuance of tax-exempt financings. The 

most common use for derivatives by municipal issuers is the execution of interest rate swaps in 

connection with new, anticipated, or outstanding debt.34 Municipal issuers enter into interest rate 

swaps, caps, or collars either to create a synthetic fixed interest rate or to attempt to manage their 

exposure to interest rate risk.

35 Municipal securities investors and dealers may use creditfocused derivatives to hedge risks or increase returns.36

Another common type of municipal security is a college savings plan that complies with 

Section 529 of the Internal Revenue Code. These plans, known as “529 Plans,” involve offerings 

of interests in state tuition programs and qualified savings plans that are public instrumentalities 

of the particular state and provide tax advantages designed to encourage saving for future college 

costs.

 

b. Different Features of Municipal Securities 

In addition to being issued for many different purposes, municipal securities are issued in 

many different forms, such as fixed rate, zero coupon, or variable rate bonds. Fixed rate 

municipal securities pay a fixed interest rate over the term of the security, with interest payments 

made periodically, typically semi-annually. Historically, most municipal securities were fixed

rate securities. With zero coupon bonds, interest accrues and compounds, but is paid only on the 

maturity date of the bond.37

 

33 See Neil O’Hara, SIFMA, The Fundamentals of Municipal Bonds, 6th Edition (2012) at 247 

(“Fundamentals of Municipal Bonds 2012”).

 Finally, variable rate municipal securities pay interest based on an 

interest rate that changes periodically, either as a result of changes in a reference rate, in a 

commonly followed index, or as a result of regular resets by the issuer or a third party. 

34 See David L. Taub, Understanding Municipal Derivatives, Aug. 2005, Government Finance Review 21. 

One hearing participant noted that municipal entities in one state did not use derivatives prior to 1999 when 

the investment banking community lobbied government officials to sponsor legislation specifically 

authorizing interest rate swaps. Birmingham Hearing Transcript at 219-20 (Collier). A similar process 

occurred in many states. See, e.g., Martin Z. Braun and William Selway, “Hidden Swap Fees by JP 

Morgan, Morgan Stanley Hit School Boards,” Bloomberg, Feb. 1, 2008 (noting that financial firms pushed 

for changes to Pennsylvania law allowing derivative transactions in 2003), available at

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=ay5LDbjbjy6c (“Braun and Selway”).

35 W. Bartley Hildreth, and C. Kurt Zorn, The Evolution of the State and Local Government Municipal Debt 

Market over the Past Quarter Century, Public Budgeting & Finance, 25: 127–153 (2005). See also

Birmingham Hearing Transcript at 241 (Collier) (indicating that interest rate swap agreements are 

essentially the only kind of municipal derivatives that she sees); 243-244 (Turner) (noting that some 

municipal entities have turned to interest rate caps to manage their exposure to interest rate risk). An 

interest rate cap is an option purchased by the issuer that pays the issuer if its interest costs exceed a 

specified rate. A collar is a pair of options that establish a cap and a floor. The issuer pays if its interest 

costs go below a specified rate and the counter-party pays if the interest costs exceed the specified rate. A 

collar reduces out-of-pocket, up-front costs of the option premium paid by the issuer but requires it to pay 

the counter-party if interest costs go below the floor established by the collar. 

36 See Fundamentals of Municipal Bonds 2012, supra note 33, at 247.

37 Definition of “Zero Coupon Bond” in MSRB Glossary, supra note 31. 
9 

The two main types of variable rate municipal securities are variable rate demand 

obligations (“VRDOs”) and auction rate securities (“ARS”). VRDOs are long-term municipal 

securities with a floating interest rate that resets periodically - often daily or weekly - and 

provide investors the option to sell (with a “put” or “tender” right) the securities back to the 

issuer at par, typically with seven days’ notice.38 They usually are additionally secured by either 

a letter of credit or a standby bond purchase agreement.

39 Variable rate municipal securities with 

put rights arose to satisfy the needs of money market funds that must maintain portfolios with 

short durations.40 The issuance of variable rate municipal securities spiked in 2008, but then 

decreased to historic lows in 2011.41 In 2011, VRDO issuance totaled $18.7 billion, representing 

approximately 5.3% of the aggregate principal amount of municipal securities issued.42

ARS are long-term municipal bonds with interest rates that are periodically reset through 

an auction process, sometimes referred to as a “Dutch” auction, which allows the municipal 

issuer to issue long-term debt but pay short-term interest rates.43 ARS were introduced into the 

municipal market in 1988.44 In early 2008, municipal ARS outstanding totaled approximately

$200 billion.45 Beginning in February of 2008, the auctions for these municipal securities began 

to fail when the auctions attracted too few bidders to establish a clearing rate.

46

 

38 Definition of “Variable Rate Demand Obligation” in MSRB Glossary, supra note 

 Following the 

31. See also MSRB, 

“Municipal Auction Rate Securities and Variable Rate Demand Obligations: Interest Rates and Trading 

Trends,” Sept. 2010, available at http://www.msrb.org/Publications/~/media/Files/SpecialPublications/MSRBARSandVRDOReportSeptember2010.ashx (“MSRB ARS and VRDO Publication”).

39 See MSRB ARS and VRDO Publication, supra note 38 (“Through the put or tender feature, holders 

seeking to liquidate a position can put the securities to a tender agent. A specified amount of notice is 

required to be provided to the tender agent and during that notification period, the remarketing agent seeks 

to find a purchaser for the securities that have been tendered. If the remarketing agent is unable to find a 

purchaser for the tendered securities, the tender agent will draw on a liquidity facility, such as a letter of 

credit or standby bond purchase agreement, to fund the purchase price of the tendered VRDO if the 

remarketing agent does not otherwise purchase the tendered VRDO.”). 

40 See, e.g., Fundamentals of Municipal Bonds 2012, supra note 33, at 38-39.

41 Staff generated statistics. Data source: SDC Platinum. See also Fundamentals of Municipal Bonds 2012, 

supra note 33, at 39-40 (“VRDO issuance plummeted after the 2008 financial crisis, when banks came 

under pressure to boost their regulatory capital and became less willing or able to provide low margin 

standby liquidity facilities”).

42 Staff generated statistics. Data source: SDC Platinum. For purposes of generating these statistics, VRDOs 

were defined as long-term putable securities with variable rate coupons and put frequency of a year or less.

43 Definition of “Auction Rate Securities” in MSRB Glossary, supra note 31. 

44 See Gary Gray and Patrick Cusatis, Municipal Derivative Securities: Uses and Valuation (1995) at 

41(“Gray and Cusatis”).

45 See MSRB ARS and VRDO Publication, supra note 38 (citing Jeffrey Rosenberg, et al., Debt Research – 

Cross Product, Bank of America Report, (Feb. 13, 2008)).

46 In testimony before the House of Representatives Committee on Financial Services in September 2008, 

then Director of the Division of Enforcement, Linda Chatman Thomsen, identified several factors that 

contributed to the freezing of the ARS market. (“One factor is the significant increase in the size of the 

ARS market, which had grown to $330 billion by the time of the freeze. This larger market required the 

firms to find more and more customers to bid in the auctions. An additional reason for the market seizure is 

the rating agencies’ downgrades of the monoline insurers (e.g., Ambac Financial Group Inc, and MBIA 

Inc.), which provided insurance for many ARS to ensure that holders would receive repayment of their 
10 

failed auctions, a number of municipal issuers either changed to another interest rate mode, such 

as a fixed rate, or refunded and redeemed the securities.

47 There were no new issues of ARS in 

2011.48

As discussed in more detail below,

 

49 the issuance of municipal securities is also affected 

by the availability of credit enhancement, which often takes the form of a letter of credit issued 

by a bank,50 a governmental guarantee, or an insurance policy issued by a bond insurance 

company. Municipal bond insurance was first introduced in 1971 and letter of credit-supported 

municipal bonds became very popular after the introduction of variable rate municipal bonds in 

the early 1980s.51

 

principal if the issuer defaulted. These downgrades resulted in the loss of customers willing to invest in 

ARS. Another factor that contributed to the freeze is the sub-prime mortgage and credit crisis that unfolded 

throughout the second half of 2007, which limited the firms’ ability to support the auctions with their own 

capital. In fact, firms stopped supporting the auctions in mid-February 2008, and the entire market froze in 

a matter of days. The securities became illiquid, leaving tens of thousands of customers unable to sell their 

ARS holdings.”). See “Testimony Concerning The SEC’s Recent Actions With Respect to Auction Rate 

Securities” by Linda Chatman Thomsen, Director, Division of Enforcement, U.S. Securities and Exchange 

Commission, Before the Committee on Financial Services, Sept. 18, 2008, available at

 Credit enhancements were common during 2000-2007, with more than half of 

http://www.sec.gov/news/testimony/2008/ts091808lct.htm. On March 14, 2008, the Commission staff 

issued a no-action letter setting forth its views that issuers and conduit borrowers of municipal ARS could – 

within the bounds of applicable laws and regulation – participate in auctions for their own securities. See

Letter to Leslie M. Norwood and Anne Phillips Ogilby (Mar. 14, 2008), available at

http://www.sec.gov/divisions/corpfin/cf-noaction/2008/mars031408.pdf. 

47 Since 2008, state and local governments have converted many of their ARS to other types of municipal 

securities and have redeemed more than half of the municipal ARS. See Michael McDonald, “Auction

Supply ‘Tsunami’ Portends Municipal Losses,” Bloomberg (Mar. 3, 2008), available at

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aJpRkYBhnffQ. The Commission has 

settled enforcement actions with a number of large investment firms for alleged improper activity in the 

marketing and sales of ARS, including municipal ARS. Under the Commission settlements, the firms 

agreed to repurchase a significant amount, although not all, of the outstanding ARS that were sold 

improperly. See, e.g., SEC Litigation Release No. 20166, “SEC Finalizes ARS Settlements With Bank of 

America, RBC and Deutsche Bank, Providing Over $6 Billion in Liquidity to Investors” (June 3, 2009), 

available at http://www.sec.gov/litigation/litreleases/2009/lr21066.htm; SEC Litigation Release No. 20824, 

“SEC Finalizes Auction Rate Securities Settlements With Citigroup and UBS Providing Nearly $30 Billion 

in Liquidity to Investors” (Dec. 11, 2008), available at

http://www.sec.gov/litigation/litreleases/2008/lr20824.htm. Similarly, the Financial Industry Regulatory 

Authority (“FINRA”) has announced settlement agreements with a number of firms relating to violations 

incurred in connection with the sale of ARS. See, e.g., “FINRA Announces Agreements with Four 

Additional Firms to Settle Auction Rate Securities Violations” (May 7, 2009), available at

http://www.finra.org/Newsroom/NewsReleases/2009/P118646. 

48 Staff generated statistics. Data source: SDC Platinum. See also Gretchen Morgenson, “A Way Out of the 

Deep Freeze,” New York Times, Nov. 8, 2009, at BU1, available at

http://www.nytimes.com/2009/11/08/business/economy/08gret.html; Jeremy R. Cooke, “Student Lenders 

Stifled by Auction Rate Bond Failures,” Bloomberg (Apr. 4, 2008), available at

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=a8p51DTC.Pzk. 

49 See infra § II.C.6 (Credit Enhancers).

50 “Letter of credit” in a municipal financing has been defined as a commitment, usually made by a 

commercial bank, to pay principal of and interest on the securities in the event the issuer cannot do so, 

subject to certain conditions and/or the occurrences of certain events. MSRB Glossary, supra note 31. 

51 See Gray and Cusatis, supra note 44, at 29-32. 
11 

the municipal securities principal issued supported by at least one type of credit enhancement 

during that period. This trend was reversed in 2008 due to the effect of the financial crisis on 

banks and municipal bond insurers.52 Since 2008, the availability of private sector credit 

enhancement, including bond insurance, has declined significantly: only 17% of the municipal 

securities principal issued in 2009, 2010, and 2011 had a credit enhancement (e.g., bond 

insurance, guarantees, letters of credit, or standby bond purchase agreements53).54

c. Tax Treatment of Interest 

 

Tax-exempt municipal securities have traditionally comprised the vast majority of 

municipal securities.55 Interest payable on such securities is not subject to federal income tax if 

certain requirements imposed by the IRC and IRS regulations are met.

56 In 2008, taxable 

municipal securities accounted for 11% of the aggregate principal amount of municipal securities 

issued; that number rose to 18% in 2009 and 32% in 2010.57

The increase in taxable municipal securities in 2009 and 2010 was due to the passage of 

the American Recovery and Reinvestment Act of 2009 (“ARRA”), which authorized the 

issuance of BABs

 

58 and other taxable municipal bonds.59 The BAB Program expired on 

December 31, 2010. After the expiration of the BAB Program, taxable issuance returned to its 

historical levels: 9.4% in 2011.60

 

52 See infra § 

 

II.C.6 (Credit Enhancers) (noting that the major bond insurers suffered ratings downgrades).

53 A “standby purchase agreement” is “an agreement with a third party, typically a bank, in which the third 

party agrees to purchase tender option bonds (typically variable rate demand obligations) tendered for 

purchase in the event that they cannot be remarketed. Unlike a letter of credit, a standby bond purchase 

agreement does not guarantee the payment of principal and interest by the issuer and is not an 

unconditional obligation to purchase the tender option bonds.” MSRB Glossary, supra note 31. 

54 Staff generated statistics. Data source: SDC Platinum. However, governmental guarantee programs have 

grown since 2008. See infra note 284 and accompanying text. 

55 SEC Office of Economic Analysis & SEC Office of Municipal Securities, “Report on Transactions in 

Municipal Securities” (Jul. 1, 2004), at 30, available at

http://www.sec.gov/news/studies/munireport2004.pdf (“2004 Municipal Securities Report”).

56 IRC § 103. See also Treas. Reg. 1.103-1(a) under the Internal Revenue Code.

57 Staff generated statistics. Data source: SDC Platinum.

58 BABs allowed municipalities to issue an unlimited amount of taxable debt through the end of 2010, and 

entitled issuers to elect to either (1) receive an amount from the Treasury Department equal to 35% of the 

interest paid on the issued bonds or (2) provide bondholders with a tax credit equal to 35% of the stated 

interest on the bond that can be applied towards their income tax liability. See generally MSRB, “Build 

America Bonds,” available at http://www.msrb.org/Market-Topics/Build-America-Bonds.aspx. 

59 In addition to BABs, the ARRA introduced two additional categories of taxable bonds, Qualified School 

Construction Bonds (IRC § 54F) and Recovery Zone Economic Development Bonds (IRC §§ 1400U-2), 

and expanded the authority to issue taxable New Clean Renewable Energy Bonds (IRC § 54C), Qualified 

Energy Conservation Bonds (IRC § 54D) and Qualified Zone Academy Bonds (IRC § 54E). Exchange Act 

Release No. 62184A, “Amendment to Municipal Securities Disclosure” (May 26, 2010), 75 FR 33100, 

n.251 (June 10, 2010), available at http://www.sec.gov/rules/final/2010/34-62184afr.pdf. BABs emerged 

as the most popular of the three ARRA-created taxable bonds.

60 Staff generated statistics. Data source: SDC Platinum.
12 

3. Investors in Municipal Securities 

Municipal securities, particularly tax-exempt municipal securities, are largely held by 

individual or “retail” investors. Retail investors usually buy and hold municipal securities until 

maturity.61 Prior to the enactment of the Tax Reform Act of 1986, commercial banks were the 

primary holders of municipal securities because they were allowed to deduct 80% of the interest 

expense associated with acquiring tax-exempt securities.62 The Tax Reform Act of 1986 

significantly reduced the tax benefits to banks for purchasing tax-exempt municipal securities.

63 

As a result, commercial bank holdings of municipal securities declined from a high of 51% of 

municipal securities outstanding in 1971-197264 to 7.6% in 2011.65

Households as a group have represented the largest single owner of municipal securities 

outstanding for the past six consecutive years, as shown in the graph below. As of December 31, 

2011, they accounted for nearly $1.9 trillion of municipal securities holdings, which is a 12% 

increase relative to 2006.

 

66 The years since 2008 have also seen a decline in money market 

funds’ holdings of municipal securities and an increase in mutual funds’ holdings. 

Approximately 50.2% of the outstanding principal amount of municipal securities was held 

directly by individuals and up to 25% was held on behalf of individuals by mutual, money 

market, closed-end, and exchange-traded funds.67 

 

61 See United States Government Accountability Office (“GAO”), “Report to Congressional Committees, 

Municipal Securities: Overview of Market Structure, Pricing, and Regulation,” GAO-12-265 (January 

2012), at 5, available at http://www.gao.gov/assets/590/587714.pdf (“GAO Market Structure Report”) 

(noting that retail investors tend to hold municipal securities to maturity). 

62 See, e.g., Peter Fortune, The Municipal Bond Market, Part I: Politics, Taxes, and Yields, New England 

Economic Review, Sept./Oct. 1991, available at

http://www.bos.frb.org/economic/neer/neer1991/neer591b.pdf. 

63 The Tax Reform Act of 1986 denied banks and other financial institutions a deduction for that portion of 

the taxpayer’s otherwise allowable interest expense that is allocable to tax-exempt obligations acquired by 

the taxpayer after August 7, 1986. The Act provided an exception to the 100-percent disallowance rule for 

qualified tax-exempt obligations acquired by a financial institution. Under the Act, qualified tax-exempt 

obligations included any obligation which (1) is not a private activity bond as defined by the Act, and (2) is 

issued by an issuer which reasonably anticipates to issue not more than $10 million of tax-exempt 

obligations (other than private activity bonds) during the calendar year. Interest allocable to such 

obligations remained subject to the 20-percent disallowance contained in prior law. See Staff of the Joint 

Committee on Taxation, “General Explanation of the Tax Reform Act of 1986,” May 4, 1987, at 558-566, 

available at http://www.jct.gov/jcs-10-87.pdf. The American Recovery and Reinvestment Act of 2009 

(ARRA) temporarily increased the $10 million limit to $30 million and provided other incentives for banks 

to purchase tax-exempt bonds during 2009 and 2010.

64 Staff generated statistic. Data source: “Federal Reserve Board, Flow of Funds Accounts of the United 

States, Annual Flows and Outstandings (1965 to 1974)” (June 8, 2001), available at

http://www.federalreserve.gov/releases/z1/20010608/annuals/a1965-1974.pdf. 

65 Staff generated statistic. Data Source: Fourth Quarter Flow of Funds Data, supra note 2. 

66 See id. 

67 See id. 
13 

Primary Holders of Municipal Securities (2006 - 2011) 

0 

200

400

600

800

1,000

1,200

1,400

1,600

1,800

2,000

2006 2007 2008 2009 2010 2011

Total Outstanding Debt Held ($ Billions)

Households Commercial Banks Insurance Companies

Money Market Funds Mutual Funds

Staff generated statistics. Data source: Fourth Quarter Flow of Funds Data. 
14 

The municipal security holdings by category of investor are presented in the graph below. 

Municipal-Security Holdings by Investor Category 

(Fourth Quarter 2011) 

Foreign Holdings Other

2.2% 2.0% Brokers and 

Dealers

0.8%

Households

50.2% Commercial Banks

7.6%

Closed-end Funds

2.2%

Mutual Funds

14.5%

Money Market 

Funds

7.9%

Insurance 

Companies

12.4%

Staff generated statistics. Data source: Fourth Quarter Flow of Funds Data. 

With respect to bank holdings currently, some banks may still favor municipal securities 

because of their low default rate as well as their tax-exempt status and relative yield.68 In 

addition to purchasing municipal securities through traditional public offerings, commercial 

banks have begun to increase their purchases of municipal securities through private placements 

(also known as “direct purchases”) and increase their provision of conventional loans to state and 

 

68 See Sara Lepro, “Banks Urged to Reassess Holdings of Muni Bonds,” The Bond Buyer, Feb. 23, 2011, 

available at http://www.bondbuyer.com/issues/120_36/banks-municipal-bond-holdings-1023552-1.html. 
15 

local governments and other municipal issuers (also known as “direct loans”).69 Recent articles 

have indicated that these commercial bank activities have increased for a variety of reasons.

70

4. Municipal Securities Offerings

Municipal securities typically are issued through an underwriting process in which one or 

more broker-dealers or municipal securities dealers (referred to in this section as “underwriters”) 

purchase the securities directly from the issuer and reoffer them to investors. When underwriters 

form a group to purchase the securities and share the risks of underwriting the issuance, the 

group is called a “syndicate.”71

The underwriters’ fee from the sale of the municipal securities typically is the difference 

between the price the underwriter pays the issuer for the securities and the price at which the 

securities are reoffered to investors. This fee is called the underwriter’s discount or the gross 

underwriting spread.

 

72 Once the broad terms of the transaction are agreed upon, a preliminary 

official statement typically is prepared for distribution to prospective investors. Some 

underwriters and issuers also may arrange a “road show” presentation to investors as part of their 

marketing efforts,

73 in which investors may ask questions about the financing.74

The two primary means of underwriting municipal securities are negotiated sales and

competitive sales. During 2011, 54.4% of the 13,463 municipal securities issuances were done 

 

 

69 See, e.g., Ianthe Jean Dugan, “Banks Turn to Public Borrowers,” Wall Street Journal, Feb. 16, 2011, 

available at http://online.wsj.com/article/SB20001424052748703312904576146511419336334.html; See, 

e.g., James Ramage, “Direct Bank Purchases of Muni Debt Raise Issues,” The Bond Buyer, Oct. 26, 2011, 

available at http://www.bondbuyer.com/issues/120_206/direct-bank-purchase-muni-debt-1032449-

1.html?partner=sifma. The MSRB has published a notice to alert municipal market participants that, under 

existing legal principles described below, certain financings that are called “bank loans” may, in fact, be 

municipal securities. See MSRB Notice 2011-52, “Potential Applicability of MSRB Rules to Certain 

“Direct Purchases” and “Bank Loans” (Sept. 12, 2011), available at http://www.msrb.org/Rules-andInterpretations/Regulatory-Notices/2011/2011-52.aspx. 

70 See, e.g., Banks Turn to Public Borrowers, supra note 69 (attributing the increase to: banks seeking 

alternatives to loans for mortgages and other “risky” areas; compliance with international rules that require 

banks to put aside more capital to buffer against losses (see description of Basel III infra notes 282-283); 

and banks seeking a means of restoring strained relationships with clients); Christine Albano, “Banks 

Bulked Up Their Muni Bond Portfolios in 2011,” The Bond Buyer, March 27, 2012, available at 

http://www.bondbuyer.com/issues/121_59/banks-holders-municipal-debt-1037847-1.html (citing a market 

participant who noted that banks are able to avoid Basel III capital requirements and earn a tax-exempt 

spread rather than a taxable letter of credit fee); “Banks Urged to Reassess Holdings of Muni Bonds,” 

supra note 68 (suggesting that bank relationships through deposit services, direct loans and other traditional 

banking products are critical at a time when banks are not lending heavily).

71 See Definition of “Syndicate,” MSRB Glossary, supra note 31. 

72 See Fundamentals of Municipal Bonds 2012, supra note 33, at 97 and Sylvan Feldstein and Frank Fabozzi, 

The Handbook of Municipal Bonds (1st ed. 2008), at 54 (“Feldstein and Fabozzi”).

73 Historically, road shows were conducted in person but market participants are increasingly conducting 

these presentations through the use of internet webcasting or similar technologies – so-called “electronic 

road shows.” See Fundamentals of Municipal Bonds 2012, supra note 33, at 104.

74 See id. See also Fippinger, supra note 29, § 6:9.
16 

through underwritings that were negotiated sales and 42.4% were through competitive sales;

75

the remaining 3.2% were sold through private placements – representing a record high of 

approximately $15 billion.76 This is an increase from only $3 billion of private placements in 

2010.77 The increase in private placements is generally attributed to an overall decline in the 

issuance of variable rate bonds and the refunding of outstanding variable rate debt backed by 

letters of credit.78

a. Negotiated Sale

 

In a typical negotiated sale, an issuer selects an underwriter to be the senior manager 

before the date the securities are sold to investors.79 The issuer may permit the senior manager 

to be the sole manager of the issue, or the issuer may select one or more senior co-managers or 

one or more co-managers.80 These selections may be made by means of a formal request for 

proposals (“RFPs”) or by other means.81 The senior manager determines the size and 

composition of the underwriting syndicate.82

Depending on various factors, including the size of the issue and its potential 

profitability, the senior manager may decide to price and market the securities with the other 

managers instead of forming a syndicate.83

 

75 Staff generated statistics. Data source: SDC Platinum. In terms of principal amount issued in 2011, 

negotiated sales comprised 69.5% and competitive sales comprised 26.3%.

 In some cases (typically in smaller offerings), a 

76 Staff generated statistics. Data source: SDC Platinum. The relatively low percentage of competitively-bid 

transactions is consistent with the trend over the past 10 years. Some types of municipal securities, 

including general obligation bonds, may be required by state law to be offered under competitive bidding. 

See Fundamentals of Municipal Bonds 2012, supra note 33, at 70 and Feldstein and Fabozzi, supra note 72, 

at 52.

77 Staff generated statistics. Data source: SDC Platinum.

78 See Caitlin Devitt, “Private Placements Take Off Thanks to Expiring LOCs,” The Bond Buyer, Feb. 13, 

2012, available at http://www.bondbuyer.com/pdfs/2012_bb_stats_supp.pdf. See also, Michael McDonald, 

“Banks Cash in on Whitney’s Muni Default Scare,” Bloomberg, Dec. 14, 2011, available at

http://www.bloomberg.com/news/2011-12-14/default-defying-muni-rally-shows-dimon-departs-fromwhitney-as-banks-buy.html. 

79 See Fundamentals of Municipal Bonds 2012, supra note 33, at 97, 102; see also Feldstein and Fabozzi, 

supra note 72, at 54.

80 See Fundamentals of Municipal Bonds 2012, supra note 33, at 102.

81 Id. at 97; see also Feldstein and Fabozzi, supra note 72, at 54-55. The Government Finance Officers 

Association (“GFOA”) recommends that municipal entities select underwriters using a competitive RFP or 

request for qualifications (“RFQ”). See GFOA, GFOA Best Practice: Selecting Underwriters for 

Negotiated Bond Sales (2008), available at

http://www.gfoa.org/downloads/SELECTINGUNDERWRITERS%20.pdf. A large number of municipal 

entities, however, use other practices. See, e.g., State of Florida Report No. 2011-196, “Local Government 

Financial Reporting System Performance Audit” (June 2011), at 13, available at

http://www.myflorida.com/audgen/pages/pdf_files/2011-196.pdf (finding that in 42% of its sample, the 

municipal entity did not use a competitive RFP or RFQ to select an underwriter for a negotiated bond sale).

82 See Fundamentals of Municipal Bonds 2012, supra note 33, at 102.

83 See id. at 102.
17 

“selling group” may be included as part of the offering.84 Members of a selling group are 

brokers and dealers that are permitted by the senior manager to buy underwritten municipal 

securities for resale on the same terms offered to underwriters. These members neither share in 

the underwriting profits nor share the risk of any losses incurred by the underwriters or of the 

purchase of any unsold securities.85

Negotiated underwritings are not as risky for underwriters as competitively bid 

underwritings because the price of the municipal securities is based on how the securities sell 

during the offering, and the underwriter can adjust the sale date and yields (and prices) in 

accordance with market conditions.

 

86

Negotiated offerings appear to be more expensive for issuers than competitive offerings 

both in terms of bond yields and underwriter gross spreads.87 The experience of New Jersey, 

which restricted the use of negotiated offerings, suggests that issuers may be able to realize 

borrowing-cost savings by switching to competitive offerings.88 Finally, negotiated offerings 

create opportunities for municipalities to allocate underwriting business on the basis of political 

contributions rather than on the price and quality of underwriting services. Indeed, negotiated 

offerings brought to the market by contributing underwriters are underpriced by 2.3% on 

average, while there is no underpricing effect from choosing a contributing underwriter through a 

competitive process.

89

b. Competitive Sales

In a competitive sale, the issuer publishes a notice of sale setting forth the terms and 

conditions of the offering and the underwriters submit to the issuer at a specific time and date a 

sealed bid to buy the issuer’s securities at a specific price. The underwriters then reoffer the 

municipal securities to investors.90 The winning bidder typically is the underwriter that offers 

the lowest interest cost for the securities.91

 

84 See id.

 Underwriters can either bid alone, or can group 

85 See id. at 102-103. 

86 See id. at 99, 101. See also, e.g., Glenn L. Stevens, “Evaluation of Underwriter Proposals for Negotiated 

Municipal Bond Offerings, Public Administration and Management: An Interactive Journal,” 4, 4, 1999, at 

435-468, available at http://www.spaef.com/file.php?id=328. 

87 Kenneth N. Daniels and Jayaraman Vijayakumar, Does Underwriter Reputation Matter in the Municipal 

Bond Market?, JOURNAL OF ECONOMICS AND BUSINESS (2007), at 500-519; Alexander W. Butler, Larry 

Fauver, and Sandra Mortal, Corruption, Political Connections, and Municipal Finance, THE REVIEW OF 

FINANCIAL STUDIES (2009), at 2673-2705; Arthur C. Allen and Donna Dudney, Does the Quality of 

Financial Advice Affect Prices?, THE FINANCIAL REVIEW (2010), at 387-414.

88 Mark D. Robbins, Testing the Effects of Sale Method Restrictions in Municipal Bond Issuance: The Case of 

New Jersey, PUBLIC BUDGETING & FINANCE (2002), at 40–56.

89 Craig O. Brown, Self-Dealing in Securities Issuance: Evidence from State Government Bond Pricing, 2009, 

available at http://ssrn.com/abstract=1885301. 

90 See id. at 105; see also Feldstein and Fabozzi, supra note 72, at 52-53.

91 See Fundamentals of Municipal Bonds 2012, supra note 33, at 97 and Feldstein and Fabozzi, supra note 72, 

at 53.
18 

together into two or more competing syndicates to bid on the securities. The formal award of the 

securities occurs in a much more expedited fashion than in a negotiated underwriting – normally 

within minutes of the bid submission deadline and the determination of the winning bid. 

Competitively bid underwritings are more risky for underwriters because bids are final and the

underwriters are committed to a set price for the securities regardless of market conditions.92

c. Certain Primary Market Practice: Reporting of Not Reoffered Bonds 

 

One problematic practice that has been identified relating to municipal securities 

offerings is the reporting of “not reoffered” bonds. Broker-dealers and municipal securities 

dealers generally are required to report to the Municipal Securities Rulemaking Board (“MSRB”)

pricing information for each purchase and sale transaction effected in municipal securities in the 

secondary market within 15 minutes of the time of trade.93 Additional MSRB requirements that

delay the reporting of pricing information apply to new issues of municipal securities.

94 

Underwriters generally are not required to report trade information for primary market sale 

transactions until the end of the day on the date of the formal award of the bonds.95 

Underwriters only are required to submit complete information about offering prices or yields to 

the MSRB, not to other parties, such as third-party information vendors.96

Market participants and the MSRB have indicated that it is common for underwriters to 

provide real-time reporting of primary market price information to third-party information 

vendors, such as Bloomberg, L.P. and Ipreo Holdings, L.L.C., substantially in advance of the 

time this information is required to be reported to the MSRB.97

 

92 See Fundamentals of Municipal Bonds 2012, supra note 

 However, when the entire issue, 

or one or more maturities of an issue, is fully subscribed or sold, or purchased by the underwriter 

for its own account prior to the general reoffering of the issue by the underwriter to the public, 

such issue or maturity or maturities, as the case may be, may be considered to be “not reoffered” 

33, at 99. 

93 MSRB Rule G-14(b). The MSRB’s Real-Time Transaction Reporting System has been operational since 

2005. See footnote 705 and related text. Prior to 2005, dealers were required to report transactions in 

municipal securities by midnight on the trade date. See, MSRB Notice 2004-29 “Approval by the SEC of 

Real-Time Transaction Reporting and Price Dissemination: Rules G-12(F) and G-14” available at

http://www.msrb.org/Rules-and-Interpretations/Regulatory-Notices/2004/2004-29.aspx. 

94 MSRB Rule G-34(a)(ii)(C) requires underwriters to submit to a new issue information dissemination 

system a “Time of Formal Award” (as defined therein), a “Time of First Execution” (as defined therein) 

and certain other information.

95 MSRB Rule G-14 RTRS Procedures § (a)(ii)(A) generally permits primary market sales transactions 

executed on the first day of trading to be reported by the end of the day on which the trade is executed 

instead of within 15 minutes of the time of trade as required for most trades.

96 See Exchange Act Release No. 67344, “Notice of Filing of Proposed Rule Change to Amend Rule G-34, on 

CUSIP Numbers, New Issue, and Market Information Requirements” (SR-MSRB-2012-06) (Jul. 3, 2012), 

77 FR 40668 (Jul. 10, 2012), available at http://www.sec.gov/rules/sro/msrb/2012/34-67344.pdf (“MSRB 

NRO Proposal”). 

97 Id. See also Letter from Susan Gaffney, GFOA, to Elizabeth M. Murphy (Nov. 10, 2011), available at

http://www.sec.gov/comments/4-610/4610-76.pdf (“GFOA NRO Letter”) (indicating that real-time market 

reporting is provided to information vendors within minutes of a competitive sale bid opening or during a 

negotiated sale marketing period). 
19 

or “NRO.”98 In these instances, real-time reporting of the pricing data by underwriters to 

information vendors is limited to an NRO designation. As a result, pricing data disseminated by 

dealers through information vendors about a maturity designated as NRO typically does not 

include the price or yield at which the maturity was sold. Thus, investors and other market 

participants may not have access to the initial offering price and yield information until it is 

reported as required by MSRB rules (which may be end-of-day).99

Issuers and market analysts have criticized this practice for inhibiting price discovery in 

both the primary and secondary markets because the use of the NRO designation denies the 

market important information about primary market prices and makes accurate pricing of 

comparable bonds trading in the secondary market more difficult.

 

100 One commenter further 

noted that the practice of NRO reporting can lead to “suspicions of less commendable 

practices.”101

To address this issue, the MSRB recently requested comment on a proposed 

change to MSRB Rule G-34 that would prohibit a broker, dealer, or municipal securities 

dealer from using the term “not reoffered” or other comparable term or designation in any 

communication about a new issue of municipal securities without also including the 

applicable initial offering price or yield information about such securities.

102

5. The Secondary Market for Municipal Securities 

 

Municipal securities trade in an over-the-counter dealer market.103 There is no central 

exchange for municipal securities. Municipal bond dealers execute nearly all municipal 

securities transactions for customers in a principal capacity,104 with a portion of these principal 

trades effected on a “riskless principal” basis.105

 

98 See Definition of “NRO (Not Reoffered) Maturity” in MSRB Glossary, supra note 

 Market participants who want to trade 

31. 

99 See MSRB NRO Proposal, supra note 96. A related issue is the practice of printing “NRO” in the final 

official statement.

100 See, e.g., GFOA NRO Letter, supra note 96; Letter from Thomas Doe, Municipal Market Advisors, to 

Alicia Goldin, Division of Trading and Markets (June 14, 2011), available at

http://www.sec.gov/comments/4-610/4610-50.pdf. 

101 See GFOA NRO Letter, supra note 96. (Noting that the practice of “NRO” reporting may also assist in the 

“often discussed but never documented” practice of “parking” bonds with an investor at a special price 

during the underwriting period and then repurchasing or marking up those same securities after the end of 

the underwriting period).

102 See MSRB NRO Proposal, supra note 96. 

103 See, e.g., Lawrence E. Harris and Michael S. Piwowar, Secondary Trading Costs in the Municipal Bond 

Market, J.FIN. (June 2006) at 1361-1363 (analyzing municipal securities transactions using data through 

October 2000) (“Harris and Piwowar”). 

104 A “principal trade” is “a securities transaction in which the broker-dealer effects the transaction for its 

proprietary account.” Definition of “Principal Trade” in MSRB Glossary, supra note 31. 

105 See Harris and Piwowar, supra note 103, at 1363. Trading on a riskless principal basis is similar, 

conceptually, to a municipal bond dealer trading on an agency basis. In these transactions, the municipal 

bond dealer is not putting its capital at risk. For example, when it receives a customer order to buy, the 
20 

municipal securities buy from or sell to intermediaries, including broker-dealers and banks 

registered as municipal securities dealers. These intermediaries trade in the inter-dealer market 

amongst themselves, through broker’s brokers, or by participating on electronic trading 

platforms such as alternative trading systems (“ATSs”). Broker’s brokers and many ATSs serve 

only institutional market professionals and not the general public. 

Currently, there are more than 1,800 municipal bond dealers that trade municipal 

securities.106

Distribution of Customer Trades Traded (based on par amount traded) 

 However, trading activity is heavily concentrated among a few institutions. As the 

pie chart below shows, in 2011, the top ten most-active municipal bond dealers in terms of par 

amount of municipal securities traded accounted for approximately 75% of the par amount of 

customer trades. The dominant firms in the municipal securities market generally are large fullservice securities firms that offer and sell many different types of securities.

Source: MSRB 2011 Factbook, supra note 6. 

 As noted above, significant secondary market trading occurs, despite the tendency of 

municipal securities investors to “buy and hold” bonds until maturity.107 The tables below show 

the total number of secondary market trades that occurred during 2006-2011 and the total par 

amount of municipal securities traded during this period. Although the par amount traded in 

2011 is, in total, approximately 54% of that traded in 2006, the number of trades has generally 

increased over time. This suggests that secondary market trading in municipal securities is 

increasingly characterized by small-size trades.108 

 

Top

1-5 Dealers

54%

Top

6-10 Dealers

21%

Top

11-20 Dealers

9%

Top

21-40 Dealers

8%

Remaining 

Dealers

9%

municipal bond dealer will offset the sale to the customer by contemporaneously purchasing the security 

sold to the customer. See e.g., Exchange Act Rule 3a5-1(b). 

106 “MSRB Registrants by Company Name,” available at http://www.msrb.org/msrb1/pqweb/registrants.asp

(accessed Apr. 19, 2012).

107 See GAO Market Structure Report, supra note 61. 

108 See supra notes 6-7 and accompanying text. 
21 

Secondary Market Transactions

Transaction Summary 

Total Number of Trades 

2006 2007 2008 2009 2010 2011

8,467,987 9,182,124 10,976,658 10,359,611 10,497,319 10,392,855

Transaction Summary 

Total Par Amount Traded ($millions) 

2006 2007 2008 2009 2010 2011

6,081,093 6,685,128 5,514,420 3,791,271 3,749,730 3,278,679

Source: MSRB 2011 Factbook, supra note 6; MSRB 2010 Factbook,

http://www.msrb.org/msrb1/pdfs/MSRB2010FactBook.pdf; MSRB 2009 Factbook,

http://www.msrb.org/msrb1/pdfs/MSRB2009FactBook.pdf. 

Despite the large number of trades and principal of outstanding bonds discussed above, 

the municipal securities market is characterized by relatively low liquidity. In 2011, average 

daily trading volume (“ADTV”) in the more than one million municipal bonds outstanding was 

$11.3 billion, compared to $20.6 billion ADTV in the fewer than 50,000 corporate bonds 

outstanding.109 Most active trading occurs in newly issued municipal bonds, as trading declines 

significantly in the months following issuance.110 As noted above and discussed in more detail 

below, municipal bond dealers are generally required to report to the MSRB pricing information 

for each transaction in the secondary market within 15 minutes of the time of trade.111

 

 For a 

more detailed discussion of the municipal securities secondary market, see Section III of this

Report. 

109 See supra notes 5 (trading volume), 21 (municipal bonds outstanding) and 22 (corporate bonds 

outstanding). According to the MSRB, in 2011, the ADTV was $13 billion, with an average of 41,241 

trades per day in 15,213 unique securities. See MSRB 2011 Factbook, supra note 6. If trading on the first 

day a security begins to trade is excluded (a rough proxy for excluding most primary distribution trades), 

approximately $10.3 billion in principal of municipal securities traded on a daily basis, with an average of 

39,105 trades per day. This estimate was provided by MSRB staff based upon data collected for the MSRB 

2011 Factbook. The Staff understands that the volume discrepancy between the SIFMA (11.3 billion 

ADTV in 2011) and MSRB ($13 billion of ADTV in 2011) is attributable in part to the inclusion by the 

MSRB of certain transactions not included by SIFMA. Specifically, the MSRB includes in its statistics 

special reporting transactions, such as repurchase agreements and commercial paper, which the Staff 

understands are not included in the SIFMA statistics.

110 See infra notes 689 - 692 and accompanying text.

111 See supra note 93. See generally infra § IV.B.1.a (Post-Trade Price Transparency).
22 

6. Default and Bankruptcy Risk 

a. Rates of Default 

Historically, municipal securities have had significantly lower rates of default112 than 

corporate and foreign government bonds.113 A study by Moody’s Investor Services, Inc., 

(“Moody’s”) and data provided by Standard & Poor’s Ratings Services (“S&P”) in 2007 and 

2008 of defaults of debt issues that they rate support this historical pattern, showing that 

municipal bonds rated “Baa/BBB”114 or higher all have lower default rates than “Aaa/AAA”115

rated corporate bonds.116

 

112 A monetary default occurs when an issuer fails to pay interest or principal due on its securities. A 

“technical” default occurs when an event of default occurs, such as when an issuer fails to comply with a 

specified term of the bond contract. In either case, the bond contract may provide for a cure period that 

allows the default to be remedied. Thus, a default may constitute only a brief interruption of payments, a 

payment from a reserve fund, or a period during which the issuer may remediate the violated covenant and 

does not necessarily indicate that there will be any interruption of payments on the underlying debt. Unless 

specified otherwise, references to default in this section refer to monetary default. A recent press article 

noted that default statistics can vary widely depending on the definition of default. See Robert Slavin, 

“Muni Defaults Up 111% and Down 38%, Depending on Data,” The Bond Buyer, April 3, 2012, available 

at

 Moreover, studies indicate that the risk of ultimate non-payment for 

http://www.bondbuyer.com/issues/121_64/muni-defaults-2012-up-and-down-1038128-1.html (“Slavin 

Article”). The article points to two different data sources: one that suggests that, in the first two months of 

2012, municipal bond defaults decreased significantly compared to the same period in 2011 (S&P Capital 

IQ, based on a monetary default definition); and another that suggests the opposite (Distressed Debt 

Securities Newsletter, based on a technical default definition). 

113 See, e.g., Moody’s Investors Service, “The U.S. Municipal Bond Rating Scale: Mapping to the Global 

Rating Scale And Assigning Global Scale Ratings to Municipal Obligations” (Mar. 2007), available at

http://www.moodys.com/sites/products/DefaultResearch/102249_RM.pdf, (“Moody’s Global Study”); 

Report to Accompany H.R. 6308, 110th Congress, Serial No. 110-835 (Feb. 14, 2008), § 205, available at

http://frwebgate.access.gpo.gov/cgi-bin/getdoc.cgi?dbname=110_cong_reports&docid=f:hr835.110

(comparing the cumulative historical default rates of municipal and corporate bonds) (“Municipal Bond 

Fairness Act Report”). 

114 “Obligations rated Baa are subject to moderate credit risk. They are considered medium grade and as such 

may possess certain speculative characteristics.” See Moody’s Investors Service, “Ratings Symbols and 

Definitions,” Apr. 2012, available at

http://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_79004 (“Moody’s Symbols and 

Definitions”). A “BBB” rating by S&P represents “[a]dequate capacity to meet financial commitments, but 

more subject to adverse economic conditions.” See Standard & Poor’s Ratings Services, Credit Ratings 

Definitions & FAQs, available at http://www.standardandpoors.com/ratings/definitions-and-faqs/en/us

(accessed on May 15, 2012) (“S&P Definitions”).

115 “Obligations rated Aaa are judged to be of the highest quality, with minimal credit risk.” See Moody’s 

Symbols and Definitions, supra note 114. A “AAA” rating by S&P represents “[e]xtremely strong capacity 

to meet financial commitments. Highest Rating.” See S&P Definitions, supra note 114. 

116 See Moody’s Global Study and Municipal Bond Fairness Act, supra note 113. More recently, Moody’s 

Investors Service said in a study released in February 2010 that the 10-year average cumulative default rate 

in the municipal market was 0.09 percent from 1970 to 2009 for the municipal securities it rates, compared 

with 11.06 percent over the same time period for the corporate debt it rates. Most were concentrated among 

nonprofit health-care and housing projects. Moody’s Investors Service, “U.S. Municipal Bond Defaults 

and Recoveries, 1970-2009” (Feb. 2010), available at

http://www.naic.org/documents/committees_e_capad_vos_c1_factor_review_sg_related_docs_moodys_us

_municipal_bonds.pdf. See also “Default Risk and Recovery Rates on U.S. Municipal Bonds, Fitch 

Ratings,” 1 (Jan. 9, 2007), available at
23 

municipal debt historically has been low, both when compared to total municipal debt 

outstanding and total municipal debt in default.117

Municipal bond default rates have varied considerably in recent years. For example, 

according to S&P, at least 917 municipal bond issues went into monetary default during the 

1990s.

 Nevertheless, municipal bonds can and do 

default, and these defaults can negatively impact investors in ways other than non-payment, 

including delayed payments and pricing disruptions. 

118 These issues had a defaulted principal amount of over $9.8 billion, an average of just 

under $1 billion per year. In 2007, a total of $226 million in municipal bonds defaulted 

(including both monetary and technical defaults).119 However, municipal bond default rates 

spiked in 2008 as 162 issuers defaulted on $8.2 billion in municipal bonds.120 Nevertheless, 

despite speculation about the arrival of a large wave of municipal defaults as a result of the 

financial crisis,121 municipal bond default rates since 2009 have begun to return to historical 

average rates.122

 

 

http://www.cdfa.net/cdfa/cdfaweb.nsf/ordredirect.html?open&id=fitchdefaultreport.html (“Fitch Study”) 

(finding that as of the end of 2002, regardless of rating, the 5-15 year cumulative default rate in the 

subsectors of state and local government general obligation, lease and tax-backed debt, single-family 

housing, public higher education, public power distribution and water and sewer revenue bonds averaged 

0.24%, which was less than the 10-year cumulative default rate of 0.43% for “AAA” rated global corporate 

bonds). 

117 Fitch has observed that it is not aware of any state that permanently defaulted on its general obligation or 

tax-backed debt in the post-Civil War era. Additionally, in its study Fitch assumes a 100% recovery rate on 

several broad sectors of municipal bonds including state and local government tax-backed debt and 

appropriation-backed lease debt, and debt backed by a variety of public enterprises. Fitch Study, supra

note 116, at 3. Moody’s noted that “given the unique bankruptcy laws that govern municipalities and the 

anticipated near 100% recovery rate on any defaulted general obligation bond” they would expect that 

“general obligation bonds in default but with an anticipated recovery of 100 percent would likely be rated 

Ba1 on the corporate scale.” “Special Comment: Moody’s US Municipal Bond Rating Scale,” Moody’s 

Investor Service, 11 (Nov. 2002), available at

http://www.moodys.com/sites/products/DefaultResearch/2001700000407258.pdf. Historically, the amount 

of permanent losses on municipal debt is small when compared to the amount of municipal defaults. For 

example, permanent losses of principal and interest for the period 1945-1965 were less than .01% of the 

total municipal debt outstanding in 1965. Of the $13.5 billion of municipal bonds in default in 1932, only 

$200 million, or 1.48% of the bonds in default were permanent losses. See Ann Gellis, Mandatory 

Disclosure for Municipal Securities: A Reevaluation, 36 BUFFALO L. REV. 15, 26 n.30 (1987) (citing John 

Peterson, The Rating Game 110, 111 (1974)).

118 See generally S&P, “A Complete Look at Monetary Defaults in the 1990s” (June 2000), available at

http://www.kennyweb.com/kwnext/mip/paydefault.pdf (“S&P Report”). See also Moody’s Global Study 

(regarding municipal defaults of Moody’s rated municipal securities).

119 Joe Mysak, “Subprime Finds New Victim as Muni Defaults Triple,” Bloomberg (May 30, 2008), available 

at http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aGP25Nnw2JlY. 

120 Darrell Preston, “Municipal Defaults Continue at Triple the Typical Rate, Lehmann Says,” Bloomberg (Jul. 

16, 2010), available at http://www.bloomberg.com/news/2010-07-16/municipal-bond-defaults-continue-attriple-the-typical-rate-lehmann-says.html. 

121 See Nelson D. Schwartz, “A Seer on Banks Raises a Furor on Bonds,” New York Times, Feb. 8, 2011, at 

B1, available at http://www.nytimes.com/2011/02/08/business/economy/08whitney.html; Ben Baden, 

“What Happened to the Muni Bond Blowup?” U.S. News and World Report, July 19, 2011, available at

http://newsclips.sec.gov/?p=53983; Max Abelson and Michael McDonald, “Whitney Municipal-Bond 
24 

Municipal bond default rates also vary considerably depending on the types of bonds 

issued, ratings on the bonds, and whether the ultimate obligor is a municipal entity or a nonmunicipal entity (i.e., a conduit borrower). In the S&P study of municipal bond defaults in the 

1990s, non-rated bonds accounted for 85% of all defaults.123 That same study noted that bonds 

for the three major types of conduit bond issues (healthcare, multifamily housing, and industrial 

development) accounted for more than 70% of defaulted principal.124 More recent reports have 

also indicated that non-governmental conduit borrowers account for more than 70% of municipal 

bond defaults.125 A similar conclusion was reached in a 2011 report that stated that the largest 

share of modern era defaults consists of industrial development revenue bonds, followed by 

bonds supporting health care and housing. The report states that these three sectors accounted 

for 67% of all defaulting issues during the period 1980 to 2011.126

b. Municipal Bankruptcy 

Although relatively rare, municipal bankruptcies, state law receiverships, and similar 

proceedings also occur. The number of municipalities that have formally filed for bankruptcy 

protection pursuant to Bankruptcy Code Chapter 9 has to date remained limited. Since 1980 

there have been, on average, only about 7.5 municipal bankruptcy filings per year, with the 

majority originating from municipalities located in Nebraska (51), California (38), Texas (37), 

and Colorado (22).127 The low number of bankruptcies in the municipal sector can be attributed 

to several factors, both legal and practical, including: the negative effects of a bankruptcy filing 

on the credit ratings of not only the municipalities themselves, but also the states in which they 

are located, which means that bankruptcy is often used only as a last resort;

128

 

Apocalypse Short on Specifics,” Bloomberg (Feb. 1, 2011), available at

 the public nature 

http://www.bloomberg.com/news/2011-02-01/whitney-municipal-bond-apocalypse-is-short-on-defaultspecifics.html. 

122 In 2009, 194 issuers defaulted on $6.9 billion in municipal bonds. See Preston, supra note 120. S&P has 

reported that approximately 0.5% of all municipal bonds (by par value) are currently in monetary default 

and that 2011 saw $1.06 billion in defaults, down 60.8% from the same period in 2010. See Slavin Article, 

supra note 112. By contrast, the Slavin Article notes that Distressed Debt Securities Newsletter reported 

$25.36 billion of defaults in 2011, up 401.6% from 2010. As noted above in note 112, Distressed Debt 

Securities Newsletter uses the broader definition of “default” – technical default, which includes covenant 

violations.

123 See S&P Report, supra note 118, at 5 (Non-rated bonds constituted 780 of the 917 defaults). 

124 Id.

125 See Robert Doty, Bloomberg Visual Guide to Municipal Bonds (2012) at 8-20 (citing MMA data indicating 

that more than 90% of the municipal securities market from 1980 through 2002 occurred in market sectors 

dependent on private sector performance and citing Bloomberg data finding similar statistics for defaults 

from 2007 to 2010). See also Popper, supra note 30 (attributing statistics to Income Securities Advisors). 

126 Kroll Bond Ratings, “An Analysis of Historical Municipal Bond Defaults, Lessons Learned: The Past as 

Prologue,” Nov. 14, 2011.

127 Presentation: James E. Spiotto, “Unfunded Pension Obligations: Is Chapter 9 the Ultimate Remedy? Is 

there a Better Resolution Mechanism?” (June 2011), available at

http://www.sec.gov/spotlight/municipalsecurities/statements072911/spiotto-slides2.pdf. 

128 Henry C. Kevane, “Chapter 9 Municipal Bankruptcy: The New "New Thing"? Part I,” Business Law 

Today, May 2011, available at
25 

of bankruptcy; state restrictions against filing under Chapter 9; and the negative effects on access 

to future capital markets, which motivates financially distressed municipalities to rely on 

mechanisms other than Chapter 9 (including state refinancing authorities, receiverships, and 

commissions)129

Nonetheless, municipal bankruptcies can and do occur, as evidenced by high profile 

bankruptcies by municipalities such as: Orange County, California (1994); the City of 

Bridgeport, Connecticut (1991; withdrawn); the City of Camden, New Jersey (1999; withdrawn); 

the City of Vallejo, California (2008); the City of Central Falls, Rhode Island (2011); the City of 

Harrisburg, Pennsylvania (2011);

 to restructure debt. 

130 Jefferson County, Alabama (2011);131 the City of Stockton, 

California;132 and the Town of Mammoth Lakes, California.133 Bankruptcy has also been 

contemplated by officials of the City of Miami, Florida;

134 the City of Detroit, Michigan;135 and 

the City of San Bernardino, California.136

 

http://www.pszjlaw.com/media/publication/416_Kevane%2C%20Chapter%209.pdf

 Bankruptcies can have significant consequences for 

. Since the enactment 

of Chapter 9 in 1934, there have only been approximately 600 Chapter 9 filings.

129 See, e.g., Presentation: James E. Spiotto, “In Good Times and Bad Times, Financial Challenges Past, 

Present and Future,” Nov. 2010, available at

http://www.chapman.com/events/20101116/SpiottoWebinar_111610.pdf. In contrast to Chapter 9, state 

refinancing authorities, receiverships and commissions do not deal with adjustment of debt but instead 

provide funds for continued provision of municipal services. Id. at 95.

130 The bankruptcy suit for the City of Harrisburg was dismissed by a federal judge on November 23, 2011 and 

the City is in a state proceeding for distressed communities. See Sabrina Tavernise, “Judge Rejects 

Harrisburg’s Bankruptcy,” The New York Times, Nov. 23, 2011, available at

http://www.nytimes.com/2011/11/24/us/harrisburgs-bankruptcy-filing-is-rejected-by-judge.html; Steven 

Church and Romy Varghese, “Harrisburg May Get Receiver Even if Bankruptcy Judge Tosses City 

Petition,” Bloomberg, Nov. 23, 2011, available at http://www.bloomberg.com/news/2011-11-

23/harrisburg-may-get-receiver-even-if-bankruptcy-judge-tosses-city-petition.html. 

131 Kelly Nolan, “Largest Municipal Bankruptcy Filed,” The Wall Street Journal, Nov. 10, 2011; Katy Stech, 

“Judge: Jefferson County Chapter 9 Case Can Continue,” The Wall Street Journal, Mar. 5, 2012. 

132 Randall Jensen, “Stockton Files for Bankruptcy,” The Bond Buyer, June 29, 2012, available at

http://www.bondbuyer.com/issues/121_125/stockton-california-slash-debt-budget-declare-bankruptcy1041382-1.html. 

133 Steven Church and James Nash, “Mammoth Lakes, California, Seeks Bankruptcy Protection,” Bloomberg, 

July 4, 2012, available at http://www.bloomberg.com/news/2012-07-03/mammoth-lakes-california-filesfor-bankruptcy.html. Additionally, in 1983, the Washington Public Power Supply System defaulted on 

$2.25 billion in bonds, though it did not file for bankruptcy. See Division of Enforcement, Securities and 

Exchange Commission, Staff Report on the Investigation in The Matter of Transactions in Washington 

Public Power Supply System Securities (Sept. 1988).

134 Mike Clary, “As Debts Mount, Some See Doom Over Miami,” Los Angeles Times, Dec. 3, 1996, at A1, 

available at http://articles.latimes.com/1996-12-03/news/mn-5280_1_dade-county. 

135 Cf. Mike “Mish” Shedlock, Detroit is Halting Garbage Pickup, Police Patrols in 20% of City: Expect 

Bankruptcy in 2011, Business Insider, Dec. 13, 2010, available at http://articles.businessinsider.com/2010-

12-13/news/30065559_1_mayor-dave-bing-police-patrols-street-lights. 

136 Ian Lovett, “Third City in California Votes to Seek Bankruptcy,” The New York Times, July 11, 2012, 

available at http://www.nytimes.com/2012/07/12/us/san-bernardino-council-votes-to-file-bankruptcy.html. 
26 

municipalities that have outstanding municipal securities, both for the issuers of the securities 

and their investors. 137

c. Market Participant Observations and Other Commentary 

 

The issues related to issuer default or financial distress suggested to some field hearing 

participants the potential need for consideration of additional primary and secondary market 

disclosure to investors. Some field hearing participants noted the potential importance of 

primary market disclosure regarding default-related issues including, for example, disclosure 

about whether Chapter 9 bankruptcy is authorized by the state; what rights and remedies the 

investors may have in the event of a default; what options the municipality will possess; and 

what options for assistance the issuer may have in the event of financial distress.138 Market 

participants also suggested that because of the inconsistent nature of municipal securities 

disclosure in the secondary market and the lack of routine rating agency review, investors may 

not have information that could allow them to identify an issuer’s deteriorating financial 

condition. One participant suggested consideration of an “early warning system” to alert 

investors and other market participants to potential signs of issuer financial distress.139 The 

participant provided a number of examples of such “early warnings,” such as budget deficits and 

imbalances, service cuts, furloughs, layoffs, high unfunded pension liabilities, and decreases in 

property value and per capita income.140 It has also been suggested that once an issuer has 

defaulted, it may stop providing continuing disclosures, exacerbating opacity for defaulted bonds 

in the secondary market.141

 

137 The effect of a municipal bankruptcy on holders of municipal debt will typically differ according to the 

type of debt. For example, certain state statutes create a pledge (“statutory lien”) often of taxes, in favor of 

bondholders. These statutes mandate that pledged tax revenues as collected be paid to the bondholders or 

the bond trustee without any bankruptcy court impairment or interference. See Remarks of James Spiotto, 

Birmingham, Alabama Field Hearing (Jul. 29, 2011), 1-2, available at

http://www.sec.gov/spotlight/municipalsecurities/statements072911/spiotto.pdf. This is also the case for 

bonds backed by special revenues. Id. Further, the bankruptcy court cannot impair the statutory lien or the 

lien on special revenue. Id. In the case of general obligation bonds, a municipality is generally not 

required to make payments of principal or interest during the continuation of the bankruptcy proceeding. 

Id. at 44-45. 

138 See Remarks of James Spiotto, Birmingham, Alabama Field Hearing (Jul. 29, 2011), 1-2, available at

http://www.sec.gov/spotlight/municipalsecurities/statements072911/spiotto.pdf. 

139 See, e.g., Birmingham Hearing Transcript at 32-42 (Clark) (noting also the difficulties municipalities face 

in dealing with financial disclosure during the midst of a financial crisis while also addressing other basic 

governmental functions).

140 Birmingham Hearing Transcript at 41-42 (Clark).

141 See, e.g., Barnett Wright, “Jefferson County Commission Fails to Post Fiscal Documents Online,” The 

Birmingham News, June 13, 2010, available at

http://blog.al.com/spotnews/2010/06/jefferson_county_commission_fa_1.html. 
27 

B. REGULATORY STRUCTURE

1. Federal Securities Laws

a. Overview

The Securities Act of 1933 (“Securities Act”)142 and the Securities Exchange Act of 1934 

(“Exchange Act”)143 were both enacted with broad exemptions for municipal securities from all 

of their provisions except for the antifraud provisions of Section 17(a) of the Securities Act, 

Section 10(b) of the Exchange Act, and Rule 10b-5 promulgated thereunder.144 Congress, as 

part of the 1975 Amendments,145 created a limited regulatory scheme for the municipal securities 

market at the federal level in response to the growth of the market, market abuses, and the 

increasing participation of retail investors.146

The 1975 Amendments required firms transacting business in municipal securities to 

register with the Commission as broker-dealers, required banks dealing in municipal securities to 

register as municipal securities dealers, and gave the Commission broad rulemaking and 

enforcement authority over such broker-dealers and municipal securities dealers.

 

147 In addition, 

the 1975 Amendments created the MSRB and granted it authority to promulgate rules governing 

the sale of municipal securities by broker-dealers and municipal securities dealers.

148

 The 1975 Amendments did not create a regulatory regime for, or impose any new 

requirements on, municipal issuers. Pursuant to provisions commonly known as the “Tower 

Amendment,”

 

149

 

142 The Securities Act has two basic objectives: require that investors receive financial and other significant 

information concerning securities being offered for public sale; and prohibit deceit, misrepresentations, and 

other fraud in the sale of securities.

 the 1975 Amendments expressly limited the Commission’s and the MSRB’s 

143 The Exchange Act empowers the Commission with broad authority over all aspects of the securities 

industry including the power to register, regulate, and oversee brokerage firms, transfer agents, and clearing 

agencies as well as the nation’s securities self-regulatory organizations. The various stock exchanges, the 

MSRB, and FINRA are self-regulatory organizations. The Exchange Act also identifies and prohibits 

certain types of conduct in the markets and provides the Commission with disciplinary powers over 

regulated entities and persons associated with them. The Exchange Act also empowers the Commission to 

require periodic reporting of information by companies with publicly traded securities.

144 See Securities Act § 3(a)(2); Securities Act § 12(a)(2); Exchange Act § 3(a)(12); Exchange Act § 3(a)(29).

145 Securities Acts Amendments of 1975, Pub. L. No. 94-29, 89 Stat. 131 (1975).

146 See Division of Market Regulation, Securities and Exchange Commission, “Staff Report on the Municipal 

Securities Market” (Sept. 1993), available at http://www.sec.gov/info/municipal/mrmunimarketreport1993.pdf (“1993 Staff Report”).

147 See, e.g., Exchange Act §§ 15(c)(1), 15(c)(2); 17(a); 17(b), 15B(c)(1), and 21(a)(1). Enforcement activities 

regarding municipal securities dealers must be coordinated by the Commission, FINRA and the appropriate 

bank regulatory agency. Exchange Act §§ 15B(c)(6)(A), 15B(c)(6)(B), and 17(c). 

148 Exchange Act § 15B(b). The MSRB was not granted authority to enforce its rules. See infra § II.B.3.a

(Municipal Securities Rulemaking Board). 

149 Exchange Act § 15B(d)(1). The Tower Amendment also prohibited the MSRB, either directly or 

indirectly, from requiring municipal issuers to furnish purchasers, prospective purchasers or the MSRB 

with any “application, report, document, or information” not generally available from a source other than 
28 

authority to require municipal securities issuers, either directly or indirectly, to file any 

application, report, or document with the Commission or the MSRB prior to any sale by the 

issuer.150 The 1975 Amendments do not, by their terms, preclude the Commission from 

promulgating disclosure standards in municipal offerings, but there is no express statutory 

authority contained in the Exchange Act over disclosure by municipal issuers.151 The Dodd–

Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”) did not change 

these provisions,152 but required a study and review by the U.S. Comptroller General of 

municipal securities disclosure, possible recommendations for municipal issuer disclosure 

requirements, and the advisability of the repeal or retention of the Tower Amendment.153

In the absence of a statutory scheme for municipal securities registration and reporting, 

the Commission’s investor protection efforts in the municipal securities market have been 

accomplished primarily through regulation of broker-dealers and municipal securities dealers

pursuant to Exchange Act Rule 15c2-12, Commission interpretations,154 enforcement of the 

antifraud provisions of federal securities laws,155 and Commission oversight of the MSRB.156

 the issuer. Exchange Act § 15B(d)(2). This section was intended to make clear that the legislation was not 

designed to subject states, cities, counties, or any other municipal authorities, to any disclosure 

requirements that might be devised by the MSRB. See 1993 Staff Report, supra note 

 

The Commission first recommended, over 15 years ago, that for-profit conduit borrowers 

146, Appx. A at 5 

(citing to 94th Cong., 1st Sess., 121 Cong. Rec. 10727 (1975) (Remarks of Senator Tower)).

150 See Exchange Act § 15B(d)(1). See also 1993 Staff Report, supra note 146, at 7-8.

151 See 1993 Staff Report, supra note 146, at 8.

152 The Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111-203, 124 Stat. 1376 

(2010) (“Dodd-Frank Act”) added references to municipal advisors in the 1975 Amendments. See, e.g., 

Exchange Act § 15B(a)(1)(B).

153 The Dodd-Frank Act § 976. See GAO, “Report to Congressional Committees, Municipal Securities: 

Options for Improving Continuing Disclosure,” GAO-12-698 (July 2012), available at

http://gao.gov/assets/600/592669.pdf. In addition, the Dodd-Frank Act requires the Comptroller General to 

submit (1) a report with an analysis of the mechanisms for trading, quality of trade executions, market 

transparency, trade reporting, price discovery, settlement clearing, and credit enhancements; the needs of 

the markets and investors and the impact of recent innovations; recommendations for how to improve the 

transparency, efficiency, fairness, and liquidity of trading in the municipal securities markets; and potential 

uses of derivatives in the municipal securities markets and (2) a report concerning the role and importance 

of the Governmental Accounting Standards Board in the municipal securities market; and the manner and 

the level at which the Governmental Accounting Standards Board has been funded. Dodd-Frank Act, §§ 

977-78. The former report was issued in January 2012. See GAO Market Structure Report, supra note 61. 

The GAO’s study of the GASB was issued in January 2011 and is available at 

http://www.gao.gov/new.items/d11267r.pdf. 

154 See, e.g., Exchange Act Release No. 26100, “Municipal Securities Disclosure” (Sept. 22, 1988), 53 FR 

37778 (Sept. 28, 1988) (“1988 Proposing Release”); Exchange Act Release No. 26985, “Municipal 

Securities Disclosure” (June 28, 1989), 54 FR 28799 (July 10, 1989) (“1989 Adopting Release”); 1994 

Interpretive Release, supra note 31. 

155 See infra § II.B.1.b (Antifraud Authority).

156 Exchange Act § 15B(b).
29 

utilizing industrial development financings through municipal entities and their agencies and 

instrumentalities be subject to the registration and disclosure provisions of the Securities Act.157

b. Antifraud Authority 

In light of the national scope of the municipal securities market and its importance to the 

economy and state and local governments, there is an overriding federal interest in assuring that 

there be adequate disclosure of all material information by issuers of municipal securities.

158 As 

noted above, Congress did not exempt transactions in municipal securities from the coverage of 

the antifraud provisions of Section 17(a) of the Securities Act, Section 10(b) of the Exchange 

Act, and Rule 10b-5 promulgated thereunder.159 The antifraud provisions of the federal 

securities laws prohibit any person, including municipal issuers160 and dealers, from making any 

untrue statement of material fact, or omitting any material facts necessary to make statements 

made, in the light of the circumstances under which they were made, not misleading, in 

connection with the offer, purchase, or sale of any security.161 Municipal issuer disclosures, such 

as disclosures in official statements and ongoing annual, periodic and event-related disclosure, 

are subject to these prohibitions.162 In addition, broker-dealers, municipal securities dealers, and 

municipal advisors are subject to regulations adopted by the Commission, including those 

regulations adopted to define and prevent fraud.163

Municipal issuers and other market participants also are subject to the antifraud 

provisions in connection with statements made after the securities have been sold. In fact, 

 

 

157 See 1994 Interpretive Release, supra note 31 (also citing at note 83 earlier statements by SEC chairmen 

David S. Ruder (1987), John S.R. Shad (1985) and Harold M. Williams (1978)). See also, e.g., Christopher 

Cox, Chairman, U.S. Securities and Exchange Commission, “Integrity in the Municipal Market,” Los 

Angeles, (Jul. 18, 2007), available at http://sec.gov/news/speech/2007/spch071807cc.htm; U.S. Securities 

and Exchange Commission Staff White Paper to Congress, “Disclosure and Accounting Practices in the 

Municipal Securities Market” (Jul. 2, 2007), available at http://sec.gov/news/press/2007/2007-148wp.pdf. 

This historical legislative recommendation would subject companies and other entities that use municipal 

securities to finance their facilities to the registration and disclosure provisions of the federal securities laws 

- the same registration and disclosure standards that would apply if they issued their securities directly (not 

using municipal issuers as conduits). 

158 See 1994 Interpretive Release, supra note 31. 

159 See id.

160 A “person” is defined in § 3(a)(9) of the Exchange Act as “a natural person, company, government, or 

political subdivision, agency, or instrumentality of a government.”

161 Exchange Act §10(b) and Securities Act § 17(a); Rule 10b-5 under the Exchange Act. 

162 See 1994 Interpretive Release, supra note 31 (“The adequacy of the disclosure provided in municipal 

security offering materials is tested against an objective standard: an omitted fact is material if there is a 

substantial likelihood that, under all the circumstances, the omitted fact would have assumed actual 

significance in the deliberations of the reasonable (investor.) Put another way, there must be a substantial 

likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as 

having significantly altered the “total mix” of information made available” citing TSC Industries, Inc. v. 

Northway, Inc., 426 U.S. 438, 449 (1976)). 

163 See 1994 Interpretive Release, supra note 31; Exchange Act §§ 15(c)(1) and (2).
30 

whenever a municipal issuer releases information to the public that is reasonably expected to 

reach investors and the trading markets, such disclosure is subject to the antifraud provisions.164

c. Rule 15c2-12 

 

Exchange Act Rule 15c2-12 was adopted in 1989 to establish standards for the 

procurement and dissemination of disclosure documents by underwriters as a means of 

enhancing the accuracy and timeliness of disclosure to municipal securities investors.165 Rule 

15c2-12 also was designed to assist underwriters in meeting their responsibilities under the 

antifraud provisions of the federal securities laws by requiring them to review issuer disclosure 

documents before commencing sales to investors.166

In 1994, the Commission amended Rule 15c2-12 to improve disclosure practices in the 

secondary markets by prohibiting underwriters from purchasing or selling municipal securities in 

connection with a primary offering unless the issuer had committed to providing continuing 

disclosure regarding the security and issuer, including its financial condition and operating 

data.

167

In 2008, the Commission amended Rule 15c2-12 to establish a single centralized 

disclosure repository for the electronic collection and availability of information about municipal 

securities. The Commission’s rulemaking was intended to improve the availability of 

information about municipal securities to investors, market professionals, and the public 

generally.

168 This repository, established and maintained by the MSRB, is its Electronic 

Municipal Market Access system, known by the acronym EMMA, and is freely accessible to all 

investors on the Internet.

169

 

164 See 1994 Interpretive Release, supra note 31. 

165 See 1989 Adopting Release, supra note 154. 

166 Id. Exchange Act Rule 15c2-12 requires underwriters acting in a primary offering of municipal securities 

of $1,000,000 or more: (1) to obtain and review an official statement “deemed final” by an issuer of the 

securities, except for the omission of specified information, prior to making a bid, purchase, offer, or sale 

of municipal securities; (2) in negotiated sales, to send, upon request, a copy of the most recent preliminary 

official statement (if one exists) to potential customers; (3) to contract with the issuer to receive, within a 

specified time, sufficient copies of the final official statement to comply with the Rule's delivery 

requirement, and the requirements of the rules of the MSRB; and (4) to send, upon request, a copy of the 

final official statement to potential customers for a specified period of time. 

167 See Exchange Act Release No. 34961, “Municipal Securities Disclosure” (Nov 10, 1994), 59 FR 59590 

(Nov. 17, 1994), available at http://www.sec.gov/rules/final/adpt6.txt (“1994 Amendment Release”).

168 Exchange Act Release No. 59062, “Amendment to Municipal Securities Disclosure” (Dec. 5, 2008), 73 FR 

76104 (Dec. 15, 2008), available at http://www.sec.gov/rules/final/2008/34-59062fr.pdf. See also 

Exchange Act Release No. 59061, “Self-Regulatory Organizations: Municipal Securities Rulemaking 

Board; Notice of Filing of Amendment No. 1 and Order Granting Accelerated Approval of Proposed Rule 

Change, as Modified by Amendment No. 1 Thereto, Relating to the Establishment of a Continuing 

Disclosure Service of the Electronic Municipal Market Access System (EMMA)” (Dec. 5, 2008), 73 FR 

75778 (Dec. 12, 2008), available at http://www.sec.gov/rules/sro/msrb/2008/34-59061.pdf. 

169 See Exchange Act Release No. 59966 (May 21, 2009), 74 FR 25790 (May 29, 2009), available at 

http://www.sec.gov/rules/sro/msrb/2009/34-59966.pdf. EMMA is available at http://emma.msrb.org. See 
31 

On May 26, 2010, the Commission again amended Rule 15c2-12 to make significant 

changes to the material event notice requirements and to make the continuing disclosure 

requirements of the Rule applicable to variable rate demand obligations.170 These amendments 

apply to municipal securities issued on or after December 1, 2010.171

d. Enforcement Actions 

 

The Commission has pursued a significant number of enforcement actions involving 

municipal securities over the past 20 years. These enforcement cases have involved materially 

misleading statements and omissions in disclosure relating to municipal securities as well as 

many other improper activities of municipal securities market participants. Generally, the 

allegations in these enforcement actions have focused on (a) offering and disclosure fraud;172 (b) 

tax or arbitrage-driven fraud; 173 (c) pay-to-play and public corruption violations;174 (d) public 

pension accounting and disclosure fraud;175 and (e) valuation/pricing issues.176

 also Gretchen Morgenson, “Fresh Air in the Muni Market,” New York Times, Aug. 30, 2009, at BU1, 

available at

 

http://www.nytimes.com/2009/08/30/business/30gret.html. 

170 Exchange Act Release No. 62184A “Amendment to Municipal Securities Disclosure” (May 26, 2010), 75 

FR 33100 (June 10, 2010), available at http://www.sec.gov/rules/final/2010/34-62184a.pdf (“2010 

Adopting Release”). As amended, Rule 15c2-12 requires disclosure of the following events in a timely 

manner not in excess of ten business days after the occurrence of the event: (1) principal and interest 

payment delinquencies; (2) non-payment related defaults, if material; (3) unscheduled draws on debt 

service reserves reflecting financial difficulties; (4) unscheduled draws on credit enhancements reflecting 

financial difficulties; (5) substitution of credit or liquidity providers, or their failure to perform; (6) adverse 

tax opinions, the issuance by the Internal Revenue Service of proposed or final determinations of taxability, 

Notices of Proposed Issue (IRS Form 5701-TEB) or other material notices or determinations with respect to 

the tax status of the security , or other material events affecting the tax status of the security; (7) 

modifications to rights of security holders, if material; (8) bond calls, if material, and tender offers; (9) 

defeasances; (10) release, substitution or sale of property securing repayment of the securities, if material; 

(11) rating changes; (12) bankruptcy, insolvency, receivership or similar event of the obligated person; (13) 

the consummation of a merger, consolidation, or acquisition involving an obligated person or the sale of all 

or substantially all the assets of the obligated person, other than in the ordinary course of business, the entry 

into a definitive agreement to undertake such an action or the termination of a definitive agreement relating 

to any such actions, other than pursuant to its terms, if material; and (14) appointment of a successor or 

additional trustee or the change of name of a trustee, if material. See Rule 15c2-12(b)(5)(C). Rule 15c2-

12(b)(5)(D) also requires disclosure of a failure to provide required annual financial information on or 

before the date specified in the written agreement or contract. 

171 Id. 

172 See infra notes 353 - 362 and accompanying text.

173 In addition to the matters described elsewhere in this report, the Commission has brought enforcement 

actions alleging tax or arbitrage-driven fraud that, at their core, involve material omissions about material 

risks that could affect the tax treatment of the municipal bonds being issued. See, e.g., Securities Act 

Release No. 8412/Exchange Act Release No. 49596, “Commission Charges Ira Weiss and L. Andrew 

Shupe II with Violating the Anti-Fraud Provisions of the Federal Securities Laws in Connection with a $9.6 

Million Offering of Municipal Securities” (Apr. 22, 2004; Weiss v. SEC, 468 F.3d 849 (D.C. Cir. 2006)

(failure by bond lawyer to conduct a reasonable investigation into the facts underlying his opinion as to the 

tax-exempt status of the of the bonds)); Securities Act Release No. 8854, In the Matter of CDR Financial 

Products, Inc., f/k/a Chambers, Dunhill, Rubin & Co. (order) (Sep. 28, 2007), available at

http://www.sec.gov/litigation/admin/2007/33-8854.pdf (failure of firm to disclose fee arrangement with a 

credit enhancement provider that created a risk to the tax-exempt status of the bonds); Securities Act 
32 

2. Internal Revenue Service

 In addition to the Commission, Congress has provided oversight and enforcement powers 

with respect to the municipal securities industry to the IRS. The IRS and the Commission 

entered into a Memorandum of Understanding (“MOU”) in March 2010, in which each 

acknowledges the other’s need for, and interest in, sharing information, and agrees, within the 

confines of existing law, to communicate with each other regarding, among other things, market 

risks, practices, and events relating to tax-exempt bonds and municipal securities. Although this 

MOU has generally led to a successful working relationship between the IRS and the 

Commission, certain provisions of existing law have hindered the IRS’s efforts to cooperate with 

the Commission.177

Similarly, the IRS cannot alert the Commission to potential fraud involving municipal 

securities by broker-dealers or other entities under the Commission’s jurisdiction. For example, 

the Commission’s investigation concerning the Neshannock Township School District, which 

ultimately led to the precedent-setting decision concerning bond counsel by the D.C. Circuit 

Court of Appeals in Ira Weiss v. SEC,

 As a result, the Commission is generally not aware of IRS audits and 

investigations of municipal bond issues unless they become public. 

178

 Release No. 7663, In the Matter of John E. Thorn, Jr. and Thorn Welch & Co., Inc., f/k/a Thorn, Alvis, 

Welch, Inc. (order) (Mar. 31, 1999), available at

 had to be delayed until the IRS had completed its 

investigation and come to the preliminary determination that the School District’s 2000 notes 

http://www.sec.gov/litigation/admin/33-7663.txt (failure 

to disclose issuer’s intentions regarding spending of offering proceeds, which would have jeopardized 

bonds tax-free status, found to violate antifraud rules).

174 See infra § III.B.5.b (Enforcement Actions). 

175 See infra § III.B.2.a (Enforcement Actions). 

176 See infra § IV.B.3.a (Fair Prices). 

177 In particular, the Code prohibits the disclosure of “return information” (which includes taxpayer identity, 

information obtained through audits, and a broad scope of other information) in any manner except as 

specifically authorized by § 6103 of the Code. § 6103 precludes the IRS from disclosing not only the 

identity of the investors who may be taxed if the IRS determines that an issue of municipal bonds is taxable 

(which would generally be of no interest or benefit to the SEC), but also the identity of the issuer of such 

bonds or the offering. § 6103 exceptions enable law enforcement agencies to use relevant tax information 

to investigate and prosecute tax and nontax crimes and allow federal and state agencies to use it to verify 

eligibility for need-based programs and collect child support, among other uses. Although these § 6103 

exceptions permit disclosure of return information in many situations, including disclosure to federal 

authorities for use in criminal investigations, disclosure to the Commission and Commission staff in 

connection with civil enforcement of the securities laws is not covered. For example, disclosure of return 

information is permitted to taxpayer designees, State tax officials and State local law enforcement agencies 

for the purpose of administration of State tax laws, persons with a material interest in the return, 

Committees of Congress, the President and designated White House officials, the Department of Justice, 

Department of Treasury and certain other Federal officers and employees for purposes of tax 

administration, criminal investigations and judicial proceedings. In addition, disclosure is permitted to a 

number of federal departments and agencies for purposes other than tax administration, such as the Social 

Security Administration and Railroad Retirement Board, the Department of Labor and Pension Benefit 

Guaranty Corporation, federal agencies administering Federal loan programs, Federal, State and local child 

support enforcement agencies, the Department of Education in connection with the repayment of income 

contingent student loans, the U.S. Customs Service, and Secretary of Health and Human Services.

178 468 F.3d 849 (DC Cir. 2006).
33 

were taxable. Additionally, the Commission’s investigation into bid-rigging schemes involving 

the investment of tax-exempt municipal securities from at least 1997 through 2005, although 

conducted in parallel with similar investigations by the Department of Justice and the Office of 

the Comptroller of the Currency (“OCC”), could not be easily coordinated with the IRS. These 

investigations ultimately resulted in a number of criminal indictments and guilty pleas as well as 

settlements in 2010 and 2011 with five financial institutions that, among other things, included 

$117 million in payments to the IRS and aggregate payments of nearly $745 million.179

3. Self-Regulation 

 Had the 

IRS been able to communicate with the Commission, these investigations could have been 

conducted in a more efficient and timely fashion. 

a. Municipal Securities Rulemaking Board

Created by the 1975 Amendments, the MSRB is a self-regulatory organization (“SRO”) 

subject to Commission oversight. The MSRB has authority, as expanded by the Dodd-Frank 

Act, to adopt rules regulating: transactions in municipal securities by broker-dealers and 

municipal securities dealers; advice provided to or on behalf of municipal entities (including but 

not limited to issuers of municipal securities) and conduit borrowers and other obligated persons 

by municipal advisors180 with respect to municipal financial products181 or the issuance of 

municipal securities; and solicitations182

 

179 See infra note 

 for compensation of certain business on behalf of 

589. 

180 Exchange Act § 15B(b)(2) as added by §975 of the Dodd-Frank Act provides that the term “municipal 

advisor” (A) means a person (who is not a municipal entity or an employee of a municipal entity) that— (i) 

provides advice to or on behalf of a municipal entity or obligated person with respect to municipal financial 

products or the issuance of municipal securities, including advice with respect to the structure, timing, 

terms, and other similar matters concerning such financial products or issues; or (ii) undertakes a 

solicitation of a municipal entity; (B) includes financial advisors, guaranteed investment contract brokers, 

third-party marketers, placement agents, solicitors, finders, and swap advisors, if such persons are 

described in any of clauses (i) through (iii) of subparagraph (A); and (C) does not include a broker, dealer, 

or municipal securities dealer serving as an underwriter (as defined in § 2(a)(11) of the Securities Act) any 

investment adviser registered under the Investment Advisers Act of 1940, or persons associated with such 

investment advisers who are providing investment advice, any commodity trading advisor registered under 

the Commodity Exchange Act or persons associated with a commodity trading advisor who are providing 

advice related to swaps, attorneys offering legal advice or providing services that are of a traditional legal 

nature, or engineers providing engineering advice. See infra notes 261- 263 (regarding the Commission’s 

proposed temporary registration regime and proposed rules interpreting this provision).

181 Exchange Act § 15B(b)(2) as added by § 975 of the Dodd-Frank Act defines the term “municipal financial 

products” to include municipal derivatives, guaranteed investment contracts, and investment strategies. 

The term “investment strategies” includes plans or programs for the investment of the proceeds of 

municipal securities that are not municipal derivatives, guaranteed investment contracts, and the 

recommendation of and brokerage of municipal escrow investments.

182 Exchange Act § 15B(b)(2) as added by § 975 of the Dodd-Frank Act defines the term “solicitation of a 

municipal entity or obligated person” to mean a direct or indirect communication with a municipal entity or 

obligated person made by a person, for direct or indirect compensation, on behalf of a broker, dealer, 

municipal securities dealer, municipal advisor, or investment adviser (as defined in § 202 of the Investment 

Advisers Act of 1940) that does not control, is not controlled by, or is not under common control with the 

person undertaking such solicitation for the purpose of obtaining or retaining an engagement by a 

municipal entity or obligated person of a broker, dealer, municipal securities dealer, or municipal advisor 
34 

broker-dealers, municipal securities dealers, and municipal advisors from municipal entities and 

obligated persons.183 The Dodd-Frank Act also changed the composition of the membership on 

the MSRB (or the “Board”) to require a majority of public representatives.184 The Board has the 

power to determine all matters relating to the operation and administration of the Board.185

The MSRB rules, among other things, establish appropriate standards for broker-dealers, 

municipal securities dealers and municipal advisors

 

186 and are designed, among other things, to 

prevent fraudulent and manipulative acts and practices and promote just and equitable principles 

of trade.

187 The MSRB does not, however, have the authority to enforce its rules. Rather, 

Congress divided enforcement responsibility among multiple regulatory agencies.188 Currently, 

in addition to the Commission, the Financial Industry Regulatory Authority (“FINRA”), the 

Federal Deposit Insurance Corporation (“FDIC”), the Federal Reserve System (“FRS”), and the 

OCC (OCC together with the FDIC and FRS, the “bank regulators”)189 all play a role in the 

enforcement of MSRB rules.190

 

for or in connection with municipal financial products, the issuance of municipal securities, or of an 

investment adviser to provide investment advisory services to or on behalf of a municipal entity.

 The MSRB, in turn, facilitates the enforcement efforts of these 

183 See Exchange Act § 15B(b)(2); Dodd-Frank Act, § 975.

184 Dodd-Frank Act § 975(b). Prior to the passage of the Dodd-Frank Act, the MSRB Board was comprised of 

a majority of regulated entity members. The Dodd-Frank Act mandates that the MSRB Board be 

comprised of a majority of public members who are independent of regulated entities. The Commission 

approved amendments to MSRB Rule A-3 on the composition of the MSRB Board, Exchange Act Release 

No. 65424 (Sept. 28, 2011), 76 FR 61407 (Oct. 4, 2011); however, market participants have expressed their 

dissatisfaction with the transparency of the selection procedures for MSRB Board membership. See, e.g.,

Letter from National Association of Independent Public Finance Advisors, September 12, 2011 re: SRMSRB-2011-11 (“NAIPFA 2011-11 Letter”), Letter from the Government Finance Officers Association, 

September 16, 2011 re: SR-MSRB-2011-11 (“GFOA 2011-11 Letter”). The MSRB has responded to this 

criticism by publishing, on its website, the names of all persons who applied for MSRB Board membership 

after the selection process has been completed.

185 See MSRB Rules A-2 and A-3. Some market participants have expressed dissatisfaction with overall 

transparency of the MSRB’s deliberative process and access to the MSRB Board. See, e.g., NAIPFA 2011-

11 Letter; GFOA 2011-11 Letter. Market participants have asked for open meetings and records noting 

that, unlike other self-regulatory organizations, the MSRB was created by Congress and regulated entities 

do not have a choice of whether to be bound by MSRB rules. See Letter from Robert W. Doty, Sep. 27, 

2010 re: SR-MSRB-2010-08. The MSRB has indicated that it will continue to explore alternatives to 

promote transparency in MSRB Board processes. See Letter from the MSRB, Sept. 19, 2011 re: SRMSRB-2011-11. The MSRB currently provides governance, financial, program, strategic objectives, longrange planning and additional information on its website at http://www.msrb.org/About-MSRB.aspx. 

186 Exchange Act § 15B(b)(2)(A). See infra § II.C.1 (Broker-Dealers, Municipal Securities Dealers, and 

Related Market Participants).

187 Exchange Act § 15B(b)(2)(C). 

188 See Exchange Act § 15B(c)(5).

189 See Dodd-Frank Act, §§ 301-26. Although the Office of Thrift Supervision (“OTS”) formerly played a 

role, pursuant to Dodd-Frank Act §§ 301 through 326, OTS was ordered to be dismantled, and its 

responsibilities and functions reassigned to the FDIC, OCC and FRS.

190 See Exchange Act § 15B(c)(7), which provides that the periodic examination of regulated entities shall be 

conducted by (a) a registered securities association in the case of dealers that are members of the registered 
35 

agencies through regulatory coordination and enforcement support programs, which provide the 

agencies with market information and reports of potential violations as they become known, and 

consultation concerning its rules. 

The Commission’s 2008 amendment of Exchange Act Rule 15c2-12 designating the 

MSRB as the central repository for continuing municipal securities disclosure191 and the 

MSRB’s establishment in 2009 of the EMMA website192 significantly improved the availability 

of both primary market and continuing disclosure documents to investors.193 EMMA now serves 

as the official repository of municipal securities disclosure, providing the public with free access 

to relevant municipal securities data, and is the central database for information about municipal 

securities offerings, issuers, and obligors.194

In addition to final official statements and advance refunding documents submitted by 

underwriters under MSRB rules and continuing disclosures submitted by municipal entities and 

obligated persons to EMMA pursuant to continuing disclosure agreements, the MSRB is 

authorized to accept disclosure that issuers of municipal securities, on a voluntary basis, submit 

to EMMA, including a number of additional categories of continuing disclosures such as 

quarterly or other interim financial and operating data, preliminary official statements, and other 

related pre-sale documents, official statements and advance refunding documents, as well as 

information relating to the preparation and submission of audited financial statements and/or 

annual financial information and hyperlinks to other information available from the issuer’s 

website.

 

195

 

securities association, (b) the appropriate regulatory agency (“bank regulators”) in the case of dealers that 

are not members of a registered securities association, and (c) the SEC, or its designee, in the case of 

municipal advisors.

 

191 See Exchange Act Release No. 59062, supra note 168. 

192 See Exchange Act Release No. 59966, supra note 169. EMMA was initially launched as a pilot in March 

2008 and became fully operational in states throughout 2009. See Exchange Act Release Nos. 59212 (infra 

note 706), 59966 (supra note 169) and 59061 (supra note 168).

193 See Andrew Ackerman, “For MSRB, From Many to One; EMMA Thriving as Sole NRMSIR,” The Bond 

Buyer (July 7, 2010), available at http://www.bondbuyer.com/issues/119_377/msrb_repository-1014424-

1.html. See also San Francisco Hearing Transcript at 41 (Colby), 83, 86, 106, 118 (Belsky), 238 (Kuhn), 

and 243 (Lehman).

194 SEC Release 2008-286, “SEC, MSRB: New Measures to Provide More Transparency Than Ever Before for 

Municipal Bond Investors” (Dec. 8, 2008), available at http://www.sec.gov/news/press/2008/2008-

286.htm. The Staff understands that the MSRB’s EMMA website has received over 20 million page views 

per year, and the MSRB is forecasting over 25 million page views in 2012.

195 See Exchange Act Release No. 62183, “Notice of Filing of Amendment No. 2 and Order Granting 

Accelerated Approval of Proposed Rule Change, as Modified by Amendment Nos. 1 and 2 Thereto, 

Relating to Additional Voluntary Submissions by Issuers to the MSRB’s Electronic Municipal Market 

Access System (EMMA)” (SR-MSRB-2009-10) (May 26, 2010), 75 FR 30876 (June 2, 2010), available at

http://www.sec.gov/rules/sro/msrb/2009/34-62183.pdf. See also Exchange Act Release No. 60033, “Order 

Granting Approval of Proposed Rule Change Relating to the Voluntary Submission of Continuing 

Disclosure Documents to Its Upcoming Continuing Disclosure Service of the Electronic Municipal Market 

Access System (EMMA)” (SR-MSRB-2009-004) (June 3, 2009), 74 FR 27369 (June 9, 2009), available at

http://www.sec.gov/rules/sro/msrb/2009/34-60033.pdf. 
36 

This issuer disclosure, in addition to real-time trade data, education resources, current 

interest rate information, liquidity documents, and other information for most variable rate 

municipal securities, as well as credit ratings from Fitch Ratings (“Fitch”) and S&P,

196

http://emma.msrb.org

is 

available on EMMA at . The MSRB recently published its Long-Range 

Plan for Market Transparency Products, which includes its vision for enhancing EMMA to, 

among other things, expand the universe of information available and improve search 

functionality.197

b. Financial Industry Regulatory Authority

 

FINRA is an SRO that oversees more than 4,400 securities firms and nearly 630,000 

registered securities representatives in the United States.198

• regulating broker-dealers and their registered persons; 

 FINRA’s responsibilities include: 

• providing market information; 

• adopting and enforcing rules to protect investors and the financial markets; 

• examining broker-dealers for compliance with FINRA rules as well as federal 

securities laws, including the rules and regulations thereunder, and MSRB rules; 

• informing and educating the investing public; 

• providing industry utilities; and 

• administering the largest dispute resolution forum for investors and registered 

firms.199

While its responsibilities extend well beyond the municipal securities market, FINRA plays an 

instrumental role in overseeing the registration and examination process for municipal dealer 

 

 

196 See MSRB Press Release, “Municipal Securities Credit Ratings from Fitch Ratings and Standard & Poor’s 

available on the MSRB’s EMMA Website” (Nov. 21, 2011), available at http://www.msrb.org/News-andEvents/Press-Releases/2011/Municipal-Credit-Ratings-Available-on-EMMA.aspx. See also, Exchange Act 

Release No. 63086, “Order Approving Proposed Rule Change Relating to Amendments to the Continuing 

Disclosure Service of the MSRB’s Electronic Municipal Market Access System (EMMA)” (SR-MSRB2010-03) (Oct. 13, 2010), 75 FR 63884 (Oct. 18, 2010), available at

http://www.sec.gov/rules/sro/msrb/2010/34-63086.pdf. On November 21, 2011, the MSRB’s EMMA 

website began providing investors and others with free public access to current municipal credit ratings 

from Fitch Ratings and Standard & Poor’s Ratings Services.

197 See MSRB Long-Range Plan for Market Transparency Products (Jan. 2012), available at

http://www.msrb.org/msrb1/pdfs/Long-Range-Plan.pdf. 

198 See FINRA, “About the Financial Industry Regulatory Authority,” available at

http://www.finra.org/AboutFINRA (accessed on Apr. 19, 2012). 

199 See FINRA, FINRA 2010 Year in Review and Annual Financial Report (2011), available at

http://www.finra.org/web/groups/corporate/@corp/@about/@ar/documents/corporate/p123836.pdf (“2010 

FINRA Report”).
37 

professionals and encouraging, examining, and enforcing compliance with MSRB rules by nonbank municipal dealers. However, FINRA’s rules explicitly do not apply to transactions in and 

business activities relating to municipal securities200 because transactions in municipal securities 

effected by municipal bond dealers, and municipal advisory activities engaged in by municipal 

advisors, are subject to the rules of the MSRB.201

Approximately 1,800 MSRB-registered broker-dealers are members of and examined by 

FINRA, with the remaining dealers registered with the SEC as municipal securities dealers and 

examined primarily by the various federal bank regulators.202 The Commission recently 

approved a change to MSRB Rule G-16 (Periodic Compliance Examination) to provide for riskbased examinations for FINRA member brokers and dealers.203 In addition to examinations, 

FINRA surveils the marketplace with respect to the pricing of bond transactions and markups. In 

recent years, FINRA has conducted sweeps and targeted exams in the area of municipal sales 

practices;

204 issued guidance reminding firms of their sales practice and due diligence obligations 

when selling municipal securities in the secondary market;

205 and conducted an informal look at 

new-issue retail order periods to address concerns about the potential for “flipping” municipal 

bonds.206

 

200 See FINRA Rule 0150 (Application of Rules to Exempted Securities Except Municipal Securities). 

Following the consolidation of the enforcement arm of the New York Stock Exchange, NYSE Regulation, 

Inc. (“NYSE”), the National Association of Securities Dealers (“NASD”), and FINRA in 2007, FINRA 

undertook a consolidation of the rules of the NASD and the NYSE. The reference herein to “FINRA’s 

rules” means the rules included in the FINRA Manual, available at

 

http://www.finra.org/Industry/Regulation/FINRARules/index.htm. 

201 See MSRB Rule A-8. The MSRB and FINRA have agreed to harmonize MSRB rules and interpretations 

applicable to sales practices for 529 Plans and FINRA rules and interpretations applicable to sales practices 

for mutual funds. See MSRB Notice 2006-03 available at http://www.msrb.org/Rules-andInterpretations/Regulatory-Notices/2006/2006-03.aspx?n=1. 

202 See Exchange Act Release No. 65992, Notice of Filing of Amendment No. 1 and Order Granting 

Accelerated Approval to a Proposed Rule Change, as Modified by Amendment No. 1 Thereto, Consisting 

of Amendments to Rule G-16, on Periodic Compliance Examination, and Rule G-9, on Preservation of 

Records (SR-MSRB-2011-19) (Dec. 16, 2011), 76 FR 79738 (Dec. 22, 2011), available at

http://www.sec.gov/rules/sro/msrb/2011/34-65992.pdf. 

203 Id. 

204 See 2010 FINRA Report, supra note 199. 

205 FINRA Regulatory Notice 10-41, “FINRA Reminds Firms of Their Sales Practice and Due Diligence 

Obligations When Selling Municipal Securities in the Secondary Market” (Sept. 2010), available at

http://www.finra.org/web/groups/industry/@ip/@reg/@notice/documents/notices/p122112.pdf. 

206 See Andrew Ackerman, “FINRA Looks at ‘Flipping;’ SEC Wants a More Independent MSRB,” The Bond 

Buyer (Sept. 25, 2009), available at https://secure.bondbuyer.com/issues/118_185/finra-msrb-1000553-

1.html. According to the article, flipping occurs when dealers or institutional investors purchase municipal 

bonds and then immediately resell them to retail investors at a higher price. See also Lynn Hume, “FINRA 

Eyes Action Against Firms Selling Munis to Retail Without Disclosure,” The Bond Buyer (May 7, 2010), 

available at http://www.bondbuyer.com/issues/119_336/finra_enforcement_firms_muni-1011823-1.html. 
38 

4. Federal Bank Regulators 

As noted above, federal banking regulators enforce MSRB rules for registered municipal 

securities dealers that are not members of a registered securities association.

207 However, 

FINRA oversees the vast majority of entities that are registered with the MSRB as either brokers 

or dealers.208 MSRB Rule G-16 requires municipal securities dealers to be examined every two 

years.209

5. State Laws 

The issuance of securities by states, local governments, and their agencies and 

instrumentalities is controlled by the constitution of the relevant state and the laws of the relevant 

state and local government.210 The scope of these laws is broad, covering matters from the 

lending of credit, permitted use of public funds, tax and debt limitations, public records and open 

meeting laws to specific conditions for, and restrictions on, the manner and purposes for which 

bonds may be issued. In some cases a referendum is required to authorize the issuance of bonds, 

particularly those payable from ad valorem taxes revenues.

211

In addition to the federal securities laws, municipal securities are also subject to state 

securities laws, commonly known as “blue sky laws.” The goal of these laws is to protect 

investors from offerings that are fraudulent or worthless.

 Generally, bonds issued in 

violation of such requirements or limitations are void. In some states, judicial or legislative 

validation is available to immunize bonds from challenges to their validity. 

212

 

207 See supra note 

 

190 and related text. 

208 See GAO Market Structure Report, supra note 61, at 9 (“FINRA oversees 98 percent of those MSRBregistered broker-dealers that are also registered members of FINRA, while federal banking regulators 

oversee the remaining 2 percent”).

209 See MSRB Rule G-16. See also, GAO Market Structure Report, supra note 61, at 9 (“During the period of 

our review, . . . the federal banking regulators conducted routine examinations of the firms under their 

jurisdiction once every two years for compliance with MSRB rules . . . .”). 

210 For a brief overview of relevant types of state law and common law requirements governing issuers, see

Fippinger, supra note 29,§ 1:6:5.

211 See, e.g., Ga. Const. art. IX § V, 1(a) (“The debt incurred by any county, municipality, or other political 

subdivision of this state, including debt incurred on behalf of any special district, shall never exceed 10 

percent of the assessed value of all taxable property within such county, municipality, or political 

subdivision; and no such county, municipality, or other political subdivision shall incur any new debt 

without the assent of a majority of the qualified voters of such county, municipality, or political subdivision 

voting in an election held for that purpose as provided by law“); Cal. Const. art. 16 § 18(a) (“no county, 

city, township, board of education, or school district, shall incur any indebtedness or liability in any manner 

or for any purpose exceeding in any year the income and revenue provided for such year, without the assent 

of two-thirds of the voters of the public entity voting at an election to be held for that purpose. . .”).

212 Some states also require securities to be registered pursuant to state law before they may be offered to the 

public in that jurisdiction. However, since the adoption of the National Securities Markets Improvement 

Act of 1996, Pub. L. No. 104-290, 110 Stat. 3416 (1996), state laws requiring registration of municipal 

securities that are exempt securities under the Securities Act have been preempted by federal law – with the 

exception of the offer and sale of securities within the state in which the issuer is located. See Securities 

Act § 18(b)(4)(C).
39 

C. MUNICIPAL SECURITIES MARKET PARTICIPANTS

As discussed above, the primary participants in a municipal securities offering are the 

issuers of the securities (such as states, cities, counties, school districts, and limited-function 

state and local agencies and authorities such as housing or health facilities authorities and water 

and sewer authorities), the investors, and the market intermediaries who purchase the securities

and sell them to investors. 

In addition to these central participants, other municipal market participants play 

significant roles in municipal securities transactions and have responsibilities under the federal 

securities laws when they participate in municipal securities offerings.213 The availability of a 

wide variety of financing options has led to an increasing reliance on financial advisors by 

municipal entities that issue municipal securities to assist them in deciding among the 

multiplying array of structural choices for their debt issuances214 and to help them negotiate with 

the range of market intermediaries.215

1. Broker-Dealers, Municipal Securities Dealers, and Related Market Participants 

 Many of these entities are subject to registration 

requirements and related regulation under the federal securities laws, in addition to the antifraud 

provisions, as discussed below. Some of the entities are also subject to state registration 

requirements.

a. Overview

As discussed above, municipal bond dealers play a key role in the distribution of 

municipal bonds through their underwriting activities. Municipal bond dealers also play a key 

role in the secondary market for municipal securities.216 Municipal bond dealers trade among 

themselves in the interdealer market. They may do so by contacting each other directly. 

Alternatively, they may use the services of broker’s brokers that arrange transactions for these 

intermediaries through a combination of voice and electronic brokerage services.217

 

213 Municipal market participants are subject to the antifraud provisions of § 17(a) of the Securities Act and § 

10(b) of the Exchange Act. See supra notes 

 Trading in 

158 - 164 and accompanying text. For a compilation of 

enforcement actions related to the municipal securities market organized by the relevant participants, see

SEC Division of Trading and Markets, Office of Municipal Securities, “Cases and Materials,” available at

http://www.sec.gov/info/municipal.shtml. 

214 See supra § II.A.2 (Description of Municipal Securities).

215 See Kenneth N. Daniels and Jayaraman Vijayakumar, The Role and Impact of Financial Advisors in the 

Market for Municipal Bonds, Journal of Financial Services Research, at 43-44 (Aug. 2006). 

216 See generally infra § IV.A.1.c (Trading) (discussing how secondary market trading occurs in the municipal 

securities market). 

217 Recently approved MSRB Rule G-43 defines a brokers’ broker as: a dealer, or a separately operated and 

supervised division or unit of a dealer, that principally effects transactions for other dealers or that holds 

itself out as a broker’s broker. A broker’s broker may be a separate company or part of a larger company. 

An alternative trading system, registered as such with the Commission, is not a broker's broker for purposes 

of this rule if, with respect to its municipal securities activities, it satisfies certain enumerated conditions 

specified in proposed MSRB Rule G-43(d)(iii). See Exchange Act Release No. 67238, “Order Granting 

Approval of a Proposed Rule Change, as Modified by Amendment No. 1, Relating to Proposed Rule G-43, 

on Broker's Brokers; Proposed Amendments to Rule G-8, on Books and Records, Rule G-9, on Record 

Retention, and Rule G-18, on Execution of Transactions; and a Proposed Interpretive Notice on the Duties 
40 

the interdealer market may also be effected through other electronic trading platforms such as 

ATSs. Municipal bond dealers trade in this market to obtain securities desired by customers or 

to manage their inventories.218 A small number of municipal bond dealers dominate the 

market.219 These firms execute almost all customer transactions in a principal capacity (with a 

portion of these principal trades effected on a “riskless principal” basis) and customers typically 

purchase and sell municipal securities through them.220

b. Registration and Regulation 

 

All brokers-dealers that underwrite, trade, and sell municipal securities must register with 

the Commission.221 The Exchange Act defines a “broker” broadly as “any person engaged in the 

business of effecting transactions in securities for the account of others”222 and a “dealer” as 

“any person engaged in the business of buying and selling securities for such person’s own 

account through a broker or otherwise.”223

Banks transacting business in municipal securities are excluded from the general 

definitions of a broker-dealer.

 If a person engages in the activities of a broker or 

dealer in municipal securities and does not satisfy an exception from the registration provisions 

of the Exchange Act, such person must register with the Commission and must join an SRO such 

as FINRA. 

224 But banks can be “municipal securities dealers” because the 

term is defined to include any person engaged in the buying or selling of municipal securities for 

its own account, including a separately identifiable department or division of a bank. Bank 

municipal securities dealers are required to register with the Commission.225

All municipal bond dealers that engage in municipal securities transactions also must 

register with the MSRB and may not act in contravention of its rules.

 

226

 

of Dealers that Use the Services of Broker's Brokers” (effective six months after approval by the 

Commission), (SR-MSRB-2012-04) (June 22, 2012), 77 FR 38684 (June 28, 2012), available at 

 The Exchange Act 

designates the agencies responsible for overseeing compliance with the provisions in the 

Exchange Act relating to municipal securities and the rules of the MSRB. The Commission has 

broad inspection and enforcement authority over municipal bond dealers with respect to MSRB 

http://www.sec.gov/rules/sro/msrb/2012/34-67238.pdf (“MSRB Broker’s Broker Approval Order”). 

Brokers’ brokers act as agents for broker-dealers and municipal securities dealers. See Harris and Piwowar, 

supra note 103, at 1363. 

218 See Harris and Piwowar, supra note 103, at 1363.

219 See supra graph entitled “Distribution of Customer Trades Traded.”

220 See Harris and Piwowar, supra note 103, at 1363.

221 See Exchange Act § 15(a).

222 See Exchange Act § 3(a)(4). 

223 See Exchange Act § 3(a)(5). 

224 Banks are excepted from the definitions of “broker” and “dealer” with respect to transactions in municipal 

securities. See Exchange Act §§ 3(a)(4)(B) and 3(a)(5)(C).

225 See Exchange Act § 3(a)(30).

226 See MSRB Rule A-12. 
41 

rules, Commission rules, and the federal securities laws.227 FINRA has inspection and 

enforcement responsibility over its broker-dealer members and bank regulators have this 

responsibility for municipal securities dealers that are banks under their respective 

jurisdictions.228

Municipal bond dealers are subject to a variety of sales practice, disclosure and due 

diligence obligations229 under the federal securities laws and MSRB rules.230 Several of the 

more significant obligations applicable to transactions with customers in municipal securities are 

discussed below:231

i. Fair Dealing and Duty of Disclosure to Customers 

MSRB Rule G-17, which the MSRB refers to as the “core” of its investor protection 

rules,

232 provides that, in the conduct of its municipal securities or municipal advisory activities, 

each broker-dealer, municipal securities dealer, and municipal advisor shall deal fairly with all 

persons and shall not engage in any deceptive, dishonest, or unfair practice. Rule G-17 includes 

an antifraud provision similar to that of Rule 10b-5 under the Exchange Act, and also establishes 

a general duty of fair dealing, even in the absence of fraud.233 The MSRB views all activities of 

the entities it regulates in light of these basic principles, even where other MSRB rules impose 

more particular requirements.234

 

227 See generally Exchange Act §§ 15B and 17(b).

 

228 Exchange Act §§ 15B(c) and 17(c).

229 The National Examination Program (“NEP”) in the Office of Compliance Inspections and Examinations 

recently published a National Examination Risk Alert describing its observations of municipal 

underwriters’ compliance with their due diligence and supervisory obligations, as well as the specific 

provisions of Exchange Act Rule 15c2-12 and MSRB Rule G-27. In the Risk Alert, the NEP staff said that 

it had observed that some broker-dealers may not be engaging in the type or extent of due diligence 

activities discussed in previous Commission’s guidance. The NEP also said that it had observed instances 

of municipal underwriters not maintaining, or requiring the creation and maintenance of, adequate written 

evidence that they complied with their due diligence obligations. OCIE, Strengthening Practices for the 

Underwriting of Municipal Securities, National Examination Risk Alert, Volume II, Issue 3 (Mar. 9, 2012) 

available at http://sec.gov/about/offices/ocie/riskalert-muniduediligence.pdf. 

230 Brokers, dealers and municipal securities dealers effecting transactions in municipal securities must comply 

with MSRB rules. See Exchange Act § 15B(c)(1). Exchange Act § 15A(f) prohibits FINRA from 

adopting rules applicable to transactions in municipal securities. See generally MSRB Interpretive Notice, 

“Guidance on Disclosure and Other Sales Practice Obligations to Individual and Other Retail Investors in 

Municipal Securities” (July 14, 2009), available at http://www.msrb.org/Rules-and-Interpretations/MSRBRules/General/Rule-G-17.aspx?tab=2#_DA15225F-907A-43CC-A319-26F55EFFDECE (“MSRB 

Guidance on Disclosure”).

231 Other significant regulations include those that address the duty of supervision (Exchange Act § 

15(b)(4)(e); MSRB Rules G-19 and G-27), communications with the public (MSRB Rule G-21), and 

recordkeeping (Exchange Act Rules 17a-3(a)(17) and 17a-4; MSRB Rule G-8). 

232 See MSRB Guidance on Disclosure, supra note 230. As of December 22, 2010, MSRB Rule G-17 applies 

to municipal advisors as well. See infra note 235 and accompanying text.

233 See MSRB Guidance on Disclosure, supra note 230. 

234 Id.
42 

The MSRB has interpreted Rule G-17 to require a municipal bond dealer to disclose to its 

customer, at or before the time of trade, all material information concerning the transaction in 

municipal securities known by such firm, as well as material information about the security when 

such facts are reasonably accessible to the market.235 This disclosure obligation under MSRB 

Rule G-17 applies regardless of whether the municipal bond dealer has made a recommendation 

to the customer, and such disclosure does not relieve the firm of its suitability obligations 

(discussed below) if the firm has recommended transactions in municipal securities.236 The 

MSRB also has interpreted Rule G-17 as imposing on municipal bond dealers an obligation to 

make certain that the information they provide to their customers, whether under an affirmative 

obligation imposed by MSRB rules or otherwise (such as in response to a question from 

customer), is correct and not misleading.237

In addition to establishing these broad disclosure principles, some MSRB rules also 

impose specific disclosure obligations. For example, MSRB Rule G-22 requires a municipal 

bond dealer that has a control relationship238

 

235 MSRB Interpretive Notice, “Interpretative Notice Regarding Rule G-17, on Disclosure of Material Facts” 

(Mar. 20, 2002), available at

 with the issuer of a security purchased, sold, or 

exchanged for a customer to disclose this relationship to the customer before effecting the 

http://www.msrb.org/Rules-and-Interpretations/MSRB-Rules/General/RuleG-17.aspx?tab=2#_E3855FB5-C65D-437E-AD6A-C564E0098D0A. See also MSRB Interpretive Notice, 

“MSRB Answers Frequently Asked Questions Regarding Dealer Disclosure Obligations Under MSRB 

Rule G-17” (Nov. 30, 2011), available at http://www.msrb.org/Rules-and-Interpretations/MSRBRules/General/Rule-G-17.aspx?tab=2#_316FB763-1DC3-436E-9533-A8E1007050BD (“Dealer Disclosure 

Obligations Under Rule G-17”). Although MSRB Rule G-17 has been amended to apply to municipal 

advisors (See supra note 232), as of the date of this report, the MSRB interpretive guidance on Rule G-17 

does not apply to municipal advisors. The MSRB filed with the Commission on August 24, 2011, a 

proposed interpretive notice concerning the application of MSRB Rule G-17 to municipal advisors, which 

was published for comment by the Commission on September 8, 2011. See Exchange Act Release No. 

65292, “Notice of Filing of Proposed Interpretive Notice Concerning the Application of Rule G-17 to 

Municipal Advisors” (SR-MSRB-2011-15) (Sept. 8, 2011), 76 FR 56826 (Sept. 14, 2011), available at

http://www.sec.gov/rules/sro/msrb/2011/34-65292.pdf. However, on September 9, 2011, the MSRB 

withdrew the proposal among other rule proposals relating to municipal advisors, pending the 

Commission’s adoption of a permanent definition of the term “municipal advisor”. See Exchange Act 

Release No. 65398, “Notice of Withdrawal of Proposed Interpretive Notice Concerning the Application of 

Rule G-17 to Municipal Advisors” (SR-MSRB-2011-15) (Sept. 26, 2011), 76 FR 60958 (Sept. 30, 2011), 

available at http://www.sec.gov/rules/sro/msrb/2011/34-65398.pdf. 

236 See Dealer Disclosure Obligations Under Rule G-17, supra note 235. 

237 MSRB Interpretive Notice, “Reminder of Customer Protection Obligations in Connection with Sales of 

Municipal Securities” (May 30, 2007), available at http://www.msrb.org/Rules-and-Interpretations/MSRBRules/General/Rule-G-17.aspx?tab=2#_C6E4C0D2-8338-4F8E-97BE-2D2071C2B133. 

238 See MSRB Rule G-22(a). Rule G-22 defines “a control relationship with respect to a municipal security [as 

a relationship where] a broker, dealer, or municipal securities dealer (or a bank or other person of which the 

broker, dealer, or municipal securities dealer is a department or division) controls, is controlled by, or is 

under common control with the issuer of the security or a person other than the issuer who is obligated, 

directly or indirectly, with respect to debt service on the security.” See also MSRB Interpretive Letter, 

“Associated Person on Issuer Governing Body” (June 25, 1987), available at http://www.msrb.org/Rulesand-Interpretations/MSRB-Rules/General/Rule-G-22.aspx?tab=3#_761A9462-AE0E-4348-ADCB1EE4469E3224 (“whether a control relationship exists in a particular case is a factual question”).
43 

transaction.239 If the disclosure is made orally, it must be supplemented by written disclosure at 

or before completion of the transaction.240

ii. Suitability for Customer 

In general, broker-dealers have an obligation to recommend only those specific 

investments or overall investment strategies that are suitable for their customers. The concept of 

suitability appears in specific SRO rules, such as MSRB Rule G-19, and has been interpreted as 

an obligation under the antifraud provisions of the federal securities laws.241 Commission 

actions against broker-dealers for making unsuitable recommendations are typically brought 

under Exchange Act Section 10(b) and Rule l0b-5 thereunder and under Securities Act Section 

17(a).242

MSRB Rule G-19(c) provides that a municipal bond dealer shall have reasonable grounds 

for believing that a recommendation to a customer

 

243 is suitable (i) based upon information 

available from the issuer of the security or otherwise, and (ii) based upon the facts disclosed by 

such customer or otherwise known about such customer.244

 

239 See MSRB Rule G-22(c).

 MSRB Rule G-19(b) imposes on 

240 Id.

241 See Hanly v. SEC, 415 F.2d 589, 596 (2d Cir. 1969). See also 1988 Proposing Release, supra note 154. 

242 See, e.g., Securities Act Release No. 9262/Exchange Act Release No. 65404, In the Matter of RBC Capital 

Markets, LLC (Sept. 27, 2011) available at http://www.sec.gov/litigation/admin/2011/33-9262.pdf (settled 

action finding violations of §§17(a)(2) and 17(a)(3) of the Securities Act where firm marketed and sold 

$200 million of unsuitable credit-linked notes tied to the performance of synthetic collateralized debt 

obligations to five Wisconsin school districts). See also infra note 590. 

243 A broker’s suitability obligations are typically different for institutional customers than for non-institutional 

customers. See, e.g., MSRB “Restated Interpretive Notice Regarding the Application of MSRB Rules to 

Transactions with Sophisticated Municipal Market Professionals” (effective July 9, 2012) Exchange Act 

Release No. 67064 (May 25, 2012), 77 FR 32704 (June 1, 2012) (SR-MSRB-2012-05) (providing guidance 

on how a dealer will fulfill its “customer-specific suitability obligations” under MSRB Rule G-19 with 

regard to Sophisticated Municipal Market Professionals (“SMMPs”)), available at 

http://www.msrb.org/Rules-and-Interpretations/MSRB-Rules/General/Rule-G17.aspx?tab=2#_D37D3EF9-F642-4A63-A40D-3A6B33B5260A. The GFOA has recently urged the SEC 

and MSRB to establish suitability standards under MSRB Rule G-17 to protect state and local governments 

from the sale of inappropriate financial products. See letter from Susan Gaffney, GFOA to Elizabeth M. 

Murphy, regarding SR-MSRB-2011-09, available at http://www.sec.gov/comments/sr-msrb-2011-

09/msrb201109-22.pdf. 

244 Cf. FINRA Rule 2111 (Suitability) (effective July 9, 2012, see FINRA Regulatory Notice 11-25, “New 

Implementation Date for and Additional Guidance on the Consolidated FINRA Rules Governing KnowYour-Customer and Suitability Obligations available at 

http://finra.complinet.com/net_file_store/new_rulebooks/f/i/finra_11-25.pdf), which requires “a member or 

an associated person to have a reasonable basis to believe that a recommended transaction or investment 

strategy involving a security or securities is suitable for the customer.” FINRA interprets “investment 

strategy” broadly. As noted above, FINRA’s rules do not apply to transactions in or business activities 

related to municipal securities. See supra note 200. 
44 

municipal bond dealers the obligation to collect certain suitability-related financial and other 

information from non-institutional customers.245

iii. Fair Pricing and Compensation

 

As discussed in more detail below in Section IV.B.3.a (Fair Prices), MSRB Rule G-30 

requires that municipal bond dealers trade with customers in principal transactions at prices that 

are fair and reasonable, taking into consideration all relevant factors. Similarly, MSRB Rule G18 requires that a municipal bond dealer executing an agency trade with a customer make a 

reasonable effort to obtain a price for the customer that is fair and reasonable in relation to 

prevailing market conditions. Compensation of the municipal bond dealer on a principal 

transaction is a mark-up or a mark-down computed from the prevailing market price of the 

municipal security.

246 The mark-up or mark-down is not required to be disclosed to the 

customer. In contrast, compensation on an agency transaction is a commission, which is 

required to be disclosed.247 In both cases, MSRB Rules G-18 and G-30 require a municipal bond 

dealer to exercise diligence in establishing the reasonableness of compensation received on a 

transaction.248

 

245 See MSRB Rule G-19(b). Under MSRB Rule G-19(b), a broker, dealer, or municipal securities dealer 

must, prior to recommending a transaction to a non-institutional customer, make reasonable efforts to 

obtain information concerning: (1) the customer’s financial status; (2) the customer’s tax status; (3) the 

customer’s investment objectives; and (4) any other information considered reasonable and necessary in 

making a recommendation to the customer. See also MSRB Rule G-19(a). MSRB Rule G-19(a) also 

requires the collection of certain account information specified in MSRB Rule G-8(a)(xi).

246 See infra note 771 (discussing the concept of “prevailing market price”). 

247 See MSRB Guidance on Disclosure, supra note 230. See also infra note 790. 

248 See MSRB Interpretive Notice, “Review of Dealer Pricing Responsibilities” (Jan. 26, 2004), available at 

http://www.msrb.org/Rules-and-Interpretations/MSRB-Rules/General/Rule-G-30.aspx?tab=2#_A5756731-

6EF3-45A9-BB32-0EACF2074FD8. Recent examples of FINRA enforcement actions in this area include: 

Kuhns Brothers Securities Corporation, AWC No. 2060053785-03 (Oct. 17, 2011)(firm fined for 

municipal securities pricing violations under MSRB Rules G-17 and G-30 in 15 transactions during the 

review period of May 2004 to August 2006); Fifth Third Securities, Inc., AWC No. 20090181035-01 (Sept. 

20, 2011) (firm fined $60,000 for municipal securities fair pricing violations under MSRB Rules G-17 and 

G-30 in 8 transactions during the review period of October 1, 2008 to January 13, 2009); Morgan Stanley 

& Co., Inc., AWC No. 20060056031-01 (Oct. 28, 2011) (firm fined $500,000 for municipal securities fair 

pricing violations under MSRB Rules G-17 and G-30 in 193 transactions during the review period of 2007 

to 2010, with markups ranging from 3.01 percent to 8.49 percent); RBC Capital Markets, AWC No. 

20080136349-01, (Aug. 25, 2011) (firm fined $95,000 for municipal securities fair pricing violations under 

MSRB Rules G-17 and G-30 in 26 transactions during the first and fourth quarters of 2008); Continental 

Investors Services, Inc., AWC No. 20090181045-01 (Aug. 14, 2011) (firm fined $35,000 for municipal 

securities fair pricing violations under MSRB Rules G-17 and G30 in 9 transactions during the review 

period of October 1, 2008 to December 31, 2008); NEXT Financial Group, Inc., AWC No. 20090162729 

(Aug. 20, 2010) (firm fined $400,000 for supervisory and fair pricing violations in 19 transactions during 

the review period of February 2008 to March 2009 with mark-ups and mark-downs ranging from 3.01% to 

4.58%).
45 

iv. Fair Dealing and Duty of Disclosure to Issuers 

MSRB Rule G-17 requires dealers to deal fairly with municipal entities in connection 

with the underwriting of municipal securities.249 With the passage of the Dodd-Frank Act, the 

MSRB was expressly directed by Congress to protect municipal entities and obligated 

persons.250 Accordingly, the MSRB recently issued interpretive guidance that provides 

additional guidance as to how MSRB Rule G-17 applies to dealers in their interactions with 

municipal entities as underwriters of municipal securities, as well as other activities, such as 

interest rate swap transactions.251 This guidance will become effective August 2, 2012.252

2. Alternative Trading Systems 

 

An ATS provides a marketplace for bringing together purchasers and sellers of 

securities.253 If registered as a broker-dealer and in compliance with certain rules, an ATS is 

exempt from the definition of an exchange and thus is not required to register as a national 

securities exchange.254 There are a number of ATSs that provide municipal bond dealers with 

access to electronic pools of liquidity255 and these ATSs account for a substantial portion of 

municipal securities transactions.256

3. Municipal Advisors 

 ATSs play an important role in the municipal bond market 

by aggregating liquidity in a generally illiquid marketplace. Participation in an ATS generally is 

limited to municipal bond dealers. 

Another market participant involved in the issuance of securities is the municipal advisor. 

The Exchange Act defines the term “municipal advisor” to mean, in part, a person “that (i) 

provides advice to or on behalf of a municipal entity or obligated person with respect to 

municipal financial products or the issuance of municipal securities, . . . or (ii) undertakes a 

solicitation of a municipal entity.”257

 

249 See Reminder Notice on Fair Practice Duties to Issuers of Municipal Securities, MSRB Notice 2009-54 

(Sept. 29, 2009); MSRB Rule G-17 Interpretive Letter- Purchase of new issue from issuer, MSRB 

interpretation of December 1, 1997, reprinted in MSRB Rule Book (“1997 Interpretation”). 

 Municipal advisors include financial advisors who assist 

municipal issuers with both competitive and negotiated bond sales, reinvestment of bond 

250 See Exchange Act § 15B(b)(2)(A) as amended by Dodd-Frank Act § 975. 

251 MSRB Interpretive Notice Concerning the Application of MSRB Rule G-17 to Underwriters of Municipal 

Securities, effective August 2, 2012, available at http://www.msrb.org/Rules-and-Interpretations/MSRBRules/General/Rule-G-17.aspx?tab=2#_D54ECAF7-2CE6-4ED9-BB05-3C9B32FB7BF4 (“G-17 

Interpretive Notice”). 

252 See G-17 Interpretive Notice. 

253 See Rule 300(a) of Regulation ATS under the Exchange Act.

254 See Rule 301(a) under Regulation ATS.

255 The Staff understands from conversations with market participants that these ATSs represent very similar 

pools of liquidity (i.e., the same entities are providing the same liquidity across all of these ATSs).

256 See infra note 715 (discussing trading volume on ATSs). 

257 Exchange Act § 15B(e)(4). See supra note 180. 
46 

proceeds, and the structuring and pricing of related products such as derivatives.258 Historically, 

municipal financial advisors and municipal financial advisory activities have been largely 

unregulated.259

 Section 975 of Title IX of the Dodd-Frank Act amended Section 15B of the Exchange 

Act to, among other things, make it unlawful for “municipal advisors” to provide certain advice 

to, or to solicit, municipal entities or certain other persons without registering with the

Commission as a municipal advisor.

 

260 The registration requirement for municipal advisors 

established by the Dodd-Frank Act became effective on October 1, 2010.261

In addition, the Exchange Act, as amended by the Dodd-Frank Act, grants the MSRB 

regulatory authority over municipal advisors

 The Commission 

has received approximately 1,000 confirmed registrations of municipal advisors, including 

approximately 300 registered broker-dealers, as well as approximately 700 other firms.

262 and imposes a fiduciary duty on municipal 

advisors when advising municipal entities.263 Since the passage of the Dodd-Frank Act, the 

MSRB has extended its existing Rules G-5 (disciplinary actions) and G-17 (fair dealing) to cover 

the activities of municipal advisors.264 The MSRB expects to propose additional rules governing 

the conduct of municipal advisors after the Commission adopts a final registration rule.265

 

258 See Feldstein and Fabozzi, supra note 

 

72, at 43. 

259 See Exchange Act Release No. 63576, “Proposed Rule for the Registration of Municipal Advisors,” Dec. 

20, 2010, available at http://www.sec.gov/rules/proposed/2010/34-63576.pdf; 76 FR 824 (Jan. 6, 2011) at 

825. 

260 See Dodd-Frank Act, § 975(a)(1)(B).

261 See Dodd-Frank Act, § 975(i). To enable municipal advisors to temporarily satisfy the registration 

requirement, and to make relevant information available to the public and municipal entities, the 

Commission adopted interim final temporary Rule 15Ba2-6T under the Exchange Act on September 1, 

2010. 

262 See Exchange Act § 15B(b). As of December 31, 2010, municipal advisors were required to register with 

the MSRB and to pay initial and annual fees. See Exchange Act Release No. 63313, “Notice of Filing and 

Immediate Effectiveness of Amendments to Rule A-12, on Initial Fee, and Rule A-14, on Annual Fee” 

(SR-MSRB-2010-14) (Nov. 12, 2010), 75 FR 70759 (Nov. 18, 2010), available at

http://www.sec.gov/rules/sro/msrb/2010/34-63313.pdf. 

263 See Exchange Act 15B(c). Specifically, Exchange Act § 15B(c)(1) provides that: “A municipal advisor 

and any person associated with such municipal advisor shall be deemed to have a fiduciary duty to any 

municipal entity for whom such municipal advisor acts as a municipal advisor, and no municipal advisor 

may engage in any act, practice, or course of business which is not consistent with a municipal advisor’s 

fiduciary duty or that is in contravention of any rule of the Board.” The Exchange Act does not impose a 

fiduciary duty with respect to advice to obligated persons. 

264 See Exchange Act Release No. 63599, “Order Granting Approval of Amendments to Rule G-5, on 

Disciplinary Actions by Appropriate Regulatory Agencies, Remedial Notices by Registered Securities 

Associations; and Rule G-17, on Conduct of Municipal Securities Activities” (SR-MSRB-2010-06) (Dec. 

22, 2010), 75 FR 82119 (Dec. 29, 2010), available at http://sec.gov/rules/sro/msrb/2010/34-63599.pdf. See 

also supra § II.C.1.b.iv (Fair Dealing and Duty of Disclosure to Issuers). 

265 See MSRB Notice 2011-51, “MSRB Withdraws Pending Municipal Advisor Rule Proposals” (Sept. 12, 

2011), available at http://www.msrb.org/Rules-and-Interpretations/Regulatory-Notices/2011/2011-51.aspx. 
47 

4. Trustees

Bond trustees play an important role in representing municipal bondholders after the 

securities are issued. Prior to default, bond trustees have specific duties and responsibilities as 

agreed and set forth in the relevant trust indenture, including administrative duties such as 

establishing the accounts and holding the monies relating to the debt issue, maintaining a list of 

bondholders, and passing through principal and interest payments on the bonds.266 Upon default, 

the trustee is the party that takes actions to protect the rights of the bondholders.267

For bond issues subject to continuing disclosure requirements, trustees can play a key 

role in the dissemination of the issuer’s or obligated person’s required disclosure obligations, 

while not assuming any disclosure obligations themselves.

 

268 Trustees can also enforce the 

undertaking of the issuer or obligated person on behalf of the bondholders, depending upon the 

structure of the continuing disclosure agreement.269

5. Attorneys 

 

Lawyers, such as bond counsel, disclosure counsel, issuer’s (or borrower’s) counsel, 

trustee’s counsel, and counsel to the underwriters, also perform important roles in municipal 

securities offerings and have certain obligations. 

Bond counsel play a unique role in the municipal marketplace.270

 

266 See Fundamentals of Municipal Bonds 2012, supra note 

 They are engaged to 

provide an expert and objective opinion with respect to the validity of the municipal securities 

being offered and other subjects, including the tax treatment of interest on the municipal 

33, at 17. Some of these functions may be carried 

out by a paying or fiscal agent. Id. Paying agents and fiscal agents are not trustees but perform certain 

functions that may also be performed by a trustee. See California Debt and Investment Advisory 

Commission, Overview of a Debt Financing, at 15 available at

http://www.treasurer.ca.gov/cdiac/debtpubs/primer/chapter1a.pdf. An issuer may also collect and hold the 

revenues pledged to pay debt service on an issue of municipal securities and pay such debt service directly 

without the involvement of a private trustee. For example, the State of California generally acts as paying 

agent and registrar for all of its general obligation bonds and certain revenue bonds. See

http://www.dof.ca.gov/accounting/. State statutes may require the treasurer of a city or county to act as 

registrar and fiscal agent for bonds issued by such city or county as well as other entities within such 

county (such as a school district). See., e.g., Wash. Rev. Code §39.44.130 (1995). Although such 

provisions may allow a treasurer to appoint a private fiscal agent, it is not unusual for a county treasurer’s 

office to serve as paying agent for all bonds issued by entities within the county. See, e.g., Mojave County. 

Arizona Treasurer’s Office available at http://www.co.mohave.az.us/contentpage.aspx?id=132. 

267 See Feldstein and Fabozzi, supra note 72, at 129.

268 See generally Feldstein and Fabozzi, supra note 72, at 141. The trust indenture may require the bond 

trustee to provide certain continuing disclosure to bondholders (e.g., periodic predefault notices). See

Fippinger, supra note 29, § 9.9.

269 In some instances, the trustee plays no role in connection with the continuing disclosure obligations of the 

issuer or obligated person.

270 See generally NABL, “The Function and Professional Responsibilities of Bond Counsel,” (3d. ed. 2011), 

available at

http://www.nabl.org/uploads/cms/documents/nabl_function_and_professional_responsibilities_of_bond_co

unsel.pdf. 
48 

securities.271 The bond opinion is intended to be relied upon by the purchasers of the municipal 

securities, is referred to in the notice of sale for competitive bid transactions, and is always 

referenced in official statements, which usually describe the opinion in detail and often include 

the text of the opinion as an exhibit.272 The provision of an “unqualified” approving opinion of 

nationally recognized bond counsel is typically required by underwriters as a precondition to 

closing in a public offering, and the transfer of municipal securities without such an opinion is 

generally not considered good delivery unless identified as such at the time of the trade.273

Bond counsel frequently perform other functions, such as guiding issuers through the 

bond authorization requirements under state or local law, preparing documents and supervising 

the transactional process. Bond counsel generally represents the issuer although bond counsel 

can also be retained by the conduit borrower.

 

274 The Commission brought an enforcement action

against a bond counsel who did not conduct a reasonable investigation into the facts underlying 

his opinion as to the tax-exempt status of interest on the relevant notes, such that the substantial 

risk that the IRS would find the notes to be taxable was not adequately disclosed to prospective 

note purchasers.275

Typically, issuer’s counsel is expected to render a separate opinion as to the organization 

and good standing of the issuer; the issuer’s corporate or governmental power to enter into the 

transaction; the incumbency of the issuer’s officials; the due adoption, execution, and 

effectiveness of the pertinent documents; pending or threatened litigation (or the absence 

thereof); the absence of conflicts between the bond documents; and other issuer contracts; and 

other matters related to the issuer.276

Trustee’s counsel, if present in a transaction, typically reviews the bond documents to 

ensure, among other things, that the appropriate payment and default provisions and accounts are 

established; that the trustee’s continuing disclosure obligations, if any, are clearly defined; and 

that the bond documents generally minimize potential future risk for the trustee. Counsel to the 

trustee also reviews the offering document to ensure that it includes information regarding the 

trustee and any appropriate or necessary disclaimers.

 Increasing focus on the disclosure duties of issuers has 

drawn issuer’s counsel into a more active role in the disclosure process and, increasingly, issuers 

hire special disclosure counsel to assist them in understanding and complying with their 

disclosure responsibilities in primary offerings and in complying with their secondary market 

disclosure undertakings and responsibilities. 

277

 

271 See Disclosure Roles of Counsel, supra note 

 

18, at 104.

272 Id. at 105.

273 See MSRB Rule G-12(e)(xi).

274 See Disclosure Roles of Counsel, supra note 18. 

275 See Weiss v. SEC, 468 F.3d 849 (D.C. Cir. 2006).

276 See Disclosure Roles of Counsel, supra note 18, at 89.

277 Id. at 63. See infra § III.B.4 (Disclaimers of Responsibility for Information Included in Official Statements 

and Other Disclosures) for a discussion of disclaimers of responsibility for information included in 

disclosure documents.
49 

Underwriter’s counsel has many responsibilities in a municipal financing, including (1) 

assisting in structuring the financing and ensuring compliance with the securities laws; (2) 

assisting with due diligence; (3) reviewing or assisting in drafting the relevant transaction and 

disclosure documents (e.g., official statement, bond purchase agreement, continuing disclosure 

agreement, remarketing agreement, and an agreement among underwriters); (4) reviewing and 

commenting on the bond documents prepared by other counsel; (5) preparing a blue sky survey, 

if necessary; and (6) providing an opinion addressing the accuracy and completeness of the 

official statement (known as a “10b-5 opinion”278).279

6. Credit Enhancers 

 

As discussed above, municipal bonds may be accompanied by a form of credit 

enhancement, which is usually in the form of a letter of credit issued by a bank, a governmental 

guarantee, or an insurance policy issued by a bond insurance company.280 For many years prior 

to 2007, more than half of all new issues of municipal securities were credit-enhanced. 

However, as evidenced in the chart below, the prevalence of credit enhancements – bond 

insurance in particular – has decreased dramatically since the onset of the financial crisis of 

2008. In 2008 and shortly thereafter, the major bond insurers suffered ratings downgrades. More 

recently, rating agencies have modified their ratings criteria for bond insurers requiring higher 

capital charges for insuring most types of bonds and reducing the likelihood that any bond 

insurer would be rated “AAA” using the traditional bond insurance business model.281 

 

278 A 10b-5 opinion (or due diligence opinion) “addressed to an underwriter by underwriter’s counsel 

customarily states that, based on certain specified inquiries, nothing has come to such counsel’s attention 

indicating that the official statement contains any misstatements of material facts or any material 

omissions.” MSRB Glossary, supra note 31 (“Due Diligence Opinion”). See also infra § III.B.4

(Disclaimers of Responsibility for Information Included in Official Statements and Other Disclosures) 

regarding disclaimers of liability.

279 See Feldstein and Fabozzi, supra note 72, at 79-89.

280 See supra notes 51 - 54 and II.A.2.b (Different Features of Municipal Securities).

281 See Taylor Riggs, “S&P Issues New Bond Insurance Rating Criteria,” The Bond Buyer (Aug. 25, 2011), 

available at http://www.bondbuyer.com/news/standard-and-poors-issues-bond-insurance-rating-1030444-

1.html; Shannon D. Harrington, “S&P Bond Insurer Ratings Overhaul May Cause Downgrades,” 

Bloomberg (Jan. 24, 2011), available at http://www.bloomberg.com/news/2011-01-24/s-p-may-be-forcedto-lower-bond-insurers-ratings-under-proposed-criteria.html. A new bond insurer was recently licensed by 

the State of New York. See Robert Slavin, “BAM Aims to Be New Insurer of Munis,” The Bond Buyer 

(Jul. 23, 2012) available at http://www.bondbuyer.com/issues/121_141/new-bond-insurer-licensed1042133-1.html. See also Patrick McGee and Jeannette Neumann, “Start-Up Bond Insurer Promises 

Narrow Focus, Taxpayer Savings,” The Wall Street Journal (Jul. 23, 2012) available at

http://online.wsj.com/article/BT-CO-20120723-713037.html. 
50 

Credit-enhanced Principal as a Percentage of Annual Principal Issued

50% 51%

54%

51%

58%

63%

58%

54%

42%

17% 17% 17%

0%

10%

20%

30%

40%

50%

60%

70%

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

Staff generated statistics. Data source: SDC Platinum.

In addition to the immediate effects of the 2008 financial crisis, there may be follow-on 

effects. Commentators have suggested that banks may move away from providing secondary 

credit and liquidity facilities to municipal borrowers in anticipation of Basel III provisions282 that 

require banks to maintain a liquidity coverage ratio of at least 100% of all lines of credit used for 

liquidity purposes.283 Although the private bond insurance market has contracted, a significant 

portion of municipal securities issuances are enhanced by a form of governmental guarantee.284

 

282 Basel III is a comprehensive set of reform measures, developed by the Basel Committee on Banking 

Supervision, to “strengthen the regulation, supervision and risk management of the banking sector.” See

http://www.bis.org/bcbs/basel3.htm. 

283 See Dan Seymour, “Basel III May Curb Bank Debt,” The Bond Buyer (Sept. 15, 2010), available at

http://www.bondbuyer.com/issues/119_426/basel_iii_regulate_bank_debt-1017280-1.html. Banking 

regulators began measuring the liquidity coverage ratio in 2011 and will begin enforcing the 100% 

minimum in 2015. Under Basel III, banks writing a letter of credit or standby bond purchase agreement for 

a municipal entity essentially would be required to buy and hold Treasury debt with principal equal to the 

size of the credit guarantee. Market participants say this additional cost to banks would likely be passed 

along to the municipal entity. Id. See also Washington, DC Hearing Transcript (Morning Session) at 5 

(Collins). 

284 See, e.g., Patrick McGee, “Assured All Alone On Top,” The Bond Buyer (Apr. 16, 2010), available at

http://www.bondbuyer.com/issues/119_321/assured_quarterly_rankings-1010938-1.html; The Bond 

Buyer’s 2011 in Statistics, Feb. 13, 2012, available at

http://www.bondbuyer.com/pdfs/2012_bb_stats_supp.pdf (reporting $19.5 billion long-term “guaranteed 

bonds” in 2011, and listing among the top guarantee providers a number of state-sponsored school district 

credit enhancement programs).
51 

a. Market Participant Observations and Other Commentary 

The overall decline in the use of credit enhancement, particularly bond insurance, has 

impacted the market for municipal securities285 and renewed investor focus on the disclosure 

practices and underlying credit quality of municipal issuers.286 When the majority of new issues 

of municipal securities were “wrapped” by bond insurance, default risk was viewed as being 

reduced, municipal bonds received their credit ratings based on the ratings of the bond insurer,287

and similar types of issues were treated similarly in terms of price.288 Post-2008, individual 

credit decisions became more important to market participants in determining whether to

purchase a particular bond.289

The relationship between bond insurance, default risk, and the need for disclosure was 

discussed at several field hearings. Bond insurance – and the resulting commoditization of the 

municipal bond market – was considered by some to be an alternative to a compulsory municipal 

securities disclosure regime.

 

290 As a result of the existence of insurance, some market 

participants viewed disclosure on the underlying credit as “redundant and unnecessary.”291

 

285 See “The State of the Bond Insurance Industry,” before the H. Subcomm. on Capital Markets, 110th

Congress, Serial No. 110-91, at 87 (Feb. 14, 2008) (remarks of Chairman Kanjorski), available at

 Bond 

insurance companies were described as “super-bond-holders,” because the bond insurers 

http://archives.financialservices.house.gov/hearing110/ht021408.shtml (noting that bond insurer 

downgrades have led to limited availability of bond insurance, which may cause municipal entities to pay 

higher interest on bonds or to delay much needed projects). See also Feldstein and Fabozzi, supra note72, 

at 270 (noting the importance of insurance in municipal bond context in reducing investor credit risk and 

expanding marketability of certain municipal bonds).

286 See, e.g., Birmingham Hearing Transcript at 297 (Lessley) (highlighting that municipal bond investing and 

understanding their underlying value has become even more complex, and is exacerbated by the decline of 

bond insurance); Jason Kephart, “Amid muni pall, Morningstar commences tax-exempt coverage,” 

Investment News, July 16, 2012, available at

http://www.investmentnews.com/article/20120716/FREE/120719945 (quoting the director of municipal 

analytics at Morningstar, “The importance of analyzing the credit risk of municipal bonds has taken on a 

new significance since the financial crisis.... Before, the credit quality of municipals was kind of taken for 

granted by investors.”). The Commission will seek additional input from investors as we continue to 

evaluate investor disclosure needs in this area.

287 See, e.g., Joel Seligman, The Municipal Disclosure Debate, 9 DEL. J. CORP. L. 647, 660 (1985).

288 See, e.g., GAO Market Structure Report, supra note 61, at 14, n.29, and accompanying text; Birmingham 

Hearing Transcript at 297 (Lessley).

289 See, e.g., Washington, DC Hearing Transcript (Morning Session) at 23-24 (Deane) (noting that prior to 

2008, credit risk was not considered to be a major differentiating factor among AAA insured bonds). The 

Commission has stated that in the context of municipal securities offerings, as well as other types of 

securities offerings, the existence of credit enhancement is not a substitute for information about the 

underlying obligor or other obligor entity. See 2010 Adopting Release, supra note 170. 

290 See, e.g., Washington, DC Hearing Transcript (Morning Session) at 11 (McCarthy) (expressing the view 

that the bond insurers’ credit underwriting and ratings, and the homogenization of the underlying credits, 

creates significant market liquidity and benefit to retail investors).

291 Washington, DC Hearing Transcript (Morning Session) at 11 (McCarthy). See also Birmingham Hearing 

Transcript at 297 (Lessley) (noting that in the past municipal insurers provided comfort to investors through 

bond insurance, and that this enabled similar types of bonds to be priced similarly).
52 

monitored the financial condition of issuers as part of the insurance agreement.292 A 

representative of a bond insurer expressed the view a significant benefit of bond insurance was 

that the insurer not only guarantees the bonds but also plays the role of investor, identifying 

financial difficulties with insured issuers and protecting against defaults.293 Another panelist, 

however, stated that the commoditization of the municipal market prior to 2008, where 60% of 

the market was AAA insured, resulted in hidden risk.294

7. Nationally Recognized Statistical Rating Organizations (“NRSROs”) 

 

Credit ratings for municipal securities are generally provided by one or more of three 

NRSROs - Moody’s, Fitch, and S&P and reflect a professional assessment of an issuer’s ability 

to meet its financial obligations.295 Ratings issued by these organizations are ordinarily paid for 

by the issuer (known as “issuer pay” models).296

Rating agencies generally assign ratings upon the issuance of the security and 

periodically review and update the ratings to reflect changes in the issuer’s credit status.

 

297 

Municipal credit ratings are also impacted by credit enhancement such as bond insurance, letters 

of credit, governmental guarantees, or standby bond purchase agreements.298 Municipal 

securities with these enhancement features might carry two ratings; the credit-enhanced rating 

and the unenhanced rating.299

Although issuers disclose financial information in various disclosure documents available 

to investors, market participants noted that many investors nonetheless rely on municipal credit 

ratings.

 As noted above, however, the use of bond insurance and most 

types of credit enhancement has declined significantly in recent years. 

300

 

292 Washington, DC Hearing Transcript (Morning Session) at 11 (McCarthy).

 The Commission staff has been told by market participants that this reliance on credit 

293 Id. 

294 Washington, DC Hearing Transcript (Morning Session) at 7 (Doe). 

295 See Feldstein and Fabozzi, supra note 72, at 223. See Patrick McGee, “Kroll Bond Ratings Issues Its First 

Municipal-Bond Rating,” Wall Street Journal, Mar. 29, 2012, available at http://online.wsj.com/article/BTCO-20120329-715631.html. 

296 See Securities and Exchange Commission, Annual Report on Nationally Recognized Statistical Ratings 

Organizations (Jan. 2011), at 6, available at

http://www.sec.gov/divisions/marketreg/ratingagency/nrsroannrep0111.pdf (“2011 NRSRO Annual 

Report”). The Exchange Act definition of “nationally recognized statistical rating organization” identifies 

five classes of ratings: (1) financial institutions, brokers, or dealers (2) insurance companies, (3) corporate 

issuers, (4) issuers of asset-backed securities, (5) and issuers of government, municipal and sovereign 

securities (collectively “sovereign securities”). See Exchange Act § 3(a)(62). According to data compiled 

from NRSROs, the sovereign securities class, which includes municipal securities, represents the largest 

number of credit ratings by NRSROs at almost 77% of total ratings outstanding. See 2011 Annual NRSRO 

Report at 5.

297 See Feldstein and Fabozzi, supra note 72, at 223. 

298 Id. at 223-224.

299 Id. However, issuers of some insured municipal securities did not obtain underlying (unenhanced) ratings.

300 See Feldstein and Fabozzi, supra note 72, at 223. Market participants have indicated that retail investors 

primarily focus on interest rate, maturity and credit rating. 
53 

ratings has changed over the last few years. Institutions rely on credit ratings less often to 

determine credit quality of the borrower,301 whereas retail investors may continue to look to 

those ratings in making investment decisions.302

As of November 21, 2011, investors have access to Fitch and S&P’s ratings on 

EMMA.

 

303 However, Moody’s ratings and proprietary reports, such as the underlying analytical 

reports on a particular rating or class of ratings, by each of the NRSROs, are not readily 

accessible to retail investors.304

a. Regulation of NRSROs 

 

In 2007, the Commission adopted rules implementing a registration and oversight 

program for credit rating agencies registered as NRSROs.305 However, the Commission is 

limited by statute in its ability to regulate the ratings methodology of NRSROs.306

The Dodd-Frank Act mandates that the Commission adopt further rules relating to credit 

ratings and NRSROs.

 

307

 

301 Washington, DC Hearing Transcript (Morning Session) at 23 (Collins).

 The Commission has adopted a new rule that requires NRSROs to 

302 Washington, DC Hearing Transcript (Morning Session) at 23 (Doe), (noting that retail investors do rely on 

credit ratings and are dependent on the services of five entities, three credit rating agencies and two 

evaluation services). 

303 See supra note 196. 

304 One commenter argued that credit ratings, credit downgrades and other events and proprietary NRSRO 

reports should be available to anyone purchasing a bond. See Comments (email) from Nathan Saks (Mar. 

28, 2010), available at http://www.sec.gov/comments/4-610/4610-30.pdf (“Saks Comments”).

305 See Exchange Act Release No. 55857, “Oversight of Credit Rating Agencies Registered as Nationally 

Recognized Statistical Rating Organizations” (June 5, 2007), 72 FR 33564 (June 18, 2007), available at

http://www.sec.gov/rules/final/2007/34-55857fr.pdf. The implementing rules consisted of Form NRSRO 

and Rules 17g-1 through 17g-6 under the Exchange Act. The Commission has twice adopted amendments 

to some of these rules. See Exchange Act Release No. 59342, “Amendments to Rules for Nationally 

Recognized Statistical Rating Organizations” (Feb. 2, 2009), 74 FR 6456 (Feb. 9, 2009), available at

http://www.sec.gov/rules/final/2009/34-59342fr.pdf; and Exchange Act Release No. 61050, “Amendments 

to Rules for Nationally Recognized Statistical Rating Organizations” (Nov. 23, 2009), 74 FR 63832 (Dec. 

4, 2009), available at http://www.sec.gov/rules/final/2009/34-61050fr.pdf. 

306 See Exchange Act § 15E(c)(2)(“Notwithstanding any other provision of law, neither the Commission nor 

any State (or political subdivision thereof) may regulate the substance of credit ratings or the procedures 

and methodologies by which any [NRSRO] determines ratings”). 

307 See Dodd-Frank Act, §§ 932, 936, 938, 939A, 939B and 943. Pursuant to Dodd-Frank, the Commission 

has adopted changes to its rules that remove the credit rating agency exemption from Regulation FD and 

remove references to credit ratings in rules relating to securities offerings and issuer disclosure obligations.

See Dodd-Frank Act, §939B (Removal from Regulation FD of the Exemption for Credit Rating Agencies). 

See Securities Act Release No. 9146/Exchange Act Release No. 63003, “Removal from Regulation FD of 

the Exemption for Credit Rating Agencies,” (Sept. 29, 2010), 75 FR 61050 (Oct. 4,2010), available at

http://www.sec.gov/rules/final/2010/33-9146fr.pdf,); §939A (Removing references to credit ratings in rules 

relating to securities offerings and in issuer disclosure obligations). See Securities Act Release No. 

9245/Exchange Act Release No. 64975, “Security Ratings,” (July 27, 2011), 76 FR 46603 (Aug. 3, 2011), 

available at http://www.sec.gov/rules/final/2011/33-9245fr.pdf. 
54 

make certain disclosures for asset-backed securities they rate.

308 The Commission also has 

proposed the removal of other references to credit ratings or NRSROs in additional releases.309

The Commission proposed the remaining new rules and rule amendments related to NRSRO 

oversight required under the Dodd-Frank Act in an additional release.310

b. Market Participant Observations and Other Commentary

At the field hearings, some panelists suggested that municipal bonds suffer from ratings 

“discrimination” as compared to corporate issuers311 and that this discrimination results in 

increased borrowing costs for issuers.312 One panelist cited an S&P study, which found that 

0.33% of municipal bond issues rated A minus defaulted during the last 15 years, while 

corporate issuers rated A minus had an average default rate of 3.16%, nearly ten times higher 

than similarly-rated municipal issues.313 Another panelist stated that an AAA-rated corporate 

bond had 15 times more risk of default than an A-rated municipal bond.314

The major credit rating agencies take the position that they have either always maintained 

or now use common ratings definitions for corporate, municipal, and other classes of credit 

ratings (commonly referred to as a “global” rating scale).

 

315

 

308 See Dodd-Frank Act, §943(Disclosure of Asset-Backed Securities Offerings). See Securities Act Release 

No. 9175/Exchange Act Release No. 63741, “Disclosure for Asset-Backed Securities Required by Section 

943 of the Dodd-Frank Wall Street Reform and Consumer Protection Act,” (Jan. 20, 2011), 76 FR 4489 

(Jan. 26, 2011), available at

 Several panelists in the field 

http://www.sec.gov/rules/final/2011/33-9175fr.pdf. 

309 See Dodd-Frank Act, § 939A. Section 939A of the Dodd-Frank Act provides in part that each federal 

agency shall modify regulations identified in the required review to remove any reference to or requirement 

of reliance on credit ratings and substitute in such regulations such standard of credit-worthiness as each 

respective agency shall determine as appropriate for such regulations. See Securities Act Release No. 9193, 

“References to Credit Ratings in Certain Investment Company Act Rues and Forms,” (Mar. 3, 2011), 76 

FR 12896 (Mar. 9, 2011), available at http://www.sec.gov/rules/proposed/2011/33-9193fr.pdf; and 

Exchange Act Release No. 64352, “Removal of Certain References to Credit Ratings Under the Securities 

Exchange Act of 1934,” (Apr. 27, 2011), 76 FR 26550 (May 6, 2011), available at

http://www.sec.gov/rules/proposed/2011/34-64352fr.pdf. 

310 See Exchange Act Release No. 64514, “Nationally Recognized Statistical Rating Organizations” (May 18, 

2011), 76 FR 33420 (June 8, 2011), available at http://www.sec.gov/rules/proposed/2011/34-64514fr.pdf. 

311 See San Francisco Hearing Transcript at 17 (Lockyer), 89 (Blake), 94 (Kiefer) and 132(McIntire).

312 See San Francisco Hearing Transcript at 89 (Blake).

313 See San Francisco Hearing Transcript at 17 (Lockyer).

314 See San Francisco Hearing Transcript at 134 (McIntire) (noting that the average 10 year cumulative default 

rate for a AAA corporate bond is 0.5%, whereas the cumulative default rate for an A-rated municipal bond 

over the same time period is 0.03%).

315 In 2008, a Congressional hearing addressed the concept of a “global” rating scale. See “Municipal Bond 

Turmoil: Impact on Cities, Towns, and States,” Hearing Before the Committee on Financial Services, U.S. 

House of Representatives, March 12, 2008, available at http://www.gpo.gov/fdsys/pkg/CHRG110hhrg41730/pdf/CHRG-110hhrg41730.pdf. In 2010, Moody’s announced and implemented a 

“recalibration” of outstanding municipal bonds to a global ratings scale that treats all issuers alike: private 

companies, sovereign governments, nonprofits and municipalities. See Lisa Lambert, “Moody's moves 

U.S. states to new 'global' rating scale,” Reuters (Apr. 19, 2010), available at

http://www.reuters.com/article/2010/04/19/municipals-ratings-moodys-idUSN1920043720100419. 

Moody’s had long held municipalities to a higher rating standard than sovereign governments, corporations 
55 

hearings supported the notion of a global rating scale, whereby investors can compare the credit 

quality of municipal securities against the credit quality of corporate bonds.316 However, some 

panelists argued that global rating scales are a move in the wrong direction because municipal 

bonds and corporate securities are not comparable and the global scale complicates the 

evaluation of individual bond safety, thereby diluting the value of ratings.317

The Staff has also heard various concerns related to quality and consistency of credit 

ratings in the municipal securities market. One panelist suggested that rating agencies may not 

be doing adequate due diligence when assessing their ratings.

 

318 Another panelist stated that 

rating agencies do not use proper procedures and methodologies to ensure that ratings accurately 

reflect default risk.319 One suggested that the rating agencies should more closely examine the 

risks of pensions, OPEBs, and debt service obligations, and add these liabilities into their 

calculations of debt-to-income and other metrics.320 Another stated that the “core of any such 

government rating methodology should contain verifiable metrics correlated to default risk and 

that the remainder of the subjective analysis or the making of finer credit distinctions should be 

left to investors.”321 Another concern among some market participants is that credit rating 

agencies do not review credits with sufficient frequency, and that some credits are reviewed only 

once every three years.322

 

and structured products. Fitch followed shortly thereafter and S&P maintained that its rating on municipal 

bonds had been on the global scale all along. The move to a global ratings scale resulted in the ratings of a 

large number of municipal securities being upgraded, despite there being no change in the underlying 

credit.

 

316 See San Francisco Hearing Transcript at 94 (Kiefer) (noting the Calpers Board’s endorsement of a scale for 

municipal securities that is uniform, fair and consistent with other rated products), 17 (Lockyer) (suggested 

that international investors, who are increasingly subscribing to municipal bond issues but are less familiar 

with U.S. local governments than domestic investors, would also benefit from a global rating scale), and 

132 (McIntire) (speaking in his capacity as a NAST Vice President).

317 See, e.g., San Francisco Hearing Transcript at 98 (Belsky) (noting the confusion the move has caused 

because ratings in the corporate market measure default risk and recovery and municipals rarely default); 

San Francisco Hearing Transcript at 92 (Blake) (stating that governments should be rated on a completely 

different scale based upon the unique characteristics of governments); San Francisco Hearing Transcript at 

132 (McIntire) (sharing his personal view that the recalibration and homogenization of ratings has made it 

increasingly difficult for investors to compare municipal credits relative to one another, and that municipal 

risk remains overstated relative to corporate risk because, despite recalibration, the scales are not the same 

with respect to measuring the ultimate risk of default or recovery); Washington, DC Hearing Transcript 

(Morning Session) at 26 (Kirkpatrick) (noting that the percentage of investment grade municipal securities 

went from 52% to 82% after the move to a global ratings scale).

318 See, e.g., Washington, DC Hearing Transcript (Morning Session) at 33 (Wittman). 

319 See San Francisco Hearing Transcript at 98-100 (Belsky), 92 (Blake), 18 (Lockyer), 133-134 (McIntire). 

See also supra note 317. 

320 See San Francisco Hearing Transcript at 83-86 (Belsky).

321 See San Francisco Hearing Transcript at 92 (Blake).

322 One commenter also noted that investors should have access to information about whether a particular bond 

has been re-rated and how often. See Washington, DC Hearing Transcript (Morning Session) at 30 

(Wittman). 
56 

Some field hearing panelists suggested that the Commission should have increased 

authority over NRSROs, urging the Commission to require rating agencies to use procedures and 

methodologies that ensure ratings accurately reflect default risk323 and generally, to disclose 

more information regarding ratings methodologies and practices.324

III.DISCLOSURE

A. OVERVIEW OF DISCLOSURE PRACTICES AND ISSUES

Disclosure practices in municipal securities offerings and on an ongoing basis have 

developed as a result of the antifraud provisions of federal and state securities laws,325 Exchange 

Act Rule 15c2-12,326 Commission interpretive guidance,327 MSRB rules,

328 and voluntary 

guidelines published by various industry groups.329 In addition, investors’ informational needs 

have had a role in shaping disclosure practices for municipal securities.330

1. Voluntary Disclosure Initiatives and Disclosure Guidelines 

 To gauge the credit 

risk of different types of municipal securities, analysts and investors have historically needed 

information that depends on the type of issuer and credit involved. Thus, disclosure practices 

differ for major types of municipal securities (e.g., general obligation bonds, revenue bonds, and 

conduit bonds) and various subsectors of those major types. 

Participants in the municipal securities market have worked together to develop voluntary 

disclosure guidelines and best practices designed to improve the level and quality of disclosure in 

primary offerings of municipal securities and continuing disclosure in the secondary market. 

This guidance is in the form of voluntary disclosure guidelines and best practices relating to the 

municipal securities market, both with regard to primary offerings and secondary market 

disclosure.331

 

323 See, e.g., San Francisco Hearing Transcript at 18-19 (Lockyer), 90-91 (Blake), 95-96 (Kiefer), 135 

(McIntire) (explicitly suggesting congressional action to bolster SEC oversight of rating agencies). See 

also supra note 

 Involved industry groups include the Government Finance Officers Association 

(“GFOA”), National Federation of Municipal Analysts (“NFMA”), National Association of State 

Auditors, Comptrollers and Treasurers (“NASACT”), the National Association of Bond Lawyers 

306 and accompanying text (relating to the Commission’s lack of authority to regulate 

rating methodologies).

324 San Francisco Hearing Transcript at 19 (Lockyer), 90-91 (Blake).

325 See supra § II.B.1.b (Antifraud Authority). See also infra § III.C.4.a (Enforcement Actions).

326 See supra § II.B.1.c (Rule 15c2-12).

327 See 1994 Interpretive Release, supra note 31. 

328 See supra § III.B.3.a (Municipal Securities Rulemaking Board). 

329 See infra § III.A.1 (Voluntary Disclosure Initiatives and Disclosure Guidelines).

330 See, e.g., National Federation of Municipal Analysts, Disclosure Handbook For Municipal Securities

(1990) (“NFMA Disclosure Handbook”).

331 In 1994, the Commission recognized that there were extensive industry disclosure guidelines that market 

participants followed in preparing official statements for municipal securities offerings. See 1994 

Interpretive Release, supra note 31. 
57 

(“NABL”), and the American Bankers Association, Corporate Trust Division.332 The existing

industry guidelines and best practices relate to, among other matters, the content and timing of 

financial statements and financial information,333 disclosure of pension liabilities,334 industry and 

financing specific guidelines (discussed below),335 disclosure controls and procedures of a 

municipal issuer,336 and methods of providing disclosure.337

Individual industry groups have developed disclosure and operational guidance that affect 

municipal participants. For example, the GFOA publishes procedural statements and guidelines 

for continuing disclosure that provide a framework for municipal issuers in providing 

information to the secondary market.338 In 2003, NASACT released a proposal discussing 

minimum quarterly disclosure by state and local governments of certain information, including 

budget to actual operations, cash receipts and disbursements, and changes in long- and shortterm debt.339

The NFMA has prepared recommended disclosure practices that divide general 

obligation bonds, revenue bonds, and conduit bonds into fourteen major sectors based on 

variations in the nature of the security.

 

340

 

332 Such guidelines are accessible at the websites maintained by the respective organizations: GFOA – 

 The NFMA has noted that these sector-specific 

disclosure practices reflect the need of investors for information about particular issues that may 

www.gfoa.org; NABL – www.nabl.org; NFMA – www.nfma.org; and NASACT – www.nasact.org. 

333 GFOA, GFOA Best Practice: Understanding Your Continuing Disclosure Responsibilities (2010), 

available at http://www.gfoa.org/downloads/GFOA_understandingcontinuingdisclosureBP.pdf

(“Understanding Your Continuing Disclosure Responsibilities”); GFOA, GFOA Best Practice: 

Governmental Accounting, Auditing and Financial Reporting Practices (1983, 1997 and 2006), available at

http://www.gfoa.org/downloads/caafrpractices.pdf; NFMA, Position Paper on Voluntary Interim Disclosure 

by State and Local Governments (2004), available at

http://data.memberclicks.com/site/nfma/nfma_position_interim_disclosure.pdf. 

334 NABL, Considerations in Preparing Disclosure in Official Statements Regarding an Issuer’s Pension 

Funding Obligations (Public Defined Benefit Pension Plans), May 15, 2012 (“NABL Considerations”), 

available at http://www.nabl.org/uploads/cms/documents/pension_funding_obligations_document_5-18-

12_b.pdf; NFMA, “White Paper on Disclosure for GASB 45” (Apr. 2009), available at

http://data.memberclicks.com/site/nfma/DG.WP.gasb45_063009.pdf. 

335 See infra notes 339 - 341 and accompanying text.

336 See Understanding Your Continuing Disclosure Responsibilities, supra note 333. 

337 Id. See also NFMA Position Paper on Voluntary Interim Disclosure by State and Local Governments, 

supra note 333. 

338 See infra note 436. 

339 See Disclosure Roles of Counsel supra note 18, at 240-241 (citing NASACT, A Proposal: Results of the 

Deliberation at the Meeting about Voluntary Interim Disclosures by State and Local Governments).

340 These subdivisions are: general obligation and tax-supported debt, water/sewer debt, tax increment 

supported debt, public power debt, airports, toll roads, solid waste transactions, housing revenue bond 

issues, hospital debt, private college university transactions, land secured debt transactions, long-term 

care/senior living debt, variable rate and short-term securities and swaps. See NFMA, Recommended Best 

Practices in Disclosure (2004) (“Recommended Best Practices”). See also NFMA, Disclosure Guidelines, 

available at http://www.nfma.org/mc/page.do?sitePageId=91110&orgId=nfma (accessed May 23, 2012).
58 

change the pricing of municipal securities in a given credit sector.341 The stated purpose of these 

best practices is to enhance the ability of investors to differentiate among different types of 

bonds and among specific types of issuers.342

 In addition to industry group disclosure guidelines, there are also a variety of legal 

publications aimed at providing disclosure guidance to municipal securities market participants. 

These publications include “The Securities Law of Public Finance,”

 

343 “Making Good 

Disclosure – the Roles and Responsibilities of State and Local Officials Under the Federal 

Securities Laws,”344 and “Disclosure Roles of Counsel in State and Local Government Securities 

Offerings.”345

 Moreover, partly as a result of open government laws and similar public accountability 

measures, state and local governmental bodies routinely make publicly available a large amount 

of information about issuers of municipal securities.

 These publications provide extensive guidance to municipal market participants 

regarding their disclosure and other responsibilities in municipal securities offerings and on an 

ongoing basis. 

346 The practices of market participants in 

voluntarily providing such additional information to investors are not, however, consistent. 

Large repeat issuers generally have more comprehensive disclosure than small, infrequent or 

conduit issuers, who may voluntarily provide little ongoing information to investors.347

2. Initial Disclosure

 

As discussed above,348 Rule 15c2-12 obligates municipal securities underwriters in most 

offerings to obtain, review, and distribute to investors copies of the issuer’s disclosure 

documents. Commission interpretations issued in connection with Rule 15c2-12 emphasize the 

underwriter’s duty to have “a reasonable basis for belief in the truthfulness and completeness of 

the key representations made in any disclosure documents used in the offering” and to review 

these documents for omissions and misstatements.

349

 

341 See Recommended Best Practices, supra note 

 Additionally, Rule 15c2-12 requires that 

340, at 15.

342 See id. at 16.

343 See supra note 74. 

344 See Robert Dean Pope, Making Good Disclosure – The Roles and Responsibilities of State and Local 

Officials Under the Federal Securities Laws (2001).

345 See Disclosure Roles of Counsel, supra note 18. 

346 See id. at 217-248

347 See e.g., San Francisco Hearing Transcript at 44 (Colby) (“frequent financial disclosure is generally limited 

to the healthcare sector and to many large frequent issuers”). See also 1994 Interpretive Release supra note 

31, at 20 (“[W]hile large repeat general obligation issuers usually have comprehensive disclosure 

documents, small issuers and conduit issuers, particularly in the healthcare, housing and industrial 

development areas, do not always provide the same quality of disclosure.”). 

348 See infra II.B.1.c (Rule 15c2-12).

349 See 1988 Proposing Release and 1989 Adopting Release, supra note 154. The interpretation in the 1988 

Proposing Release was modified slightly in the 1989 Adopting Release. The 1988 Proposing Release states 

that “in both negotiated and competitively bid municipal offerings, the Commission expects, at a minimum, 

that underwriters will review the issuer’s disclosure documents in a professional manner for possible 

inaccuracies and omissions. In the 1989 Adopting Release, the Commission emphasized that “the presence 
59 

official statements “set forth information concerning the terms of the proposed issue of 

securities, including financial information or operating data, concerning such issuers of 

municipal securities and those other entities, enterprises, funds, accounts, and other persons 

material to an evaluation of the Offering.”350

Although the official statement may be prepared by counsel to the underwriter, bond 

counsel, the issuer’s disclosure counsel or financial advisor, the Commission has clearly stated 

that the official statement is legally the issuer’s document.

 

351 Although market participants that 

assist the issuer are subject to the antifraud provisions of the federal securities laws, the issuer 

has ultimate responsibility for ensuring that its official statements meet the disclosure standards 

of the securities laws and has primary liability for failure to meet them.352

For example, the Commission has brought enforcement actions against: Orange County, 

California, for failing to disclose the risks relating to, among other things, the County’s 

investment pools and its financial condition;

 In this regard, the 

Commission has pursued numerous antifraud enforcement actions against municipal issuers for 

materially misleading statements or omissions in offering materials. 

353

 of credit enhancement does not foreclose the need for a reasonable investigation of the accuracy and 

completeness of key representations concerning the primary obligor.” See also 1994 Interpretive Release 

at, supra note 

 Maricopa County, Arizona, for failing to disclose 

31, at §V.

350 This information was intended to be the template as well for ongoing information provided to the market 

about the municipal securities being offered. See infra note 416. In 1994, the Commission highlighted 

certain aspects of primary offering disclosure as needing improvement: disclosure of potential conflicts of 

interest and material financial relationships among issuers, advisers and underwriters, including those 

arising from political contributions; disclosure regarding the terms and risks of securities being offered; 

disclosure of the issuer’s or obligor’s financial condition, results of operations, and cash flows; disclosure 

of the issuer’s plans regarding the provision of information to the secondary market; and timely delivery of 

preliminary official statements to underwriters and potential investors. See 1994 Interpretive Release, 

supra note 31. 

351 See 1989 Adopting Release, supra note 154. The specific information about a governmental issuer can 

vary depending on its role in an offering: when the governmental issuer is the primary obligor, there 

generally is significant disclosure about the issuer in the official statement; however, in conduit offerings in 

which the governmental issuer may have limited or no ultimate payment obligations, disclosure about the 

governmental issuer may be limited, with the bulk of the disclosure about the conduit borrower. See

Disclosure Roles of Counsel supra note 18, at 54. 

352 See Exchange Act § 10 and Rule 10b-5 thereunder. Issuers are primarily responsible for the content of 

their disclosure documents and may be held liable under the federal securities laws for misleading 

disclosure. See 1989 Adopting Release, supra note 154, n.84. As noted in the Staff’s 1977 New York City 

Report, “[a]lthough municipalities have certain unique attributes by virtue of their political nature, insofar 

as they are issuers of securities, they are subject to the proscription against false and misleading disclosure. 

See Staff Report on Transactions in Securities of the City of New York (Aug. 1977), Chapter III, at 1-2 

(“NY City Report”).

353 Securities Act Release No. 7260/Exchange Act Release No. 36760, In the Matter of County of Orange, 

California; Orange County Flood Control District and County of Orange, California Board of Supervisors

(order) (Jan. 24, 1996), available at http://www.sec.gov/litigation/admin/337260.txt (“In the Matter of 

County of Orange, California”).
60 

known material declines in its financial condition and operating cash flow;354 the City of 

Syracuse, New York, for falsely claiming a surplus for its general and debt service funds, 

materially overstating its ending fund balances in those funds, and misleading investors by 

describing certain financial information as audited;355 the City of Miami, Florida, for failing to 

disclose cash flow shortages that the city attempted to hide by using proceeds of issued bonds for 

operating costs;356 the Massachusetts Turnpike Authority for failing to disclose substantial cost 

overruns from the “Big Dig” road and tunnel project in Boston;357 the City of San Diego, 

California, for failing to disclose adequately the city’s looming pension fund crisis in connection 

with five municipal bond offerings between 2002 and 2003;358 and the State of New Jersey for 

misleading disclosure concerning the underfunding of its public pension funds, and the creation 

of the illusion that the public pension funds were being adequately funded.359

Issuer officials who approve the issuance of bonds or the form of disclosure documents 

also have responsibilities under the federal securities laws.

 

360 The Commission has brought 

numerous cases against underlying obligors or their chief executive officers for materially 

misleading statements or omissions in offering materials.361

 

354 Securities Act Release No. 7354/Exchange Act Release No. 37748, In the Matter of Maricopa County, 

Arizona (order) (Oct. 3, 1996), available at

 Municipal securities underwriters 

http://www.sec.gov/litigation/admin/337354.txt (“In the Matter 

of Maricopa County”). 

355 Securities Act Release No. 7460/Exchange Act Release No. 39149, In the Matter of City of Syracuse, New 

York, Warren D. Simpson and Edward D. Polgreen (order) (Sep. 30, 1997), available at

http://www.sec.gov/litigation/admin/3-9452.txt (“In the Matter of City of Syracuse”). 

356 Securities Act Release No. 8213/Exchange Act Release No. 47552, In the Matter of the City of Miami, 

Florida (order) (Mar. 21, 2003), available at http://www.sec.gov/litigation/opinions/33-8213.htm (“In the 

Matter of the City of Miami”). 

357 Securities Act Release No. 8260, In the Matter of the Massachusetts Turnpike Authority and James J. 

Kerasiotes (order) (July 31, 2003), available at http://www.sec.gov/litigation/admin/33-8260.htm. 

358 Securities Act Release No. 8751/Exchange Act Release No.54745, In the Matter of the City of San Diego, 

California (order) (Nov. 14, 2006), available at http://www.sec.gov/litigation/admin/2006/33-8751.pdf (“In 

the Matter of the City of San Diego”).

359 Securities Act Release No. 9135, In the Matter of State of New Jersey (order) (Aug. 18, 2010), available at

http://www.sec.gov/litigation/admin/2010/33-9135.pdf. 

360 See e.g., In the Matter of City of San Diego, supra note 358; SEC Litigation Release No. 20522, “SEC 

Charges Five Former San Diego City Officials With Fraud in Connection with City Municipal Securities 

Offerings” (Apr. 7, 2008), available at http://www.sec.gov/litigation/litreleases/2008/lr20522.htm

(Commission brought case against former San Diego city official for acting recklessly in failing to disclose 

material facts regarding the city’s looming financial crisis and related underfunding of the city’s pension 

and retiree health care obligations). See infra §II(C)(3) at Enforcement Actions regarding the settlement of 

this matter. See also Exchange Act Release No. 36761, “Report of Investigation in the Matter of County of 

Orange, California as it Relates to the Conduct of the Members of the Board of Supervisors” (Jan. 24, 

1996), available at http://www.sec.gov/info/municipal/mbonds/publicof.htm. 

361 See, e.g., SEC Litigation Release No.20358, “SEC Obtains Final Judgment Against Robert A. Kasirer in 

Municipal Revenue Bond Offering Fraud” (Nov. 5, 2007), available at

http://www.sec.gov/litigation/litreleases/2007/lr20358.htm (Commission brought case against Heritage 

Housing Development Inc. and its president for the fraudulent offer and sale of over $131 million of 

municipal revenue bonds for various senior assisted living facilities in a type of Ponzi scheme from 

February, 1996 through August, 1999); SEC Litigation Release No. 19887, “Final Judgment Entered 

Against Defendant Bruce M. Perry” (Oct. 25, 2006), available at
61 

have also been pursued by the Commission in enforcement actions regarding false and 

misleading disclosure.362 The parties to Commission enforcement proceedings involving 

municipal securities include national and regional investment banks, the heads of public finance 

departments at several investment banks, as well as individual investment bankers at various 

levels of seniority, issuers, issuer officials, financial advisers, attorneys and accountants.363

3. Continuing Disclosure 

As a result of the operation of Rule 15c2-12,364 the application of the antifraud provisions 

of the federal securities laws, Commission interpretive guidance,365 and industry initiatives,366

Under Rule 15c2-12, underwriters are required to reasonably determine that either the 

issuer of municipal securities or an obligated person (obligated to pay all or some portion of the 

principal and interest on the municipal securities) has undertaken in a written agreement or 

contract (commonly called a “continuing disclosure agreement”) to provide specified annual 

information and “material event” notices to certain information repositories (now, to EMMA, as 

discussed above).

a 

continuing disclosure scheme for municipal securities issuers and obligated persons has 

developed. 

367

 

http://www.sec.gov/litigation/litreleases/2006/lr19887.htm

 These requirements with respect to the content of continuing disclosure 

obligations for issuers and obligated persons were further broadened by the Commission in 2010 

(Commission brought case against Mount Sinai 

Medical Center and its CEO, Bruce Perry, for various false and misleading statements and omissions in 

disclosure documents issued by Mount Sinai in connection with a bond offering in May, 2001); Exchange 

Act Release No. 42992, In the Matter of Allegheny Health, Education and Research Foundation (June 30, 

2000), available at http://www.sec.gov/litigation/admin/34-42992.htm (“In the Matter of Allegheny”) 

(Commission brought case against the Allegheny Health, Education and Research Foundation – a major 

nonprofit health care organization – for grossly overstating the income of various hospitals and thereby 

masking the enterprise’s deteriorating financial condition prior to its filing for bankruptcy).

362 In 2000, the Commission brought an injunctive action against an underwriting firm and one of its principals 

in connection with a series of bond offerings to finance a residential development in southern California. 

After a trial, a federal district judge enjoined the firm for misrepresenting and omitting material facts in the 

offering documents concerning the value of the land used as security for the bonds, the status of the project, 

and the likelihood that the bonds would be repaid from the revenues of the project. See SEC Litigation 

Release No.17432, “Court Enjoins Municipal Underwriter in Real Estate Financing Fraud” (Mar. 22, 

2002), available at http://www.sec.gov/litigation/litreleases/lr17432.htm. Similarly, the Commission filed 

suit against an underwriter and conduit bond issuer for failing to disclose the planned departure of a major 

tenant from an office building being financed with a municipal bond issue. See Dolphin & Bradbury, Inc. 

v. SEC, 512 F.3d 634 (DC Cir. 2008); Exchange Act Release No. 54143, “In the Matter of Dolphin and 

Bradbury, Incorporated and Robert J. Bradbury” (July 13, 2006), available at

www.sec.gov/litigation/opinions/2006/33-8721.pdf. 

363 A compendium of the Commission’s enforcement cases involving municipal securities is available on the 

Commission’s website at http://www.sec.gov/info/municipal.shtml. 

364 See supra § II.B.1.c (Rule 15c2-12).

365 See 1994 Interpretive Release supra note 31. 

366 See supra § III.A.1 (Voluntary Disclosure Initiatives and Disclosure Guidelines).

367 Annual disclosure obligations pursuant to continuing disclosure agreements include the dissemination of 

financial and operating information such as audited financial statements. 
62 

in an amendment that required all event notices to be filed within ten business days, modified the 

events that are subject to a materiality determination before triggering a requirement to provide 

notice to the MSRB, and amended the list of events for which a notice is to be provided.368

These disclosure obligations arising as a result of Rule 15c2-12 are enhanced by existing 

industry disclosure guidance. For example, the GFOA best practices related to continuing 

disclosure recommend that municipal issuers or obligated persons make public already prepared 

interim financial information that is of interest to investors.369

Similarly, while continuing disclosure obligations arising under Rule 15c2-12 have 

existed since 1995, compliance with such obligations is inconsistent.

 Nevertheless, the level and

frequency of continuing disclosure continues to vary depending on the type and size of the 

municipal issuer or obligated person. 

370 In 2002, the NFMA 

released an informal survey of approximately 100 obligors subject to the continuing disclosure 

requirements under Rule 15c2-12 that was undertaken to evaluate disclosure practices in the 

secondary market and to consider the quality and completeness of the information being 

provided, particularly with respect to the inclusion of operating data mandated by the Rule.371 

The NFMA Survey concluded that the annual financial information filed by 59.1% of the 

obligors within the sample was found to contain information deemed to be either complete or 

near complete, and that the annual financial information filed by 40.9% of the sample was found 

to be either somewhat inadequate or substantially inadequate.372

 

368 See supra note 

 With respect to the entities 

found to provide less than adequate information, the survey determined that 58.1% failed to 

deliver all information contained in their continuing disclosure undertaking, 27.9% did file 

170 and accompanying text. 

369 See Understanding Your Continuing Disclosure Responsibilities, available at

http://www.gfoa.org/index.php?option=com_content&task=view&id=1588; Maintaining an Investor 

Relations Program, available at

http://www.gfoa.org/index.php?option=com_content&task=view&id=1578; Using a Web Site for 

Disclosure, available at http://www.gfoa.org/index.php?option=com_content&task=view&id=1587; and 

Web Site Presentation of Official Financial Documents, available at

http://www.gfoa.org/index.php?option=com_content&task=view&id=1473. 

370 For example, many continuing disclosure delinquencies arise in offerings of 529 Plans. See MSRB Notice 

2010-19, “Reminder on Submissions of Disclosure Documents to EMMA For 529 College Savings Plans” 

(June 28, 2010), available at http://www.msrb.org/Rules-and-Interpretations/RegulatoryNotices/2010/2010-19.aspx. 

371 NFMA, “NFMA Releases Results of Disclosure Survey” (May 23, 2002), available at

http://data.memberclicks.com/site/nfma/disclosure_survey.pdf (“NFMA Survey”). In 2008, DPC/DATA 

published a study of obligors subject to disclosure requirements that issued bonds between 1996 and 2005. 

Peter J. Schmitt, “Estimating Municipal Securities Continuing Disclosure Compliance: A Litmus Test 

Approach,” DPC DATA (2008), available at

http://www.dpcdata.com/html/Estimating%20Municipal%20Securities%20Continuing%20Disclosure%20

Compliance.pdf (“DPC Study”). The DPC Study underscored the prevalence of delinquency, or the failure 

of obligors to comply at all or on a timely basis with their continuing disclosure covenants. The DPC 

Study was conducted prior to the establishment of EMMA as a central information repository, and at the 

time, data was submitted to one of four Nationally Recognized Municipal Securities Information 

Repositories (NRMSIRs), including DPC/DATA. As such, the DPC Study was limited to its internal 

records of filings received by it as a NRMSIR. 

372 See NFMA Survey, supra note 371. 
63 

reports, but had inadequate undertakings, and 14.0% were found to be deficient both in terms of 

the undertaking itself and in subsequently delivering all information promised in the 

undertaking.373

4. Market Participant Observations and Other Commentary 

 

a. General Observations

Panelists at the field hearings noted the significant improvements over time in the 

disclosure practices of issuers in the municipal market due to Commission enforcement actions, 

private actions, and regulatory initiatives with respect to the primary market, as well as 

improvements through the efforts of industry participants, the SEC, and the MSRB.374 A 

number of improvements in disclosure were noted, including widespread use of the Internet, the 

creation of EMMA, and implementation of rule changes such as recent amendments to Rule 

15c2-12. Government official panelists, in particular, felt that the existing disclosure system has 

served issuers and investors well.375 Several panelists argued either that additional disclosure 

requirements are not necessary or that any additional regulation should be limited in scope.376

 

373 Id. 

 

374 See, e.g., Birmingham Hearing Transcript at 94-95 (MacLennan) (“You’ve already heard from speakers in 

prior hearings that there have been improvements in the area of primary market disclosure, and these 

improvements, I believe, have been achieved in part through the combined and concerted efforts of many 

market organizations including the National Association of Bond Lawyers, National Federation of 

Municipal Analysts, the Government Finance Officers Association, as well as the Commission, the MSRB, 

SIFMA, among others. With respect to continuing disclosure and municipal secondary market generally, I 

believe that improvements can be achieved in the same manner, through the combined and concerted 

efforts of all participants in the municipal secondary market, and without necessarily additional regulations 

of issuers”), 99-100 (Presley) (“First, it is certainly true that disclosure practices in the municipal market 

can and should improve, but it is also true that significant advances have been made in disclosure practices 

in the municipal market in the last three decades as a result of various SEC enforcement actions, private 

anti-fraud actions and regulatory initiatives with respect to primary market official statements and 

continuing disclosure, the great majority of issuers have a very solid appreciation for their disclosure 

responsibilities”), 180 (Watkins) (“My opinion is that the current regulatory rime [sic] in the muni market 

has by and large worked and worked very well over the last 30 years”).

375 See, e.g., San Francisco Hearing Transcript at 20 (Lockyer) (“There’s a well-established framework for 

municipal disclosure. By and large, the existing system has served issuers and investors well. The size of 

the market and types of debt defined broadly as municipal obviously have grown and evolved. There’s a 

need undoubtedly for regulatory improvement”), 191, 194 (Harrington) (“[W]e do not believe the SEC 

needs to have a larger role in municipal finance . . . . There are over 87,000 government entities in the 

United States. In California, over 800 separate government entities have issued debt this year alone. And 

with all this activity, I can count on one hand the number of investment grade government bonds that have 

failed to pay investors”).

376 See, e.g., San Francisco Hearing Transcript at 20 (Lockyer) (“So I hope you’ll please consider the need for 

disclosure standards that acknowledge the limited resources of small and infrequent municipal issuers, as 

well as the relevancy of standardized reports and uniform reporting timeframes”). See also Birmingham 

Hearing Transcript at 157 (Duggan) (“In our zeal to prevent unreasonable risks . . . we need not create 

elaborate structures that cause all issuers to bear too large a burden”); San Francisco Hearing Transcript at 

75 (McNally) (“[A] third category which is simply not feasible in this market, and that is an attempt to 

establish a standardized disclosure that would apply across the board by virtue of the diversity of the issuers 

and the nature of the security”).
64 

Market participants, including analysts, issuers, and counsel to issuers, expressed the 

view that, given the size and diversity of issuers in the municipal securities market, a “one-sizefits-all” approach to disclosure is neither necessary nor practicable.377 Some emphasized that the 

amount and type of disclosure needed depends, in part, on the type of credit involved and the 

different risks associated with different issues.378 With regard to a sales tax revenue bond, for 

example, updated information concerning the level of sales tax collections would be of 

paramount concern to an investor.379 Other market participants noted a possible limitation of

resources available for small issuers to comply with increased disclosure obligations.380 One 

market participant stated that although standardization is an important part of good disclosure, 

the challenge is in providing guidance that will address the different nature of local issuers.381

 

377 See Letter from Mary Colby, National Federation of Municipal Analysts, to Commissioner Elisse B. Walter 

(Oct. 6, 2010), available at

 

One field hearing participant objected specifically to increased disclosure requirements for 

http://www.sec.gov/comments/4-610/4610-9.pdf (“NFMA Comment Letter”) 

(“We do not believe that the municipal market lends itself to a one size fits all approach to regulation but 

there should be a few basic requisites to participation in the public markets . . . Beyond these basic 

requirements, given the differences among issuers and debt instruments offered in the municipal market, it 

is difficult to prescribe specifics for either the contents of official statements or financial statements”). See 

also San Francisco Hearing Transcript at 20 (Lockyer) (“While it's desirable to have minimum disclosure 

standards, there may not be a single one size fits all solution. So I hope you'll please consider the need for 

disclosure standards that acknowledge the limited resources of small and infrequent municipal issuers, as 

well as the relevancy of standardized reports and uniform reporting timeframes”), 53 (McNally) 

(“Moreover, there cannot be a one size fits all approach to municipal disclosure given the wide range of

purposes and structures of the over 50,000 municipal issuers”); Birmingham Hearing Transcript at 48 

(Beardsley) (noting that lack of resources and infrequency of market access pose a particular problem for 

smaller issuers in establishing good disclosure practices), 122 (Presley), 180-81 (Watkins) (“The challenge 

. . . in regulating muni disclosure is basically, the composition of this market . . . and trying to write a 

uniform rule that would apply in a meaningful way to this disparate group of issuers and securities, I would 

submit to you is not challenging, but impossible”). 

378 See, e.g., San Francisco Hearing Transcript at 21 (Lockyer) (“Disclosure standards, it seems to me, need to 

recognize the differences between issuers, the types of municipal debt issued [and] the relative security of 

the investment. For example, obviously there’s a difference between a tax supported General Obligation 

Bond and the disclosure with respect to that are probably very different from what’s needed with a utility 

revenue bond, which is not the same that you might have for land secured financing, largely because of 

different risks associated with the different issues”). See also San Francisco Hearing Transcript at 73 

(Colby) (mandated level of disclosure should reflect the security of the bonds issued), 75-76 (McNally).

379 See, e.g., San Francisco Hearing Transcript at 68 (Colby), 72 (Mayhew).

380 Birmingham Hearing Transcript at 90 (Scott) (noting that “additional requirements do not necessarily mean 

additional resources”). Another panelist argued that imposing new regulatory requirements on municipal 

issuers could have a devastating impact on state and local budgets at a time when it can be least afforded. 

See Birmingham Hearing Transcript at 180 (Watkins) (“I’m here to share my view and concerns that any 

additional SEC regulation of municipal disclosure could be intrusive, burdensome and unwarranted if not 

very, very carefully considered and crafted”); San Francisco Hearing Transcript at 135 (McIntire) (“I must 

emphasize that a repeal of the Tower Amendment and imposition of a set of uniform federal regulations on 

the issuance of municipal securities could have a devastating impact on state and local budgets, at a time 

when we can least afford it”). 

381 Birmingham Hearing Transcript at 122 (Presley). 
65 

conduit borrowers.382 Others expressed concern that additional disclosure may create potential 

legal risks for issuers.383

Conversely, investors and other market participants have emphasized a need for greater 

and timelier disclosure in several key areas.384 Market participants noted that the need for 

improved disclosure is underscored by the decline of commoditization achieved through the use 

of credit enhancement.385

b. Initial Disclosure

As noted above, some field hearing participants highlighted improvements to municipal 

market disclosure practices – particularly initial disclosure practices.386 However, many 

participants raised specific concerns about disclosure in primary offerings of municipal 

securities, particularly with respect to smaller, less-sophisticated issuers and non-governmental 

conduit borrowers.387

 

382 Birmingham Hearing Transcript at 96 (MacLennan) (“[I]t would be a particularly inopportune time to 

restrict the use of [conduit structures] or otherwise increase the cost (thereby reducing the value) of this 

economic tool. For smaller communities especially, this may be the only financial incentive available to be 

offered for new commercial development”).

 Commenters have expressed concern about the lack of detailed 

383 See, e.g., San Francisco Hearing Transcript at 63 (McNally) (“I think what you have to be very careful of, 

though, and speaking as counsel to issuers, is that we’re mindful of the advice you gave us in the ‘94 

interpretive release to the effect that anytime the information is reasonably likely, not even reasonably 

intended, reasonably likely to reach investors in the trading markets, it will be tested against 10(b)5 

liability”), 216 (Keller) (“[L]iability concern, in other words, liability as an impediment. But there really is 

a focus on, okay, what is information that is designed for investors and therefore subject to, you know, 

potential liability”).

384 See, e.g., Birmingham Hearing Transcript at 142-43 (Borg) (“So with significant pressures on state and 

local government budgets, timely and complete disclosure in this market is now of greater concern. Now, 

given the historical levels of predominantly lax disclosure, there’s certainly room for improvement. The 

decision that an investor will make on whether to invest in a municipal or governmental bond must be 

based on good, solid, reliable and timely information. Disclosure is the primary component of that 

information”), 163-65 (Johnston) (“I see the problems related to disclosure falling into three categories. 

First, timeliness. In my sector it’s very common to have to wait 2 hundred and 70 days for any kind of 

financial disclosure. This is just too long . . . . The second problem I would like to highlight is the 

frequency of disclosure. I fully understand it’s impossible for all issuers to provide audited financial 

statements in 30 or 60 days following the end of a fiscal year, but does that mean it’s impossible to get 

investors some type of recent information that can help me in making my investment decisions, and I’m 

afraid that some of obligors have fallen prey to I only need to provide audits, that’s all I’m going to provide 

. . . . Third, I struggle with completeness, and this actually does affect the primary market as well as the 

secondary market. Many times compliance with continuing disclosure weakens over time . . . . And 

finally, I’ll bring up road shows. I’d like to see road show presentations, whether done on-line or in person, 

made available for download”), 171-72 (Nolan) (“I think it needs to be stated up front-- consistent, timely 

and accurate information throughout the life of the bonds needs to be improved, especially in the secondary 

market, and particularly with regards to infrequent issuers. While disclosures from issuers has become [sic] 

over the years through 15c2-12 and the establishment of EMMA, as well as the amendments to 15c2-12, 

there is always room for improvement”).

385 See supra § II.C.6 (Credit Enhancers). 

386 See supra notes 374 - 375, and accompanying text.

387 See, e.g., San Francisco Hearing Transcript at 44 (Colby).
66 

information in official statements about municipal issuers’ outstanding debt, including liens, 

security, collateral pledges, etc.388 Market participants also have recently raised concerns that 

municipal entities may not properly disclose the existence or the terms and conditions of bank 

loans, particularly when the terms of the bank loans may affect the payment priority from 

revenues in a way that adversely affects bondholders.389 Additionally, it was suggested that 

official statements include disclosure of the number of delinquent taxpayers in a given 

jurisdiction and material deficiencies in project returns for revenue or project bonds.390

Market participants have also expressed concern about disclosure practices in 

circumstances where additional information may need to be provided to investors after a 

preliminary official statement has been prepared.

 

Comments regarding disclosure of financial information are discussed in detail below.

391 Market participants have indicated that 

issuers often make changes between the preliminary official statement and the final official 

statement of which investors may not be aware. This disclosure could relate to new or additional 

information on the underlying credit, alterations of security provisions, or the correction of 

mistakes or omissions.392 Bond counsel have suggested ways in which municipal issuers could 

provide this information.393

c. Continuing Disclosure 

One field hearing participant, representing an industry association of municipal analysts, 

noted that despite achievements in the municipal market since the adoption of Rule 15c2-12, 

municipal securities secondary market disclosure continues to trail substantially continuing 

disclosure in other financial markets.394

 

388 See NFMA Letter, infra note 

 Commenters suggested that the municipal market has 

499. 

389 See, e.g., John McDermott, “The Municipal Middle Man Misses Out Again,” (July 14, 2011), available at

http://ftalphaville.ft.com/blog/2011/07/14/622886/the-municipal-middle-man-misses-out-again. 

390 See San Francisco Hearing Transcript (Kuhn) at 260.

391 See, e.g., Letter from John M. McNally, NABL, to Commissioner Elisse B. Walter, (Sept. 2, 2011), 

(including attachment, in Appx. A, of Letter from Kathleen C. McKinney, NABL, to Commissioner Elisse 

B. Walter (May 14, 2010)), available at http://www.sec.gov/comments/4-610/4610-68.pdf (“NABL 

Comment Letter”).

392 See, e.g., NABL Comment Letter, supra note 391. 

393 See NABL Comment Letter, supra note 391. 

394 San Francisco Hearing Transcript at 41-43 (Colby) (“NFMA believes that disclosure in the muni market 

has made great strides in the last 16 years since the adoption of the 1994 amendments to 15c2-12 and in the 

last six years since the establishment of the Central Post Office . . . . With regard to secondary market 

disclosure, our comments are far less glowing. Secondary market disclosure continues to be spotty, 

particularly among infrequent issuers and those who have historically issued only with primary market 

bond insurance”). See also NFMA Comment Letter, supra note 377 (“disclosure in the municipal market 

continues to trail substantially that of other areas of the US financial markets, while the municipal market 

has become far more complex than it was in 1994”); Birmingham Hearing Transcript at 144 (Presley) 

(“[R]ecent SEC, state regulatory and FINRA actions clearly point to a growing concern regarding the lack 

of current official filings, the lack of transparency, and the lack of continuing financial records of some 

public borrowers. Look, this is almost a three trillion dollar market, and with weak disclosure this raises 

the anxiety levels of investors where current and continuing financial information is absolutely necessary 

for investors to do what we have always said in regulatory parlance, make informed investment decisions”).
67 

become large and complex enough to warrant a more comprehensive and streamlined approach 

to the disclosure process.395

According to many market participants, the major challenge in secondary market 

disclosure continues to be the timeliness and completeness of filings.396 As a result of the 

requirements of Rule 15c2-12, issuers must agree to provide the same type of financial 

information and operating data as included in the final official statement. In practice, many 

issuers undertake to include in secondary disclosure filings certain items of information which 

were included in the official statement.397 Market participants have indicated that many issuers 

comply with their written obligations under their continuing disclosure agreements for a period 

of time, but that over time, as a result of staffing changes or otherwise, compliance with these 

contractual obligations weakens. After the passage of time, compliance may be limited solely to 

annual audited financial statements, and the other ongoing financial information or operating 

data may not be provided.398 Further, some market participants have indicated that they believe 

that material events notices for some issuers may be filed weeks or months after the event, and 

that some issuers do not comply with these obligations at all.399 Market participants are 

concerned that some issuers may be failing to report adverse tax information400 and that issuers 

may not be filing applicable material event notices even when their financial stress is reported in 

newspapers.401

One market participant stated that it is well known that many issuers simply do not 

comply with continuing disclosure agreements.

 

402 Some market participants expressed concern 

that the use of the comprehensive annual financial report (“CAFR”) by some issuers to satisfy 

the annual disclosure filing obligation under their continuing disclosure agreements does not 

provide sufficient information.403

 

395 See, e.g., NFMA Comment Letter, supra note 

 Additionally, some commenters expressed concern about a 

377; Birmingham Hearing Transcript at 176 (Nolan) (“In our 

view, a uniform set standard on the exact type of information included in an OS is necessary, as well as 

what additional items will be disclosed over the life of the bonds on EMMA”).

396 Timeliness of financial information is discussed infra at § III.B.1.d (Timeliness of Financial Information); 

see also GASB Timeliness Study, infra note 429. 

397 Written Testimony of Mary Colby, Industry Practices Chairperson, National Federation of Municipal 

Analysts, San Francisco Field Hearing, Sep. 21, 2010, available at

http://www.sec.gov/spotlight/municipalsecurities/statements092110/colby092110.pdf (“Colby 

Testimony”).

398 See, e.g., Colby Testimony; Birmingham Hearing Transcript at 165 (Johnston).

399 See, e.g., Colby Testimony; Birmingham Hearing Transcript at 176 (Nolan).

400 Id. Rule 15c2-12(b)(5)(i)(C)(6) requires notice within 10 business days of “[a]dverse tax opinions, the 

issuance by the Internal Revenue Service of proposed or final determinations of taxability, Notices of 

Proposed Issue (IRS Form 5701-TEB) or other material notices or determinations with respect to the tax 

status of the security, or other material events affecting the tax status of the security.”

401 Id. 

402 See Birmingham Hearing Transcript at 145 (Borg).

403 Although the CAFR data is comprehensive and in many instances exceeds the requirements that issuers 

must file in accordance with their continuing disclosure agreements, (See, e.g., Washington, DC Hearing 

Transcript (Afternoon Session) at 20 (Firestine) it was suggested that some issuers: (1) fail to update 

CAFRs; (2) present the information in a different format from that used in the issuer’s official statement, 
68 

lack of enforcement for non-compliance with such continuing disclosure agreements.404 Some 

market participants have indicated that in instances of poor disclosure they will choose not to 

purchase, or insist on more spread or higher yield.405 However, others argue that the idea of 

“market discipline” – simply not buying the bonds of an issuer with disclosure deficiencies is an 

impractical solution in a market with such a retail-heavy composition.406 Two panelists at the 

field hearings suggested that improvements in continuing disclosure in the secondary market can 

be achieved in the same manner as the improvements made in the primary market, through the 

concerted efforts of all participants and without additional regulation of issuers.407

d. Disclosure by Conduit Borrowers 

 

Many types of conduit municipal financings historically have provided substantially less 

continuing information than municipal securities involving non-conduit financings. However, 

market participants have noted that since 1994, the health care sector in general, and hospitals in 

particular, have improved continuing disclosure compliance. Such hospitals, in fact, may be 

providing more timely disclosure than other municipal issuers and obligated persons.408 Some 

market participants believed that the same registration requirements and disclosure standards 

should apply to non-governmental conduit borrowers that apply to other non-governmental

issuers selling securities directly into the corporate securities market.409

 

thus making comparability with the financial information and operating data contained in the official 

statement difficult; and that the comprehensive nature of the CAFR could make it difficult for investors to 

locate discrete but relevant information regarding a subsidiary credit. 

404 See, e.g., Birmingham Hearing Transcript at 179 (Nolan). 

405 See, e.g., Birmingham Hearing Transcript at 200 (Johnston). 

406 See infra note 479 and accompanying text. A limited exception appears to exist in the health care sector, 

where the limited market for securities gives power to bond purchasers.

407 See Birmingham Hearing Transcript at 95 (MacLennan) (“With respect to continuing disclosure and 

municipal secondary market generally, I believe that improvements can be achieved in the same manner, 

through the combined and concerted efforts of all participants in the municipal secondary market, and 

without necessarily additional regulations of issuers”). See also Birmingham Hearing Transcript at 184 

(Watkins) (“It’s worked in the past, and I believe that it will work in the future, and I think that is really the 

better way to go is to let the stakeholders in the marketplace continue the evolutionary process of 

improving disclosure available to analysts and investors as we have in the past and resist the temptation of 

imposing a one- size-fits-all approach to improving information available in the market, and 

communication and education are the key”).

408 See, e.g., San Francisco Hearing Transcript at 44 (Colby). However, certain health care bond sectors 

(excluding hospitals) that are traditionally considered riskier are also evidencing disproportionately high 

levels of non-compliance with continuing disclosure obligations, including life care and nursing home 

financings according to the DPC Study. 

409 San Francisco Hearing Transcript at 234 (Gill) (“Clients should be able to count on the same registration 

and disclosure standards to non-governmental conduit borrowers, as if they issued their securities directly, 

without using municipal issuers as conduits. These conduit-borrowing arrangements should be subject to 

the same level of disclosure as a corporate issuer directly obtaining financing in the public securities 

market”); Birmingham Hearing Transcript at 289 (Roberts) (“For sure it seems to me that conduit issuers 

should be treated like corporate borrowers, that governmental issuers should be subject to the same set of --

required to satisfy the same set of accounting standard[s --270 days is] way too long to produce financial 

statements”). But see MacLennan supra note 382. 
69 

B. SUBSTANTIVE DISCLOSURE TOPICS

1. Financial Statements and Financial Information 

a. Overview

As the Commission stated in the 1994 Interpretive Release, sound financial statements 

are critical to the integrity of the primary and secondary markets for municipal securities, just as 

they are for corporate securities.410 Municipal issuer financial statements provide investors with 

critical information to assess the financial condition of municipal issuers and to enable investors 

to analyze their investments. This information is also important to other stakeholders, such as 

government agencies and taxpayers. Additional financial information, such as budgetary 

information, can be used by investors and creditors to identify future demands on government 

resources that could negatively impact the ability of governments to repay their obligations. 

That same information can be used by citizens and citizens groups to assist them in analyzing 

whether tax dollars were spent in accordance with budgetary restrictions.411

As the Governmental Accounting Standards Board (“GASB”) has explained, there are 

differences between the purposes of financial reports of governmental entities and those of 

private-sector business enterprises.412 Consequently, financial statements prepared in accordance 

with accounting principles applicable to governments differ in certain fundamental ways from 

financial statements prepared in accordance with accounting principles applicable to for-profit 

business enterprises. These differences derive from several factors, principal among them the 

differing needs of end users of the financial information provided.413 In the case of financial 

report of business enterprises, users demand information that will allow creditors and equity 

holders to make decisions with respect to their financial investments. In the case of 

governmental accounting, on the other hand, the principal focus frequently is on public 

accountability for resources entrusted to the stewardship of the government (i.e., taxes), 

including how public resources such as taxes are acquired and used; whether resources are 

sufficient to meet current and future costs; and whether the government’s ability to provide 

services improves or deteriorates on a period-to-period basis.414

As noted above, the financial disclosure practices of municipal issuers are influenced by a 

variety of factors, including the demands of market participants, voluntary/industry guidelines, 

 

 

410 See 1994 Interpretive Release, supra note 31. 

411 See Washington, DC Hearing Transcript (Afternoon Session) at 22 (Jones). 

412 Examples of those differences from the point of view of the GASB are discussed in a GASB White Paper 

entitled “Why Governmental Accounting and Financial Reporting Is—and Should Be—Different,” 

available at

http://www.gasb.org/cs/ContentServer?c=Document_C&pagename=GASB%2FDocument_C%2FGASBD

ocumentPage&cid=1176156741340 (“GASB White Paper”).

413 These include differing purposes of governments and for-profit enterprises, processes of generating 

revenues, stakeholders, budgetary obligations, and longevity, given the power to tax and hence to continue 

operating in perpetuity. See generally GASB White Paper, supra note 412. See also Washington, DC 

Hearing Transcript (Afternoon Session) at 21 (Jones).

414 GASB White Paper, supra note 412, at 1, 2. 
70 

general antifraud considerations, and the continuing disclosure provisions relating to financial 

information in Rule 15c2-12. Rule 15c2-12, and specifically the definition of “final official 

statement,” does not establish the form and content of financial information and operating data 

required to be disclosed in an official statement for a primary offering of municipal securities. In 

the 1994 amendments to Rule 15c2-12, the Commission did not adopt requirements mandating 

the use of audited financial statements, recognizing that not all issuers prepared such audited 

financial statements. The Commission recognized the need for flexibility in determining the 

content and scope of disclosed financial information given the diversity among types of issuers, 

types of issues, and sources of repayment.415

Annual financial information is intended to be comprised of financial information and 

operating data of the type included in the final official statement.

416 Rule 15c2-12 also requires 

that audited financial statements be provided, when and if available, if such financial statements 

have not been submitted as part of the annual financial information.417

Many of the Commission’s enforcement actions regarding materially misleading 

statements or omissions in official statements involved deficient financial statements or financial 

information provided by issuers or underlying obligors. For example, the Commission has 

brought enforcement actions alleging the use of stale audited financial statements,

 Consequently, annual 

submissions should include: (1) financial information and operating data of the type included in 

the official statement; and (2) audited financial statements, when and if available.

418 the 

inaccurate labeling of summary financial information as “audited,”419 the false representation 

that auditors had consented to the inclusion of their audit report in an official statement,420 and 

misleading language contained in notes to the audited financial statements.421

 

415 See 1994 Amendment Release, supra note 

 The Commission 

has also brought enforcement actions alleging materially misleading financial statements by 

167. 

416 Pursuant to the continuing disclosure undertaking, annual financial information must be submitted for 

“each obligated person for whom financial information or operating data is presented in the final official 

statement . . . ” Rule 15c2-12(b)(5)(i)(A). Annual financial information is defined as “financial 

information or operating data . . . of the type included in the final official statement with respect to an 

obligated person . . . .” Rule 15c2-12(f)(9). As the Commission previously stated, the definition of annual 

financial information specifies both the timing of the information—that is, once a year—and, by referring 

to the final official statement, the type of financial information and operating data that is to be provided. 

See Exchange Act Release No. 34961, “Municipal Securities Disclosure” (Nov. 10, 1994), 59 FR 59598 

(Nov. 10, 1994). If financial information or operating data concerning an obligated person is included in 

the final official statement, then annual financial information would consist of the same type of financial 

information or operating data. See Rule 15c2-12(f)(3) for the definition of “final official statement.” 

417 See Rule 15c2-12(b)(5)(i)(B). 

418 In the Matter of Maricopa County, supra note 354. 

419 See In the Matter of City of Syracuse, supra note 355. 

420 See In the Matter of County of Orange, California, supra note 353 

421 In the Matter of the City of Miami, supra note 356; See also In the Matter of the City of San Diego, supra 

note 358. 
71 

virtue of accounting fraud,422 and has brought enforcement actions against both outside 

auditors423 and in-house accountants.424

b. Content of Financial Statements - Governmental Accounting Standards 

There are no uniformly applied accounting standards in the municipal securities market, 

and the Commission generally lacks authority to prescribe the accounting standards that 

municipal issuers must use.425 However, the GASB426 establishes generally accepted accounting 

principles (“GAAP”), which are used by many states and local governments of widely varying 

size and complexity.427

 

422 See In the Matter of City of Syracuse, supra note 

 

355; In the Matter of Allegheny, supra note 361; 

Exchange Act Release No. 51797, In the Matter of Mount Sinai Medical Center of Florida, Inc., M. Brooks 

Turkel and Harvey W. Smith, (June 7, 2005), available at http://www.sec.gov/litigation/admin/33-8580.pdf. 

423 Securities Act Release No. 7224/Exchange Act Release No. 36277, In the Matter of Ronald Blaine, (Sep. 

26, 1995); Exchange Act Release No. 50134, In the Matter of William F. Buettner, CPA, (Aug. 2, 2004), 

available at http://www.sec.gov/litigation/admin/34-50134.htm; SEC v. Thomas J. Saiz, and Calderon, 

Jaham & Osborn, An Accountancy Corporation, Civil Action No. 07 CV 2308 L (JMA) (S.D. Cal.) (Filed 

Dec. 10, 2007), available at http://www.sec.gov/litigation/complaints/2007/comp20394.pdf. 

424 See In re City of Syracuse, supra note 355; Exchange Act Release No. 42743, In the Matter of Albert 

Adamczak, C.P.A., (May 2, 2000), available at http://www.sec.gov/litigation/admin/34-42743.htm; 

Exchange Act Release No. 42742, In the Matter of Stephen H. Spargo, C.P.A., (May 2, 2000), available at

http://www.sec.gov/litigation/admin/34-42742.htm; Exchange Act Release No. 43910, In the Matter of 

Charles P. Morrison, CPA, (Jan. 31, 2001), available at http://www.sec.gov/litigation/admin/34-

43910.htm; see also SEC v. Uberuaga, et al. Civil Action No. 08 CV 0625 (S.D. Cal) (Filed Oct. 28, 2010), 

available at http://www.sec.gov/litigation/complaints/2008/comp20522.pdf (“SEC v. Uberuaga”).

425 With respect to companies with publicly-traded securities, federal securities laws authorize the Commission 

to set standards of accounting and financial reporting. The Commission historically has looked to privatesector standard-setting bodies to take the lead role in developing accounting standards. Pursuant to its 

authority under Section 19(b) of the Securities Act, the Commission has recognized the standards of the 

Financial Accounting Standards Board (“FASB”) as “generally accepted” for purposes of the federal 

securities laws.

426 The GASB is part of the not-for-profit Financial Accounting Foundation (“FAF”) and was established by 

agreement of the FAF and ten national associations of state and local government officials in order to 

establish standards of financial accounting and reporting for state and local governmental entities. The 

FAF’s trustees are responsible for selecting the members of the GASB and its Advisory Council, funding 

their activities and exercising general oversight-with the exception of the GASB’s resolution of technical 

issues. The GASB historically was funded by voluntary payments and contributions from states and local 

governments and the financial community, and through sales of FAF’s publications. The Dodd-Frank Act 

added § 19(g) to the Securities Act in order to create a permanent funding mechanism for GASB. On 

February 23, 2012, the Commission approved a proposed rule change by FINRA to establish a GASB 

annual accounting support fee, which will be allocated among FINRA members each quarter based on the 

members’ municipal securities trading volume reported to the MSRB. As required by § 19(g) of the 

Securities Act, GASB accounting support fees collected by FINRA will be remitted to FAF. See Exchange 

Act Release No. 66454, “Order Granting Approval of Proposed Rule Change Relating to Establishing a 

Governmental Accounting Standards Board Accounting Support Fee” (SR-FINRA-2011-073) (Feb. 23, 

2012), 77 FR 12340 (Feb. 29, 2012), available at http://www.sec.gov/rules/sro/finra/2012/34-66454.pdf. 

427 The stated mission of the GASB is to establish and improve standards of state and local governmental 

accounting and financial reporting that will result in useful information for users of financial reports and 

guide and educate the public, including issuers, auditors, and users of those financial reports. See GASB, 
72 

 Although there has been no comprehensive study to determine the exact number of 

municipalities that prepare financial statements on a basis other than GASB standards,428

generally speaking, larger governments are more likely to adhere to GASB standards than 

smaller governments. A 2011 study undertaken by GASB, for instance, found that the vast 

majority of annual financial reports (“AFRs”) of 350 larger governments surveyed (991 AFRs 

out of 1,050 AFRs, or 94%, of the large government AFRs surveyed) were prepared using GASB 

standards.429 In contrast, of the 193 smaller governments surveyed by GASB, 81% of the AFRs 

collected were prepared using GASB standards.430

As of December 2010, 38 states compel some or all of their political subdivisions, 

including counties, cities, and school districts, to prepare their financial reports in accordance 

with GASB standards.

 

431 Along with these mandates, certification programs, such as those 

sponsored by the GFOA and the Association of School Business Officials International, promote 

the use of GASB standards by recognizing governments that prepare high-quality GAAP 

financial reports (based on GASB standards).432 Nonetheless, the absence of a uniform 

requirement on the part of municipal entities to adhere to GASB standards means that municipal 

entities that issue municipal securities can (and some do) prepare their financial reports on a 

basis other than GASB standards. On rare occasion, some governments that otherwise are 

compliant with GASB standards may not be permitted to, or may choose not to, apply certain 

GASB standards.433

 

Mission, Vision, and Core Value, available at

http://www.gasb.org/jsp/GASB/Page/GASBSectionPage&cid=1175804850352. Governments and the 

ethical requirements of the American Institute of Certified Public Accountants (“AICPA”) have recognized 

the standards of the GASB as an official source of GAAP for state and local governments. See AICPA 

Ethics Rule 202.01 and Appendix A to that rule, available at

http://www.aicpa.org/Research/Standards/CodeofConduct/Pages/et_202.aspx. 

428 Sometimes the use of other accounting principles is dictated by state law. For example, general purpose 

governments in New Jersey are required to use a statutory basis of accounting rather than GASB GAAP. 

See GASB Timeliness Study, infra note 429, at 9, fn 5. 

429 GASB Timeliness Study: The Timeliness of Financial Reporting by State and Local Governments 

Compared with the Needs of Users, Mar. 2011 at 8,9, available at

http://www.gasb.org/cs/ContentServer?site=GASB&c=Document_C&pagename=GASB%2FDocument_C

%2FGASBDocumentPage&cid=1176158316214 ( “GASB Timeliness Study”).

430 Id. at 9 (“These proportions may not be generalizable to smaller governments as a whole, because the AFRs 

that were not collected may be more likely to be non-GAAP, which would lower the proportions”). 

431 Washington, DC Hearing Transcript (Afternoon Session) at 17 (Bean).

432 In order to obtain the GFOA’s Certificate of Achievement for Excellence in Financial Reporting (“CAFR 

Program”), for instance, the financial section of an issuer’s comprehensive annual financial report, or 

CAFR, must include an independent auditor’s report prepared in accordance with either generally accepted 

auditing standards (GAAS) or generally accepted government auditing standards (GAGAS) as set forth in 

the Government Accountability Office’s Government Auditing Standards. See GFOA Certificate CAFR 

Program Eligibility Requirements, available at http://www.gfoa.org/downloads/CAFREligibility.pdf. 

433 For example, in 2007 the Texas legislature enacted a law, and the Connecticut General Assembly approved 

a bill (subsequently vetoed) to pull issuers out from under GASB standards and place them under systems 

of generally accepted accounting rules developed and administered by those respective states. The Texas 

law requires the State, and permits local governments in Texas, not to use GASB Statement 45, which 

requires governmental entities that provide health care, life insurance, and OPEBs to retirees to report the 
73 

As the Commission noted in the 1994 Interpretive Release, for financial statements that 

are not either prepared in accordance with GASB standards or accompanied by a quantified (if 

practicable) explanation of the differences, investors need to be informed of the basis of financial 

statement presentation (i.e., a full explanation of the accounting principles followed).434 Rating

agencies435 and organizations such as the GFOA436

c. Market Participant Observations and Other Commentary Regarding Content of 

Financial Statements – Governmental Accounting Standards 

 are broadly supportive of GASB standards. 

Participants in the field hearings expressed a range of opinions concerning GASB 

standards and the use of uniform accounting standards by municipal issuers. One participant 

noted that GASB has imposed strict accounting standards, and that the requirements of GASB 

standards as well as other federal and state requirements have resulted in substantial amounts of 

disclosure.437 Market participants appear to be in general agreement that adherence to GASB 

standards promotes consistency and comparability of financial information among municipal 

issuers and differing municipal securities,438

 

estimated accrued cost of the benefits. See Richard Williamson, “Texas Blinks in GASB Showdown: Bill 

Would Allow Option to Follow Rule 45,” The Bond Buyer, Apr. 19, 2007, available at, 

 although one participant noted that there is

flexibility within GASB standards – as there is in some places in FASB standards – that allows 

issuers to choose alternative presentations and hence diminishes comparability to some 

http://www.bondbuyer.com/news/-268961-1.html. Connecticut’s bill would have allowed the state 

comptroller to establish accounting standards for the State’s budgetary purposes rather than follow GASB 

standards. See Mary Williams Walsh, “Connecticut Takes Up Fight Over Accounting Rules,” The New 

York Times, June 2, 2007, available at http://www.nytimes.com/2007/06/02/business/02fiscal.html. See

Jonna Stark, “Connecticut Weighs Bill Giving Comptroller Power over GAAP” The Bond Buyer, June 5, 

2007, available at http://www.bondbuyer.com/news/-272255-1.html. 

434 See 1994 Interpretive Release, supra note 31. 

435 See, e.g., Standard & Poor’s Public Finance Criteria (2005) (“GAAP reporting is considered a credit 

strength . . . lack of an audited financial report prepared according to GAAP could have a negative impact 

on an issuer’s rating, since questions about reporting will be raised”).

436 See GFOA Best Practice: Governmental Accounting, Auditing, and Financial Reporting Practices (1983, 

1997 and 2006), available at http://www.gfoa.org/downloads/caafrpractices.pdf (“GFOA urges every state 

and local government to . . . issue timely financial statements for the entire financial reporting entity in 

conformity with GAAP as part of a CAFR . . .”).

437 See San Francisco Hearing Transcript at 32-33 (Mayhew) (“GAAP is nothing to be messed with . . . [m]y 

financial statements, which some people feel are inadequate, the footnotes are bigger than the entire 

financial -- annual financial statement of General Motors”). 

438 See San Francisco Hearing Transcript at 40 (Mayhew) (“If you’re going to issue in the public market and 

you’re going to be rated, we want everybody to be on equal footing. We want GAAP financials rated 

against GAAP financials, reporting standards rated again reporting standards”). See also Washington, DC 

Hearing Transcript (Afternoon Session) at 24 (Firestine) (noting that when smaller issues use a basis of 

accounting other than GAAP, comparability is lost, and that GAAP prepared statements enable 

comparability); Washington, DC Hearing Transcript (Afternoon Session) at 25 (Jones) (consistent use of 

information is “very important” and hence the “use of GAAP financial statements is extremely important”). 

Stakeholders consulted in connection with a study undertaken by the GAO expressed the same view; See

also GAO, “Dodd-Frank Wall Street Reform Act: Role of the Governmental Accounting Standards Board 

in the Municipal Securities Markets and Its Past Funding” at 15, available at

http://www.gao.gov/assets/100/97254.pdf (“GAO GASB Study”). 
74 

degree.439 Another participant made the observation, however, that adherence to GASB 

standards can be costly, particularly for smaller issuers, and that even issuers that do not follow 

GASB standards do in fact follow some other accounting standards.440

d. Timeliness of Financial Information 

 

The Commission noted in the 1994 Interpretive Release that timeliness of financial 

information is a major factor in its usefulness.441 Timely financial reporting,

442 including timely 

issuance of audited annual financial information, not only aids market participants in making 

informed investment decisions, but is critical to the functioning of an efficient trading market.

443 

The GASB has identified timeliness of financial reporting as “perhaps the most frequent and 

common concern expressed to the GASB by the users of state and local government financial 

reports.”444 Market participants have expressed similar views.445

Despite the importance of timely financial statements, some municipal issuers continue to 

make financial information available significantly after the end of their fiscal year or fiscal 

period. By the time many annual financial statements are filed or otherwise publicly available, 

many municipal market analysts and investors believe the financial information has lost 

relevance in assessing the current financial position of the municipal issuer or obligated 

person.

 

446

 

439 This includes six allocation methods allowed under the current GASB standard for pension accounting. 

Washington, DC Hearing Transcript (Afternoon Session) at 25 (Bean).

 Municipal issuers are not required, except with respect to certain limited state440 Washington, DC Hearing Transcript (Afternoon Session) at 21 (Firestine) (“Additionally, smaller 

governments, again, many of which do not issue debt, find it difficult and cost-prohibited [sic] to adhere to 

dozens of GASB standards. But it’s wrong to assume or make a statement that when governments aren’t 

following GAAP according to GASB that they aren’t following any accounting or auditing standards. Not 

following GASB GAAP does not mean not following any accounting standards”).

441 See 1994 Interpretive Release, supra note 31. 

442 GASB identifies timeliness of financial reporting as one of the six characteristics financial information is 

expected to possess if it is to communicate effectively. See GASB, “Concept Statement No. 1, Objectives 

of Financial Reporting,” available at http://www.gasb.org/st/concepts/gconsum1.html. 

443 Bond ratings are only updated when a significant change is about to occur, and credit reports represent a 

costly alternative. See Jeff L. Payne and Kevin L. Jensen, An Examination of Municipal Audit Delay, J.

ACC. & PUB. POL’Y, Vol. 21, Issue. 1, at 3 (2002). 

444 See GASB Timeliness Study, supra note 429, at 3.

445 See, e.g., San Francisco Hearing Transcript at 43 (Colby) (“The major challenge in secondary disclosure 

continues to be the timeliness and completeness of filings. While most issuers meet their promised 

deadlines for filing financial updates, the deadlines are typically 270 days, or nine months, after the end of 

the fiscal year, at which time the information is significantly out of date”); See also Birmingham Hearing 

Transcript at 163 (Johnston) (noting that it is common to wait 270 days for any type of financial 

disclosure). 

446 See, e.g., San Francisco Hearing Transcript at 43 (Colby); see supra notes 396 - 399 and accompanying text 

(discussing timeliness of continuing disclosures); see generally Merritt Research Services, Just How 

Slowly Do Municipal Bond Audit Reports Waddle In After the Close of the Fiscal Year? (2010), available 

at http://www.bondbuyer.com/pdfs/1103DISC.pdf (“2010 Merritt Report”) (analysis of audits performed 

on 4,600 municipal bond issuers during 2007-2009 showed audited annual report completed, on average, 

roughly five months after close of fiscal year, with final approval and release taking an additional month, 
75 

imposed or statutory requirements or pursuant to contractual obligations, to issue financial 

reports within any specific timeframe.447 As a consequence, the deadline for making financial 

information (such as audited annual financial statements) available is often established by 

agreement between municipal issuers and the underwriters of the municipal securities. Timing 

requirements vary widely.448 Market participants have indicated that most municipal issuers are 

able to file on EMMA their annual financial information, including financial statements, within 

the deadlines set forth in their continuing disclosure agreements, but that these deadlines may be 

270 days after the end of the issuer’s fiscal year.449

Industry guidelines and initiatives also influence the timing for making audited financial 

statements public. The MSRB allows municipal issuers to comply with a voluntary deadline of 

120 days after fiscal year end for filing annual financial information (including audited financial 

statements) on EMMA.450 The fact that an issuer or obligated person has entered into this 

voluntary annual filing undertaking is prominently disclosed on EMMA as a distinctive 

characteristic of the securities to which such undertaking applies, although the MSRB does not 

review or confirm compliance with this voluntary annual filing undertaking.451 Additionally, the 

GFOA encourages issuers as part of its Certificate of Achievement for Excellence in Financial 

Reporting program to submit a CAFR within 180 days of their fiscal year end.452

 

and dramatic variation by sector and individual governmental body); See also GAO GASB Study, supra

note 

 

438, at 20 (“Untimely [government] financial statements may require analysts to rely on outdated 

information or to try to obtain additional, unaudited information from issuers”).

447 Exchange Act Rule 15c2-12, for instance, only requires that the municipal issuer or obligated person agree 

in the continuing disclosure undertaking to file annual financial information, not that it file such 

information within a specific timeframe, other than the timeframe set forth in the continuing disclosure 

agreement. Moreover, issuer and obligated persons are required to file audited financial statements only to 

the extent such audited financial statements are prepared and available. See Exchange Act Rule 15c2-

12(b)(5)(i)(A).

448 Disclosure timeframes vary substantially by size of the issuer, type of issuer, and accounting systems that 

are in place. See 2010 Merritt Report, supra note 446. 

449 See, e.g., Birmingham Hearing Transcript at 163 (Johnston), supra note 385 and accompanying text 

(regarding Johnston’s testimony at the Birmingham Hearing and discussion of timeliness of disclosure). 

This market participant noted further that there are a number of obligated persons who cannot even meet 

this deadline.

450 See Exchange Act Release No. 62183, supra note 195. See also MSRB Notice 2010-15 (June 2, 2010), 

available at http://www.msrb.org/Rules-and-Interpretations/Regulatory-Notices/2010/2010-15.aspx?n=1. 

The Staff understands that, since the voluntary undertaking category was implemented in May 2011, five 

issuers have indicated that they will comply with the voluntary deadline. 

451 See Exchange Act Release No. 62183, supra note 195, at 5. 

452 See CAFR Program, supra note 432. An academic study published in 2000 found that municipalities that 

participate in the CAFR Program were associated with reduced audit delay. See generally Andrew J. 

McLelland and Gary Giroux, An Empirical Analysis of Auditor Report Timing by Large Municipalities, J.

ACC. & PUB. POL’Y, Vol.19, Issue 3, at 263-281 (2000). The Staff understands that for calendar year 2010, 

roughly 3800 municipal issuers were awarded the GFOA’s Certificate of Achievement for Excellence in 

Financial Reporting. 
76 

i. Recent Studies of Timeliness of Annual Financial Information

Many issuers do not file or make public their audited financial statements within the 

MSRB or GFOA voluntary guideline timeframes. In March 2011, the GASB undertook a study 

of the timeliness of financial reporting by state and local governments. The GASB reviewed the 

audited AFRs of the 50 states; the 100 largest counties and localities; the 50 largest independent 

school districts and special districts; and a random selection of smaller counties, localities, 

school districts, and special districts.

453 The GASB Timeliness Study examined timeliness of

financial reporting for a three-year period from 2006 to 2008.454 The GASB Timeliness Study 

found that although 73% of the largest governments (regardless of type) issued455

A second study based upon audit completion times of audits covering the period from 

2007 to 2009 indicated that timeliness also appears to vary significantly by type of issuer. This 

study examined a much broader range of entities than the GASB Timeliness Study and found 

that state and local governments (excluding their agencies and authorities as well as school and 

special districts) generally took the longest to complete their audit reports.

 their audited 

AFR within six months, only 46% of smaller governments issued their audited AFR within such 

timeframe. Although the majority of the larger issuers filed within six months, roughly two 

percent of issuers took longer than one year to issue their audited AFR. 

456 Wholesale electric 

utilities and hospitals generally took the shortest time to complete their audit reports.457 This

study found that although credit quality was not necessarily a factor in how fast or slow an audit 

was completed, weaker or more distressed entities were often more likely to be found on the list 

of entities surveyed that had later audit completion times.

458

The findings of the GASB Timeliness Study are consistent with data regarding CAFR 

preparation times compiled by NASACT showing a wide disparity in CAFR completion times 

among states.

 

459

 

453 See GASB Timeliness Study, supra note 

 The 50-state average of time to complete a CAFR was: 204 days for fiscal 

2006, 205 days for fiscal 2007, 204 days for fiscal 2008, 206 days for fiscal 2009, and 188 days 

429. 

454 Id. at 4-5.

455 The GASB Timeliness Study focused on the timing to actual issuance of the audited annual financial 

report, or the time that elapses between the end of the fiscal year being reported on and the date that the 

financial report first becomes available to the public. This is generally later than the date of the audit report 

that coincides with the conclusion of an auditor’s fieldwork. See GASB Timeliness Study, supra note 429, 

at 3-4.

456 See 2010 Merritt Report, supra note 446. 

457 Id.

458 Id. A 2011 follow-up indicated a similar correlation between slower reporting and weaker credit quality, 

although there was no complete analysis in order to make a conclusive determination. See Merritt Research 

Services, “Timing of Municipal Bond Financial Audits Leaves Room for Improvement” at 2 (2011), 

available at http://www.sec.gov/comments/4-610/4610-71.pdf (“2011 Merritt Report”) (analysis of more 

than 25,500 audits performed during 2007-2010 showed average audit time across all credit sectors was 

141.7 days after close of fiscal year).

459 National Association of State Comptrollers, Time to Complete the State’s CAFRs, Fiscal Years 2005, 

2006, 2007, 2008, and 2009, available at https://www.nasact.org/nasc/positions/downloads/CAFR_FY_05-

09.pdf(“NASACT Study”). 
77 

for fiscal 2010. States differed widely in their completion times and among fiscal periods. New 

York, for instance – which is required by law to issue its CAFR within 120 days of its fiscal year 

end – completed its CAFR in times ranging from 112 days (fiscal 2006) to 116 days (fiscal 

2008). Similarly, the CAFR completion times for Michigan ranged from 89 days (fiscal 2007) to 

181 days (fiscal 2006).460 At the other extreme, Illinois took between 237 days (fiscal 2006) and 

376 days (fiscal 2008) during the five years surveyed, while New Mexico took between 215 days 

(fiscal 2008) and 731 days (fiscal 2006).461

The findings of the GASB Timeliness Study are also consistent with other recent 

studies.

 

462 The 2011 Merritt Report, containing an analysis of over 25,500 audits on more than 

6,600 different municipal bond issuers, over a four year period, found that the average time for 

an audit report to be completed after the close of the fiscal year is nearly five months.463 While 

municipal market participants often anticipate a six-month time span before an audit is 

completed, the range of time to complete an audit can vary dramatically by sector and by 

individual governmental bodies or agencies.464 The 2011 Merritt Report found, for example, that 

entities in the public power sector (the fastest reporting sector) had a 90-day median for 

completion of an audit in 2010, compared to an average of 141.3 days for 2010 audits across all 

sectors. Additionally, the 2011 Merritt Report found that the fastest city had its audit completed 

in 53 days while the slowest took 427 days, while states took as long as 365 days in Illinois to as 

short as 114 days in New York.465

The 2011 Merritt Report and 2011 GASB Timeliness Study both support the view that 

passage of time diminishes significantly the usefulness of financial information in the hands of 

investors, analysts and other market participants.

 

466

 

460 The ability to file in such shortened time frames has been attributed to the fact that the state’s component 

agencies (i.e., those subunits that report their results to the state government) operate on a fiscal year that 

ends on June 30, while the state’s fiscal year ends 90 days later. See Andrew Ackerman, “Disclosure 

Guidance Irks Issuers,” The Bond Buyer, Jan. 29, 2010, available at

 The 2011 GASB Timeliness Study found, 

for example, that over 43% of persons surveyed stated that audited financial statements received 

http://www.bondbuyer.com/issues/119_269/disclosure-guidance-1006686-1.html?partner=sifma. 

461 See NASACT Study, supra note 459. 

462 See, e.g., 2011 Meritt Report supra note 458; 2010 Merritt Report supra note 446; See also Peter J. 

Schmitt, “DPC Data Recent Trends in Continuing Disclosure Activities,” DPC DATA, Feb. 3, 2011 (“DPC 

Report”) (Issuers filing financial statements more than 180 days after the fiscal year end represented 63% 

of surveyed companies in 2009 and this trend seems to be increasing. For 2010 deals, the average covenant 

to file is 228 days). As noted above, DPC relies on its internal records of filings received by it as a 

NRMSIR. See supra note 371) See also California Debt and Investment Advisory Commission, Municipal 

Market Disclosure: CAFR Filings. A Test of Compliance Among California Issuers. (CDIAC No. 11-04) 

Nov. 2011, available at http://www.treasurer.ca.gov/cdiac/publications/cafr.pdf. 

463 See 2011 Merritt Report supra note 458, at 2. 

464 See generally 2011 Merritt Report, supra note 458 (report goes through the differing timeframes for 

disclosing financial statements depending on various factors).

465 Id. at 4.

466 See GASB Timeliness Study, supra note 429; 2010 Merritt Report, supra note 446 (“By the time many

annual governmental audits are received, many capital markets analysts and investors believe that they 

have lost significant value for assessing the current financial position of a municipal bond issuer.”).
78 

within 90 days after the end of an issuer’s fiscal year are “very useful.”467 This same survey 

reported that less than 9% of respondents considered information received within 6 months to be 

“very useful,” and less than 2% of respondents considered information received within 12 

months or longer than 12 months to be “very useful.”468 The 2011 GASB Timeliness Study 

evaluated the time-to-issuance of audited AFRs for various municipalities in light of when the 

data is most useful and found that there is a noticeable gap between when the financial 

information is most useful to the users of the AFRs and when governments provide that 

information.469

ii. Interim Financial Information

Although the continuing disclosure provisions in Rule 15c2-12 require the submission of 

annual financial information and audited financial statements, if available, there is no 

requirement to provide interim financial information (other than such information as may be 

event notices under Rule 15c2-12). Some issuers provide interim financial information, 

including monthly budget or cash flow reports, on their websites or through other means.470 

While some issuers may voluntarily provide some interim financial information, such disclosure 

is not provided by many issuers or may not be provided in a manner that is readily accessible to 

market participants.471 According to press reports, investors have limited, if any, access to 

interim financial information.472

 

467 GASB Timeliness Study, supra note 

 The Staff understands that some issuers and other entities are 

429, at 17-18.

468 Id. 

469 The study revealed that five of the 1,367 annual financial reports included in the research (1%) were issued 

within 45 days after the end of the fiscal year, the period when information is overwhelmingly considered 

most useful by respondents to the survey. Another 77 annual financial reports (14%) were issued within 

three months, a period during which information also is considered highly useful. The other annual 

financial reports were issued either between three and six months or over six months after the end of the 

fiscal year when the information became less useful. See generally GASB Timeliness Study, supra note 

429. 

470 The College of Urban Planning and Public Affairs (CUPPA) at the University of Illinois at Chicago and 

MuniNetGuide surveyed the seventy-five largest cities in the country to identify those with the best online 

investor information and noted that a few of these cities included monthly and even daily financial updates 

on their websites. See “Select Cities Lead the Pack in Providing Investor Relations Content” available at

http://www.muninetguide.com/articles/select-cities-lead-the-pack-in-providing-investor-relations--416. 

This study also noted that even cities which were not among the 75 largest in the country, such as Akron, 

Ohio, provide monthly and quarterly revenue data. Id. See also, the website of the State Treasurer of the 

State of California which features monthly cash flow reports, monthly debt reports and a monthly bulletin 

from the Department of Finance which covers factors such as labor market conditions, building and real 

estate activity available at http://www.treasurer.ca.gov/bonds/recent.asp. 

471 See, e.g., Gretchen Morgenson, “Little Disclosure on U.S. Municipal Bonds,” The New York Times, Aug. 

31, 2008 (explaining that investors who hold municipal securities have limited means to detect when their 

investments could be negatively affected due to spotty financial reporting by municipal issuers).

472 See, e.g., Ianthe Jeanne Dugan, “Bondholders Left in the Dark,” The Wall Street Journal, Jan. 26, 2011 

(explaining that “[m]any cities, states, hospitals and other public borrowers don’t make general financial 

records accessible . . . and if they do, they are often so confusing or spotty that even professionals can’t 

make sense of them”).
79 

reluctant to file or otherwise make available interim financial information due to potential 

liability.473

Some market participants have suggested ways in which such interim financial 

information may be made more readily available. For example, NASACT has supported the use 

of websites for disclosures of interim financial information.

 

474 In addition, the GFOA 

encourages issuers to make available interim financial information.475 NASACT also has stated, 

however, that because most state and local governments are subject to public information laws, 

investors have access to all information pertaining to their investments and that investors should 

be responsible for obtaining and understanding this information. 476

There are voluntary initiatives underway by the NFMA and the GFOA to develop 

guidelines for the issuance of more frequent, unaudited financial information by issuers, such as 

quarterly disclosure of issuers’ balance sheets, income statements, and minimal financial 

notes.477

Quarterly disclosure appears to be most common with respect to health care issuers;478 it 

has been speculated that this more frequent disclosure occurs because of the limited market for 

health care bonds, which gives investors more leverage.479

• quarterly or monthly financial information;

 Currently, some issuers and other 

entities voluntarily file certain interim financial information on EMMA. According to the 

MSRB, between July 2009 and June 2011, issuers and other entities voluntarily filed the 

following types of interim financial information: 

• notice of a change in fiscal year or a change of the date specified in the continuing 

disclosure undertaking for submitting financial information and operating data;

• change in choice of accounting standard used;

 

473 See NABL Comment Letter, supra note 391. 

474 See NASACT News (Jan. 2011), available at

http://www.nasact.org/nasact/newscenter/downloads/nasactnews/2011/Jan11.pdf.

475 See GFOA, “Best Practice, Maintaining an Investor Relations Program (1996, 2003 and 2010),” available 

at http://www.gfoa.org/index.php?option=com_content&task=view&id=1578.

476 See GAO Survey on Municipal Securities Disclosure, Market Participants (Phase 1), NASACT Response 

Dec. 15, 2011, available at http://www.nasact.org/downloads/CRC/LOC/12_15_11-

GAO_Survey_Municipal_Securities_Disclosure.pdf. 

477 See, e.g., San Francisco Hearing Transcript, at 46 (Colby). 

478 The Staff understands that, between July 1, 2009 and May 24, 2012, the health sector made 13,955 

submissions of quarterly/monthly, interim and additional financial information on EMMA, out of a total of 

30,236 such submissions (representing approximately 46% of such submissions). No other sector 

accounted for more than 10% of such submissions.

479 Andrew Ackerman, “Opinions Divided Over Disclosure: Analysts Blast a Lack of Progress,” The Bond 

Buyer, May 7, 2010, available at http://www.bondbuyer.com/issues/119_336/disclosure_practices1011819-1.html (Quoting Ken Artis, Board Member of the National Association of Bond Lawyers).
80 

• additional financial information or operating data supplementing annual financial 

information provided on an interim basis;

• budget documents or other information relating to budgets;

• policies on investment activities, debt incurrence, or financial matters;

• information provided to rating agency, credit provider, or other third party;

• consultant reports; and

• other financial or operating data.480

 Of the 258,162 continuing disclosure documents filed on EMMA between July 2009 and 

June 2011, approximately 11.9% of them related to interim financial information.481 Quarterly 

or monthly financial information was the category of interim financial information that issuers 

and other entities filed the most during that time period, and this category only represented

approximately 5.7% of the total number of EMMA filings during the period.482

iii. Market Participant Observations and Other Commentary Regarding 

Timeliness of Financial Information

 

• Annual Information 

Issuer representatives participating in field hearings expressed concern regarding the 

necessity, or even the feasibility, of a mandated shorter timeframe for dissemination of financial 

information. One field hearing participant warned that creating shorter deadlines could diminish 

the value of the financial information and persuade many governments to abandon the highquality reporting produced from following GASB standards in favor of a greatly reduced set of 

basic financial statements.483 This participant expressed doubt whether larger localities and 

counties can feasibly reduce their timelines below 180 days after the closing of the fiscal year, 

even with more personnel and preplanning.484 Another participant expressed a similar sentiment, 

highlighting that technical requirements for producing audited financial statements are not 

capable of being accelerated.485

 

480 See MSRB Periodic Statistical Report, “Continuing Disclosure Statistical Summary, August 2011,” 

available at http://www.msrb.org/msrb1/pdfs/MSRB-Continuing-Disclosure-Report-2011.pdf.

 

481 See id.

482 See id.

483 Washington, DC Hearing Transcript (Afternoon Session) at 21 (Firestine). 

484 See Washington, DC Hearing Transcript (Afternoon Session) at 20 (Firestine).

485 Birmingham Hearing Transcript, at 80-81 (Watkins). 
81 

As noted above, the MSRB allows municipal issuers to comply with a voluntary deadline 

of 120 days after fiscal year end.486 At the time that such provision was under consideration, the 

GFOA submitted a comment letter suggesting that implementation of a more stringent timeframe 

would cause issuers to provide information that is far less comprehensive than that found in 

CAFRs, and would force governments to rely upon auditors that do not have the extensive 

governmental accounting background needed to review such statements.487 One commenter 

pointed to the requirements of GASB itself as an impediment to providing information on a 

timelier basis.488 Another noted that a 120-day standard would be unattainable by the 

overwhelming majority of issuers.489

According to market participants, a number of factors contribute to municipal issuers’ 

historical delay in releasing their audited financial statements publicly. Some market 

participants have noted that a state following GASB standards must include financial data for 

legally separate entities over which the state has little practical control. For example, a state may 

be required to wait for financial results from its state universities over which the state has little 

control. These entities may have divergent accounting standards and different auditors. Market 

participants noted that these differences make it difficult for the state to incorporate, reconcile, 

and complete its own financial report in a timely fashion.490 Market participants also pointed to 

the fact that an audit opinion is often issued at the level of each major fund, not just at the total 

financial reporting level. Some market participants noted that an increased use of estimates, 

rather than actual amounts, could improve timeliness of financial reporting but could result in 

less accurate financial statements.

491 Market participants noted other factors that contribute to 

untimely financial reporting, including the limited number of auditing firms that are capable of 

completing governmental audits,492 the lack of resources needed to prepare financial 

information,

493 and the slow legal process of adopting government budgets.494

 

486 See MRSB, MSRB Notice 2011-20, Mar. 23, 2011, available at

 

http://www.msrb.org/Rules-andInterpretations/Regulatory -Notices/2011/2011-20.aspx. 

487 See GFOA Comment Letter to Exchange Act Release No. 61237, at 2 (Jan. 25, 2010), available at

http://www.sec.gov/comments/sr-msrb-2009-10/msrb200910-26.pdf (“GFOA Jan. 2010 Comment Letter”).

488 See NAIPFA Comment Letter to Exchange Act Release No. 61237, at 2 (Feb. 5, 2010), available at

http://www.sec.gov/comments/sr-msrb-2009-10/msrb200910-28.pdf. 

489 See City of Portland Comment Letter to Exchange Act. Release No. 61237, at 2 (Sept. 1, 2009), available 

at http://www.sec.gov/comments/sr-msrb-2009-10/msrb200910-18.pdf. 

490 See, e.g., Washington, DC Hearing Transcript (Afternoon Session) at 30 (Firestine) (describing practical 

difficulties attributable to need to incorporate financial data from component issuers). See also GFOA Jan. 

2010 Comment Letter, supra note 487. 

491 See, e.g., Washington, DC Hearing Transcript (Afternoon Session) at 30 (Firestine) (“As I mentioned in my 

testimony, the fact that... you could probably do some of this faster if you’re willing to accept the 

estimates, but then you create a less accurate, I think, financial statement versus trying to get... more actual 

information.”); (Jones) (suggesting that letting go of the ‘belief that everything has to be to the penny’ 

could accelerate disclosure); at 20 (Firestine) (“... there is a lower level of tolerance for estimates in closing 

the books. The focus, instead, is on capturing actual expenditures and revenue accruals.”)

492 See, e.g., Washington DC Hearing Transcript at 20 (Firestine) (noting the limited number of auditors, 

something exacerbated by the lower rates that local governments are willing to pay, which leads to delays 

in reporting financial results); GFOA Jan. 2010 Comment Letter in response to Exchange Act Release No. 

61237, at 2 (noting lack of qualified auditors, and that acceleration of reporting deadlines would pressure 
82 

• Interim Financial Information 

Many market participants have called for more timely disclosure of quarterly, unaudited 

financial information, as well as prompt disclosure of other information that has already been

prepared by issuers and thus can be made available without a substantial outlay of time or 

cost.495

• budget information;

 These include: 

496

• budget-to-actual operations, showing major categories of revenues and 

expenditures, for the general fund and major governmental and enterprise funds, 

year-to-date, and an explanation of the major variances;497

• internal month-to-month cash flow reports; 

• monthly retail sales information and quarterly occupancy numbers;498

• statements of monthly balances (i.e., cash on hand), which would be helpful for 

assessing solvency;

 

 

governments to use audit firms not well qualified in governmental accounting and auditing standards). See 

also, City of Portland Comment Letter to Exchange Act. Release No. 61237 at 2 (Sept. 1, 2009), available 

at http://www.sec.gov/comments/sr-msrb-2009-10/msrb200910-18.pdf. 

493 See GFOA Jan. 2010 Comment Letter at 2; See also San Francisco Hearing Transcript at 163 (Lanzarotta); 

(speaking generally about the difficulties for smaller issuers to comply with GASB standards). 

494 See, e.g., Washington, DC Hearing Transcript (Afternoon Session) at 20 (Firestine).

495 See generally Andrew Ackerman, “Opinions Divided Over Disclosure; Analysts Blast a Lack of Progress,” 

The Bond Buyer, May 7, 2010; See also San Francisco Hearing Transcript at 45 (Colby) (“As issuers are 

already preparing interim statements for internal use, we do not anticipate that the additional step of filing a 

limited financial update to the market will present an undue burden, particularly given the user friendly 

format provided by the EMMA System”); Birmingham Hearing Transcript at 184 (Watkins) (requesting 

that issuers look to interim information they provide to other stakeholders and make it available to all 

investors); San Francisco Hearing Transcript at 46-48 (Colby).

496 One market participant notes that the budget, which is publically available and legally controlling, is the 

most important financial publication for governments, more so than overall financial statements. See San 

Francisco Hearing Transcript at 192 (Harrington). This participant further noted that the focus on timelier 

financial information ignores the fact that unlike the corporate market: (1) there is a great deal of 

information disclosed by governments in newspapers, public hearings, websites and various other media (2) 

there are few instances of dramatic economic changes and (3) issuers of government debt have an almost 

perfect record of paying back bondholders. See San Francisco Hearing Transcript at 193-196 (Harrington).

497 See National Association of State Auditors, Comptrollers and Treasurers Position Paper, “A Proposal: 

Results of the Deliberations at the Meeting about Voluntary Interim Disclosure by State and Local 

Governments,” Sept. 25, 2003 (Issued Dec. 17, 2003) available as Exhibit A in National Federation of 

Municipal Analysts, Position Paper on Voluntary Interim Disclosure by State and Local Governments, 

available at http://data.memberclicks.com/site/nfma/nfma_position_interim_disclosure.pdf (“NASACT 

Proposal Paper”).

498 Birmingham Hearing Transcript at 164 (Johnston).
83 

• an annual demonstration of compliance with financial covenants contained within 

the bond indenture or resolution, such as debt service and liquidity coverage;499

• quarterly unaudited financial updates (a practice now largely limited to the health 

care sector and to many large and frequent issuers), including information 

specifically related to the pledged source of revenues and up-to-date collection 

information for the revenues which are securing the bonds in question;500

• cash receipts and cash disbursements in the general fund and major governmental 

and enterprise funds, year-to-date, compared to the previous fiscal year;501

• balances and changes in long-term and short-term debt, year-to-date;502

• tax assessor reports (for general obligation credits) used to determine localities’ 

budgets for the coming year;

 

503

• significant events (e.g., loss of a major employer or taxpayer, a natural disaster, 

change in the tax laws that would have a substantial effect on its financial 

condition, etc.).

and

504

One market participant suggested that interim financial information is not feasible not 

only because of the cost involved, but also because state and local governments operate on an 

annual timeframe and are not equipped to close their books on a quarterly basis.505

In their monitoring and rating activities, certain market participants have indicated that, in 

lieu of having access to unaudited interim financial information, they instead look at publicly 

available interim and budget disclosure (including from public websites), budgets, census 

demographics, and other unaudited information. One market participant observed that municipal 

issuers are often subject to various laws that require them to make public documents available to 

anyone that requests them, and are frequently required to file their financial statements and 

budgets with other government agencies.506

 

499 See Letter from The National Federation of Municipal Analysts to Commissioner Elisse B. Walter, at 2 

Oct. 6, 2010, available at

 

http://www.sec.gov/comments/4-610/4610-9.pdf (“NFMA Letter”).

500 See San Francisco Hearing Transcript at 43-44 (Colby); See also NFMA Letter, supra note 499. 

501 See NASACT Proposal Paper, supra note 497. 

502 Id. at 1.

503 Andrew Ackerman, “Opinions Divided Over Disclosure: Analysts Blast a Lack of Progress,” The Bond 

Buyer, May 7, 2010, available at http://www.bondbuyer.com/issues/119_336/disclosure_practices1011819-1.html. 

504 See NASACT Proposal Paper, supra note 497, at 1.

505 Birmingham Hearing Transcript at 80-81 (Watkins).

506 Birmingham Hearing Transcript at 105 (Presley).
84 

2. Pension Funding Obligations and Other Post-Employment Benefits Disclosure 

Disclosure regarding pension funding obligations of states and other municipal entities is 

at the forefront of discussions regarding the municipal securities market. Obligations to provide 

pension and OPEBs can significantly affect a municipal issuer’s financial health and may impact 

its ability to make debt service payments on municipal securities. There are over 3,400 state and 

local pension systems in the United States, according to the most recent Census Bureau Survey 

of State and Local Public-Employee Retirement Systems.507 The GAO has reported that over 27 

million employees and beneficiaries are covered by state and local pension plans.508 Recently, 

there has been much debate about the appropriate accounting treatment and disclosure relating to 

the pension funding obligations of state and local governments to such plans.509

a. Enforcement Actions 

 

The Commission has brought enforcement actions regarding inadequate disclosure by 

municipal entities as to the difficulty they were facing in meeting their funding obligations to

their public pension systems. In 2006, the Commission brought an action against the City of San 

Diego, California, for making false and misleading statements regarding the city’s looming crisis 

in funding its pension obligations in disclosure documents for five bond offerings between 2002 

and 2003 totaling $260 million.510

In October 2010, the Commission also settled injunctive actions against former San 

Diego officials for their roles in providing misleading disclosure about the city’s fiscal problems 

related to its pension and retiree health care obligations.

 

511

 

507 U.S. Census, 2009 Survey of State and Local Public-Employee Retirement Systems (Washington, D.C. 

2011), available at 

 This settlement represents the first 

http://www2.census.gov/govs/retire/2009summaryreport.pdf (“2009 Census Retirement 

Survey”). 

508 See GAO, “State and Local Government Pension Plans: Economic Downturn Spurs Efforts to Address 

Costs and Sustainability,” GAO-12-322, Mar. 2012, available at

http://www.gao.gov/assets/590/589043.pdf (“GAO 2012 Pension Report”) (citing 2009 Census Retirement 

Survey). Generally, state and local governments offer defined benefit pension plans, in which retirement 

benefits are determined by formula on the basis of factors such as the employee’s recent salary and total 

years of service. By contrast, most pension plans in the private sector are defined contribution plans, in 

which employers commit to annual payments toward employees retirement savings but not to a particular 

amount of benefits. See Congressional Budget Office (“CBO”), CBO Economic and Budget Issue Brief: 

“The Underfunding of State and Local Pension Plans” at 2, May 2011, available at

http://www.cbo.gov/ftpdocs/120xx/doc12084/05-04-Pensions.pdf (“CBO Brief”).

509 See generally CBO Brief, supra note 508, at 3-6; See also Washington, DC Hearing Transcript (Afternoon 

Session) at 19, 25 (Bean); GASB, Summary of Statement No. 25: Financial Reporting for Defined Benefit 

Pension Plans and Note Disclosures for Defined Contribution Plans, Nov. 1994, available at

http://www.gasb.org/st/summary/gstsm25.html. 

510 At the time of these offerings, City officials knew that the City faced severe difficulty funding its future 

pension and health care obligations unless new revenues were obtained, pension and health care benefits 

were reduced, or City services were cut. See In the Matter of the City of San Diego, supra note 358. 

511 Four of those former officials, without admitting or denying the allegations, settled with the Commission. 

See SEC v. Uberuaga, supra note 424. 
85 

time that the SEC has secured financial penalties against city officials in a municipal bond fraud 

case.512

Also in 2010, the Commission brought charges for the first time against a state for 

violations of the federal securities laws when it charged the State of New Jersey with securities 

fraud for misrepresenting and failing to disclose to investors in municipal bond offerings that it 

was underfunding the state’s two largest pension plans by billions of dollars, masking the fact 

that New Jersey was unable to make contributions to those pension plans without raising taxes, 

cutting other services, or otherwise affecting its budget.

513

b. Calculation of Funding Levels 

 

There are a number of issues affecting disclosures of pension plan liabilities and the 

funding obligations of state and local governments to such plans. Over the past few years, 

studies have noted that the underfunded portion of state and local pension liabilities has steadily 

increased, especially since the collapse of market asset values in 2008.514 It has been estimated 

recently that aggregate underfunding of state and local defined benefit pension plans may exceed 

$4 trillion.515

 

512 Under the settlement terms, three of the former officials (Uberuaga, Ryan, and Frazier) each paid a penalty 

of $25,000 and the fourth (Vattimo) paid a penalty of $5,000. Id. 

 Another study found that in 2011, these state and local pension liabilities amounted 

513 The offering documents for these securities created the false impression that the two pension plans were 

being adequately funded. See Securities Act Release No. 9135, In the Matter of the State of New Jersey.

(Aug. 18, 2010) (settled action).

514 See Alicia H. Munnell, Jean-Pierre Aubry, Josh Hurwitz, Madeline Medenica and Laura Quinby, “The 

Funding of State and Local Pensions: 2011-2015,” Center for Retirement Research at Boston College, May 

2011, available at http://crr.bc.edu/wp-content/uploads/2012/05/slp_24-508.pdf (“Boston College Report”) 

(The sample in this study includes 109 state-administered plans and 17 locally-administered plans, based on 

accounting methods issued by the GASB). See also Iris J. Lav and Elizabeth McNichol, 

“Misunderstandings Regarding State Debt, Pensions, and Retiree Health Costs Create Unnecessary Alarm: 

Misconceptions Also Divert Attention from Needed Structural Reforms,” Center on Budget and Policy 

Priorities, at 2, Jan. 20, 2011, available at http://www.cbpp.org/files/1-20-11sfp.pdf (“CBPP Article”) 

(“State and local shortfalls in funding pensions for future retirees have gradually emerged over the last 

decade principally because of the two most recent recessions, which reduced the value of those assets in 

those funds and made it difficult for some [governments] to find sufficient revenues to make required 

deposits into the trust fund. Before these two recessions, state and local pensions were in aggregate, funded 

at 100 percent of future liabilities”); GAO 2012 Pension Report, supra note 508, discussing state responses 

to underfunding (“[T]he majority of states have modified their existing defined benefit systems to reduce 

member benefits, lowering future liabilities. Half of states have increased required member (that is, 

employee) contributions, shifting costs to employees. Only a few states have adopted primary plans with 

defined contribution components, which reduce plan sponsors’ investment risk by shifting it to employees. 

Some states and localities have also taken action to lower pension contributions in the short term by 

changing actuarial methods, and a few have issued pension bonds to finance their contributions or to lower 

their costs by reducing the gap between plan assets and liabilities”).

515 See United States Senate Committee on Finance, “State and Local Government Defined Benefit Pension 

Plans: The Pension Debt Crisis that Threatens America,” at 1, Jan. 2012, available at

http://hatch.senate.gov/public/_cache/files/ecfaf678-a3ec-45a4-a2bf-3bca4fe9475d/Hatch%20Report%20-

%20The%20Pension%20Debt%20Crisis%20that%20Threatens%20America.pdf. 
86 

to $3.6 trillion, compared with an estimated $2.7 trillion in actuarial assets, representing a funded 

ratio of 75%.516

While it has been reported that many state and local pension funds are underfunded,

 

517

Currently, GASB standards require that, for financial reporting purposes, an actuarial 

valuation should be performed in order to measure the annual pension cost and net pension 

obligation of a plan.

the method of calculating the funding level is the subject of much discussion. Funding levels 

represent the actuarial value of assets divided by actuarial accrued liabilities. There is significant 

debate regarding the appropriate investment return assumption (or “discount rate”) for measuring 

public pension liabilities. 

518 In calculating the annual pension cost, GASB standards require the use 

of a discount rate based upon an estimated long-term investment yield for the plan.519 Although 

there is no specified rate to be used, most state and local pension funds have generally settled on 

the use of a discount rate of 8%, which reflects their estimate of the rate of return on plan 

assets.520 The financial statement calculations of pension plan liabilities may differ from the 

actuarial computations used to recommend funding for the plans.521

 

516 Although market asset values in 2011 were significantly higher than in 2010, funding levels still declined 

slightly from 2010 to 2011. The study suggests that liabilities grew faster than asset value during this time 

due to actuaries’ practice of smoothing market gains and losses over a five-year period, but that liabilities 

have been growing at a slower pace over recent years. See Boston College Report, at 2. A separate study 

notes that for the 99 state retirement systems that reported actuarial data for 2010, pension assets and 

liabilities were $1,671.4 billion and $2,538.4 billion, respectively, representing a funding ratio for these 99 

state pension plans of 66%, up from 62% for the same plans in 2009. See Julia K. Bonafede, Steven J. 

Foresti, and Russell J. Walker, “2011 Wilshire Report on State Retirement Systems: Funding Levels and 

Asset Allocation,” at 3, Feb. 28, 2011, available at

 As discussed below, the 

GASB is working on revisions to its standards applicable to pension liabilities. 

http://www.nasra.org/resources/Wilshire_2010.pdf

(“Wilshire Report”).

517 See CBO Brief, supra note 508. According to a 2011 study, the average underfunded plan has a ratio of 

assets-to-liabilities of 65%; See Wilshire Report, supra note 516, at 3.

518 See GASB Statement No. 27, “Accounting for Pensions by State and Local Governmental Employers,” at 

paragraph 9.

519 See GASB, GASB Statement No. 27, “Accounting for Pensions by State and Local Governmental 

Employers,” at paragraph 10c. See also CBO Brief, supra note 508; Letter from Patricia Macht, Director, 

External Affairs Branch, CalPERS to Commissioner Elisse B. Walter (Nov. 12, 2010) (attaching letters 

from CalPERS to the GASB dated July 29, 2009 and September 17, 2010), available at

http://www.sec.gov/comments/4-610/4610-14.pdf (“CalPERS Letter”) In its letters to the GASB, CalPERS 

states that it believes the estimated long-term yield for the pension plan is the appropriate rate for 

discounting projected benefits.

520 See CBO Brief, supra note 508, at 3 (“Currently, the median of pension plans’ assumptions for future 

returns on state and local pension assets is about 8.0 percent, or 4.5 percent after removing the effect of the 

median assumed rate of inflation”).

521 Seattle City Employees’ Retirement System, “Actuarial Valuation as of January 1, 2010” at 2, available at

http://www.seattle.gov/retirement/documents/sera0237.pdf (Letter from Milliman describing process used 

for valuations and summarizing report below).
87 

Academics have advocated measuring the underfunding liability using a “fair-value 

approach,” which they argue is a more realistic measure of the extent of underfunding.522 The 

“fair-value approach” discounts assets and liabilities based upon what an investor would be 

willing to pay for assets and receive to assume responsibility of the liabilities.523 For public 

pension liabilities, the discount rate reflects the low likelihood – or risk – that the liabilities will 

not be honored, and hence the discount rate is often referred to as “risk-free” or “riskless.”524

Some argue that GASB standards may substantially understate the true economic 

magnitude of these liabilities and create perverse incentives for fund managers.

 

The fair-value or risk-free approach generally results in a significantly lower discount rate than 

the median rate of 8% used by many state and local government pension plans, which could 

result in a higher estimated present value of future benefits payments, and consequently, a higher 

“unfunded” liability. 

525 Others argue 

that using a risk-free investment return assumption presents conceptual as well as pragmatic 

issues.526

 

522 See infra notes 

 According to the GAO, many experts consider 80% or better funding levels to be 

524 - 525. This approach more closely resembles how public companies value pension 

liabilities. See CBO Brief, supra note 508, at 4.

523 Id. 

524 Id.; See also Robert Novy-Marx and Joshua Rauh, Public Pension Promises: How Big Are They and What 

Are They Worth? J. FIN., Vol. LXVI (Aug. 2011) (“Given the protections that state constitutions provide to 

accrued public pension promises, beneficiaries face a negligible probability of default on benefits they have 

already earned . . . . The approximation we employ for the default-free curve is the Treasury zero-coupon 

yield curve . . . [u]nder [which] . . . total liabilities are $4.43 trillion”).

525 See, e.g., Robert Novy-Marx and Joshua Rauh, The Liabilities and Risks of State-Sponsored Pension Plans,

J. ECON. PERSP. 23(4), at 191-210 (2009) (arguing that the requirement that states discount future pension 

payments at a rate equivalent to the expected return on pension assets, creates an incentive for states to 

invest their pension funds in risky assets with higher rates of return. Specifically, the study notes that 

“under the current accounting standards, state governments could ostensibly meet their obligations using 

futures contracts on the stock market to maintain a leverage ratio of 10 to 1”); See also San Francisco 

Hearing Panelist Statements (Crane) (“[S]tate and local government pension funds are perversely 

incentivized to assume the highest rates of return at those pension funds in order to minimize reported 

liabilities and then to “swing for the fences” in investing the capital of those funds in the hopes of actually 

achieving those returns, producing even more risk for the taxpayers who must make up for pension fund 

shortfalls.”), available at 

http://www.sec.gov/spotlight/municipalsecurities/statements092110/craned092110.htm. But see, CBPP 

Article, supra note 514, at 3 (“While economists generally support use of a riskless rate in valuing state and 

local pension liabilities, they do not generally argue that the investment practices of state and local pension 

funds should change. State and local pension funds historically have invested in a market basket of private 

securities and have received rates of return much higher than the riskless rate . . . . The 8 percent discount 

rate that most funds now use reflects actual returns over the past 20 years.”); CalPERS Letter infra note 

519 (stating, in its letter to the GASB, that it believes the estimated long-term yield for the pension plan is 

the appropriate rate for discounting projected benefits).

526 See, e.g., Ronald Picur and Lance J. Weiss, Addressing Media Misconceptions about Public-Sector 

Pensions and Bankruptcy, Government Finance Review, at 7-8 (Feb. 2011); See also CBPP Article, supra 

note 514. 
88 

sound for government pensions because states and localities can use tax revenues to make up a 

shortfall if necessary.527

The Boston College Report concluded that using a 5% discount rate, rather than the more 

widely used 8% discount rate would increase aggregate state and local pension liabilities from 

$3.6 trillion to $5.4 trillion, and decrease the funded ratio from 75% to 50%.528

c. OPEBs

 

Concerns about unfunded liabilities for OPEBs are similar to the concerns about 

unfunded pension liabilities. The extent of these types of obligations was, in the past, difficult to 

ascertain, because the obligations were accounted for on a “pay-as-you-go” basis, under which 

the cost of the benefit to an employee was not recognized by the state until after the employee 

had retired and the payments were made.529 With the implementation of GASB Statement No. 

45,530 state and local governments that follow GASB standards are now required to measure the 

annual OPEB cost and a net OPEB obligation. A recent study found that as of fiscal year 2010, 

only 5% of the $660 billion liability for state retirees’ health care and other non-pension benefits 

had been funded.531 However, according to one market participant, the unfunded actuarial 

liability for OPEBs is “inherently and significantly more volatile” than the unfunded liability for 

pension benefits for several reasons.532 For example, unlike pension benefits, in many 

jurisdictions healthcare benefits are not guaranteed by state law and can be more easily reduced 

or modified.533

d. Disclosure of Pension and OPEB Funding Obligations 

Regardless of the methodology used for measuring pension and OPEB liabilities, the 

accuracy and adequacy of disclosure regarding pension and OPEB funding obligations by 

 

527 GAO, “State and Local Government Pension Plans: Current Structure and Funded Status,” GAO-08-983T 

at 2 (Jul. 2008), available at http://www.gao.gov/new.items/d08983t.pdf. See also San Francisco Hearing 

Transcript at 159 (McIntire). Based on post-recession data, thirty-four states had funding ratios lower than 

80 percent as of 2010. See Pew Center on the States, The Widening Gap Update, at 2 (June 2012), 

available at http://www.pewstates.org/uploadedFiles/PCS_Assets/2012/Pew_Pensions_Update.pdf (“Pew 

Report”).

528 See Boston College Report, supra note 514, at 2-3. 

529 See GASB, Summary of Statement No. 45: Accounting and Financial Reporting by Employers for 

Postemployment Benefits Other than Pensions (Issued 6/04), available at

http://www.gasb.org/st/summary/gstsm45.html. 

530 GASB Statement No. 45 became effective in three phases. For governments with total annual revenues of 

$100 million or more, it became effective for periods beginning after December 15, 2006; for governments 

with total annual revenues of $10 million or more but less than $100 million, it became effective for 

periods beginning after December 15, 2007; and for governments with total annual revenues of less than 

$10 million, it became effective for periods beginning after December 15, 2008. Id. 

531 Pew Report, supra note 527. 

532 See GFOA, “Need for Considerable Caution in Regard to OPEB Bonds,” 2007, available at

http://www.gfoa.org/downloads/corbaopebbonds.pdf. 

533 Id. 
89 

municipal securities issuers is a focus of legislators,534 the Commission,535 issuers,

536 and 

investors alike.537 With respect to disclosure regarding pension funding obligations, the Staff 

has heard from issuers and pension plan experts about a number of disclosure practices, which 

include disclosure of all pension information in accordance with GASB standards,538 disclosure 

of actuarial assumptions,539 disclosure of the rules governing actuarial assumptions,540

preparation of a supplemental alternative risk assessment study quantifying the likelihood and 

magnitude of future outcomes for the pension system,541 and disclosure of an alternative pension 

liability measurement, discounted at a risk-free rate.

542 Another field hearing panelist 

emphasized that these elements are important and they help to establish a baseline for disclosure 

of pension funding obligations.543 With respect to disclosure for particular issues of municipal 

securities, field hearing participants suggested that investors will be interested to know if an 

issuer’s pension funding obligations result in a material adverse impact on an issuer’s ability to 

pay principal and interest on an issue of bonds, impact their credit rating, or otherwise impair the 

security of the bonds.544

 

534 Legislation entitled the “Public Employee Pension Transparency Act,” has been introduced in the U.S. 

House of Representatives and the Senate, which would require states to report their pension finances 

according to both prevailing discounting methodologies. The legislation also contains measures tying 

financial reporting to the availability of tax-exempt status, and would provide an express ban on federal 

bailouts. See Sara Murray, “GOP Bill Takes Aim at Pension Disclosure,” Wall Street Journal, Feb. 22, 

2011, available at

 Additional considerations for disclosure include whether the municipal 

http://online.wsj.com/article/SB10001424052748703803904576152882725460082.html. 

535 The Commission recently formed a specialized group within its Division of Enforcement to focus on, 

among other items, public pension accounting and disclosure violations. See “SEC Names New 

Specialized Unit Chiefs and Head of New Office of Market Intelligence,” Jan. 13, 2010, available at 

http://www.sec.gov/news/press/2010/2010-5.htm. 

536 See, e.g., San Francisco Hearing Transcript, at 148-149 (Mayhew) (“this is an issue of disclosure . . . . Now 

whether somebody agrees or disagrees with the methodology PERS has used, it’s not for my jurisdiction. 

My jurisdiction, my job is to report those things as accurately as the auditors tell me to report them, and we 

do”). 

537 See, e.g., Submission from Allen Davis, Investment Research Analyst, Invesco Unit Trusts, Mar. 21, 2011, 

available at http://www.sec.gov/comments/4-610/4610-21.htm (requesting quarterly pension disclosure); 

Submission from Mark W. Gee, Taxpayer and Town Councilor, Mar. 3, 2011, available at

http://www.sec.gov/comments/4-610/4610-19.htm (stating that investors and the general public need a 

better understanding of the full impact of money which has already been obligated for future pension and 

OPEB payments). See also Birmingham Hearing Transcript at 45 (Fallon) (“there has been very little 

transparency in many cases around the pension and other post-employment benefits”).

538 San Francisco Hearing Transcript at 158 (McIntire).

539 San Francisco Hearing Transcript at 158 (McIntire). See also San Francisco Hearing Transcript at 148 

(Mayhew).

540 San Francisco Hearing Transcript at 148 (Mayhew).

541 See generally San Francisco Hearing Panelist Statements (McIntire), available at

http://www.sec.gov/spotlight/municipalsecurities/statements092110/mcintirej092110.pdf. 

542 See San Francisco Hearing Transcript at 159 (Crane), citing New York City best practices.

543 See San Francisco Hearing Transcript at 69-70 (McNally).

544 For example, a field hearing participant suggested that disclosure counsel should work with issuers to 

provide information beyond that required by the GASB, by asking key questions such as: “What does it 

mean to [an investor] and what does it mean to the issuer’s budget?” San Francisco Hearing Transcript at 

69-70 (McNally).
90 

issuer sponsors the plan or whether it is a participant in a multiple employer plan, in which case 

much of the information with respect to the plan would not be available to the issuer.545

e. Voluntary Disclosure Initiatives and GASB Standards Revisions 

 

Voluntary efforts have focused on disclosure in this area. For example, NABL convened

a “Municipal Market Task Force on Public Pension Disclosure” (“Task Force”),

546 whose 

mission was to develop a consensus approach to the appropriate disclosures related to an issuer’s 

participation in a defined benefit public pension plan as well as to educate the NABL 

membership on how best to approach the preparation of primary offering disclosure on this 

topic.547 NABL released its considerations for preparing disclosure in official statements 

regarding pension funding obligations on May 15, 2012.548

The GASB is currently working on a project related to post-employment benefit 

accounting and financial reporting with the objective of improving accountability and the 

transparency of financial reporting in regard to the financial effects of employers’ commitments 

and actions related to pension benefits.

 

549 In June 2011, the GASB issued two Exposure Drafts 

proposing changes to financial reporting of pensions by state and local governments. The first 

primarily relates to reporting by governments that provide pensions to their employees.550 The 

second addresses the reporting by the pension plans that administer those benefits.551

 

545 See NABL Considerations, supra note 

 The GASB 

334, at 2. 

546 The task force is advised by the GASB and certain consulting actuaries, and is composed of members of the 

following organizations: American Institute of Certified Public Accountants; Bond Dealers of America; 

GFOA; Investment Company Institute; NABL; National Association of Pension Plan Attorneys; National 

Association of State Auditors, Comptrollers and Treasurers; National Association of State Retirement 

Administrators; National Association of State Treasurers; National Council on Teachers Retirement; 

National Federation of Municipal Analysts, and SIFMA. See letter from Kristin H.R. Franceschi and 

Kenneth R. Artin to Commissioner Elisse B. Walter, Feb. 9, 2012, available at

http://www.sec.gov/comments/4-610/4610-84.pdf (“Task Force Letter”). See also NABL Considerations, 

supra note 334, at Appendix A.

547 See Task Force Letter, supra note 546. 

548 See supra note 334. 

549 GASB Project Pages: Postemployment Benefit Accounting and Financial Reporting, available at 

http://gasb.org/cs/ContentServer?c=GASBContent_C&pagename=GASB%2FGASBContent_C%2FProject

Page&cid=1176156645919. 

550 Proposed Statement of the GASB, “Government Accounting Standards Series, Exposure Draft: Accounting 

and Financial Reporting for Pensions-an amendment of GASB Statement No. 27,” June 27, 2011, available 

at

http://gasb.org/cs/ContentServer?site=GASB&c=Document_C&pagename=GASB%2FDocument_C%2FG

ASBDocumentPage&cid=1176158723743 (“GASB Exposure Draft on Statement No. 27”).

551 Proposed Statement of the GASB, “Government Accounting Standards Series, Exposure Draft: Financial 

Reporting for Pension Plans – an amendment of GASB Statement No. 25,” June 27, 2011, available at

http://gasb.org/cs/ContentServer?site=GASB&c=Document_C&pagename=GASB%2FDocument_C%2FG

ASBDocumentPage&cid=1176158723674 (“GASB Exposure Draft on Statement No. 25”). Under the 

proposed revisions, projected benefit payments would be discounted to their present value using the single 

rate that would reflect (a) the long-term expected rate of return on pension plan investments that are 

expected to be used to finance the payment of pensions to the extent that (1) plan net position is projected 

to be sufficient to make the benefit payments that are projected to occur in a period and (2) assets are 
91 

has stated that this proposal is designed to reflect that, to the extent that the plan net assets will 

not be available to be invested for the long-term to make benefit payments, those future benefit 

payments would be made using the general resources of the government.552

Under the GASB’s proposed pension guidance, unfunded pension liabilities would be 

required to be recognized in the financial statements rather than in the notes to the financial 

statements, as is currently the case.

 

553 Additionally, the proposal calls for robust information in 

notes to the financial statements and required supplementary information, including a schedule 

of changes in net pension liability over a ten year period.554 The GASB expects that, if adopted, 

the new standards would put pension liabilities, on equal footing with other long-term 

obligations, lead to reporting of greater liabilities, provide greater clarity about changes in net 

pension liabilities and foster greater consistency and comparability across governments.555

3. Exposure to Derivatives

 

a. Overview

As noted above, some municipal issuers use derivative products in connection with their 

municipal securities offerings.

556 The most common derivative transaction that municipal 

issuers use is a fixed-for-floating swap, which allows municipal issuers to fix all or part of their 

exposure to variable interest rates.557 The combined effect of issuing securities with variable 

interest rates and entering into a fixed interest rate-for-floating interest rate swap is a synthetic 

fixed rate obligation.558 This type of derivative transaction exposes an issuer to a variety of 

risks, some of which may be significant.559

Since interest rate swaps are bilateral contracts entered into privately, there currently is 

no comprehensive data on how many municipal issuers are active in the $162 trillion U.S. dollardenominated interest rate swap market,

 

560

 

expected to be invested using a long-term investment strategy and (b) an index rate for a 30-year, taxexempt municipal bond rated AA/Aa or higher (or equivalent quality on another rating scale) to the extent 

that the conditions in (a) are not met. See GASB Exposure Draft on Statement No. 27, supra note 

although anecdotal evidence suggests a relatively wide 

550. 

552 See GASB, “The User’s Perspective: GASB Proposes to Significantly Improve Pension Reporting,” July 

2011, available at

http://www.gasb.org/cs/ContentServer?site=GASB&c=GASBContent_C&pagename=GASB%2FGASBCo

ntent_C%2FUsersArticlePage&cid=1176158721550.

553 Id. 

554 Id. 

555 Id. 

556 See supra notes 33 - 35 and § II.A.2.a (Types of Municipal Securities).

557 See Craig Underwood, et al., “Interest Rate Swaps: Application to Tax-Exempt Financing” Bond Logistix 

LLC & Orrick, Herrington & Sutcliffe LLP, 2004, available at http://www.orrick.com/fileupload/430.pdf. 

558 See id.

559 Id. 

560 Accurate as of December 2011. See Bank for International Settlements, Semiannual Over-The-Counter 

(OTC) Derivatives Market Statistics, available at http://www.bis.org/statistics/otcder/dt21a21b.pdf. 
92 

use. For instance, a 2008 news article reported that a review of Pennsylvania Department of 

Community and Economic Development records reveals that 185 school districts, towns, and 

counties in Pennsylvania have entered into derivatives contracts since 2003, when the state’s law 

was explicitly changed to allow for such contracts.561 However, panel participants noted that the 

use of interest rate swaps has declined since the onset of the financial crisis in 2008.562

Although the use of derivatives can provide municipalities with benefits, such as the 

ability to reduce borrowing costs and/or manage interest rate risk, they also pose special risks to 

municipalities.

 

563 The special and significant risks posed by derivative instruments to municipal 

issuers has underscored the need to consider enhanced disclosure to provide investors a clear 

understanding of the terms of such instruments and the risks to the issuer.564

b. Municipal Issuer as “Purchaser” of a Derivative Product 

i. Market Participant Observations and Other Commentary 

Two of the field hearing panels focused on derivatives, addressing issues relating to the 

municipal issuer as the “purchaser” of a derivative product and disclosure issues related to 

derivative products entered into by municipal entities.565

Much of the discussion at the field hearings focused on conflicts of interest and other 

factors that may cause municipal issuers to enter into potentially disadvantageous derivatives 

transactions. First, panelists addressed the nature of the relationship between counterparties. 

Specifically, a panelist stated that although swap documents include an express denial of a 

fiduciary relationship between the two counterparties,566 municipal entities typically rely upon 

and trust the financial institution with whom they are dealing.567

 

561 See Martin Z. Braun, “Deutsche Bank Swap Lures County as Budgets Crumble,” Bloomberg, Nov. 26, 

2008, available at

 Panelists also argued that swap 

http://www.bloomberg.com/apps/news?pid=newsarchive&sid=aBM8ziXQK1xw&refer=home. 

562 See, e.g., Birmingham Hearing Transcript at 239-240 (Turner); See also Birmingham Hearing Transcript, at 

243 (McElroy) (noting that municipal entities are still engaging in hedging for natural gas and other fuels). 

563 See id.

564 See, e.g., 1994 Interpretive Release, supra note 31 (noting that investors need to be aware of the terms and 

particular risks arising from these products, including exposure to interest rate volatility under all possible 

scenarios). See also In the Matter of County of Orange, California, supra note 353. 

565 Panel entitled “Disclosure of Certain Significant Liabilities,” San Francisco Hearing Transcript at 124-187 

and Panel entitled “Derivatives Use in Municipal Finance,” Birmingham Hearing Transcript at 212-267.

566 See Birmingham Hearing Transcript at 216 (Brooks) (“In essence, [the ISDA confirmation letter states] that 

each counterparty has made their own independent judgment or is relying on its own advisors. Most 

importantly, there is an explicit denial of a fiduciary relationship between the two counterparties.”); See 

also Andrew Ackerman, “Mixed Reactions on OK of OTC Swap Bills: Dealers Reps Predict Derivatives’ 

Demise,” The Bond Buyer, Apr. 22, 2010, available at

http://www.bondbuyer.com/issues/119_325/otc_swap_bills-1011169-1.html.

567 See, e.g., Birmingham Hearing Transcript at 215-216 (Brooks) (“the most significant problem related to 

derivatives use in municipal finance is that derivatives are sold and . . . not bought. Specifically, 

commission hungry and ethically questionable derivatives salespeople are not the best source of ideas for 

creative and innovative solutions to complex municipal problem”); Birmingham Hearing Transcript at 256 
93 

advisors are inherently conflicted for a number of reasons, pointing out (1) that their 

compensation is contingent on completion of a transaction,568 (2) that they rely on financial 

institutions for referrals,

569 and (3) that their relationships with the municipal entities are 

typically limited to the duration of the transaction, rather than lasting for the life of the swap 

(meaning that they would be unlikely to advise the municipal entity to pass up a particular 

transaction).570

One field hearing participant observed that legislative bodies may fail to consider the 

long-term economic cycle on the ability of the municipality to repay its financial obligations and 

pointed out that one legislative body may commit its future legislative bodies to pay financial 

obligations twenty or thirty years into the future.

 

571 Another participant suggested that political 

considerations often prevent municipal entities from hiring the most capable internal and external 

financial advisors.572 Participants also stressed that many municipal entities have entered into 

derivative transactions that they did not understand.573 Others, however, have noted that in their

experience, the nature of credit risk, interest rate risk, and termination risk was carefully 

explained to issuers and understood by them.574

Panelists suggested that these factors cause municipal entities to be comparatively 

disadvantaged in the terms that they receive and fees that they pay as parties to derivatives 

transactions.

 Some market participants have suggested that 

swap dealers may offer up-front payments or reduced fees on other services (such as 

underwriting) to induce municipal entities to enter into derivative transactions.

575 One hearing participant used an interest rate swap transaction in connection with 

a taxable bond deal as an example of the excessive fees involved in municipal derivatives 

transactions.576

 (Turner) (noting that smaller entities may not have the money to hire outside advisors to assist them in 

swap transactions). 

 In the panelist’s example, the cost to taxpayers at the time of execution of the 

568 See e.g., Birmingham Hearing Transcript at 226 (Kalotay) (“The problem with swap advisors is not the lack 

of technical expertise, but how they are compensated. The incentives are skewed: The deal must go 

through in order for the swap advisors to get paid.”); Birmingham Hearing Transcript at 246-247 

(McElroy) (“the advisor cannot be a commission-based advisor if you’re going to expect a good outcome. 

It should be on retainer for a fixed fee to provide services for a period of time”).

569 See Birmingham Hearing Transcript at 245 (Kalotay).

570 See Birmingham Hearing Transcript at 250 (Collier).

571 See id. at 222.

572 See e.g., Birmingham Hearing Transcript at 258-259 (Brooks). 

573 See, e.g., San Francisco Hearing Transcript at 165 (Singer); see also Birmingham Hearing Transcript at 

221, 253 (Collier), 248 (Kalotay).

574 See, e.g., Birmingham Hearing Transcript at 237-238 (Turner).

575 See, e.g., Birmingham Hearing Transcript at 215 (Brooks) (“It should be suspect that often the very idea 

promoted by the financial institution would never be done at that same institution.”), at 224-225 (Kalotay) 

(referring to poorly structured bond and swap transactions as “Wall Street’s multi-billion dollar hidden tax 

on ‘Main Street’”).

576 See Birmingham Hearing Transcript at 226-227 (Kalotay) (discussing a 30 year, $750 million bond deal by 

Denver schools that was swapped for a fixed rate).
94 

swap was $14 million and the average mark-up was 2%.577 Another panelist noted that in 2009, 

the State of Tennessee supplemented its policies regarding the use of derivatives such as interest 

rate swap agreements. In addition to requiring that any interest rate swap agreement be related to 

a specific debt instrument and that government officials understand the complexity and risks of 

the financial transaction in question, the participant noted that the revised policies: (1) require 

that the CEO of the municipal entity and the governing body be jointly responsible for 

understanding the transaction, and that such parties be responsible for maintaining a competent 

staff to administer the transaction; and (2) encourage local governments that enter into such 

transactions to review and comply with the GFOA advisory on the use of debt-related products 

and derivatives checklist.578

Panelists urged the implementation of several regulatory mechanisms in order to protect 

issuers from entering into unsuitable transactions on unfavorable terms, including: 

• limiting participation in the derivatives market to only the largest and most sophisticated 

issuers,579 such as by prohibiting use of derivatives by a municipal issuer unless the 

issuer has at least $100 million in liabilities (as opposed to assets) and an outside 

financial advisor;580

• instituting derivatives policies,581

• better disclosure by swap dealers, counterparties, and swap advisors of conflicts of 

interest and profit margins;

 

582

 

577 See Birmingham Hearing Transcript at 226-230 (Kalotay) (noting that the 2% markup would not be 

tolerated by corporate issuers. Mr. Kalotay further stated that banks tend to defend their profit margin by 

claiming exposure to municipal credit risk but due to the low rate of municipal defaults and the high margin 

on unwinding derivatives, he was unconvinced by that claim.); See also Braun and Selway, supra note 34

(noting that in some Pennsylvania swap deals banks charged municipal entities up to 10 times the amount 

in fees than they would normally charge).

 

578 See Birmingham Hearing Transcript at 219-221 (Collier).

579 See San Francisco Hearing Transcript at 166 (Singer) (Taking issue with the provision in the Dodd-Frank 

Act which allows municipal entities with over $50 million of investable assets to be an “eligible contract 

participant”). One hearing participant noted that the standard in the State of Washington requires a 

municipal entity to have at least $100 million of bonds outstanding and a financial advisor. See San 

Francisco Hearing Transcript at 168 (McIntire).

580 See id. at 169 (McIntire).

581 See, e.g., San Francisco Hearing Transcript at 170 (Singer). Another participant noted however, that based 

on the recent experience of municipal entities, merely having a swap policy and a debt policy was not 

enough. See Birmingham Hearing Transcript at 219-222 (Collier); See also “Auditor General Jack 

Wagner Asks Department of Community and Economic Development to Strengthen Oversight of Interest 

Rate Swaps,” Pennsylvania Department of the Auditor General, May 10, 2010, available at

http://www.auditorgen.state.pa.us/Department/Press/WagnerAsksDCEDStrengthenOversightInterestRateS

waps.html. 

582 See, e.g., Birmingham Hearing Transcript at 217 (Brooks), 230 (Kalotay) (“[A]t a minimum, the banks 

should be required to disclose the swap curve at the time of execution. Also, any side agreement with the 

swap advisor should be disclosed as a matter of course.”)
95 

• use of independent and knowledgeable financial advisors subject to a fiduciary duty for 

swap transactions;583

• disclosure by swap dealers of the swap curve at the time of execution;

 

584

• establishment of a Municipal Finance Protection Bureau to provide municipalities with 

information on the fair values of swaps, on request, prior to entry or exit;

 

585

• aggressive enforcement of expanded regulatory authority over the swap market.

and

586

c. Enforcement Actions 

The extent of the risks to municipal entities engaging in swaps and security-based swaps 

has been illustrated by several high-profile enforcement actions such as Orange County, 

California,

587 and the more recent cases involving Jefferson County, Alabama.588 In addition to 

these cases, to date, the Commission has filed five settled enforcement actions against major 

financial institutions for their role in a series of complex, wide-ranging bid-rigging schemes 

involving derivatives utilized by municipalities and underlying obligors as reinvestment 

products.589

 

583 See, e.g., Birmingham Hearing Transcript at 217 (Brooks), 223 (Collier). Ms. Collier further suggested that 

special entities that enter into agreements be required to maintain a competent staff or advisors to serve in a 

fiduciary role not only during the transaction but for the life of the swap. See also State of Tennessee 

Guidelines for Interest Rate and Forward Purchase Agreements, §§ IV (J) and V (H), available at

 

http://www.tn.gov/comptroller/lf/pdf/SFB%20Guidelines%2010-9%20Final.pdf (determines the skill and 

knowledge requirements for any entity proposing to enter into an interest rate or forward rate agreements). 

584 See Birmingham Hearing Transcript at 230 (Kalotay) (suggesting that experts can come to consensus on the 

“fair value” of a swap using the prevailing swap curve).

585 See id. 

586 See San Francisco Hearing Transcript at 23 (Lockyer).

587 See Exchange Act Release No. 36761, Report Under § 21(a) of the Exchange Act: “Report of Investigation 

in the Matter of County of Orange, California as it Relates to the Conduct of the Members of the Board of 

Supervisors,” Jan. 24, 1996, supra note 360; see also In the Matter of Orange County, California, supra

note 353. See also Public Policy Institute of California, “When Government Fails: The Orange County 

Bankruptcy — A Policy Summary,” The Second Annual California Issues Forum, After the Fall: Learning 

from the Orange County Bankruptcy, Mar. 18, 1998, available at

http://www.ppic.org/content/pubs/op/OP_398OP.pdf.

588 Securities and Exchange Commission v. Larry P. Langford, William B. Blount, Blount Parrish & Co., Inc., 

and Albert W. LaPierre, Case No. cv-08-B-0761-S (N.D. Ala., filed Apr. 30, 2008), available at

http://sec.gov/litigation/litreleases/2008/lr20545.htm; Securities and Exchange Commission v. Charles E. 

LeCroy, and Douglas W. MacFaddin, Case No. cv-09 U/B 2238-S (N.D. Ala., filed Nov. 4, 2009), 

available at http://sec.gov/litigation/litreleases/2009/lr21280.htm. 

589 Collectively, the five financial institutions, Banc of America Securities LLC, UBS Financial Services Inc. 

and J.P. Morgan Securities LLC, Wachovia Bank, N.A., and GE Funding Capital Market Services, Inc., 

paid $205 million to settle the Commission actions, all of which was distributed to hundreds of harmed 

municipal entities or borrowers, located in 47 states, the District of Columbia, Guam, and Puerto Rico, as 

well as an additional $540 million to settle parallel proceedings by other federal and state authorities for 

their misconduct. Exchange Act Release No. 63451, In the Matter of Banc of America Securities, now 
96 

 In addition, in August 2011 the Commission filed a civil injunctive action against Stifel 

Nicholas & Co. and a former Senior Vice President named David Noack for allegedly violating 

the federal securities laws in connection with the sale to trusts established by five Wisconsin 

school districts of $200 million of highly leveraged and unsuitably risky credit-linked notes 

involving synthetic collateralized debt obligations (“CDOs”). According to the complaint, Stifel 

and Noack misrepresented the risk of the investments and failed to disclose material facts to the 

school districts. In the end, the investments were a complete failure, but generated significant 

fees for Stifel and Noack. In particular, heavy use of leverage and the structure of the synthetic 

CDOs exposed the school districts to a heightened risk of catastrophic loss. Nevertheless, Stifel 

and Noack allegedly made sweeping assurances to the school districts, misrepresenting that it 

would take “15 Enrons,” a catastrophic, overnight collapse for the investments to fail.590

In the enforcement actions involving Orange County, California, the Commission 

focused on the need to provide disclosure regarding risks relating to investment strategies, 

including risks to the municipal issuer arising from the use of derivative instruments, including 

swaps. Orange County had been heavily dependent on interest income from various County 

investment pools as a source of income to balance its current operating budget. Those pools 

implemented a risky investment strategy that ultimately resulted in the County filing for 

bankruptcy in December 1994. In particular, the County Treasurer obtained additional funds 

through short-term reverse repurchase agreements and investing in securities with maturities of 

two to five years, many of which were volatile derivative securities known as inverse floaters 

that paid interest rates inversely related to the prevailing market interest rate. When market 

interest rates began to rise, the county pools’ financial health declined.591

d. Business Conduct Standards of Swap Entities and Security-Based Swap Entities 

Most of the problematic practices that market participants identified with respect to 

municipal issuers as “purchasers” of derivative products pre-dated passage of the Dodd-Frank 

Act. Title VII of the Dodd-Frank Act establishes a comprehensive framework for regulating the 

 

known as Merrill Lynch, Pierce, Fenner & Smith Incorporated, successor by merger, (Dec. 7, 2010), 

available at http://www.sec.gov/litigation/admin/2010/34-63451.pdf; Securities and Exchange Commission 

v. UBS Financial Services Inc., Civil Action No. 11-CV-2885 (D.N.J. May 4, 2011), available at

http://www.sec.gov/litigation/litreleases/2011/lr21956.htm; and Securities and Exchange Commission v. 

J.P. Morgan Securities LLC., Civil Action No. 11-CV-3877 (D.N.J. Jul. 7, 2011), available at

http://www.sec.gov/litigation/litreleases/2011/lr22031.htm; Securities and Exchange Commission v. 

Wachovia Bank, N.A., now known as Wells Fargo Bank, N.A., successor by merger, Civil Action No. 2:11-

cv-07135-WJM-MF (D.N.J. Dec. 8, 2011), available at 

http://www.sec.gov/litigation/litreleases/2011/lr22183.htm; Securities and Exchange Commission v. GE 

Funding Capital Market Services, Inc., Civil Action No. 2:11-cv-07465-WJM-MF (D.N.J. Dec. 23, 2011), 

available at http://www.sec.gov/litigation/litreleases/2011/lr22210.htm. 

590 Securities and Exchange Commission v. Stifel, Nicolaus & Co., Inc. and David W. Noack, Civil Action No. 

2:11-cv-00755-AEG, (E.D. Wisc. Aug. 10, 2011), available at

http://www.sec.gov/litigation/litreleases/2011/lr22064.htm. The Commission also charged, and settled 

with, RBC Capital Markets, LLC for their involvement in these sales. RBC negligently recommended and 

sold these investments, despite significant internal concerns about the suitability of the investments for 

municipalities like the school districts. Moreover, RBC’s marketing materials failed to explain adequately 

the risks associated with the investments. See In the Matter of RBC Capital Markets, LLC, supra note 242. 

591 See In the Matter of County of Orange, California, supra note 353. 
97 

over-the-counter swaps markets. The Dodd-Frank Act generally provides the Commodity 

Futures Trading Commission (“CFTC”) with authority to regulate “swaps,”592 including the 

interest rate swaps that are the most common type of derivative product entered into by 

municipal entities.

593 The statute also provides the Commission with authority to regulate 

“security-based swaps,” and both the CFTC and the Commission with authority to regulate 

“mixed swaps.”594

The Dodd-Frank Act established new business conduct obligations for swap dealers and 

major swap participants (collectively, “Swap Entities”), and security-based swap dealers and 

major security-based swap participants (collectively, “SBS Entities”), in their dealings with 

counterparties.

 

595 In addition, Congress imposed heightened business conduct requirements for 

dealings with “special entities,” which included certain types of municipal entities.596 The 

Commission has proposed597 and the CFTC has recently adopted rules to implement these 

provisions.598

 

592 Dodd-Frank Act § 712(a). See, e.g., § 2(a)(1)(A) of the Commodity Exchange Act (jurisdiction of the 

CFTC) and Section 1a(47) (defining “swap” to include, among other things, an interest rate swap). 

 Below is a summary of the requirements as adopted by the CFTC and proposed 

by the Commission. 

593 See, e.g., Birmingham Hearing Transcript at 241 (Collier) and 244 (Turner). 

594 Dodd-Frank Act § 712(a). See also “Further Definition of “Swap,” “Security-Based Swap,” and “SecurityBased Swap Agreement”; Mixed Swaps; Security-Based Swap Agreement Recordkeeping, issued by the 

Commission and the CFTC, Exchange Act Release No. 64373 (Apr. 27, 2011), available at

http://www.sec.gov/rules/proposed/2011/33-9204.pdf, 76 FR 29818 (May 23, 2011) (joint proposed rules 

and proposed interpretations regarding products definitions). 

595 See Dodd-Frank Act, §§ 724-733 (dealing with various disclosure requirements and counterparty 

requirements in swap transactions). See also Dodd-Frank Act, § 764 (directing SBS entities to conform 

with such business conduct standards as may be prescribed by the Commission).

596 Commodity Exchange Act § 4s(h)(2)(C) and Exchange Act § 15F(h)(2)(C) define the term “special entity” 

to include a state, state agency, city, county, municipality, or other political subdivision of a state, as well 

as any governmental plan, as defined in § 3 of Employee Retirement Income Security Act of 1974 

(“ERISA”). By comparison, the definition of “municipal entity” under Exchange Act § 15B(e)(8) is any 

state, political subdivision of a state, or municipal corporate instrumentality of a state, including – 

(A) any agency, authority, or instrumentality of the State, political subdivision, or municipal corporate 

instrumentality;

(B) any plan, program, or pool of assets sponsored or established by the State, political subdivision, or 

municipal corporate instrumentality or any agency, authority, or instrumentality thereof; and

(C) any other issuer of municipal securities”. 

597 Exchange Act Release No. 64766, “See Business Conduct Standards for Security-Based Swap Dealers and 

Major Security-Based Swap Participants” (June 29, 2011), 76 FR 42396 (Jul. 18, 2011) (business conduct 

standards for SBS Entities proposed by SEC), available at http://www.sec.gov/rules/proposed/2011/34-

64766.pdf (“SEC Business Conduct Proposal”).

598 Business Conduct Standards for Swap Dealers and Major Swap Participants with Counterparties, 77 FR 

9734 (Feb. 17, 2012) (business conduct standards for Swap Entities adopted by CFTC) available at 

http://www.cftc.gov/LawRegulation/FederalRegister/FinalRules/2012-1244 (“CFTC Business Conduct 

Final Rule”).
98 

Among other things, the rules would require Swap Entities and SBS Entities to verify 

whether a counterparty is a special entity, and disclose to the counterparty material information 

about the security-based swap or swap (collectively, “swap”), including material risks, 

characteristics, incentives, and conflicts of interest. 

The rules also would define what it means to “act as an advisor” to a special entity, and 

would require that a swap dealer or security-based swap dealer who acts as an advisor to a 

special entity to: 

• Act in the “best interests” of the special entity; and 

• Make reasonable efforts to obtain information that it needs to determine that the 

recommendation is in the “best interests” of the special entity. 

A Swap Entity or SBS Entity acting as counterparty to a special entity also would be required to 

reasonably believe that the counterparty has an independent representative who meets the 

following requirements:

• Has sufficient knowledge to evaluate the transaction and risks; 

• Is not subject to a statutory disqualification; 

• Is independent of the Swap Entity or SBS Entity; 

• Undertakes a duty to act in the best interests of the special entity; 

• Makes appropriate disclosures of material information concerning the swap; and 

• Provides written representations to the special entity regarding fair pricing and 

appropriateness of the swap. 

In addition, the swap dealer or security-based swap dealer, as well as the independent 

representative, would be subject to pay-to-play regulations. 

One field hearing participant expressed concern regarding the possible adverse outcome 

arising from the proposed business conduct rules on swap dealers, particularly the additional 

restrictions related to swaps with “special entities,” urging the SEC and CFTC to continue to 

coordinate efforts.599

 

599 Birmingham Hearing Transcript at 233 (McElroy). The Commission and CFTC coordinated extensively 

with respect to these proposals and jointly held dozens of consultations with market participants. See

 

http://www.sec.gov/comments/df-title-vii/swap/swap.shtml#meetings and

http://www.sec.gov/comments/s7-25-11/s72511.shtml#meetings (for records of the meetings held jointly 

between the Commission and the CFTC).
99 

e. Disclosure Issues

i. Market Participant Observations and Other Commentary 

Participants in the field hearings also discussed issues relating to disclosure of derivatives 

exposure. For example, local government officials600 discussed how disclosure of derivative 

obligations has changed since GASB Statement No. 53 was issued.601 A panelist noted that prior 

to GASB Statement No. 53 these derivatives were reported as a footnote disclosure in financial 

statements or not at all.602 Participants noted that GASB No. 53 could lead to consistent 

treatment of derivatives reporting but noted that without additional information (such as the 

effect of future interest rate changes) it could be misleading to investors.603

• use of “plain English summaries” of the terms of the derivatives, the risks to the 

municipal issuer, the payment obligations (including any required termination payments), 

the name of the counterparty, and a brief description of the purpose of the derivative;

 Panelists suggested 

that the following types of practices would serve to better protect municipal securities investors: 

604

• disclosure of scenario testing, to show how various interest rate scenarios would impact 

individual swap transactions, including termination payments and collateral posting 

requirements for lower-rated issuers;605

• disclosure of the credit quality of the swap counterparty;

 

606

 

600 See San Francisco Hearing Transcript at 149 (Mayhew). See also Birmingham Hearing Transcript at 252, 

262-263 (Collier), 263 (McElroy).

601 GASB Statement No. 53 was issued on June 30, 2008 and effective for financial periods beginning after 

June 15, 2009. See GASB, Summary of Statement No. 53, Accounting and Financial Reporting for 

Derivative Instruments (Issued June, 2008), available at 

http://www.gasb.org/cs/ContentServer?c=Pronouncement_C&pagename=GASB%2FPronouncement_C%2

FGASBSummaryPage&cid=1176156706600. Statement No. 53 requires that the “fair value” of derivatives 

or derivative instruments be reported in the financial statements of state and local governments. GASB, 

Derivative Instruments: A Plain-Language Summary of GASB Statement No. 53, at 1, June 30, 2008, 

available at http://www.aci-na.org/static/entransit/Derivative%20Instruments.pdf (“Summary of GASB 

53”). Notably, not all instruments are subject to Statement No. 53. See id. at 4.

602 See San Francisco Hearing Transcript at 149 (Mayhew). See also Summary of GASB 53, supra note 601, 

at 6 (“Although prior standards required governments to disclose information about their derivatives in the 

notes to the financial statements, few derivatives were reported on the face of the financial statements.”).

603 See San Francisco Hearing Transcript at 152 (Singer). 

604 In particular, this panel participant noted that municipal issuers should include: the timing, size, and 

rationale of the trade; whether the derivative is tied to specific bonds; the identity of the counter-party; 

whether there are events that will cause the municipality to have to meet a significant capital call; how low 

the credit rating of the municipal entity will have to fall before the counter-party can force the entity to 

terminate the trade and make a payment; the use of floating rate debt, and the mark-to-market of each of the 

derivative products; and how the mark-to-market will change as interest rates change in the future. See San 

Francisco Hearing Transcript at 151-152 (Singer).

605 See id. at 152-154. 

606 Birmingham Hearing Transcript at 265 (Collier).
100 

• reporting to the governing body the financial effectiveness of the swap and any potential 

risks in the current economic environment, on at least an annual basis;607

• publication by municipal entities of financial effectiveness reports on websites on a 

regular basis and an opportunity for members of the public to ask questions about the 

continued financial effectiveness and cost of the transactions in a public meeting.

and

608

The business conduct standards described above may facilitate improved disclosure by 

issuers. To the extent that issuers receive independent and more informed advice as a result of 

the Dodd-Frank Act business conduct standards and the related CFTC (and ultimately, SEC) 

regulations, they may be better equipped to provide effective disclosure to investors regarding 

the terms and risks of their exposure to derivatives. 

4. Disclaimers of Responsibility for Information Included in Official Statements and 

Other Disclosures 

Some municipal market participants attempt to disclaim responsibility for information 

included in official statements and other disclosure documents. Commission staff is also aware 

that legal counsel have encouraged the use of disclaimers in municipal offering documents in an 

attempt to protect against liability under Section 10(b) of the Exchange Act for portions of 

offering documents that have been prepared by “experts” and in part to avoid common law 

liability for implied warranties.609

The Commission has stated that “specific disclaimers of antifraud liability are contrary to 

the policies underpinning the federal securities laws.”610 As stated above, underwriters must 

have a reasonable basis for recommending any municipal securities and must review disclosure 

documents used in an offering for omissions and misstatements.

611 The Commission has further 

stated that “disclaimers by underwriters of responsibility for the information provided by the 

issuer or other parties, without further clarification regarding the underwriter’s belief as to 

accuracy, and the basis therefor, are misleading and should not be included in official 

statements.”612

 

607 See id. at 223.

 One market participant has suggested that the Commission recognize additional 

608 See id. at 224.

609 See, e.g., NABL Comment Letter, supra note 391. This advice is based on analogies drawn from § 11 of 

the Securities Act in establishing defenses to liability under § 10(b) of the Exchange Act for expertised 

portions of registration statements. See also Disclosure Roles of Counsel, supra note 18, at 211-214 

(discussing why disclaimers are prevalent in official statements).

610 SEC Release No. 33-7856, SEC Interpretation: “Use of Electronic Media,” Apr. 28, 2000 at n. 61, 

available at http://www.sec.gov/rules/interp/34-42728.htm (“Electronic Media 2000 Release”) (“We do not 

view a disclaimer alone as sufficient to insulate an issuer from responsibility for information that it makes 

available to investors whether through a hyperlink or otherwise. To conclude otherwise would permit 

unscrupulous issuers to make false or misleading statements available to investors without fear of liability 

as long as the information is accompanied by a disclaimer. Further, we remind issuers that specific 

disclaimers of anti-fraud liability are contrary to the policies underpinning the federal securities laws.”) 

611 See supra note 349. 

612 1994 Interpretive Release, supra note 31, at n. 103.
101 

limited circumstances where disclaimers may be appropriate in municipal securities official 

statements, and provided some examples of how the Commission could address these issues.613

Issues regarding appropriate uses of disclaimers also arise when disclosure documents 

include hyperlinks and website references. The Commission’s interpretation on the use of 

electronic media which applies to all issuers including municipal securities issuers, addresses

embedded hyperlinks and other references to websites and, in that context, discusses the issuer’s 

responsibilities with respect to adoption of hyperlinked information.

 

614 In order to eliminate any 

confusion about whether the issuer has adopted information that is hyperlinked, the Commission 

stated that the issuer should ensure “that access to the information is preceded or accompanied 

by a clear and prominent statement from the issuer disclaiming responsibility for, or endorsement 

of, the information.”615

5. Disclosure of Conflicts of Interest and Other Relationships or Practices 

 

As highlighted in the 1994 Interpretive Release and Commission enforcement actions, 

information concerning financial and business relationships or practices, such as undisclosed 

payments, political contributions, and bid rigging, among offering participants or decision 

makers may be critical to investors.616

The role of advisors, such as swap and municipal advisors, to issuers also has raised 

questions regarding undisclosed conflicts of interest.

 

617

 

613 See, e.g., NABL Comment Letter, supra note 

 The MSRB recently issued interpretive 

391; see also, Disclosure Roles of Counsel, supra note 18.

614 Electronic Media 2000 Release, supra note 610, at n. 54 and accompanying text (noting that liability for 

third party hyperlinked information under the "adoption" theory would depend upon whether, after its 

publication, an issuer, explicitly or implicitly, endorses or approves the hyperlinked information and laying 

out factors that are relevant in deciding whether an issuer has adopted information on a third-party web site 

to which it has established a hyperlink).

615 Id. This Commission viewpoint was reiterated in its 2008 release, Commission Guidance on the Use of 

Company Websites, in which it paraphrased footnote 61 from the 2000 Electronic Media Release: “With 

regard to the use of disclaimers generally, as we noted in the 2000 Electronics Release, we do not view a 

disclaimer alone as sufficient to insulate an issuer from responsibility for information that it makes 

available to investors whether through a hyperlink or otherwise. Accordingly, a company would not be 

shielded from antifraud liability for hyperlinking to information it knows, or is reckless in not knowing, is 

materially false or misleading. This would be the case even where the company uses a disclaimer and/or 

other features designed to indicate that it has not adopted the false or misleading information to which it 

has provided the hyperlink. Our concern is that an alternative approach could result in unscrupulous 

companies using disclaimers as shields from liability for making false or misleading statements. We again 

remind issuers that specific disclaimers of anti-fraud liability are contrary to the policies underpinning the 

federal securities laws.” See Exchange Act Release No. 58228, “Commission Guidance on the Use of 

Company Websites,” at text accompanying n. 86, Aug. 1, 2008, available at

http://www.sec.gov/rules/interp/2008/34-58288.pdf. 

616 See 1994 Interpretive Release, supra note 31; See also, e.g., Securities Act Release No. 9078/Exchange Act 

Release No.60928, In the Matter of J.P. Morgan Securities Inc. (Nov. 4, 2009) (failure to disclose 

payments of $8.2 million in 2002 and 2003 by respondent to various local firms whose principals or 

employees were friends of Jefferson County commissioners, who selected respondent as underwriter for 

bond offerings and affiliated bank as swap provider, violated Section 17(a)(2) and (3) of the Securities Act, 

Section 15B(c)(1) of the Exchange Act, and MSRB Rule G-17), infra note 628. 

617 See supra § III.B.3 (Exposure to Derivatives).
102 

guidance under MSRB Rule G-17 that includes a requirement that underwriters disclose certain 

conflicts of interest to municipal issuers.

618

a. Pay-to-Play and Political Contributions 

 

 Among the types of relationships or practices that may affect municipal issuers are those 

involving pay-to-play619 issues. The MSRB adopted Rule G-37 in 1994 to address pay-to-play 

issues relating to obtaining municipal securities underwriting and other financial engagements. 

Pay-to-play restrictions have also been adopted by the CFTC in the context of swap transactions 

and proposed by the Commission in the context of security-based swaps transactions with 

municipalities.620

One form of political contribution that has been the subject of recent continued concern 

to market participants involves financial intermediaries funding bond ballot campaigns (“bond 

elections”).

 However, other forms of potentially problematic pay-to-play activities 

involving commodity trading advisors, municipal advisors, or other municipal securities market 

participants are not yet directly regulated but raise disclosure issues for investors and the market. 

621

 

618 See G-17 Interpretive Notice, supra note 

 Bond elections often are required as a matter of state or local law to authorize the 

issuance of bonds, for example, to finance a particular project or group of projects. Independent 

ballot measure committees are typically formed to conduct campaigns in support of bond 

elections. Because governmental issuers are usually prohibited by state law from spending 

public funds to support bond elections, they are dependent on private third parties to support the 

campaign, either in the form of financial contributions or in-kind services (including the use of 

retained expert election consulting firms). Such private third parties can include municipal 

finance firms, law and accounting firms, construction firms, and architects. 

251. 

619 Pay-to-play is considered an inappropriate practice whereby a market participant is expected to make 

political contributions to elected officials in order to be considered for selection to provide underwriting or 

other services. See definition of “Pay-to-play” in MSRB Glossary, supra note 31. 

620 See SEC Business Conduct Proposal and CFTC Business Conduct Final Rule (regarding pay-to-play 

prohibitions on security-based swap dealers, swap dealers and independent representatives in transactions 

with a state, state agency, city, county, municipality or other political subdivision of a state or any 

governmental plan). 

621 Market participants continue to call for the MSRB to ban such contributions. In December 2008, public 

finance executives from the three largest underwriting firms sent a letter urging the MSRB to restrict such 

contributions. See Andrew Ackerman, “Public Finance Execs Urge G-37 Amendments,” The Bond Buyer, 

Jan. 7, 2009, available at http://www.bondbuyer.com/issues/118_4/-298110-1.html. Municipal advisors 

made a similar request of the MSRB in comment letters with respect to the MSRB’s proposed pay-to-play 

rules for municipal advisors. See. e.g., Letter from National Association of Independent Public Financial 

Advisors commenting on proposed pay-to-play rules for municipal advisors (MSRB Notice 2011-004), 

Feb. 24, 2011, available at http://www.msrb.org/Rules-and-Interpretations/RegulatoryNotices/2011/~/media/Files/RFC/2011/2011-04/NAIPFA.ashx. See also Letter from WM Financial 

Strategies commenting on proposed pay-to-play rules for municipal advisors (MSRB Notice 2011-004), 

Feb. 24, 2011, available at http://www.msrb.org/Rules-and-Interpretations/RegulatoryNotices/2011/~/media/Files/RFC/2011/2011-04/WM-Financial-%20Strategies.ashx. 
103 

Many state and local jurisdictions do not prohibit or otherwise restrict contributions by 

private parties to bond elections, although some do.622 However, if the issuer pays back the 

contribution with bond proceeds, it may violate prohibitions on spending public funds to back a 

bond election. Depending on the state, public officials who violate the rules could be subject to 

criminal charges and the bond election could be invalidated.623 Although this might not have a 

direct impact on the validity of bonds because bonds are generally not issued until after an

election is “certified,” municipal market participants reimbursed for political contributions from 

bond proceeds may be assisting issuer officials in violating criminal statutes. In addition, some 

have argued that pay-to-play activities for bond elections, whether direct or indirect, increase 

bond issuance fees and interest costs and undermine public trust.624

In addition, the MSRB recently amended Rule G-37 to require the mandatory public 

disclosure on amended Form G-37 of certain contributions to bond ballot campaigns made by 

municipal bond dealers and is continuing to study whether such contributions should be 

prohibited.

 

625

b. Enforcement Actions 

 

The Commission has taken a number of actions, including enforcement actions in the 

municipal securities arena, to address conflicts arising from political contributions.626

 

622 See, e.g., Missouri Revised Statutes § 409.107. “No investment firm, legal firm offering bond counsel 

services, or any persons having an interest in any such firms shall be involved in the issuance of bonds 

authorized by an election in which the firm or person made any direct or indirect financial contribution to 

any campaign in support of the bond election.” 

 The 

623 See, e.g., “Campaign Finance and Political Conduct Rules for School District Bond Elections” available at

http://www.orrick.com/fileupload/122.pdf. 

624 See, Randall Jensen, “Brokers Gifts That Keep Giving,” The Bond Buyer, Jan. 13, 2012, available at

http://www.bondbuyer.com/issues/121_10/california-broker-dealer-contributions-school-bond-issue1035266-1.html (describing statements by a former California legislator who said that he found many 

instances where broker-dealers charged the school districts much higher fees for [negotiated] deals [where 

they had made a contribution to the bond election] compared to typical bond issues). See also, WM 

Financial Strategies, “Election Contributions May Equate to Pay-to-Play,” available at

http://www.munibondadvisor.com/Commentary.htm (accessed on May 23, 2012) (“Permitting local 

governments to engage underwriters based on election contributions reduces competition and increases 

bonding costs. Competition is reduced when an underwriter is selected based on the best bond election 

campaign rather than selected through competitive bidding. Bond costs are increased when an underwriter 

is engaged based on election campaign contributions (whether direct or indirect) rather than based on 

ability to provide lowest fees and interest rates”).

625 See, MSRB Notice 2010-01 (Jan. 22, 2010) and MSRB Notice 2010-03 (Feb. 1, 2010). The amendment to 

Rule G-37 also requires dealers to create and maintain records of such contributions to bond elections but, 

because these records are frequently handwritten and not required to be word searchable, market 

participants have complained that such records are of very limited practical use in identifying potential 

problematic activity and using it as a basis for disclosure or enforcement. The MSRB has indicated to the 

Staff that they are studying ways to improve the searchability of such records. 

626 See 1994 Interpretive Release, supra note 31. See also SEC v. Paul J. Silvester, et al., Litigation Release 

No. 16759 (Oct. 10, 2000); Litigation Release No. 20027 (Mar. 2, 2007); Litigation Release No. 19583 

(Mar. 1, 2006); Litigation Release No. 18461 (Nov. 17, 2003); Litigation Release No. 16834 (Dec. 19, 

2000); SEC v. William A. DiBella et al., Litigation Release No. 20498 (Mar. 14, 2008); 2007 U.S. Dist. 

LEXIS 73850 (D. Conn., May 8, 2007), aff’d 587 F.3d 553 (2d Cir. 2009).
104 

Commission has also brought a number of enforcement actions involving conflicts of interest 

and undisclosed payments. For example, in 2008 the Commission filed a litigated injunctive 

action against the then-President of Jefferson County Commission Larry Langford and others 

alleging they received material undisclosed payments in connection with municipal securities 

business and security-based swap agreements.627 Mr. Langford was convicted in a subsequent 

criminal action involving substantially similar facts and is currently serving a 15-year prison 

sentence. The Commission also charged J.P. Morgan Securities for making undisclosed 

payments of $8.2 million in 2002 and 2003 at the direction of certain Jefferson County 

commissioners for little, if any, services in connection with $5 billion of County bond issues and 

swaps. The firm was censured, paid a $25 million penalty, and another $50 million in 

disgorgement and prejudgment interest, and forfeited more than $647 million in claimed 

termination fees under the swaps.628 Moreover, the Commission filed a litigated injunctive 

action against two former J.P. Morgan investment bankers for allegedly directing the $8.2 

million in undisclosed payments.629

The Commission has brought a series of enforcement actions against underwriters of 

municipal securities involving the payment of extravagant travel and entertainment expenses for 

friends and family members of public officials travelling to New York City, ostensibly for 

meetings with bond insurance and credit rating agencies, and then obtaining reimbursement for 

those expenses from the underlying municipal issuers.630

Public pension funds have also been subject to conflict of interest and undisclosed 

payment schemes that resulted in enforcement actions by the Commission. For example, in 2009 

the Commission filed an injunctive action alleging that, from 2003 through late 2006, New 

York’s former Deputy Comptroller, a top political advisor, and various placement agents 

participated in a fraudulent kickback scheme in order to win investment business from the New 

York State Common Retirement Fund.

 

631 Similarly, the Commission brought enforcement 

actions against the former treasurer of the State of Connecticut and others for awarding state 

pension fund investments to private equity fund managers in exchange for payments, including 

political contributions, funneled through the former treasurer’s friends and political associates.632

 

627 SEC v. Larry P. Lanford, William B. Blount, Blount Parish & Co., Inc. and Albert W. LaPierre, Lit. 

Release No. 20545, Case No. CV-08-B-0761-S (N.D. Ala.) (Apr. 30, 2008), available at 

 

http://www.sec.gov/litigation/litreleases/2008/lr20821.htm. 

628 Securities Act Release No. 9078/Exchange Act Release No. 60928, In the Matter of J.P. Morgan Securities 

Inc. (Nov. 4, 2009), available at http://www.sec.gov/litigation/admin/2009/33-9078.pdf. 

629 SEC v. Charles F. LeCroy and Douglas W. MacFaddin, Lit Release No. 21280, Case No. CV-09 U/B 

2238-S (N.D. Ala. Nov. 4, 2009), available at http://www.sec.gov/litigation/litreleases/2009/lr21280.htm. 

630 Exchange Act Release No. 59439, “RBC Capital Markets Corporation” (Feb. 24, 2009), available at 

http://www.sec.gov/litigation/admin/2009/34-59439.pdf; Exchange Act Release No. 60043, “Merchant 

Capital, L.L.C.” (June 4, 2009), available at http://www.sec.gov/litigation/admin/2009/34-60043.pdf. 

631 SEC v. Henry Morris, et al., Lit. Rel. No. 20963 (Mar. 19, 2009), Lit. Rel. No. 21001 (Apr. 15, 2009), Lit. 

Rel. No. 21018 (Apr. 30, 2009), available at 

http://www.sec.gov/litigation/litreleases/litrelarchive/litarchive2009.shtml. 

632 SEC v. Paul J. Silvester, et al., Lit. Release No. 16759 (Oct. 10, 2000), available at 

http://www.sec.gov/litigation/litreleases/lr16834.htm; Lit. Release No. 20027 (Mar. 2, 2007); Lit. Release 

No. 19583 (Mar. 1, 2006); Lit. Release No. 18461 (Nov. 17, 2003); Lit. Release No. 16834 (Dec. 19, 
105 

Recently, the Commission filed an injunctive action charging a former Detroit mayor, a former 

Detroit treasurer, and an investment advisor to Detroit’s public pension funds for their 

involvement in a secret exchange of lavish gifts to peddle influence over the funds’ investment 

process.633

C. OTHER IDENTIFIED DISCLOSURE ISSUES

 

1. Access to Information 

As noted above, retail and institutional investors alike have an interest in understanding 

and monitoring the financial health of the issuers of the municipal securities the investors own or 

may wish to acquire.634 However, market participants have stated that access to current financial 

information about issuers or obligated persons may be limited, difficult to find, or unavailable.635 

While much financial information is available at the time of an offering, continuing disclosure is 

not necessarily available or available in a timely manner.636

As noted above, some investors expressed frustration that credit ratings may not be 

readily available to retail investors, although certain credit ratings are now available publicly on 

EMMA.

 

637 In addition, some market participants expressed concern that institutional investors 

may have access to more detailed information than retail investors.638

 

2000); SEC v. William A. DiBella et al., Litigation Release No. 20498 (Mar. 14, 2008), available at 

 One participant stated that 

institutional investors can contact issuers directly to request information and have access to 

electronic road shows, while such information and access may not be available to retail 

http://www.sec.gov/litigation/litreleases/2008/lr20498.htm; 2007 U.S. Dist. LEXIS 73850 (D. Conn., May 

8, 2007), aff’d 587 F.3d 553 (2d Cir. 2009).

633 SEC v. Kwame M. Kilpatrick, Jeffrey W. Beasley, Chauncey C. Mayfield, and MayfieldGentry Realty 

Advisors, LLC, Lit. Release No. 22362, Case No. 12-cv-12109 (E.D. Mich.)(May 9, 2012), available at

http://www.sec.gov/litigation/litreleases/2012/lr22362.htm. 

634 See supra discussion of EMMA under § II.B.3.a (Municipal Securities Rulemaking Board).

635 See supra § III.A.4 (Market Participant Observations and Other Commentary). See also, e.g., San 

Francisco Hearing Transcript at 251(Lehman) (“Taxpayers, investors, and regulators would all benefit from 

access to timely and accurate information.”); San Francisco Transcript at 232-233 (Gill) (“An improved 

disclosure system is needed that will boost investor confidence and improve access to information about the 

municipal securities market.”); Birmingham Hearing Transcript at 178 (Nolan) (“Investors can no longer 

rely on bond insurers or bond rating agencies, particularly on the secondary market . . . [Investors] must 

have access to the data themselves to bring greater transparency to the municipal securities market”). 

636 See supra § III.B.1.d (Timeliness of Financial Information) (discussing the timeliness of financial 

information available after an offering).

637 See supra note 196. 

638 See, e.g., San Francisco Hearing Transcript at 58-60 (Colby) (discussing availability of road shows to 

institutional investors, and not retail investors), 258-259 (Lehman) (“[I]nstitutional investors in the security 

may have better access to information than retail investors, and we're potentially trading against those 

institutions. So they have more timely information, and we're getting adversely selected.”). 
106 

investors.639 Another market participant noted that rating agencies have more access to 

information from issuers than investors.640

2. Use of Issuer Websites

 

In addition to the submission of annual financial information (including audited financial 

statements) on EMMA, many issuers now take advantage of the Internet641 by providing 

disclosure to residents, investors, and other interested parties through issuer sponsored websites, 

a practice that has received the support of the GFOA.642

 

639 San Francisco Hearing Transcript at 59 (Colby). But see San Francisco Hearing Transcript at 59 (McNally) 

(arguing that institutional investors and retail investors usually have equal access to information and that 

there are generally no material differences between the electronic road show and the issuer’s publically 

available offering statement).

 Municipalities make use of websites to 

640 See Birmingham Hearing Transcript at 165 (Johnston) (“[Sometimes,] rating agencies are provided with 

information that potential buyers are not. This, in fact, just happened a couple of weeks ago when an issuer 

provided to a rating agency operating results and potential investors were not given this information”). For 

example, market participants have noted that rating agencies may have better access to issuers’ financial 

information and revenue forecasts than other market participants. The Staff has also heard from market 

participants that institutional investors generally have greater access to issuer officials, to request additional 

information that may not be available publicly. 

641 The extent to which government entities use their websites to disclose financial information has been the 

subject of a few recent studies. One study, undertaken in 2004, surveyed the disclosure practices of the 100 

largest U.S. municipalities, and found that 89% provided some form of financial disclosure on their 

website. James E. Groff and Marshall K. Pitman, Municipal Financial Reporting on the World Wide Web: 

A Survey of Financial Data Displayed on the Official Websites of the 100 Largest U.S. Municipalities, 

JOURNAL OF GOVERNMENT FINANCIAL MANAGEMENT 20, at 21 (Summer 2004). That same study also 

found that in terms of the content of disclosure provided, the surveyed municipalities gave more 

prominence to budget data than to CAFR data, as evidenced by the greater number of entities providing 

each type of information (88% gave budget data, while only 54% provided CAFR data) as well as a subject 

determination of the relative accessibility by reference to proximity to the entity’s home page. Id. at 21. 

Within the sampled entities, larger cities were more likely to present CAFRs data on their websites, which 

the authors of the study suggested might be due to the importance that debt financing plays in the 

administration of such entities. Id. at 28. A second study, which surveyed the availability and accessibility 

of local government financial reports on the Internet by sampling 300 municipalities of varying size, found 

that “a significant proportion of U.S. cities are harnessing the communicative powers of the Internet as a 

means to promote financial accountability . . . .” The study also found that overall the provision of 

municipal reports on issuer websites is higher among municipalities that are larger, have higher income per 

capita, have higher levels of debt and maintain a healthier financial position. See also Alan Styles and 

Mack Tennyson, The Accessibility of Financial Reporting of U.S. Municipalities on the Internet, 19 J. OF 

BUDGETING, ACCOUNTING & FIN. MANAGEMENT 1, (April 2007).

642 GFOA, GFOA Best Practice: Using a Web Site for Disclosure (2002 and 2010), available at

http://www.gfoa.org/downloads/debt-using-web.pdf (“The Government Finance Officers Association 

(GFOA) recommends that governments and bond issuers use their websites to disseminate information to 

the municipal securities market regarding their debt, financial condition and other related information. The

Internet, in general, and issuers' websites, in particular, provide a powerful tool for communicating with, 

and disclosing information to, credit analysts, investors, underwriters and other municipal market 

participants”). See also GFOA, “GFOA Best Practice: Using Websites to Improve Access to Budget 

Documents and Financial Reports” (2003), available at http://www.gfoa.org/downloads/caafr-budgets-towebsites.pdf; GFOA, “GFOA Best Practice: Web Site Presentation of Official Financial Documents” 

(2009), available at http://www.gfoa.org/downloads/websitepresentation.pdf (“The GFOA encourages 

every government to use its website as a primary means of communicating financial information to citizens 

and other interested parties”).
107 

communicate large volumes of information to their residents, by for instance posting budget 

information, budget-to-actual comparisons, press releases, and minutes of meetings of governing 

bodies.643 Municipalities that have issued municipal securities also use websites to communicate 

with and disclose information directly to a wide range of market participants, including 

underwriters, investors, and analysts. Disseminated information includes preliminary official 

statements, audited financial statements, CAFRs, press releases concerning important events, and 

notification of events for which disclosure is required to be submitted on EMMA under Rule 

15c2-12.644

Although market participants generally viewed increased website disclosure as favorable, 

some expressed concern that information that is disclosed may not be presented in a manner that 

is useful to investors, may not be carefully prepared,

645 or may even be misleading.646 Another 

market participant noted that website disclosure outside of the CAFR is often provided without 

any context.647

Additionally, the use of hyperlinks and website references in official statements affect 

what information might be considered to be part of the disclosure documents of a municipal 

securities issuer for purposes of compliance with Rule 15c2-12. The Commission has noted that 

“for purposes of satisfying its obligations under Rule 15c2-12, a municipal securities underwriter 

may rely on the municipal securities issuer to identify which of the documents on, or hyperlinked 

from, the issuer’s [website] comprise the preliminary, deemed final and final official 

statements.”648 One market participant believes that this interpretation is too vague due to the 

increasing reference to issuer websites in offering documents649 and suggested that the 

Commission revise its interpretation to state that the preliminary and final official statements are 

limited to the documents prepared for dissemination to investors together with any other 

materials expressly incorporated by reference into such documents.650

 

643 See San Francisco Hearing Transcript at 21 (Lockyer) (indicating that in addition to maintaining an investor 

website, State of California provides monthly financial reports that include cash reports with budget to 

actual comparisons, as well as updated economic and data information), 32 (Mayhew) (indicating that 

monthly budget, treasury report and board minutes are posted on the Bay Area Toll Authority website, even 

though specific investor relations website is not maintained).

644 While posting information on an issuer website may assist an issuer in meeting its antifraud obligations 

under the federal securities laws, it does not satisfy an issuer’s disclosure obligations under Rule 15c2-12. 

645 Birmingham Hearing Transcript at 56 (Presley). 

646 Birmingham Hearing Transcript at 130 (Scott).

647 Birmingham Hearing Transcript at 128-129 (Henderson). See also Birmingham Hearing Transcript at 129-

130 (Presley).

648 See Electronic Media 2000 Release, supra note 610. 

649 See, e.g., NABL Comment Letter, supra note 391. 

650 See id. 
108 

3. Presentation of Information and Comparability 

The diversity and complexity of the municipal securities market appears to provide 

challenges for investors.651 For example, some retail investors may have difficulty 

understanding lengthy disclosure documents652 or the terms of complex municipal securities, and 

finding information about outstanding municipal securities. Many investors may not have a 

sufficient understanding of the terms and risks of municipal securities they own or might 

consider buying or selling. Participants at the field hearings also said that offering statements 

and ongoing disclosure documents often use complex, legalistic language that is opaque to all 

but financial or legal experts.653

Market participants have identified some areas in which they perceived a deficiency in 

the disclosures. According to the MSRB, investors have complained that the lack of 

standardized and detailed disclosure of the use of bond proceeds and other sources of funds is a 

factor that significantly impedes their ability to compare bond issues for possible investment.654

 Some field hearing participants called for the use of a plain English executive summary, or 

“tear sheet,” that describes in one or two pages, and in a clear and understandable format, the 

terms of an offering and the risks of purchasing a security,

 

655 (i.e., the exposure that the issuer 

bears particularly for derivatives and other complex instruments), and one hearing participant

suggested a simple rating scale as a means of providing greater clarity about risks to investors.656

 

651 A number of individual investors speaking at the Commission’s field hearings expressed frustration with 

the complexity of municipal issuer disclosure. See San Francisco Hearing Transcript at 251 (Siminoff), 

245 (Lehman); Washington, DC Hearing Transcript (Morning Session) at 29 (Kirkpatrick), 34 

(Niewiaroski). See also Municipal Market Advisors, “Presentation to House Judiciary Committee, 

Subcommittee on Courts, Commercial, and Administrative Law,” Feb. 14, 2011, available at

 

http://judiciary.house.gov/hearings/pdf/Fabian02142011.pdf.

652 See, e.g., San Francisco Hearing Transcript at 133 (McIntire); Washington, DC Hearing Transcript 

(Morning Session) at 29 (Kirkpatrick). See also San Francisco Hearing Transcript at 245 (Lehman) (noting 

that the lack of municipal bond standardized terms, means that in order to properly differentiate between 

securities, investors must read the entire official statement for each issue).

653 See, e.g., San Francisco Hearing Transcript at 234-35 (Gill), 245 (Lehman) (“I'm an experienced 

professional investor in complex financial areas, such as credit and equity options, yet even I still feel 

challenged by the task of picking apart a municipal prospectus. It is questionable whether the average retail 

investor is equipped to wade through these complex documents”). 

654 See Letter from Michael G. Bartolotta, Chair, MSRB, to Commissioner Elisse B. Walter, Aug. 8, 2011, 

available at http://www.sec.gov/comments/4-610/4610-69.pdf (“They have also expressed the desire for 

standardization of disclosure concerning the name of the issuer, the name of any other obligor, the source 

of payment of debt service, and the sector (e.g., hospital, public power)”).

655 See, e.g., San Francisco Hearing Transcript at 152 (Singer), 239 (Kuhn), 251 (Siminoff). 

656 San Francisco Hearing Transcript at 255 (Siminoff) (suggesting a 100 point scale, with 100 indicating no 

credit (default) risk and the lower numbers reflecting higher credit (default) risk). 
109 

4. Disclosure Controls and Procedures 

As stated above, the issuer has ultimate responsibility for ensuring that its official 

statements meet the disclosure standards of the federal securities laws.657 Additionally, any 

information released to the public by an issuer that is reasonably expected to reach investors and 

the trading markets is subject to the antifraud provisions.658 In preparing their official statements 

and other disclosures, some issuers look to written disclosure controls that they have in place 

while others do not have a formal disclosure control system. Municipal issuers generally base 

their disclosure policies, procedures, and controls on state law requirements, other governmental 

mandates or their own customs and practices. However, issuers may also look to Commission 

enforcement actions or other Commission guidance.659 Organizations of attorneys have 

suggested that basic elements of any such controls and procedures should “include (1) disclosure 

training for officials responsible for producing, reviewing, and approving disclosure, (2) 

establishing a procedure of accountability for review of relevant disclosure, and (3) ensuring that 

any procedures established are in fact followed.”660

a. Enforcement Actions 

In settling a number of enforcement actions, some issuers have agreed to improve their 

internal controls and disclosure policies and procedures in order to remedy disclosure and control 

deficiencies.661 In one such case, the City of San Diego agreed to undertake a fundamental 

reorganization of the municipality’s compliance structure.662

 

657 See supra note 

 The controls put in place as a result 

of the San Diego settlement have been cited by the attorneys in the municipal finance arena as a 

352. 

658 See supra note 164. 

659 See Disclosure Roles of Counsel, supra note 18, at 65 (noting that in the absence of Commission guidance 

on transaction-specific municipal disclosure prior to use, SEC enforcement actions provide the principal 

source of guidance in applying the anti-fraud provisions of the federal securities laws to particular 

circumstances). Commission action or guidance in this area may also be set forth through Commission 

reports. See, e.g., Exchange Act Release No. 36761, “Report of Investigation in the Matter of County of 

Orange, California, as it Relates to the Conduct of the Members of the Board of Supervisors” (Jan. 24, 

1996), available at http://www.sec.gov/info/municipal/mbonds/publicof.htm. See also sources cited infra

note 661. 

660 Id. 

661 See, e.g., In the Matter of State of New Jersey, supra note 359 (with assistance of outside disclosure 

counsel, state instituted formal, written disclosure policies and procedures and implemented a mandatory 

compliance training program for employees); In the Matter of the City of San Diego, supra note 360 (The 

city adopted certain disclosure controls and procedures, including an ordinance incorporating internal 

control procedures based upon requirements of the Sarbanes-Oxley Act); Securities Act Release No. 8601, 

In the Matter of Utah Educational Savings Plan Trust (order) (Aug. 4, 2005), available at

http://sec.gov/litigation/admin/33-8601.pdf (Respondent undertook to retain an independent consultant to 

assist it in establishing internal controls to address noted weaknesses in its disclosure, accounting and other 

procedures).

662 In the Matter of the City of San Diego, supra note 360. 
110 

potential source of options that issuers should consider when determining what controls and 

procedures are appropriate for their circumstances.663

The San Diego restructuring included separating the city’s audit function from financial 

management, and creating new positions, committees, and advisory groups to oversee the city’s 

internal controls and disclosure.

 

664 One of the new advisory groups, the Disclosure Practices 

Working Group, was charged with developing, maintaining, and updating the city’s disclosure 

protocols; the group was designed to be non-political and is tasked solely with ensuring that the 

city’s disclosure is accurate and complete.665

Beyond these structural changes, San Diego hired new compliance staff, including 

employees with greater subject matter expertise,

 

666 and implemented a new computer system, 

with the input of outside consultants, designed to improve internal controls through better 

reporting.667 Additional compliance enhancements included written documentation of processes, 

more robust training of personnel, and routine testing of internal systems.668 The city has also 

implemented an anonymous whistleblower hotline to allow its employees to alert compliance 

personnel to problems.669

b. Market Participant Observations and Other Commentary 

 

Participants at the Commission’s field hearings also described the internal control and 

disclosure policies and procedures issuers have implemented.670

 

663 Disclosure Roles of Counsel, supra note 

 One participant, for example,

noted that a municipal entity has drafted written processes and policies to govern its work, 

18, at 73.

664 Stanley Keller, “Third Annual and Final Report of Independent Consultant of the City of San Diego,” 4-5, 

15-16, Feb. 24, 2010, available at

http://dockets.sandiego.gov/sirepub/pubmtgframe.aspx?meetid=642&doctype=Agenda (“San Diego Final 

Report”) (noting the creation of the Internal Audit Committee and the Disclosure Practices Working 

Group).

665 Id. at 15-16.

666 Id. at 3 (noting the hiring of a Deputy City Attorney for Finance and Disclosure). The Utah Education 

Savings Plan also hired new employees including a new director who brought the Savings Plan into line 

with the College Savings Plan Network’s disclosure principles. See Utah Educational Savings Plan News 

Release, “UESP and SEC Enter into Settlement Agreement,” Aug. 4. 2005, available at 

http://www.uesp.org/pdfs/PressRelease/2005_08-PR-SEC-Settlement.aspx (“UESP News Release”).

667 See San Diego Final Report, supra note 664, at 6-10 (describing the implementation of a resource planning 

system called OneSD designed to improve internal controls). The Utah Education Savings Plan also 

implemented a new computer system designed to improve internal controls with the assistance of outside 

consultants. See UESP News Release, supra note 666. 

668 San Diego Final Report, supra note 664, at 6-10, 20-21.

669 Id. at 5-6.

670 One of these participants was Stanley Keller, the independent consultant for the city of San Diego. His 

comments are reflected above in the discussion of the internal controls implemented in San Diego. See San 

Francisco Hearing Transcript at 195-200 (Keller) for his full remarks on San Diego’s controls at the 

hearing.
111 

including daily review of cash management and weekly or monthly review of debt.671 Of note, 

he also stressed the fundamental utility of a broader governmental organization as a control 

device. For example, the participant indicated that the other boards, commissions, councils, and 

auditors comprising the political structure that includes the municipal entity act as a control on

that entity because of the checks and balances that those other entities provide.672 Similarly, he 

stated that the municipal entity’s annual budget documents functioned as an additional disclosure 

mechanism because that process publicly discloses “legally controlling” information about the 

entity’s financial condition.673

Other field hearing participants also recommended internal controls, specifically internal 

controls over financial reporting, and disclosure policies. These recommendations included the 

creation of an operational committee to help ensure that sound disclosure-related policies are 

observed, implementation of written policies and procedures governing controls, and the 

establishment of an independent internal audit function and employee compliance training 

programs that include internal and external advisors and participants.674 Additionally, 

participants recommended Commission actions that would not involve additional rules or 

requirements for issuers:675 specifically, one panelist recommended that the Commissioners or 

Staff use their “bully pulpit” in the form of speeches and roundtables to disseminate their views 

in this area. 676 The panelist also suggested that Commission enforcement actions provide 

meaningful, detailed descriptions of the deficiencies of issuer conduct.677 These more detailed 

descriptions, it was suggested, would allow other municipalities to more clearly, determine 

which activities were deemed objectionable and which are being encouraged.

 

671 See San Francisco Hearing Transcript at 190 (Harrington).

672 San Francisco Hearing Transcript at 188-190 (Harrington). Mr. Harrington also pointed out that the 

SFPUC reports to several public oversight boards and committees under its voter approved charter. Id. at 

190.

673 Id. at 192.

674 San Francisco Hearing Transcript at 198-99 (Keller).

675 Some commenters have expressed concern that Commission rulemaking in this area could be overly 

burdensome.

676 San Francisco Hearing Transcript at 201 (Keller).

677 Id. 
112 

IV.MARKET STRUCTURE

A. OVERVIEW OF SECONDARY MARKET FOR MUNICIPAL SECURITIES

1. Municipal Securities 

a. Overview

As discussed in Section I, the size of the municipal securities market is substantial and 

there is significant secondary market activity.678 The municipal securities market also consists of 

many different types of securities, including general obligation bonds and various types of 

revenue bonds including conduit revenue bonds.679 In addition, there is considerable variation in 

the specific terms of municipal securities due to, for example, the nature of the repayment 

source, credit enhancements, redemption features, and interest rate structure. Municipal 

securities are further differentiated by their tax implications, whether because of their state of 

issuance680 or otherwise.681

b. Investors 

Municipal securities, particularly tax-exempt municipal securities, are largely held by an 

individual or “retail” investor base.682 Households as a group have represented the largest single 

category of owner of municipal debt outstanding for the past six consecutive years.683

 

678 See supra § 

 Individual 

II.A.1(Municipal Securities Issuers) and II.A.5 (The Secondary Market for Municipal 

Securities).

679 See supra § II.A.2 (Description of Municipal Securities). See also Birmingham Hearing Transcript at 270-

71 (Lanza) (noting the large and extremely diverse nature of the municipal securities market, the 

infrequency of trading in most issues, and the impact of these characteristics on price transparency)

680 The state and local tax treatment of municipal bonds often is more advantageous for in-state investors. In 

fact, there are tax-exempt mutual funds that specialize in the bonds issued by a single, generally high-tax, 

state. See, e.g., Summary prospectus for “Fidelity New York Municipal Income Fund,” available at 

http://www.sec.gov/Archives/edgar/data/718581/000088019512000181/main.htm. 

681 Some municipal securities are taxable. Some municipal securities are issued as private activity bonds 

under the Internal Revenue Code and are subject to the alternative minimum tax. Some municipal 

securities are “bank qualified bonds” and are qualified for the special tax treatment afforded to banks under 

Section 265(b) of the Internal Revenue Code; generally, a bond is bank qualified if the issuer does not 

intend to issue more than $10 million in bonds in a calendar year. See I.R.C. § 265(b)(3). See also, 

Feldstein and Fabozzi, supra note 72. In addition, the ARRA for a limited time period authorized taxable 

BABs and other new types of municipal securities to be issued. See supra notes 58 – 59 and accompanying 

text. Those BABs and other municipal securities continue to trade in the secondary market.

682 It is important to note, however, that there was increased institutional investor interest in BABs financings. 

See, e.g., Helen Avery, “Municipal Bonds: Build America Bonds Are Here to Stay,” Euromoney, Sept. 

2009, available at http://www.euromoney.com/Article/2296313/Municipal-bonds-Build-America-Bondsare-here-to-stay.html. Market participants credit the short-lived BABs program with expanding the 

investor base for municipal bonds (for example, they could be sold overseas) and support efforts to expand 

the investor base for municipal bonds. 

683 See supra § II.A.3 (Investors in Municipal Securities) (providing statistics describing the investor base of 

the municipal securities market). 
113 

investors today hold over 75% of the outstanding principal amount of municipal securities 

directly or indirectly (through mutual, money market, closed-end, and exchange-traded funds).684

c. Trading 

 

Municipal securities trade in a decentralized over-the-counter dealer market.685 

Municipal bond dealers execute virtually all customer transactions in a principal capacity,686

with a portion of these principal trades effected on a “riskless principal” basis.687 Municipal 

bond trading is heavily concentrated, with the top ten municipal bond dealers accounting for 

approximately 75% of customer trades by par amount in 2011.688

The municipal securities market is characterized by relatively low liquidity and, 

following the initial distribution period, municipal securities trade only infrequently. For 

example, in 2011, about 99% of outstanding municipal securities did not trade on any given 

day.

 

689 For those bonds that do trade, the number of trades is very low, averaging only 14 

customer trades during the first sixty days after issuance.690

 

684 See id. (also noting that individuals directly hold approximately 50% of the outstanding principal amount of 

municipal securities). One study has concluded that, while the par value of sales to and purchases from 

customers is roughly equal, the number of transactions that are sales to customers is almost twice the 

number of transactions that are purchases from customers. The authors suggest that this is typical of a 

“retail market” where the intermediaries buy larger quantities at wholesale prices and sell in smaller 

quantities to retail customers. See generally Richard C. Green, Dan Li and Norman Schürhoff, Price 

Discovery in Illiquid Markets: Do Financial Asset Prices Rise Faster Than They Fall?, 65 J. FIN. 1669, 

1676 (2010) (“Green, Li and Schürhoff 2010”). 

 Newly issued municipal bonds are 

the most actively traded. While almost all municipal bonds trade in the first month after 

issuance, that figure drops to roughly 15% in the second month and declines substantially 

685 See supra note 103. In centralized markets, each investor can trade with everyone else. In decentralized 

markets, investors have preferred dealers and dealers trade preferably with counterparties. See, e.g., Dan Li 

and Norman Schürhoff, Dealer Networks (Working Paper Nov. 2011) (“Li and Schürhoff, Dealer 

Networks”), available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2023201 (estimating average 

dealer markups for municipal securities to be 1.77%-2.0%). 

686 One study of municipal bond transactions executed between 1998 and 2011 concludes that agency trading 

accounted for 6% of the trades in the sample. See Li and Schürhoff, Dealer Networks, supra note 685. 

687 See supra note 105. 

688 See supra § II.A.5 (The Secondary Market for Municipal Securities) (with graph illustrating Distribution of 

Customer Trades Traded (based on par amount traded)).

689 We derived this statistic by dividing 15,213 (the average daily number of unique municipal securities 

traded in 2011, according to MSRB) by 1,048,146 (the number of outstanding municipal securities as of 

December 31, 2011). Staff generated statistic. Data source: Mergent’s MBSD. See also GAO Market 

Structure Report, supra note 61 (concluding the same percentage in this manner for 2010).

690 Richard C. Green, Burton Hollifield and Norman Schürhoff, Dealer Intermediation and Price Behavior in 

the Aftermarket for New Bond Issues, 86 J. FIN. ECON. 643, 652 (2007) (“Green, Hollifield and Schürhoff, 

Dealer Intermediation”).
114 

thereafter.691 Once the bond finds its way into retail and institutional portfolios, the volume of 

trading tends to drop off dramatically.692

An investor who wishes to buy municipal securities typically would request that its 

municipal bond dealer identify bonds with credit, payment, tax, maturity, and/or other 

characteristics that meet the customer’s investment needs. The municipal bond dealer may 

recommend municipal securities that it holds in its own inventory or seek to obtain municipal 

securities from other municipal bond dealers in the over-the-counter market. If the municipal 

bond dealer wishes to contact another dealer, it may do so directly or use a “broker’s broker”: a 

municipal bond dealer that brokers transactions for other municipal bond dealers, typically 

through a combination of voice and electronic brokerage services.693 The municipal bond dealer 

also may choose to access electronic platforms, including ATSs.694

While the municipal securities market is often described as a “buy-and-hold” market,

 ATSs are designed to 

facilitate trading among municipal bond dealers by helping them locate other municipal bond 

dealers with municipal securities appropriate for their customers. 

695

investors from time to time sell their bonds for a variety of reasons. An investor who wishes to 

sell municipal securities would typically contact a municipal bond dealer, who may offer to 

purchase the securities directly from the customer and take them into inventory.696

 

691 Richard C. Green, Burton Hollifield and Norman Schürhoff, Financial Intermediation and the Costs of 

Trading in an Opaque Market, 20 REV. FIN. STUD. 275, 282 (2007) (“Green, Hollifield and Schürhoff, 

Financial Intermediation”).

 If the 

692 While first-day sales account for 73% of the par value of an issue, second-day sales account for 30%; after 

five days, that figure drops to 12%. See Green, Hollifield and Schürhoff, Dealer Intermediation, supra

note 690, at 652.

693 Broker’s brokers act as agents for municipal bond dealers. See Harris and Piwowar, supra note 103, at 

1363. They facilitate information flow in the municipal securities markets by conducting bid-wanted 

auctions (“bid-wanted”) for dealers selling municipal securities. Following a bid-wanted, broker’s brokers 

execute transactions for a fee. They do not typically take securities into inventory. See GAO Market 

Structure Report, supra note 61, at 8. 

694 See supra § II.C.2 (Alternative Trading Systems ). 

695 See supra note 61. An analysis of municipal-market data since 1996, however, suggests a relative increase 

in the trading of municipal bonds. SEC-Generated Statistic. Data Source: SIFMA (calculating at an annual 

frequency the ratio of average daily trading volume to either the amount of municipal securities outstanding 

or amount of municipal securities issued). 

696 If a customer – particularly an institutional investor – has relationships with multiple municipal bond 

dealers, it may request bids directly from all of them. Municipal bond dealers that take municipal bonds 

into inventory may hold them for varying periods of time, depending on their business model and risk 

tolerance. Bonds held in inventory may be sold to meet customer or other municipal bond dealer demand. 

For example, municipal bond dealers may provide liquidity to institutions, such as hedge funds and mutual 

funds, by purchasing large blocks of bonds from these institutions and selling those bonds in one or more 

large blocks to other institutions, or in smaller sizes to retail investors or regional municipal bond dealers 

that have the ability to distribute to retail customers. See, e.g. Green, Li and Schürhoff 2010, supra note 

684, at 1675-76 (noting that municipal bond dealers often provide liquidity to institutions by buying large 

blocks and selling off in many smaller amounts to retail investors or regional municipal bond dealers and 

noting that the municipal securities market “has many attributes of a retail market, such as the gasoline 

market, where the intermediaries buy at wholesale prices and sell in smaller quantities to less sophisticated, 

retail investors”).
115 

municipal bond dealer does not wish to hold the customer’s bond in inventory, it will assist its 

customer in finding a buyer, either by contacting other municipal bond dealers directly or by 

using a broker’s broker or an ATS.697 Once the customer’s municipal bond dealer finds another 

municipal bond dealer willing to purchase the bonds, it typically will effect the transaction on a 

“riskless principal” basis by purchasing the securities from the customer and contemporaneously 

reselling them to the interested municipal bond dealer.698

The secondary market for municipal securities is relatively opaque.

 

699 As discussed 

below, while pricing information about completed trades (i.e., post-trade information) has been 

available from the MSRB since 1995, information about the prices at which market participants 

may be willing to buy or sell a municipal security, and who might be interested, is not broadly 

available (i.e., pre-trade information). In recent years, the necessity for market participants to 

undertake a more exacting analysis to value municipal securities has been made more apparent 

due to the declining use of bond insurance and other types of credit enhancement, as well as 

concerns about the reliability of credit ratings, both of which previously had been viewed as 

serving to “commoditize” assessments of the credit quality of disparate municipal securities and 

thereby often led market participants to make more simplified pricing judgments.700

The relatively high overall levels of markups and other transaction costs in the municipal 

securities market generally are attributable to the illiquidity and opacity of the municipal 

securities market.

 

701

 

697 For example, a municipal bond dealer could request bids on behalf of its customer by placing the customer 

order on the “brokers’ wire” used by broker’s brokers conducting bid-wanteds, or by using ATSs that 

provide “request for quote,” or “RFQ,” mechanisms.

 In addition, some studies have found that markups and transaction costs 

698 See Green, Li and Schürhoff 2010, supra note 684, at 1676 (noting that such purchases and sales in the 

municipal securities market occur within minutes of each other). 

699 See, e.g., Li and Schürhoff, Dealer Networks, supra note 685 (noting that municipal securities are traded 

through an “opaque network of financial intermediaries”). See also infra § IV.B.1.b (Pre-Trade Price 

Transparency) (discussing the lack of transparency in quotations for municipal securities). 

700 See Washington, DC Hearing Transcript (Morning Session) at 15-16 (Collins) (noting that the financial 

difficulties faced by banks in recent years impaired their ability to provide secondary credit and liquidity 

facilities to municipal issuers so that, by late 2010, only 15-17 institutions were actively providing these 

facilities). See also Birmingham Hearing Transcript at 297 (Lessley) (noting how bond insurance 

simplified the pricing of municipal bonds); Washington Hearing Transcript (Morning Session) at 11 

(McCarthy) (expressing the view that bond insurance and credit ratings, by homogenizing the underlying 

credits, enhanced market liquidity to the benefit of retail investors). But see Washington Hearing 

Transcript (Morning Session) at 7-8 (Doe) (expressing the opinion that the commoditization of the 

municipal securities market prior to 2008 created hidden risk as higher-quality credits were used to inform 

valuations of lower credits). In addition, the reliability of credit ratings has been questioned, regulators 

have been removing references to credit ratings from regulation, and a change in the rating scales has led 

some to complain that it is now more difficult to differentiate among ratings for municipal securities. See 

supra § I(C)(7) at Nationally Recognized Statistical Rating Organizations (“NRSROs”). 

701 See generally infra § IV.B.2 (Transaction Costs) (summarizing relevant studies concerning transaction 

costs in the municipal securities market). Retail municipal securities investors often incur roundtrip 

transaction costs of 2–3%, and as high as 5%, compared to less than 1% for corporate bonds and 

significantly below 1% for equities. See Andrew Ang and Richard C. Green, Lowering Borrowing Costs 

for States and Municipalities Through CommonMuni, The Hamilton Project at 6, available at

http://www.hamiltonproject.org/files/downloads_and_links/THP_ANG-GREEN_DiscusPape_Feb2011.pdf

(“CommonMuni”). See also Green, Hollifield and Schürhoff, Dealer Intermediation, supra note 690, at 
116 

tend to be higher for smaller-sized “retail” trades than for larger institutional trades.702 The lack 

of price transparency, as described below, also can make it difficult for customers – particularly 

retail customers – to assess the value of particular municipal securities, and the fairness of the 

prices that may be offered by municipal bond dealers.703 Finally, the lack of price transparency 

undermines municipal bond dealers’ ability to fulfill their fair pricing and best execution 

obligations, as well as regulators’ ability to assess municipal bond dealers’ compliance with 

those obligations.704

 291–93 (finding customers simultaneously buying bonds at prices up to 5% over the reoffering price, with 

most from 2–3%); Harris and Piwowar, supra note 

 

103, at 1379, 1382 (evaluating municipal securities 

transactions through October 2000 and estimating that effective spreads on retail trades of $20,000 are 

1.98% for municipal bonds compared to either 1.24% for corporate bonds or 0.4% for equities). Another 

study found that it is twice as expensive to trade New York municipal bonds as it was when they were 

actively traded on an exchange in the 1920s. Bruno Biais and Richard C. Green, The Microstructure of the 

Bond Market in the 20th Century at 23-25 (Carnegie Mellon University Working Paper, Aug. 29, 2007), 

available at http://wpweb2.tepper.cmu.edu/facultyadmin/upload/wpaper_39493927532128_biasgreen8-

29.pdf (“Biais and Green 2007”). 

702 See generally infra § IV.B.2 (Transaction Costs) (discussing the differences in transaction costs for retail 

and institutional investors). For example, one study concludes that unlike in the equity markets where 

trading costs increase with trade size, in the municipal securities market, small trades are substantially more 

expensive than large trades. See Harris and Piwowar, supra note 103, at 1393. Specifically, the authors 

find that effective spreads in municipal bonds average about 2% of the price for retail-size trades of 

$20,000 and about 1% for institutional-size trades of $200,000. The authors conclude that the difference in 

cost between small and large trades is attributable primarily to the lack of price transparency, where large 

institutional traders generally have a better sense of the value of securities than smaller traders. In making 

this conclusion, the study considered specifically the impact of fixed costs in the municipal securities 

market. Id. at 1362. 

703 As noted by some, a number of factors affect the price provided to an investor for a particular bond. For 

example, if a municipal security is rated and its financial information is current based upon filings with 

EMMA and information obtained by research analysts, the municipal security will generally price more 

competitively than an unrated security or a security for which little or no current credit information is 

available. See, e.g., Washington, DC Hearing Transcript (Morning Session) at 8, 18-19 (Doe) (discussing 

the impact correctness and timeliness of issuer information have on valuation). Prices that investors 

receive can also vary depending on the market conditions. In a calm market, the difference between the 

evaluation stated on an investor’s monthly statement and the price the investor can obtain in the market 

may not be markedly different. In a rapidly changing market there can be a large discrepancy between the 

evaluation of the bonds on the customer’s monthly statement and actual market conditions on any given 

day. See e.g., id. at 12-13 (Deane), 19 (Greco). In addition, the MSRB recognized in guidance recently 

approved by the Commission that customers may receive better prices when liquidating their securities if 

they can take additional time to do so. This notice urges selling dealers “not to assume that their customers 

need to liquidate their securities immediately without inquiring as to their customers’ particular 

circumstances and discussing with their customers the possible improved pricing benefit associated with 

taking additional time to liquidate their securities.” See MSRB Broker’s Broker Approval Order, supra

note 217. 

704 See generally infra § IV.B.3 (Dealer Pricing Obligations to Customers) (discussing legal obligations of 

municipal bond dealers regarding the pricing and execution of customer orders for municipal securities, 

including common law best execution obligations). See, e.g., Letter from Michael M. Becker (Nov. 22, 

2011), available at http://www.sec.gov/comments/4-610/4-610.shtml (“Michael M. Becker Comment 

Letter”) (complaining that he is never shown by his municipal bond dealer the best bids or offers on the 

other side of the market and that his municipal bond dealer will not display his bid or offer to a broad group 

of municipal bond investors). 
117 

B. SPECIFIC MARKET STRUCTURE TOPICS

1. Price Transparency 

a. Post-Trade Price Transparency 

While the municipal securities market is relatively opaque, there have been significant 

improvements in recent years in the area of post-trade price transparency. The MSRB’s RealTime Transaction Reporting System (“RTRS”), which, with limited exceptions, requires 

municipal bond dealers to submit transaction data to the MSRB within 15 minutes of trade 

execution, has been operational since 2005.705 In addition, in early 2009, the MSRB 

implemented the Short-Term Obligation Rate Transparency (“SHORT”) system to collect and 

disseminate current interest rates and related information for municipal auction rate securities 

and municipal variable rate demand obligations.706 Transaction data can be accessed by the 

public free-of-charge through the MSRB’s EMMA website.707 Data is searchable on EMMA 

and includes: trade date and time; security description and CUSIP number; maturity date; interest 

rate; price; yield;708 trade amount;709 trade type (i.e., customer bought, customer sold, or 

interdealer); and credit rating by S&P and Fitch, if available.710 Accordingly, current 

information about trades that have occurred in individual municipal securities is available today 

to those investors who seek it out,711

 

705 See MSRB Rule G-14 Reports of Sales or Purchases, available at

 as well as to data vendors who wish to incorporate it into 

http://www.msrb.org/Rules-andInterpretations/MSRB-Rules/General/Rule-G-14.aspx. The municipal bond dealer may employ an agent 

for the purpose of submitting transaction information; however, the primary responsibility for the timely 

and accurate submission remains with the municipal bond dealer that effected the transaction. The 

municipal bond dealer or its agent can modify and cancel previously submitted trade reports and can access 

reports about the quality of their submissions. See MSRB Rule G-14(b). 

706 See Exchange Act Release No. 59212 (Jan. 7, 2009), 74 FR 1741 (Jan. 13, 2009) (SR-MSRB-2008-07).

707 Municipal securities trade data is available at http://emma.msrb.org. See generally supra § II.B.3.a

(Municipal Securities Rulemaking Board) for a discussion of EMMA. 

708 On March 20, 2012, the Commission approved a proposed rule change by the MSRB that would, in part, 

reprogram RTRS to calculate a corresponding yield for inter-dealer transactions, thereby eliminating a 

disparity between information disseminated for inter-dealer and customer transactions. See Exchange Act 

Release No. 66622 (Mar. 20, 2012), 77 FR 17557 (Mar. 26, 2012) (SR-MSRB-2012-01).

709 Although municipal bond dealers report to the MSRB the exact size of executed trades, the exact dollar 

amount of a trade is publicly disclosed only if the principal amount is under $1 million. All other trades 

(i.e., those over $1 million in principal amount) are identified using the indicator 1MM+ for one week after 

the trade date. That indicator is replaced by the exact trade size after one week. See MSRB’s EMMA 

Education Center, Understanding Trade Prices, available at

http://emma.msrb.org/EducationCenter/UnderstandingTradePrices.aspx. The MSRB recently requested 

comment on the proposal to discontinue the practice of masking the exact par value on transactions where 

the par value is greater than $1 million and including the exact par value on all transactions disseminated in 

real-time from RTRS. MSRB Notice 2012-29, “Request for Comment on Elimination of Large Trade Size 

Masking on Price Transparency Reports,” June 1, 2012.

710 MSRB, EMMA, Market Activity, http://emma.msrb.org/marketactivity/recenttrades.aspx. See also supra

note 196. 

711 MSRB, Specifications for Real-Time Reporting of Municipal Securities Transactions, Nov. 2009, available 

at http://www.msrb.org/Market-Disclosures-and-Data/Submit-Data/~/media/Files/SystemSpecifications/RTRS/RTRSSpecificationsV221.ashx.
118 

their “value-added” products. This data also is available to regulators for surveillance and 

enforcement purposes.712

b. Pre-Trade Price Transparency 

While the availability of post-trade transaction information has improved substantially in 

recent years, municipal securities investors have very limited access to pre-trade price 

information. Firm bid and ask quotations are generally not available for all municipal securities. 

Pre-trade price information is generally limited, as discussed below, to dealers providing 

indicative prices or submitting an RFQ through an electronic network operated by a broker’s 

broker, an ATS, or otherwise.713

To the extent there is pre-trade price transparency in the municipal securities market, the 

Staff understands that it tends to be provided through electronic networks operated by broker’s 

brokers, ATSs, or similar trading systems. Today, there are a number of ATSs and broker’s 

brokers that provide municipal bond dealers with electronic access to other dealers who may be 

interested in trading municipal bonds.

 This pre-trade price information, however, is not widely 

available to the public. 

714 While these trading platforms account for a substantial

portion of municipal securities transactions, they represent only a small percentage of the dollar 

volume, which supports the premise that they are used primarily for smaller, retail-size orders.715

 

712 MRSB, Real-Time Transaction Reporting System Web Users Manual (June 2010), available at

 

http://www.msrb.org/Market-Disclosures-and-Data/Submit-Data/~/media/Files/UserManuals/RTRSWebUsersManualv27.ashx. 

713 See MSRB Rule G-13 Quotations Relating to Municipal Securities, available at

http://www.msrb.org/Rules-and-Interpretations/MSRB-Rules/General/Rule-G-13.aspx (prohibiting a 

municipal securities dealer from distributing or publishing a quotation unless it represents a bona fide bid 

or offer and is based on the municipal securities dealer’s best judgment of the security’s fair market value 

at the time the quotation is made). The Staff understands, however, that market participants display 

indicative quotes on some ATSs and in practice, executions occur at these indicative prices nearly always. 

The Staff also understands that dealers may place indications of interest representing the same trading 

interest in multiple ATSs or other electronic systems. See also Letter from Joseph S. Fichera, Senior 

Managing Director & CEO, Saber Partners, LLC, to Commissioner Elisse B. Walter, Nov. 2, 2011, 

attached to Memorandum from the Office of Commissioner Walter, Nov. 21, 2011, regarding an October 

24, 2011 meeting with representatives of Saber Partners, LLC, available at

http://www.sec.gov/comments/4-610/4610-78.pdf (“Fichera Letter”) (noting that secondary market 

liquidity for municipal securities is inhibited by the absence of market makers).

714 ATSs include TMC LLC (f/k/a TheMuniCenter.com), BondDesk Trading LLC, TradeWeb LLC, Knight 

BondPoint, Schwab Bond Source, Bonds.Com, Inc., and HTDonline. Broker’s brokers that provide such 

electronic access to other municipal bond dealers include Wolfe & Hurst Bond Brokers, Inc. and Regional 

Brokers, Inc.

715 The Staff understands that registered ATSs account for approximately 30-50% of all trades reported to the 

MSRB. Two ATSs informed the Staff that they accounted for 18.5% and 23% of trades in the municipal 

securities market in a given month in 2010. See, e.g., Memorandum from the SEC Division of Trading and 

Markets (Sept. 14, 2011), regarding a December 15, 2010 meeting with representatives of 

TheMuniCenter.com, available at http://www.sec.gov/comments/4-610/4610-67.pdf; Memorandum from 

the SEC Division of Trading and Markets (Aug. 4, 2011), regarding a July 18, 2011 meeting with 

representatives of BondDesk Trading LLC, available at http://www.sec.gov/comments/4-610/4610-63.pdf. 

However, based on aggregate data available to the Staff, the Staff estimates that in 2011, ATSs accounted 

for a much smaller percentage of the dollar value of municipal securities transactions (roughly 5%).
119 

Larger institutional trades tend to be effected through more traditional means, such as direct 

voice negotiations with a municipal bond dealer or voice brokerage, and thus do not generate any 

pre-trade price transparency outside of the bilateral negotiation process. 

ATSs and broker’s brokers’ systems tend to be “inventory-based,” providing information 

only on the municipal securities their participating dealers would like to sell, and perhaps the 

prices sought (i.e., offers).716 Unlike a limit order book on an equities exchange or equity ATS, 

municipal securities ATSs typically provide no information on the participants who would like to 

buy or the prices at which they would be willing to do so (i.e., bids). As an alternative to 

specifying a desired selling price, ATSs and broker’s brokers may allow participants to 

disseminate an RFQ or bid-wanted message to initiate an ad hoc auction for the municipal 

securities they would like to sell.717 While the RFQ alternative may be beneficial to selling 

municipal bond dealers in a variety of circumstances, it necessarily produces less in the way of 

publicly available pre-trade price transparency than an indicative quote, as responses to the RFQ 

generally are provided only to the selling municipal bond dealer.718

Although limited pre-trade price transparency for municipal securities is available 

through ATSs and broker’s brokers, this information is not broadly accessible by the public for a 

number of reasons. First, the trading interest reflected on these systems is generally available 

only to their participating municipal bond dealers,

 

719 and is not directly accessible by or 

transparent to non-participants, such as retail investors.720

 

716 See, e.g., Fichera Letter, supra note 

 While participating municipal bond 

713, at 8 (stating that the principal ATSs in today’s bond market offer 

only the bonds in the inventory of the dealers that own the platform). 

717 These mechanisms can provide requesting municipal bond dealers with the ability to identify the specific 

bond and amount to be sold; the time by which any bids should be submitted; and a request that the bids be 

good for at least a certain amount of time. The system then sends the RFQ or bid-wanted request to 

participating municipal bond dealers that the selling dealer has approved and is willing to trade with for 

potential responses; the Staff is aware that at least one system provides all participants with the ability to 

interact with all other participants. Municipal bond dealers responding to the RFQ or bid-wanted request 

often send bids that are firm for the requesting municipal bond dealer for some limited period of time. See 

e.g., MSRB Notice 2010-35 (Sept. 9, 2010) (describing two types of broker’s broker activities: “bid-wanted 

auctions,” where a selling dealer wants to obtain the best bid it can without specifying a price at which it is 

willing to sell; and “offerings,” where a selling dealer uses the broker’s broker’s facilities to specify a 

desired price or yield for a particular security it would like to sell). 

718 The Staff understands that due to a general difficulty in obtaining current and accurate valuations, those 

with access to these ATSs and broker’s brokers may occasionally resort to submitting an RFQ and using 

the responses as the basis for a valuation. Concerns have been raised that if liquidity providers suspect that

the submitter of the RFQ is not serious about trading, the liquidity providers may not respond at all or 

respond only with wide, imprecise quotes, which could result in an inaccurate valuation (if the requester 

indeed intended to use the responses solely for that purpose). The practice may also reduce the usefulness 

of RFQs for market participants that truly wish to trade. The Commission recently approved MSRB 

interpretive guidance regarding duties of sellers that addresses this practice. The guidance states that the 

use of bid-wanteds solely for price discovery purposes without any intention of selling the securities may 

be an unfair practice within the meaning of Rule G-17 (Conduct of Municipal Securities and Municipal 

Advisory Activities). See MSRB Broker’s Broker Approval Order, supra note 217. 

719 The Staff understands that some ATSs also allow direct access by institutional investors. 

720 The Staff understands that ATSs also may provide participating dealers with certain trading and 

informational features. These features include the ability to do enhanced searches of transaction reports 

(e.g., searches by CUSIP, maturity, type of bond) and to link efficiently to publicly available information 
120 

dealers may at times share some of this information (e.g., bonds offered from certain municipal 

bond dealer inventories) with particular customers (including retail investors) at their request or 

otherwise, this is done solely at the discretion of the municipal bond dealer. Second, the ATSs or 

broker’s brokers may allow participants in their systems to limit the dissemination of their 

trading interest only to a subset of other municipal bond dealer participants in the system. For 

example, some ATSs permit a participant to apply filters so that their interest in a particular 

municipal security is conveyed only to its preferred trading partners. Thus, even the participants 

in an ATS or broker’s broker’s system may not have access to information about the trading 

interest of all other participants in that system. 

c. Other Sources of Pricing Information

Because of the relative illiquidity and lack of transparency in the municipal securities 

market, market participants have developed alternative means to value municipal bonds.721

 In addition, market participants often rely on benchmark yield curves to assist in valuing 

a bond. A benchmark yield curve is a graph of the estimated current yield of bonds of similar 

credit quality across the range of possible maturities. Municipal Market Advisors (“MMA”), for 

example, publishes the “MMA AAA Median Municipal Benchmark,” which represents an 

estimate of the mid-market price for a “natural” AAA-rated general obligation municipal bond 

(i.e., has not been pre-refunded or insured) based on input MMA receives from a variety of 

municipal bond dealers and other institutions.

 For 

example, if there have been no recent trades reported to the MSRB, municipal bond dealers may 

look to see if recent trades have been reported in “comparable” bonds (i.e., those with similar 

credit quality, maturity, and other key structural characteristics). Recent transactions in 

comparable securities provide insight into the price at which market participants may be willing 

to transact in a bond for which no recent trades have occurred. 

722 Similarly, Thomson Reuters’ Municipal Market 

Data Group (“MMD”) publishes the “MMD AAA-rated General Obligation Municipal Yield 

Curve.”723

 

concerning a particular issue (e.g., event notices). Some ATSs also provide transaction prices of 

comparable municipal securities.

 The Staff understands that proprietary yield curves such as these are based both on 

objective facts – such as recent MSRB transaction reports – and subjective assessments of the 

opinions of market participants, news, economic conditions, and other factors. Market 

participants can use benchmark yield curves such as these to form judgments as to the value of a 

particular municipal bond by looking at the estimated yield for the comparable maturity and then 

making appropriate adjustments for differences in credit quality and other key characteristics. 

721 In spite of technology’s transformational effect on the municipal securities market and all of the resources 

offered by the financial industry to invest in municipal bonds, understanding the underlying value of bonds 

has become even more complex. See Birmingham Hearing Transcript at 297 (Lessley).

722 See MMA AAA Median Municipal Benchmark, http://www.mmaresearch.com/mma/nonmembers/Consensus/consensus.asp. 

723 See Thomson Municipal Market Monitor (TM3), https://www.tm3.com. 
121 

Furthermore, because of the complexity of valuing illiquid municipal securities, market 

participants may rely on an independent professional pricing service to value their bonds.724 

These pricing services use available pre- and post-trade information to estimate the current 

market price of a particular municipal security, including the benchmark yield curves described 

above; relevant public information about the issuer, economic conditions, and other matters; and 

the pricing service evaluator’s professional judgment.725 Pricing services may be used, for 

example, by institutions to value their holdings, and by mutual funds to calculate daily net asset 

values.726

d. Access to Pricing Information

 

Municipal bond dealers generally have access to most or all of the sources of municipal 

securities pricing information described above, including transaction data reported to the MSRB; 

indicative quotes or RFQs disseminated by broker’s brokers or ATSs; benchmark yield curves; 

and independent pricing services. Municipal bond dealers also may have access to other 

professional tools, such as Bloomberg terminals, that efficiently convey available pricing and 

other information (such as continuing disclosure filings) about a municipal issuer. Municipal 

bond dealers also may have the ability to do enhanced searches of transaction reports, enabling 

them to find efficiently last sale information of specific or comparable municipal securities.727

Although institutional investors vary widely in size and sophistication, the larger ones 

tend to have access to a variety of sources of municipal securities pricing information.

 

Finally, municipal bond dealers maintain a variety of business relationships with competing 

dealers, customers, and other market participants that can informally provide them with insights 

into the supply and demand, valuation, market sentiment, and other key pricing determinants 

with respect to individual municipal securities. 

728

 

724 Examples include Standard & Poor’s Securities Evaluations, Inc. (providing opinions on the valuation of 

fixed income securities using a market approach methodology); Interactive Data’s Evaluation Services 

(below); Bloomberg’s Valuation Service (providing, along with a price, a score that is an index number that 

describes the relative strength of the quantity and quality of market inputs used in calculating the price); 

and Markit’s Evaluated Pricing Service (providing an independent price by aggregating market data from 

multiple sources). See Birmingham Hearing Transcript at 277 (Barasch) (noting that his firm (Interactive 

Data) provides an independent source of evaluated prices that represents the firm’s good-faith opinion as to 

what a buyer in the marketplace would pay for a security, typically in an institutional round lot position).

 This 

725 An evaluator for a municipal bond pricing service generally will seek to value a bond by comparing it to 

bonds with similar characteristics for which recent prices are known. Municipal bond valuation has been 

described as more art than science, and the evaluator must sort through many variables in forming an 

opinion, including the type of bond (e.g., general obligation, revenue, conduit), type of issuer, credit 

quality, coupon, tax treatment, credit enhancement, call features, and other specific characteristics of the 

security. See Feldstein and Fabozzi, supra note 72, at 504-506. See also Birmingham Hearing Transcript 

at 279 (Barasch) (noting three main data points go into an evaluation: transaction activity, such as primary 

market new issues and secondary market MSRB trade data; bids, offers, and two-sided markets; and credit 

information, such as audited financials, default and material event notices, and rating actions).

726 See Feldstein and Fabozzi, supra note 72, at 504. 

727 The Staff understands that these capabilities are available through market data vendors and some ATSs.

728 See, e.g., GAO Market Structure Report, supra note 61, at 20-27 (discussing institutional investors’ greater 

access to information and greater ability to make use of that information).
122 

pricing information can include indicative quotes provided by their municipal bond dealer 

networks and post-trade transaction information provided by vendors and others.729 Institutional 

investors also may directly employ analysts, traders, and other professionals who are experienced 

in using the available informational tools and making independent pricing judgments.730

Retail investors, on the other hand, have access to relatively little pricing information 

about municipal securities.731 If they own municipal bonds, their monthly account statements 

typically include a valuation of the bonds, generally based on information from an independent 

pricing service.732 Retail investors also can access the post-trade transaction information made 

available by the MSRB on EMMA for free. As noted above, however, most individual 

municipal securities trade only occasionally, so current prices may not be available. And 

because EMMA provides users with limited search capabilities, it can be difficult for a retail 

investor to look for recent prices of comparable securities.733 While additional municipal 

securities pricing information, such as benchmark yield curves734 and estimated prices,735

 

729 See id. 

is 

730 See id. at 25.

731 Commenters at the Commission’s Field Hearings expressed the view that the general public should be on a 

more equal informational footing with municipal bond dealers. See, e.g., Birmingham Hearing Transcript 

at 290 (Roberts).

732 See Birmingham Hearing Transcript at 318 (Lynch) (noting the need to use a pricing matrix for valuing 

individual municipal securities);. Washington, DC Hearing Transcript (Morning Session) at 23 (Doe) 

(noting that retail investors are dependent on prices generated by the two primary evaluation services). 

Some have expressed concerns that the valuations customers receive on their monthly statements do not 

reflect what a customer may receive when the customer decides to sell. See, e.g., Washington, DC Hearing 

Transcript (Morning Session) at 12 (Deane) (describing situations where investors may see discrepancies 

between monthly statement bond values and prices they are receiving when attempting to sell their bonds). 

The Staff understands from market participants that evaluation services typically provide municipal bond 

valuations based on institutional, round lot positions, rather than retail-size positions. See, e.g.,

Birmingham Hearing Transcript at 277 (Barasch) (noting that evaluated prices typically reflect an opinion 

on what a buyer would pay for an institutional round lot position). In addition, the Staff understands that 

some municipal bond dealers provide customers with more frequent valuation information on their 

websites. 

733 At the Field Hearings, some expressed the view that the MSRB should enhance EMMA’s search 

capabilities, as well as other enhancements. Some suggested that it would be useful for investors to receive 

overview information in a summary format. For example, one commenter noted that cheat sheets should be 

provided to investors on certain highlights and that converting PDFs to word searchable formats would be 

helpful. See Birmingham Hearing Transcript at 313 (Lynch). Another suggested broader enhancements to 

EMMA aimed at making information more accessible to retail investors, including different ways to 

package information and tools that would be helpful to retail investors, such as ways to make comparables 

easier to review. See id. at 309-10 (Lanza). See also GAO Market Structure Report, supra note 61, at 24. 

Based on suggestions received over the last several years, MSRB plans to improve EMMA’s search 

capabilities as well as to make other enhancements to its transparency products aimed at serving the needs 

of retail investors. See, e.g., MSRB Long-Range Plan for Market Transparency Products, supra note 197.

The MSRB recently launched an online “investor toolkit” to provide basic information to retail investors 

about navigating the municipal market. See MSRB Investor Toolkit, available at

http://www.msrb.org/Municipal-Bond-Market/Investor-Resources/Investor-Toolkit.aspx (accessed on May 

31, 2012). 

734 See, e.g., SIFMA, Investing In Bonds, http://www.investinginbonds.com. 

735 See, e.g., www.bondview.com. 
123 

available on publicly accessible websites, retail investors generally may not be aware of it, may 

not have the expertise to use it effectively, or may not want to pay the fees required to access it. 

Unlike institutional investors, retail investors typically do not have access to indicative municipal 

bond dealer quotes, vendor services (such as market data vendors or third-party pricing services), 

or in-house experts. In fact, retail investors generally depend on their municipal bond dealers for 

quotes on municipal securities they would like to buy or sell.736

2. Transaction Costs 

 

It is more expensive for investors to trade municipal securities than to trade corporate 

bonds or equity securities. For example, one study estimates that effective spreads737 on retailsize trades of $20,000 are 1.98% for municipal bonds, compared to 1.24% for corporate bonds 

and 0.4% for equities.738 Similar disparities are found for institutional-size trades.739 Studies of 

dealer markups740 have produced municipal security transaction-cost estimates of similar 

magnitude.741 These relatively higher transaction costs have been attributed to the lack of 

liquidity and price transparency in the municipal securities market.742

 

736 GAO Market Structure Report, supra note 

 

61, at 22.

737 The “effective spread” represents the cost that an investor would incur if she simultaneously bought and 

sold the same security. They are typically measured as twice the difference between the execution price 

and the midpoint of the best bid and best offer at the time of order receipt. See e.g., Rule 600(b)(4) of 

Regulation NMS. Due to limited quote transparency for municipal securities, effective spreads have been 

estimated using various methods, including economic models. See Harris and Piwowar, supra note 103, at 

1364-67.

738 See Harris and Piwowar, supra note 103, at 1379, 1382; Amy K. Edwards, Lawrence E. Harris and Michael 

S. Piwowar, Corporate Bond Market Transaction Costs and Transparency, 62 J. FIN. 1421, 1437-38 (2007) 

(“Edwards, Harris and Piwowar 2007”). See also CommonMuni, supra note 701, at 6 (stating that retail 

municipal securities investors regularly incur transaction costs of 2-3%, and as high as 5%, compared to 

less than 1% for corporate bonds and significantly below 1% for equities). Notably, average trading costs 

in municipal securities today are twice as large as they were during 1926-1927 when bonds traded on the 

NYSE. See Biais and Green 2007, supra note 701, at 23-25.

739 Effective spreads for institutional-size trades of $200,000 average 0.98% for municipal bonds, but only 

0.48% for corporate bonds. See Harris and Piwowar, supra note 103, at 1379; Edwards, Harris and 

Piwowar 2007, supra note 738, at 1437.

740 A “markup” generally refers to the amount a dealer charges a customer in excess of the security’s 

prevailing market price when the customer is buying a security from the dealer, and a “markdown” 

generally refers to the amount a dealer pays a customer beneath the security’s prevailing market price, 

when the dealer is purchasing a security from the customer. See NASD Rule 2440 and infra §III(B)(3) at 

Exposure to Derivatives (discussing legal obligations of municipal bond dealers regarding the pricing and 

execution of customer orders for municipal securities). As used herein, the term “markup” refers both to 

markups and markdowns. 

741 See Green, Hollifield and Schürhoff, Financial Intermediation, supra note 691; Dan Li and Norman 

Schürhoff, Dealer Networks (Working Paper Nov. 2011) (“Li and Schürhoff, Dealer Networks”), available 

at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2023201 (estimating average dealer markups for 

municipal securities to be 1.77%-2.0%). 

742 See, e.g., Harris and Piwowar, supra note 103, at 1392-93 (concluding that municipal securities trades are 

substantially more expensive than similar-sized equity trades and attributing this result to the lack of 

transparency in the municipal securities market). In addition, one study has found that a disproportionately 

large number of municipal securities prices and yields are rounded off to whole numbers or common 
124 

Further, in the municipal securities market, transaction costs are generally higher, as a 

percentage of the par amount of the transaction, for retail investors than for institutional 

investors.743 Effective spreads and dealer markups are higher for retail-size trades than for 

institutional-size trades.744 The opposite is seen in the current U.S. equities market, where larger 

institutional-size trades tend to incur higher transaction costs than smaller retail-size trades.745

Some believe that the lack of price transparency in the municipal securities market is the

primary reason that smaller trades in municipal bonds are more expensive than larger trades, 

rather than a municipal bond dealer’s fixed trading costs.746 In other words, in the view of some, 

because retail investors have less access to scarce pricing information than institutional investors, 

they are less able to bargain with dealers for a good price than are institutional investors.747 

Studies of trading in newly issued municipal securities have supported the premise that the 

opacity of the market contributes to the relatively higher prices paid by retail investors.748

Additionally, studies have shown that retail-size trades in newly issued municipal securities 

occur at widely variable prices.749

 fractions. The study’s author believes that this is a function of the lack of price transparency and liquidity 

in the municipal securities market, with dealers tending to round quoted prices to enhance their profits. See

Dan Li, Rounding as Discrimination—Price Clustering in the OTC Tax-Exempt Bond Market (AFA 2008 

New Orleans Meetings Paper, Nov. 2007), available at

 This phenomenon does not occur with larger institutional-size 

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=971074. 

743 See generally GAO Market Structure Report, supra note 61, at 16-19 (finding that relative to institutional 

investors, (1) individual investors paid higher prices when buying and received lower prices when selling; 

(2) municipal bond dealers received larger spreads when trading smaller blocks; and (3) the prices 

individual investors paid for a security tended to be more dispersed).

744 Effective spreads average about 1.98% for retail-size trades of $20,000, but only 0.98% for institutionalsize trades of up to $200,000. See Harris and Piwowar, supra note 103, at 1379. Markups average 2.3% 

for smaller trade sizes up to $100,000, but then decrease to approximately 1.1% for trade sizes between 

$100,000 and $500,000. See Green, Hollifield and Schürhoff, Financial Intermediation, supra note 691, at 

289 table 7.

745 Harris and Piwowar, supra note 103, at 1362. See, e.g., Exchange Act Release No. 42450 (Feb. 23, 2000), 

65 FR 10577 (Feb. 28, 2000) (SR-NYSE-99-48) (Notice of Filing of Proposed Rule Change by the New 

York Stock Exchange Rule 390; Commission Request for Comment on Issues Relating to Market 

Fragmentation).

746 See supra note 702 (discussing the findings of Harris and Piwowar on this point); see also Green, Hollifield 

and Schürhoff, Financial Intermediation, supra note 691, at 280 (citing lack of transparency and dealers’ 

market power for the high trading costs for small transactions). 

747 See id. 

748 Green, Hollifield and Schürhoff, Dealer Intermediation, supra note 690, at 644. In addition, the authors 

found that prices of newly issued municipal securities traded by retail investors tend to drift upward in the 

days following the start of trading in a manner that suggests that municipal securities offerings are 

underpriced. The upward drift is not apparent in interdealer and institutional-sized trades. This leads the 

authors to conclude that the upward drift is not the result of gradual price discovery or the release of 

information. Id. 

749 See Green, Hollifield and Schürhoff, Dealer Intermediation, supra note 690, at 653 (noting that some retail 

customers simultaneously buy bonds at the reoffering price while others buy bonds as high as 5% over the 

reoffering price). See also GAO Market Structure Report, supra note 61, at 18 (finding that from 2005–

2010, prices for smaller trades tended to be more dispersed, while prices for larger trades tended to be more 

concentrated). 
125 

trades, and could indicate that institutional investors have more consistent access to better pricing 

information than retail investors.750 The link between price dispersion and transparency is 

further supported by evidence that recent improvements in post-trade price transparency751

dramatically reduced price dispersion.752

Others have provided additional suggestions for disparities between pricing of larger 

institutional-size trades and smaller retail-size trades. In the decentralized municipal securities 

market, extensive intermediation by multiple dealers may be required to find a willing 

counterparty, with each intermediary extracting compensation for its efforts. Consistent with this 

conjecture, one study documents that regardless of trade size, as the number of counterparties 

involved in placing a bond increases, so do trading costs.

 

753 There also is some evidence 

suggesting that there is more extensive dealer participation in smaller-size trades than in largersize trades.754 One study of an equity dealer market suggests that larger orders receive price 

improvement because of the structure of dealer markets.755

As noted above, trading in the municipal securities market is heavily concentrated, with 

the top ten dealers accounting for more than 70% of customer trades by principal amount.

 

756 

Some data indicate that trading costs increase for municipal securities with the market power of 

the intermediating municipal bond dealer.757 Average markups tend to increase the greater the 

municipal bond dealer’s market share.758

 

750 See Green, Hollifield and Schürhoff, Dealer Intermediation, supra note 

 In addition, the significance of market power as a 

690, at 661.

751 See supra § IV.B.1 (Price Transparency).

752 Paul Schultz, The Market for New Issues of Municipal Bonds: The Roles of Transparency and Limited 

Access to Retail Investors at 2, 16 (U. of Notre Dame, Working Paper Sep. 2011), available at

http://ssrn.com/abstract=1988548 or http://dx.doi.org/10.2139/ssrn.1988548 (“Schultz 2011 Working 

Paper”). While post-trade transparency did sharply reduce price dispersion, the author found only a small 

effect on markups. Id. 

753 See Li and Schürhoff, Dealer Networks, supra note 741, at 10. Trading costs increase with the number of 

intermediaries participating in a transaction. Average markups on single-dealer “split trades” – when a 

dealer sells the initial block of securities purchased in several smaller blocks – are 2.00%, while they are 

1.77% when the block does not need to be split among multiple dealers. Id. at 9–10. In extreme cases in 

which six dealers intermediate the trade before it reaches a customer, the total markup increases to 4.19%. 

Id. at 10. For retail-sized trades (up to $100,000), average split-trade and non-split trade markups are 2.36% 

and 2.13%, respectively. See Green, Hollifield and Schürhoff, Financial Intermediation, supra note 691, at 

289 table 7. 

754 See Schultz 2011 Working Paper, supra note 752, at 21. See also GAO Market Structure Report, supra

note 61, at 20-21. 

755 See Dan Bernhardt et al., Why Do Large Orders Receive Discounts on the London Stock Exchange?, 18 R.

FIN. STUD. 1343 (finding that dealers offer better price improvement to more-valued customers—those who 

give business more regularly and send larger orders).

756 See graph entitled “Distribution of Customer Trades Traded (based on par amount traded),” supra § II.A.5

(The Secondary Market for Municipal Securities). 

757 Green, Hollifield and Schürhoff, Financial Intermediation, supra note 691, at 278 (finding that the dealer’s 

market power is a significantly larger contributor to the size of a markup than the cost of intermediating the 

trade).

758 Li and Schürhoff, Dealer Networks, supra note 741, at 11.
126 

contributor to transaction costs is greater for smaller retail-size trades than for larger 

institutional-size trades.759

Finally, one study has concluded that, unlike equities, actively-traded municipal bonds do 

not have lower transaction costs than infrequently-traded ones.

 

760 According to this study, this 

phenomenon could be due to the lack of price transparency, among other reasons.761

3. Dealer Pricing Obligations to Customers 

 

In general, MSRB rules require a municipal bond dealer effecting a transaction with a 

customer, whether as principal or agent, to trade at a fair price, and to exercise diligence in 

establishing the market value of the municipal security and the reasonableness of the 

compensation it receives.762 With certain limited exceptions discussed below, these duties 

extend to all customers, whether retail or institutional, but not to other dealers.763

a. Fair Prices

 

MSRB rules require, among other things, that municipal bond dealers acting in a 

principal capacity with their customers purchase or sell municipal securities at a “fair and 

reasonable” price.764

 

759 Green, Hollifield and Schürhoff, Financial Intermediation, supra note 

 Specifically, MSRB Rule G-30(a) prohibits a municipal bond dealer from 

purchasing municipal securities for its own account from a customer or selling municipal 

securities for its own account to a customer except at an aggregate price (including any markdown or mark-up) that is fair and reasonable. In determining the price, the dealer must take into 

consideration all relevant factors, including its best judgment as to the fair market value of the 

securities at the time of the transaction, the expense involved in effecting the transaction, the fact 

691, at 278.

760 See Harris and Piwowar, supra note 103, at 1362. Note, however, that the data evaluated in this study was 

of transactions that occurred prior to the MSRB’s RTRS system and did not account for the impact that 

additional post-trade transparency may have on this conclusion.

761 See Harris and Piwowar, supra note 103, at 1362. Other reasons may include, for example, that investors 

may not know which bonds are most liquid and should have lower transaction costs. Alternatively, this 

could be due to high credit quality bonds being viewed by investors as substitutes, or to dealers taking no 

inventory risk in inactive bonds. Id. See also Michael A. Goldstein and Edith S. Hotchkiss, Know When to 

Hold Them, Know When to Fold Them: Dealer Behavior in Highly Illiquid Risky Assets at 29 (Working 

Paper, Jan. 2011), available at http://faculty.babson.edu/goldstein/research/Dealer-Behavior--2011-01-

05.pdf (discussing findings that dealers in corporate bonds actively manage inventory risk in illiquid bonds 

by actively searching for counterparties, offering slightly lower spreads on these illiquid bonds, perhaps to 

induce trading).

762 See MSRB Rule G-18 Execution of Transactions; MSRB Rule G-30 Prices and Commissions; see also

Review of Dealer Pricing Responsibilities, supra note 248. 

763 See id.

764 See MSRB Rule G-30(a). See also supra § II.C.1.b.iii (Fair Pricing and Compensation). As discussed 

above, municipal bond dealers effect virtually all municipal securities transactions with their customers on 

a principal basis, with a portion of these principal trades effected on a “riskless principal” basis. Rule G30(a) applies to all transactions effected on a principal basis, including riskless principal transactions. 
127 

that the dealer is entitled to a profit, and the total dollar amount of the transaction.765 In addition, 

municipal bond dealers that charge excessive markups have been found to violate MSRB Rule 

G-17 which, among other things, requires them to deal fairly with their customers.766

Similarly, MSRB Rule G-18 requires municipal bond dealers acting in an agency 

capacity to make a reasonable effort to obtain a price for the customer that is fair and reasonable 

in relation to prevailing market conditions.

 

767

 

765 See MSRB Rule G-30. Rule G-30(a) requires both that the (1) total transaction price to the customer be 

reasonably related to the market value of the security and (2) mark-up or mark-down not exceed a fair and 

reasonable amount. See Review of Dealer Pricing Responsibilities, supra note 

 A dealer is expected to exercise the same level of 

248. See also Birmingham 

Hearing Transcript at 275-76 (Lanza) (noting that although customers may have difficulty determining the 

fair value of their securities, MSRB Rule G-30 requires the municipal bond dealer to obtain a fair and 

reasonable price for the investor); Id. at 306 (Lessley) (suggesting that customers looking for a fair price 

should have multiple brokers obtain multiple prices). The MSRB has also identified other factors that may 

be relevant in determining the fairness and reasonableness of prices in municipal securities transactions, 

such as the availability of the security in the market; the price or yield of the security; the maturity of the 

security; the nature of the professional’s business; the rating of the security; the existence of an active 

sinking fund for the security; the trading history of the security (including the degree of market activity and 

existence of market makers), and compensation for services provided. See MSRB Interpretive Notice, 

“Report on Pricing,” Sept. 26, 1980 (“Report on Pricing”).

FINRA enforces two rules that apply to transactions in non-municipal securities. NASD Rule 2440 applies 

to customer transactions in non-municipal securities, including corporate debt. For transactions effected on 

a principal basis, the rule requires dealers to buy or sell at a fair price, taking into consideration relevant 

circumstances, including market conditions, expenses, and the fact that a dealer is entitled to a profit. For 

transactions effected on an agency basis, the rule requires dealers not to charge their customers more than a 

fair commission or service charge, taking into consideration all relevant circumstances, including market 

conditions with respect to such security at the time of the transaction, the expense of executing the order 

and the value of any service rendered by reason of the dealer’s experience and knowledge of such security 

and the market therefore. See NASD Rule 2440 - Fair Prices and Commissions. FINRA has proposed to 

amend NASD Rule 2440 to, among other things, note that a dealer is entitled to remuneration rather than 

profit. See FINRA Regulatory Notice 11-08, “Markups, Commissions and Fees” (Feb. 2011) available at

http://finra.complinet.com/net_file_store/new_rulebooks/f/i/finra_11-08.pdf (“FINRA Markup Proposal”). 

Additionally, NASD Rule 2440 provides guidance that a markup of 5% or less in most transactions may be 

considered “fair and reasonable,” although this is not a firm rule. See NASD IM-2440-1. FINRA has also 

proposed eliminating this guidance, noting that 5% is significantly higher than markups charged by most 

firms currently and that the 5% threshold is “based on the execution practices and market efficiencies of 

nearly 70 years ago.” See FINRA Markup Proposal supra. 

Second, FINRA Rule 5310 applies a more-detailed “best execution” standard for principal and agency 

transactions in equities and corporate bonds. See infra note 781. 

766 See FINRA v. Morgan Stanley & Co. Inc., Letter of Acceptance, Waiver and Consent No. 20060056031-01 

(Oct. 28, 2011) (enforcement matter against a municipal bond dealer for charging excessive markups in 

violation of MSRB Rules G-17 and G-30).

767 MSRB Rule G-18. A municipal bond dealer’s duty under Rule G-18, however, can be more limited in 

certain agency transactions for sophisticated customers, referred to as SMMPs. See MSRB “Restated 

Interpretive Notice Regarding the Application of MSRB Rules to Transactions with Sophisticated 

Municipal Market Professionals” (effective Jul. 9, 2012), Exchange Act Release No. 67064 (May 25, 

2012), 77 FR 32704 (June 1, 2012) (SR-MSRB-2012-05). The term “SMMP” means an institutional 

customer of a dealer that: (i) the dealer has a reasonable basis to believe is capable of evaluating investment 

risks and market value independently, both in general and with regard to particular transactions in 

municipal securities; and (ii) affirmatively indicates that it is exercising independent judgment in evaluating 

the recommendations of the dealer. If a municipal bond dealer effects non-recommended secondary market 
128 

care as it would if acting for its own account, including diligence in ascertaining prevailing 

market conditions.768 Although these agency duties do not generally apply to dealers acting in a 

principal capacity, the MSRB has explicitly extended this obligation to a broker’s broker acting 

on behalf of another dealer.769 In addition, MSRB Rule G-30(b) prohibits municipal bond 

dealers from purchasing or selling municipal securities as agent for their customers for a 

commission or service charge in excess of a fair and reasonable amount, taking into 

consideration all relevant factors, including the availability of the securities involved in the 

transaction; the expense of executing or filling the customer’s order; the value of the services 

rendered by the dealer; and the amount of any other compensation received by the dealer in 

connection with the transaction.770

 

agency transactions for SMMPs and its services have been explicitly limited to providing anonymity, 

communication, order matching, and/or clearance functions and the dealer does not exercise discretion as to 

how or when a transaction is executed, the MSRB believes the dealer is not required to take further actions 

on individual transactions to ensure that its agency transactions are effected at fair and reasonable prices. 

The MSRB has noted that this interpretation is particularly relevant to dealers operating ATSs in which 

SMMPs are permitted to participate. Id. 

 

768 The dealer either will need to know the current market value of the security, or will have to use diligence in 

the attempt to ascertain it in order to meet the requisite level of care in finding a price for the customer that 

is fair and reasonable in relation to prevailing market conditions. Review of Dealer Pricing 

Responsibilities, supra note 248. 

769 MSRB Rule G-18. FINRA and the SEC have brought several enforcement actions against broker’s brokers 

for misconduct in the conduct of bid-wanted auctions. See e.g., FINRA v. Associated Bond Brokers, Inc.

Letter of Acceptance, Waiver and Consent No. E052004018001 (Nov. 19, 2007) (settled action finding that 

a broker’s broker violated Rule G-17 by lowering the highest bids to prices closer to the cover bids without 

informing either bidders or sellers); FINRA v. Butler Muni, LLC Letter of Acceptance, Waiver and 

Consent No. 2006007537201 (May 28, 2010) (settled action finding that a broker’s broker violated Rule G17 by failing to inform the seller of higher bids submitted by the highest bidders); In re. D. M. Keck & 

Company, Inc. d/b/a Discount Munibrokers, Donald Michael Keck and Patricia Ann Seelaus, Exchange Act 

Release No. 56543, A.P. File No. 3-12839 (Sept. 27, 2007) (settled action finding that a broker’s broker 

violated Rules G-13 and G-17 by disseminating fake cover bids to both seller and winning bidder; broker’s 

broker violated Rules G-14 and G-17 by paying seller more than highest bid on some trades in return for a 

price lower than the highest bid on other trades, in each case reporting the fictitious trade prices to the 

MSRB’s RTRS); In re. Regional Brokers, Inc. and Patrick Lubin, Exchange Act Release No. 56542, A.P. 

File No. 3-12838 (Sept. 27, 2007) (settled action finding that a broker’s broker violated Rules G-13 and G17 by disseminating fake cover bids to both seller and winning bidder and violated Rule G-17 by accepting 

bids after bid deadline); In re. Wolfe & Hurst Bond Brokers, Inc. and Peter J. Debany, Exchange Act 

Release No. 59913, A.P. File No. 3-13469 (May 13, 2009) (settled action finding that a broker’s broker 

violated Rule G-17 by disseminating fake cover bids to both seller and winning bidder and by lowering the 

highest bids to prices closer to the cover bids without informing either bidders or sellers). See MSRB 

Notice 2010-35, Request for Comment on MSRB Guidance on Broker’s Brokers at n.3 (Sept. 9, 2010) 

(highlighting these enforcement cases against broker’s brokers).

The MSRB has recently received approval from the Commission of a rule change to address misconduct in 

the interdealer brokerage market. The rule, among other things, highlights a broker’s broker’s existing 

duty to “make a reasonable effort to obtain a price for the dealer that is fair and reasonable in relation to 

prevailing market conditions.” See MSRB Rule G-43(a), MSRB Broker’s Broker Approval Order, supra

note 217. This duty is currently found in MSRB Rule G-18. The rule also creates a safe harbor for 

broker’s brokers: broker’s brokers would satisfy their obligations in Rule G-43(a) if they conduct bidwanted auctions consistent with certain enumerated provisions in the proposed rule. Id.

770 MSRB Rule G-30(b). See also supra note 765 (discussing MSRB and FINRA pricing and conduct rules).
129 

The MSRB has interpreted a “fair and reasonable” price to be one that bears a reasonable 

relationship to the prevailing market price of the security.771 The MSRB has noted that the most 

important factor is the yield, which should be comparable to the yield on other securities of 

comparable quality, maturity, coupon rate, and size then available in the market.772 The MSRB 

has recognized that for some municipal securities - particularly those that are small in size and 

infrequently traded - it may be difficult for a dealer to determine the market value with precision 

and may require an assessment of market value based on a wider range of values than with wellknown, more-liquid issues. The specific degree of accuracy, as well as the specific actions that a 

dealer may need to take to assess market value, will vary with the facts and circumstances. This 

could include a review of recent transaction prices for the issue or for comparable issues (i.e., 

those with similar credit quality and features), or having a broker’s broker use a bid-wanted 

procedure.773

In 2010, the MSRB sought comment on draft interpretive guidance with respect to the 

establishment of “prevailing market price” by dealers.

 

774

 

771 See Review of Dealer Pricing Responsibilities, supra note 

 In the draft guidance, the MSRB 

viewed the prevailing market price as the inter-dealer market value of the securities at the time of 

248. The prevailing market price generally is 

the price at which municipal bond dealers trade with one another. See In re. Alstead, Dempsey & Co., 

Exchange Act Release No. 20825, 47 S.E.C. 1034, 1035 (Apr. 5, 1984). Absent countervailing evidence, a 

municipal bond dealer’s contemporaneous cost is the best evidence of the prevailing market price. See id. 

This standard has been accorded judicial and Commission approval. See Barnett v. U.S., 319 F.2d 340, 344 

(8th Cir. 1963); Notice to Broker-Dealers Concerning Disclosure Requirements for Mark-Ups on ZeroCoupon Securities, Exchange Act Release No. 24368 (Apr. 21, 1987), 52 FR 15575 (Apr. 29, 1987) 

(“Zero-Coupon Securities Release”). In the case of integrated market makers, different considerations may 

be applicable. See id. at 15575 (noting that for integrated market makers, the best evidence of the 

prevailing market price generally is the contemporaneous sales by the firm or other market makers to other 

dealers). The Commission has noted, however, that “quotations for obscure securities with limited interdealer trading activity may have little value as evidence of the current market.” In re. Alstead, Dempsey & 

Co., 47 S.E.C. at 1036.

772 Review of Dealer Pricing Responsibilities, supra note 248. The fair pricing responsibilities of dealers 

require attention both to the market value of the security and the reasonableness of the dealer’s 

compensation. Excessive markups may cause a violation of the fair pricing standards. Even with a 

reasonable markup, it is possible to violate the fair pricing standards because of inattention to market value. 

The MSRB has recognized that a small number of issues each day trade with intra-day price differentials 

that are abnormally wide. For example, this can occur when a single block of securities moves from one 

customer to another through a “chain” of multiple-dealer transactions. Because of the interdealer trading, 

the difference between the price received by the original customer and the price paid by the ultimate 

customer can be large, sometimes exceeding 10% or more. In these cases, while the dealers effecting 

trades with customers at each end of the chain may have charged reasonable markups, there is a large intraday price differential due to the price increases generated by the series of inter-dealer transactions. The 

MSRB has noted that municipal bond dealers in these transactions nevertheless are responsible for 

providing customers with prices reasonably related to the market value. 

773 Id. 

774 See MSRB Notice 2010-10, “Request for Comments on Draft Interpretive Guidance on Prevailing Market 

Prices and Mark-Up for Transactions in Municipal Securities” (Apr. 21, 2010). The draft guidance is 

designed to harmonize the manner in which the prevailing market prices for municipal securities are 

determined with the manner established by FINRA for other types of debt securities. See NASD IM-2440-

2, Additional Mark-Up Policy for Transactions in Debt Securities, Except Municipal Securities. 
130 

the customer transaction.775 The draft interpretive guidance would create a presumption that the 

prevailing market price is the dealer’s contemporaneous cost.776 If the dealer’s cost is no longer 

contemporaneous, then the dealer would have to consider, in the following order: (a) any prices 

of contemporaneous inter-dealer transactions in the municipal security; (b) any prices of 

contemporaneous dealer transactions in the municipal security with institutional accounts; and 

(c) for actively traded municipal securities, any contemporaneous bids or offers for the municipal 

security made through an inter-dealer mechanism through which transactions generally occur at 

the displayed quotations.777 In the event none of this pricing information is available, then other 

factors could be considered, including contemporaneous inter-dealer or institutional transactions 

in “similar” municipal securities; yields calculated from prices of contemporaneous inter-dealer 

or institutional transactions in similar securities; and yields calculated from validated inter-dealer 

bids or offers in similar securities.778 Finally, if none of this information is available, then the 

dealer could consider prices and yields derived from appropriate economic models.779 The 

MSRB received a variety of comments on its draft interpretive guidance,780

 

775 Id.

 but it has not yet 

filed a proposal with the Commission to incorporate that guidance into its rules.

776 Id. Specifically, the prevailing market price presumptively would be established by referring to the dealer’s 

contemporaneous cost as incurred, or contemporaneous proceeds as obtained, consistent with MSRB Rule 

G-30(a). A dealer’s cost would be considered contemporaneous if the transaction occurs close enough in 

time to the customer transaction that it would reasonably be expected to reflect the current market price for

the municipal security. If there is a contemporaneous dealer transaction, that price would be presumed to 

be the best measure of the prevailing market price unless the dealer can show that (i) interest rates or yields 

changed after the dealer’s contemporaneous transaction to a degree that such change would reasonably 

cause a change in municipal securities pricing; (ii) the credit quality of the municipal security changed 

significantly after the dealer’s contemporaneous transaction; or (iii) news was issued or otherwise 

distributed and known to the marketplace that had an effect on the perceived value of the municipal 

security after the dealer’s contemporaneous transaction.

777 Id. 

778 Id. A “similar” municipal security should be sufficiently similar to the subject security that it would serve 

as a reasonable alternative investment to the investor. At a minimum, a market yield for the subject 

security should be able to be fairly estimated from the yields of the similar securities. Factors that may be 

relevant to determine similarity include: (i) credit quality considerations (e.g., similar credit rating or credit 

enhancement); (ii) trading at similar spreads to U.S. Treasury securities of a similar duration; (iii) similar 

structural characteristics, such as coupon, maturity, duration, complexity, callability, or other embedded 

options; (iv) technical factors, such as the size of the issue, the float and recent turnover, and legal 

restrictions on transferability; and (v) similar federal or state tax treatment.

779 Id. These could include discounted cash flow or other models that take into account measures such as 

credit quality, interest rates, industry sector, time to maturity, call provisions and any other embedded 

options, coupon rate, and face value; and consider all applicable pricing terms and conventions, such as 

coupon frequency and accrual methods. 

780 See, e.g., Washington, DC Hearing Transcript (Afternoon Session) at 15 (Hotchkiss) (highlighting the 

MSRB’s attempts to harmonize, where appropriate, markup practices in municipal securities with FINRA’s 

requirements in the corporate debt world); id. at 15-16 (Norwood) (expressing SIFMA’s opinion that the 

corporate debt market and the municipal debt market are fundamentally different and that the MSRB’s

original requirements concerning markup practices are appropriate).
131 

b. Best Execution

Unlike in the equities and corporate fixed income markets,781 there is no explicit MSRB

rule regarding best execution that applies to market participants in the municipal securities 

market.782 Common law duties of best execution, however, apply to municipal bond dealers, 

whether acting in a principal or agency capacity.783 In agreeing to execute a customer’s order, 

the municipal bond dealer makes an implied representation that it will execute the order in a 

manner that maximizes the customer’s economic gain in the transaction.784

 

781 FINRA Rule 5310 applies a more-detailed “best execution” standard for principal and agency transactions 

in equities and corporate bonds. This rule requires broker-dealers to “use reasonable diligence to ascertain 

the best market . . . and buy or sell in such market so that the resultant price to the customer is as favorable 

as possible under prevailing market conditions.” Certain factors are considered in determining whether a 

broker-dealer has exercised “reasonable diligence,” including (i) the character of the market for the security 

(e.g., price, volatility, relative liquidity, and pressure on available communications), (ii) the size and type of 

transaction, (iii) the number of markets checked, (iv) the accessibility of the quotation, and (v) the terms 

and conditions of the order. FINRA Rule 5310(a)(1). These requirements apply to any transaction by a 

broker-dealer acting as agent or principal with a customer or a customer of another broker-dealer. See

FINRA Rule 5310(a)(1), (e). The duty to provide best execution does not apply, however, when a dealer is 

simply executing, against its own quote, the order of a customer of another broker-dealer. See FINRA Rule 

5310, (Supplementary Material .04). In general, the Supplementary Material prescribes best execution 

obligations when handling orders, including corporate debt orders, where there is limited pricing 

information available. Furthermore, members have a general documentation requirement that requires 

members to maintain records sufficient to demonstrate that orders were handled according to the member’s 

policies and procedures. See, e.g., FINRA Rule 5310 (Supplementary Material .01 to .09).

 This duty requires 

that a municipal bond dealer seek to obtain for its customer orders the most favorable terms 

782 The MSRB has stated that municipal bond dealers currently do not have a duty of best execution under 

MSRB rules. See, e.g., Exchange Act Release No. 66625, “Notice of Filing of a Proposed Rule Change 

Consisting of Proposed Rule G-43, on Broker's Brokers; Proposed Amendments to Rule G-8, on Books and 

Records, Rule G-9, on Record Retention, and Rule G-18, on Execution of Transactions; and a Proposed 

Interpretive Notice on the Duties of Dealers that Use the Services of Broker's Brokers” (SR-MSRB-2012-

04) (Mar. 20, 2012), 77 FR 17548 (Mar. 26, 2012), available at 

http://www.sec.gov/rules/sro/msrb/2012/34-66625.pdf. For example, a commenter asked whether a brokerdealer using an electronic platform is permitted to screen competitors’ bonds from the platform in an effort 

to have a customer purchase from the broker-dealer’s inventory. In response, the MSRB stated that there 

currently is no best execution standard under MSRB rules similar to FINRA standards and that as long as a 

customer is provided a fair and reasonable price a broker-dealer is not obligated under MSRB rules to seek 

the most favorable price for its customer. Id.

783 See Newton v. Merrill, Lynch, Pierce, Fenner & Smith, Inc., 135 F.3d 266, 273 (3d Cir.), cert. denied, 525 

U.S. 811 (1998) (“[T]he basis for the duty of best execution is the mutual understanding that the client is 

engaging in the trade – and retaining the services of the broker as his agent – solely for the purpose of 

maximizing his own economic benefit, and that the broker receives her compensation because she assists 

the client in reaching that goal.”). This case also recognized that the duty of best execution does not 

“dissolve” when an intermediary acts in its capacity as a principal. Id. at 270 n.1 (citation omitted). See 

also Regulation NMS, Exchange Act Release No. 51808 (June 9, 2005), 70 FR 37496, 37538 (June 29, 

2005) (“A broker-dealer’s duty of best execution derives from common law agency principles and fiduciary 

obligations, and is incorporated in SRO rules and, through judicial and Commission decisions, the antifraud 

provisions of the federal securities laws.”); Exchange Act Release No. 43963 (Feb. 14, 2001) (citing 

Newton, but concluding that respondent fulfilled his duty of best execution). See also Payment for Order 

Flow, Exchange Act Release No. 34902 (Oct. 27, 1994), 59 FR 55006, 55009 (Nov. 2, 1994) (discussing a 

broker-dealer’s duty of best execution in relation to routing orders). 

784 See Newton, supra note 783, at 269-70.
132 

reasonably available under the circumstances.785 Although specific best execution requirements 

will vary depending on the particular facts and circumstances, municipal bond dealers generally 

should execute customer orders at the best reasonably available prices.786 This requires 

municipal bond dealers to exercise diligence in informing themselves of the market value of a 

particular security.787

c. Customer Disclosure 

 

MSRB Rule G-15 requires municipal bond dealers, at or before the completion of a 

transaction in municipal securities, to provide the customer with a written confirmation 

containing specified information about the transaction.788 This includes information about the 

dollar price of the transaction and the resulting yield of the securities, calculated in a specified 

manner.789 In addition, if the dealer is acting as agent, it generally must disclose any 

remuneration to be received from the customer in connection with the transaction.790 If the 

dealer is acting as principal, however, there is no requirement that it disclose its markup on the 

confirmation, even for riskless principal transactions.791 Although SEC Rule 10b-10 similarly 

does not require markup disclosure for riskless principal transactions in corporate bonds, it does 

require such disclosure on customer confirmations for equity securities.792

 

785 See id. at 270.

 Although the 

786 See id. Intermediaries have the obligation to evaluate customer order practices with changes in technology 

and the market. 

787 See generally Review of Dealer Pricing Responsibilities, supra note 248 (noting that a municipal bond 

dealer “must exercise diligence in establishing the market value of the security and the reasonableness of 

the compensation received on the transaction”).

788 See MSRB Rule G-15 Confirmation, Clearance, Settlement and Other Uniform Practice Requirements with 

Respect to Transactions with Customers.

789 See MSRB Rule G-15 (a)(i)(A)(5). Specific guidance is given for transactions effected on the basis of a 

yield to maturity, yield to call date, or yield to put date, as well as for those effected on the basis of dollar 

price and other discrete scenarios. 

790 See MSRB Rule G-15(a)(i)(A)(6)(f). Specifically, if the dealer is effecting the transaction as agent, the 

confirmation must show the amount of any remuneration received or to be received (shown in aggregate 

dollar amount) by the dealer from the customer in connection with the transaction, unless such 

remuneration is determined, pursuant to a written agreement with the customer, other than on a transaction 

basis. In addition, MSRB Rule G-15(a)(i)(A)(1)(e) requires disclosure of the source and amount of any 

remuneration received or to be received by the dealer, when acting as agent, from any person other than the 

customer, or a statement indicating whether any such remuneration has been or will be received and that 

the details will be provided upon the customer’s written request. The scope of the disclosures required 

under MSRB Rule G-15 parallels the disclosures that broker-dealers effecting transactions in other 

securities as agents, such as corporate bonds, have to provide to customers under Exchange Act Rule 10b10, including the disclosures related to compensation. See Exchange Act Rule 10b-10.

791 See, e.g., Grandon v. Merrill Lynch & Co., 147 F.3d 184, 192 (2d Cir. 1998) (acknowledging that no 

requirement to disclose markups exists for debt securities). MSRB Rule G-15 does, however, require 

municipal bond dealers to disclose to the customer in what capacity they effected a transaction (i.e., as 

principal or agent). See MSRB Rule G-15(a)(i)(A)(1)(d).

792 See Exchange Act Rule 10b-10. Specifically, Rule 10b-10(a)(2)(ii)(A) requires that, if a broker-dealer, 

after having received a customer order to buy or sell an equity security, buys or sells that security from 

another person to offset a contemporaneous sale to or purchase from the customer, then the broker-dealer 

must disclose on the customer confirmation the difference between the price to the customer and the 
133 

Commission has, in the past, proposed requiring confirmation disclosure of markups in riskless 

principal transactions for debt securities, it has never adopted such a requirement.793

In the Field Hearings, several commenters expressed concern about the lack of 

transparency surrounding dealer markups. Some complained that investors do not know how 

much they are paying in markups,

 

794 and others suggested that all markups and fees be disclosed 

to customers.795

V. RECOMMENDATIONS 

 

This Report reflects input received from market participants through the public field 

hearings, meetings with Staff, and submissions to the Commission, as well as Staff-developed 

information, on the current state of the municipal securities market. The recommendations 

discussed below should be considered in conjunction with the relevant discussions contained in 

the body of the Report. While we believe, based on our review of the market as described in this 

Report, that these recommendations could help improve the municipal securities market, we

recognize that any such further action on specific recommendations will involve further study of 

relevant additional information, including information as applicable related to the costs and 

benefits of the recommendations and the consideration as applicable of public comment. 

A. DISCLOSURE

In the disclosure context, the Report identifies a number of areas relating to primary and 

secondary market or continuing disclosure practices that should be improved. As described in 

this Report, market participants have called for greater and timelier disclosure by municipal 

issuers, raising specific concerns about disclosure in both primary offerings and on a continuing 

basis.796 According to many market participants, the major challenge in secondary market 

disclosure continues to be the timeliness and completeness of filings.797

 

dealer’s contemporaneous purchase or sale price. In addition, for principal transactions in exchange-listed 

securities, Rule 10b-10(a)(2)(ii)(B) requires the broker-dealer to disclose the difference, if any, between the 

reported trade price and the price to the customer. 

 In addition, market 

participants have noted that some issuers fail to comply with continuing disclosure 

793 See Exchange Act Release No. 33743 (Mar. 9, 1994), 59 FR 12767 (proposing a rule that would have 

included disclosure of markups for municipal securities transactions); Exchange Act Release No. 15220 

(Oct. 6, 1978), 43 FR 47538 (proposing mark-up disclosure for riskless principal trades in municipal 

securities); Exchange Act Release No. 13661 (June 23, 1977), 42 FR 33348 (proposing mark-up disclosure 

by non-market makers in riskless principal transactions involving equity and debt securities, but not 

municipal securities); and Exchange Act Release No. 12806 (Sept. 16, 1976), 41 FR 41432 (proposing 

mark-up disclosure by non-market makers in riskless principal transactions involving equity and debt 

securities).

794 See Washington, DC Hearing Transcript at 34 (Niewiaroski).

795 Comment Letter of Nathan Saks (Mar. 28, 2011). See also San Francisco Hearing Transcript at 247-50 

(Siminoff).

796 See generally supra § III.A.4 (Market Participant Observations and Other Commentary).

797 See supra §§ III.A.4.c (Continuing Disclosure) and III.B.1.d.iii (Market Participant Observations and Other 

Commentary Regarding Timeliness of Financial Information).
134 

agreements.

798 Market participants have also noted the lack of effective enforcement 

mechanisms to address non-compliance by issuers with continuing disclosure agreements.799

We recommend that Congress, the Commission and others could consider several 

potential approaches to further improve the municipal securities market and, in particular, to 

improve disclosure practices. We believe that improvements in the municipal securities market

could involve a combination of approaches, including legislative, regulatory and industry-based 

initiatives. To the extent the Commission determines to pursue rulemaking efforts to implement 

any of these recommendations, the economic analysis, including costs and benefits, of any 

approach would be considered as part of a rule proposal. 

 As 

a result of this important input together with other information we have learned, we believe there 

are needed improvements in disclosure practices in the primary and secondary municipal 

securities market.

First, in light of the Commission’s limited regulatory authority, we recommend a number 

of potential legislative changes for consideration, which, if implemented by Congress, would 

provide the Commission with additional authority to take steps that it determines to be 

appropriate to directly impact municipal securities disclosures. 

Second, there are a number of regulatory approaches that the Commission could consider 

pursuing under its existing authority. Although such measures could effect improvements, they 

may not be sufficient, on their own, to fully address the concerns discussed in this Report. 

Third, we recommend that market participants continue to strive for high quality 

disclosure practices, through development and enhancement of best practices guidelines. 

Industry initiatives benefit from thorough knowledge and understanding of current market 

practices and consensus-building approaches. Rapid and meaningful change can be achieved 

through collaborative and concerted efforts by industry participants. 

1. Legislative 

The following are possible legislative approaches that could provide the Commission authority to 

establish improved disclosures and practices in the municipal securities market.

• Authorize the Commission to require that municipal issuers prepare and disseminate 

official statements and disclosure during the outstanding term of the securities, 

including timeframes, frequency for such dissemination and minimum disclosure 

requirements, including financial statements and other financial and operating 

information, and provide tools to enforce such requirements. 

 This legislative approach would provide the Commission authority to establish disclosure 

requirements and principles, timeframes and frequency of dissemination of municipal securities 

offerings and continuing disclosures. This legislative approach would not entail any repeal or 

modification to the existing proscriptions on the SEC or the MSRB requiring any presale filing 

 

798 See supra notes 371 - 373 and 398 - 402 and accompanying text. 

799 See supra note 404. 
135 

of disclosure documents, known as the “Tower Amendment.” Nor would this approach involve 

elimination of the exemptions for municipal securities under Section 3(a)(2) of the Securities Act 

or the exemptions under the Exchange Act. This legislative approach, however, would 

meaningfully enhance disclosure practices by municipal issuers and could be accomplished in a 

short period of time. 

The Commission currently has limited authority over municipal issuers directly and 

providing enhanced authority with respect to municipal issuers’ disclosures in connection with 

their municipal securities offerings would enable the Commission to enhance municipal 

securities disclosures and practices for all market participants. This Report has identified a 

number of areas in which the limited Commission authority over municipal issuers has affected 

its ability to improve disclosures and practices in the municipal securities market. 

 Provision of this authority is not intended to replicate corporate registration or periodic 

reporting requirements or to mandate Commission review of municipal securities disclosure. It 

would allow the Commission to consider scaled or tiered disclosure content and frequency 

provisions based on, among other things, the size and nature of the municipal issuer, the 

frequency of issuance of securities, the type of municipal securities offered and the amount of 

outstanding securities. This recommendation is intended to enhance disclosure in a meaningful 

way. The legislative proposal does not envision detailed line item disclosure requirements such 

as those applicable to corporate issuers under Regulation S-K. Rather it is intended as a more 

principles-based approach. Further, it would allow the Commission to consider appropriate 

exemptions based on the type of purchaser. Under this approach, the Commission could 

determine the appropriate dissemination mechanism, whether through Internet posting, 

submission to the MSRB’s EMMA system or other electronic submission system. The 

Commission also could consider the appropriate disclosure policies and procedures that 

municipal issuers should have to assure that they will satisfy their primary and ongoing 

disclosure obligations. 

• Amend the municipal securities exemptions in the Securities Act and Exchange Act 

to eliminate the availability of such exemptions to conduit borrowers who are not 

municipal entities under Section 3(a)(2) of the Securities Act, without 

differentiation based on the size of the financing due to the continuing availability 

of other exemptions, including those available for small businesses, private 

offerings, and non-profit entities that take into account different types of offerings 

and issuers.

This legislative approach, which the Commission first recommended over 15 years ago, 

would subject companies and other entities that use municipal securities to finance their projects 

to the registration and disclosure provisions of the federal securities laws - the same registration 

and disclosure standards that would apply if they issued their securities directly (not using 

municipal issuers as conduits). 

 Currently conduit borrowers (those non-municipal entities receiving proceeds from 

municipal securities offerings) may be subject to the Securities Act or Exchange Act registration 

or disclosure requirements because they may not be considered to be offering their own 

securities at the time of the municipal securities offering. It is important that investors have 
136 

information about the entities that are responsible for the monies necessary to make payments on

municipal securities in order to be able to assess their investments. This is especially true in light 

of the relatively high default rate of conduit bonds. As discussed above, conduit bonds have 

represented approximately 70% of all municipal bond defaults despite representing a relatively 

small percentage of municipal bonds issued.800 In addition, many types of conduit municipal 

financings historically have been identified as providing substantially less continuing 

information than municipal securities not involving conduit borrowers.801

 This approach would not eliminate other available exemptions, such as those for nonprofit entities under Section 3(a)(4) of the Securities Act and other exemptions that are available 

to corporate issuers, such as the private offering exemption under Section 4(a)(2) of the 

Securities Act, without differentiation based on the size of the financing due to the continuing 

availability of other exemptions, including those available for small businesses, private offerings, 

and non-profit entities that take into account different types of offerings and issuers. 

 Moreover, as 

discussed in the Report, the significant reduction in the use of financial guarantee insurance 

(bond insurance) for municipal securities means that there is a greater need for more information 

on the underlying conduit borrower, so that investors have the ability to evaluate their investment 

and exposure to the conduit borrower. 

. 

• Authorize the Commission to establish the form and content of financial statements 

for municipal issuers who issue municipal securities, including the authority to 

recognize the standards of a designated private-sector body as generally accepted 

for purposes of the federal securities laws, and provide the Commission with 

attendant authority over such private-sector body. 

 This legislative approach would provide explicit authority to the Commission to establish 

the form and content of financial statements used in municipal securities offerings and establish 

standards and designate a private-sector body as the GAAP standard setter for municipal issuer 

financial statements. As the Report notes, the Commission currently does not have authority to 

establish the form and content of financial statements of municipal securities issuers that are used 

in connection with primary offerings of municipal securities or provided on an ongoing basis in 

connection with outstanding municipal securities. Moreover, the Commission does not have 

direct authority over the standard setter for those financial statements. This authorization could 

be for purposes of the federal securities laws only, thereby allowing municipal issuers to 

continue to comply with other state accounting principles as applicable in the preparation of their 

financial statements. Most states already prepare their financial statements in accordance with 

GAAP as set by the GASB. This approach recognizes the importance of having financial 

statements of different issuers that are prepared on the same basis, thereby allowing comparisons 

between municipal issuers and municipal securities.

 

800 See supra notes 30, 124 - 126 and accompanying text.

801 See supra § III.A.4.d (Disclosure by Conduit Borrowers). 
137 

 This approach would further the interests of the Commission and market participants in 

improving the presentation of financial information. As noted above, many market participants 

believed that adherence to GASB standards promotes consistency and comparability of financial 

information between and among municipal issuers and differing types of municipal securities.802 

In addition, many of the Commission’s enforcement actions regarding materially misleading 

statements or omissions in official statements involved deficient financial statements provided by 

issuers or underlying obligors.803

• Authorize the Commission, as it deems appropriate, to require municipal securities 

issuers to have their financial statements audited, whether by an independent 

auditor or a state auditor.

 

Improving the quality of financial reporting by municipal securities issuers would further 

the interests of the Commission and market participants. As the Commission stated in the 1994 

Interpretive Release, an audit is a “reasonable expectation” for investors to have.804 

Additionally, audited financial statements are referred to in Rule 15c2-12805 and in GFOA’s 

guidelines and the CAFR program.806 This legislative proposal could be a scaled or tiered 

requirement, beginning with the largest issuers. 

• Provide a safe harbor from private liability for forward-looking statements of 

repeat municipal issuers who are subject to and current in their ongoing disclosure 

obligations that satisfy certain conditions, including appropriate risk disclosure

relating to such forward-looking statements, and if projections are provided, 

disclosure of significant assumptions underlying such projections. 

As noted above, improved availability of forward-looking or trend information regarding 

a municipal issuer or an obligated person is of importance to market participants.807 At the same 

time, some market participants are concerned about potential legal risk involved when municipal 

issuers provide such information on an ongoing basis.808

 

802 See supra note 

 Currently municipal issuers, as any 

other issuer of securities, can rely on the case-law established “bespeaks caution” doctrine when 

providing forward-looking information. Notwithstanding this, some have expressed continuing 

concerns with respect to the provision of forward-looking information in the municipal securities 

market. There are options for the Commission to consider in terms of encouraging the provision 

of forward-looking information while at the same time preserving the application of the antifraud

provisions of the federal securities laws to disclosures. 

438. 

803 See supra notes 422 - 421 and accompanying text.

804 See 1994 Interpretive Release, supra note 31. 

805 See supra § III.B.1.a (Overview).

806 See supra note 432. 

807 See, e.g., §§ III.B.1.d.ii (Interim Financial Information), III.B.1.d.iii (at Interim Financial Information) and 

III.B.2.d (Disclosure of Pension and OPEB Funding Obligations). 

808 See supra notes 383 and 473 and accompanying text.
138 

 This safe harbor would encourage municipal issuers to provide forward-looking 

information and would be available only to those municipal issuers that provide ongoing public 

disclosures and provide such information on a current and timely basis. This safe harbor would 

be similar to the Private Securities Litigation Reform Act safe harbor for reporting public 

companies809

• Permit the Internal Revenue Service to share with the Commission information 

that it obtains from returns, audits, and examinations related to municipal 

securities offerings in appropriate instances and with the necessary associated 

safeguards, particularly in instances of suspected securities fraud.

 and would apply only to private rights of action for antifraud violations. 

As discussed above, Section 6103 of the Code does not permit the IRS to disclose return 

information to the Commission and Commission staff in connection with civil enforcement of 

the securities laws.810

In the past, IRS Tax Exempt Bonds Division Directors have publicly acknowledged the 

value of such increased information sharing, should Congress choose to pass the necessary 

legislation.

 Were the IRS able to share with the Commission in appropriate instances 

information it obtains from returns, audits, and examinations, Commission enforcement actions 

relating to municipal securities would be more consistent, comprehensive, and timely. 

Furthermore, it would promote the efficient use of our limited resources and improve compliance 

by participants in the municipal securities market.

811 Moreover, this change would be consistent with the recent guidelines prepared by 

GAO to assist Congress in evaluating proposed exceptions to Section 6103.812

• To provide a mechanism to enforce compliance with continuing disclosure 

agreements and other obligations of municipal issuers to protect municipal 

securities bondholders, authorize the Commission to require trustees or other 

entities to enforce the terms of continuing disclosure agreements. 

The Commission does not have authority to enforce issuer compliance with continuing 

disclosure agreements that are provided as a condition to an underwriting of municipal securities 

subject to Rule 15c2-12, and no entity is required to enforce the terms of continuing disclosure 

agreements. Additionally, as noted above, market participants have suggested that noncompliance with continuing disclosure agreements is a problem among some issuers,813

 

809 See Section 27A of the Securities Act and Section 21E of the Exchange Act.

 and 

some have highlighted the lack of effective enforcement mechanisms to address such non810 See supra § II.B.2 (Internal Revenue Service).

811 Alison McConnell, “IRS: Tax-Exempt Bond Office Would Welcome Looser Disclosure Rules,” The Bond 

Buyer, Oct. 28, 2005, available at http://www.bondbuyer.com/news/-233416-1.html. 

812 U.S. Government Accountability Office, Taxpayer Privacy: A Guide for Screening and Assessing 

Proposals to Disclose Confidential Tax Information to Specific Parties for Specific Purposes, Dec. 2011 

(GAO-12-231SP). 

813 See supra § III.A.3 (Continuing Disclosure) and III.A.4.c (Market Participant Observations and Other 

Commentary: Continuing Disclosure).
139 

compliance.814

2. Regulatory 

 Providing the Commission authority to require an enforcement mechanism for 

continuing disclosure agreements would allow the Commission to provide important protections 

for bondholders. 

There are a number of possible actions that the Commission could pursue under its existing 

regulatory authority to improve disclosures and practices in the municipal securities market.

• The Commission could host market participants, regulators, and academics at an 

annual conference on the municipal securities markets.

The Commission could organize and host an annual conference on the municipal 

securities markets in order to allow market participants to confer with one another and to share 

with the Commission important developments in the municipal securities market. Through such 

a conference, market participants and the Commission would be able to discuss important issues 

in the municipal securities market, allowing the Commission to stay informed about municipal 

securities market conditions and ongoing issues in the market. In our view, such a conference 

would benefit the Commission and other interested parties, by fostering regulatory and industry 

cooperation through open and continuous dialogue. 

• The Commission could consider issuing updated interpretive guidance regarding 

disclosure obligations of municipal securities issuers and others. 

The Commission could consider updating the interpretive guidance the Commission

previously provided to municipal securities market participants in the 1994 Interpretive Release. 

This guidance could recognize the significant improvements in municipal securities disclosure 

since the 1994 Interpretive Release and the adoption of amendments to Exchange Act Rule 15c2-

12 and identify areas where the Commission thinks that improvement is still needed, based in 

part on the number of significant disclosure-related enforcement cases involving municipal 

securities brought since 1994, including, among other matters, financial statements and financial 

information, terms and risks of securities (including derivatives), and conflicts of interest and 

other relationships and practices. Updating the interpretive release would allow the Commission 

to provide further guidance through a means other than enforcement actions. 

• The Commission could consider amendments to Exchange Act Rule 15c2-12 to 

further improve the disclosures made regarding municipal securities. 

The Commission could consider further amendments to Exchange Act Rule 15c2-12 to 

improve the disclosures made with respect to municipal securities, both in primary offerings and 

on an ongoing basis. The Commission and market participants have identified a number of areas 

in which there could be improvements in the disclosure practices regarding municipal securities 

and where amendments to Rule 15c2-12 may be helpful. These amendments would not be 

needed, however, if the Commission receives direct authority over municipal issuer disclosures 

 

814 See supra note 404. 
140 

as discussed in the legislative recommendations above. The Commission could consider 

amendments to Exchange Act Rule 15c2-12, including the following: 

o amend the definition of final official statement to include required disclosure 

about the terms of the offering, including the plan of distribution, any retail order 

period, and the price to be paid for the municipal securities in the initial 

issuance;815

o mandate more specific types of disclosures in municipal securities official 

statements and ongoing disclosures, including event disclosures relating to 

issuance of new debt (whether or not subject to Rule 15c2-12 and whether or not 

arising as a result of a municipal securities issuance), primary offering disclosures 

relating to risks of the municipal securities, and disclosures about underlying 

obligors (regardless of the existence of credit enhancement or insurance);816

o provide a method to address noncompliance issues regarding continuing 

disclosure undertakings, including possibly by adding conditions that would 

require that issuers have disclosure policies and procedures in place regarding 

their disclosure obligations, including those arising under continuing disclosure 

undertakings;817

o consider modifications regarding application of the rule to demand securities and 

underwritten municipal fund securities offerings;

 

818

o improve the accessibility of disclosures, including the use of shortened or 

summary official statements and increased use of websites.

and

819

• The Commission should continue to work with the MSRB to strengthen its rules 

and further enhance EMMA. 

The MSRB has broad authority, as expanded by the Dodd-Frank Act, to adopt rules to 

regulate broker-dealers, municipal securities dealers and municipal advisors. In furtherance of 

its mission to protect investors, state and local government issuers, other municipal entities and 

the public interest by promoting a fair and efficient municipal market, the MSRB regularly 

evaluates the effectiveness of its rules as market practices evolve. In carrying out the 

 

815 See generally supra § II.A.4.c (Certain Primary Market Practice: Reporting of Not Reoffered Bonds).

816 See generally supra §§ II.C.6.a (Credit Enhancers: Market Participant Observations and Other 

Commentary), III.A.4.b (Market Participant Observations and Other Commentary: Initial Disclosure) and 

III.B.3.e.i (Exposure to Derivatives: Disclosure Issues: Market Participant Observations and Other 

Commentary).

817 See generally supra notes 371 - 373 and 398 - 402 and accompanying text. 

818 See, e.g., NABL Comment Letter, supra note 391 (requesting guidance regarding when remarketings of 

demand securities constitute “primary offerings” for purposes of Rule 15c2-12). The Staff also receives 

questions regarding the application of Rule 15c2-12 to underwritten municipal fund securities. 

819 See generally supra §§ III.C.1 (Access to Information), III.C.2 (Use of Issuer Websites) and III.C.3

(Presentation of Information and Comparability).
141 

Commission’s responsibilities for overseeing self-regulatory organizations, the Staff works 

closely with the MSRB staff, as well as FINRA staff, through regularly scheduled meetings and 

informal discussions to discuss emerging trends and potential regulatory solutions. Market 

participants have widely praised the MSRB for its development of EMMA and its continued 

improvements to the system. We note that EMMA has significantly improved access to issuer 

disclosures and other market information for investors. The Commission should continue the 

collaborative work with the MSRB, especially in identifying potential rule changes or new rules 

that could address some of the issues discussed in this Report. New rules or rule changes could 

include amending Rule G-19 (suitability) in a manner generally consistent with recent 

amendments by FINRA to its Rule 2111, including with respect to the scope of the term 

“strategy”820

The MSRB also serves as the central repository for continuing municipal securities 

disclosure, through EMMA. EMMA has significantly improved access to issuer disclosures and 

other market information for investors. The MSRB should promptly pursue enhancements to its 

EMMA website, including those referenced in its Long-Range Plan for Market Transparency 

Products, so that retail investors have better access to disclosure with respect to municipal 

securities as soon as practicable.

and otherwise harmonizing MSRB rules with similar FINRA rules.

821

The Commission and the MSRB should continue to analyze and discuss potential further 

enhancements to EMMA including making improvements so that disclosure data can be 

analyzed by specific types of municipal securities and by having the MSRB list issuers that are 

non-compliant with their continuing disclosure obligations on EMMA in order to assist brokerdealers, municipal securities dealers and investors in determining which issuers are noncompliant.

 

3. Municipal Market Initiatives

We also recommend that municipal issuers and other market participants continue to work 

together on initiatives to improve municipal securities market disclosures and other practices.

• Municipal market participants should follow and encourage others to follow 

existing industry best practices and expand and develop additional best practices 

guidelines in a number of areas to enhance disclosures and disclosure practices in 

the municipal securities market. 

 Best practice guidelines allow market participants to develop solutions to issues that 

arise in a time- and cost-efficient manner. Participants in the municipal securities market 

historically have worked together to develop best practice guidelines in the disclosure and other 

arenas. As discussed in this Report, many industry groups have established best practice 

guidelines to address various aspects of disclosure practices.822

 

820 See supra note 

 There remain a number of areas, 

however, where market participants could develop additional best practices or work together to 

244. 

821 See supra note 197. 

822 See supra § III.A.1 (Voluntary Disclosure Initiatives and Disclosure Guidelines).
142 

enhance existing best practices or industry guidelines that may further improve disclosures and 

disclosure practices in the municipal securities market. 

While we are encouraged by the existing guidelines and the willingness of industry 

groups to voluntarily discuss and generate a consistent way of measuring successful disclosure 

and accounting processes, we believe that industry participants should continue to refine these 

guidelines and explore new areas for guidance. 

 Voluntary industry initiatives would be useful in improving practices relating to the 

following areas: 

o disclosure policies and procedures for primary offering and ongoing disclosures, 

including issuer disclosure committees and training programs;823

o improve timeliness of financial information in primary offerings and on an annual 

basis;

 

824

o availability of quarterly or other interim financial information;825

o increased use of issuer websites;826

o presentation of and access to information in municipal securities offerings and on 

an ongoing basis;827

o use of derivatives in connection with municipal securities;828

o education efforts for investors, issuer officials and financial intermediaries.

and

B. MARKET STRUCTURE

Price transparency is vital for assuring that markets are fair and efficient, and providing 

meaning to fair pricing and best execution obligations. As discussed above, the municipal 

securities market is relatively illiquid and opaque, with substantially less transparency than the 

equities markets, particularly on a pre-trade basis. This inhibits the efficiency of the municipal 

securities market, which has relatively high-transaction costs compared to the equities market, 

especially for retail-size trades. The lack of price transparency may also undermine the ability of 

 

823 See generally supra § III.C.4 (Disclosure Controls and Procedures). 

824 See generally supra § III.B.1.d (Timeliness of Financial Information).

825 See generally supra § III.B.1.d (Timeliness of Financial Information). 

826 See generally supra § III.C.2 (Use of Issuer Websites).

827 See generally supra §§ III.C.1 (Access to Information) and III.C.3 (Presentation of Information and 

Comparability).

828 See generally supra § III.B.3 (Exposure to Derivatives).
143 

municipal securities dealers to fulfill their fair pricing and best execution obligations,829

Meaningful steps to improve price transparency should both improve the efficiency of the 

municipal securities market and better protect investors.

as well 

as investors and regulators to assess their compliance therewith. 

830

Accordingly, there are a variety of recommendations that could be explored to improve 

transparency in the municipal securities market, both on a pre-trade and post-trade basis, and 

make more meaningful existing fair pricing and best execution obligations. To the extent the 

Commission determines to pursue rulemaking efforts to implement any of these 

recommendations, the economic analysis, including costs and benefits, of any approach would be 

considered as part of a rule proposal. We note that, although we examined these issues in the 

context of our review of the municipal securities market, the Staff also could consider further 

study of relevant additional information to determine the extent to which these issues or similar 

issues could be relevant to the market for corporate fixed income securities. 

 The wider availability of more robust 

pricing information should facilitate the ability of market professionals and their customers to 

determine the best price for a security and where to obtain it. This should promote price 

competition among market participants, thereby reducing transaction costs and improving market 

efficiency. Better transparency also should facilitate compliance by municipal securities dealers 

with regulatory requirements, and provide investors with critical information to help assess 

whether they receive the best prices.

1. Improve Pre-Trade Price Transparency

Because there is so little pre-trade transparency in the municipal securities market today, 

we believe consideration should be given to possible ways to provide more information about 

bids and offers, or other trading interest, widely to market participants. Two ideas that we

believe warrant serious thought are set forth below. As these or other potential initiatives to 

improve pre-trade price transparency are examined in more detail, consideration should also be 

given to the associated costs and benefits, including the potential impact on liquidity and dealer 

participation in the market. 

• The Commission could consider amendments to Regulation ATS to require an 

alternative trading system (ATS) with material transaction or dollar volume in 

municipal securities to publicly disseminate its best bid and offer prices and, on a 

delayed and non-attributable basis, responses to “bids wanted” auctions. 

The order display and execution access provisions of Regulation ATS currently do not 

apply to ATSs that trade municipal securities. A potential regulatory approach to this issue is to 

 

829 See generally supra § IV.B.3 (Dealer Pricing Obligations to Customers).

830 Transparency initiatives are also being pursued in other jurisdictions. For example, the Markets in 

Financial Instruments Directive (MiFID), which has been in force since November 2007, is currently under 

review. The MiFID review proposal was published in October 2011, available at

http://ec.europa.eu/internal_market/securities/isd/mifid_en.htm. Among other initiatives, the European 

Commission is considering additional transparency requirements in non-equity market asset classes 

including bonds to increase market efficiency and protect investors. 
144 

amend Regulation ATS to require an ATS with significant trading volume (e.g., 5% of average 

daily transaction or dollar volume in municipal securities) to provide to the MSRB, for public 

dissemination, its best priced bids and offers for municipal securities that the ATS displays to 

more than one person.831

As discussed above, while ATSs today represent only a small percentage of overall dollar 

volume in municipal securities, they account for a substantial portion of the number of 

transactions (perhaps as high as 30-50% ), and appear to be used primarily for smaller retail size 

orders. Accordingly, the prices displayed by dealers on ATSs – which today often are available 

only to ATS subscribers – represent a potentially valuable source of pricing information to retail 

investors and their broker-dealers. Enhancing the transparency of the best prices on these 

platforms, and assuring that market participants have fair access to them, could facilitate best 

execution, improve market efficiency, and promote price competition in municipal securities. 

 In accordance with Regulation ATS, these material ATSs also would 

be required to provide municipal bond dealers fair access to those prices. The Commission also 

should work with the MSRB to explore the feasibility of enhancing the MSRB’s EMMA (or 

other) system to collect best bids and offers from material ATSs and make them publicly 

available on fair and reasonable terms. Finally, the Commission could consider amending 

Regulation ATS to require material ATSs to provide to the MSRB on a delayed (e.g., end-ofday) and non-attributed basis, for public dissemination, the best-priced bids submitted in 

response to “bids wanted” auctions conducted on the ATS. 

• The MSRB could consider rules requiring a brokers’ broker with material transaction 

or dollar volume in municipal securities to publicly disseminate the best bid and offer 

prices on any electronic network it operates and, on a delayed and non-attributable 

basis, responses to “bids wanted” auctions. 

For similar reasons, the MSRB could consider rules requiring municipal bond dealers that 

are brokers’ brokers, and that have significant trading volume in municipal securities, to provide 

to the MSRB for public dissemination, on a delayed (e.g., end-of-day) and non-attributed basis, 

the best-priced bids submitted in response to “bids wanted” auctions conducted by such brokers’ 

broker. The Commission also should work with the MSRB to explore the feasibility of

enhancing the MSRB’s EMMA (or other) system to collect this pricing information from 

material brokers’ brokers and make it publicly available on fair and reasonable terms. 

2. Improve Post-Trade Price Transparency

• The MSRB could consider requiring municipal bond dealers to report “yield spread” 

information to its Real-Time Transaction Reporting System (RTRS) to supplement 

existing interest rate, price and yield data. 

Although the MSRB has made great strides in recent years in improving post-trade 

transparency for municipal securities, investors may benefit from additional information 

regarding completed transactions. For example, dealers often quote municipal securities prices 

 

831 The Staff understands that, today, the orders displayed on ATSs to more than one person are generally 

offers rather than bids.
145 

in terms of “yield spreads” (i.e., the difference between the yield on the municipal security traded 

and the yield on an applicable benchmark security). Yields spreads can be expressed by 

reference to risk-free Treasury securities, or to benchmark municipal yield curves such as those 

produced by MMA or MMD. In either event, yield spreads offer a standardized way of 

expressing the risk premium paid for a municipal security and, given the wide variety of 

municipal securities and their illiquidity, may help investors assess the pricing of municipal 

securities and make relative value comparisons. They also could help municipal securities 

dealers, academics and regulators assess the quality of trade executions in the municipal 

securities market.

Accordingly, the MSRB could consider amendments to MSRB Rule G-14 that would 

require municipal bond dealers to report additional transaction data to RTRS, including yield 

spread information, and make that information publicly available on its EMMA website. 

• The MSRB should promptly pursue enhancements to its EMMA website so that retail 

investors have better access to pricing and other municipal securities information.

The transaction and other municipal securities information now available to investors on 

the MSRB’s EMMA website represents a substantial improvement over what was available to 

investors prior to EMMA. As noted above, however, retail investors continue to have access to 

substantially less pricing information than institutional investors and municipal bond dealers. 

As the MSRB indicated in its recently-issued Long-Range Plan for Market Transparency 

Products,

832

In addition to the recommendations above concerning disclosure-related enhancements to 

EMMA, the MSRB should promptly pursue other enhancements to its EMMA website, including 

those referenced in its Long-Range Plan for Market Transparency Products, so that retail 

investors have easier access to pricing information as soon as practicable. 

 and as noted by participants in the Commission’s Field Hearings, additional steps 

could be taken to enhance both the nature of the information made available by the MSRB on the 

EMMA website, and the ease with which it can be utilized by retail investors. These could 

include enhanced search functionality (e.g., based on characteristics of the security or issuer), 

analytical tools and research, and additional pricing-related market data, such as available yield 

curves.

3. Buttress Existing Dealer Pricing Obligations

Alternative Execution Options 

• The Commission and the MSRB should consider initiatives to improve the 

understanding of retail investors as to the various ways in which they might buy or sell 

a municipal bond, and the relative advantages and disadvantages of each. 

As discussed above, if a customer wishes to buy a municipal security, its broker may 

obtain the security in a variety of ways. The broker may sell the customer securities from its 

 

832 See MSRB Long-Range Plan for Market Transparency Products, Jan. 2012, available at

http://www.msrb.org/msrb1/pdfs/Long-Range-Plan.pdf. 
146 

own inventory if it is a municipal securities dealer, or it may obtain them directly from another 

municipal securities dealer. Alternatively, the broker may use a brokers’ broker to find the 

municipal securities or see if the securities are being offered on an ATS. Similarly, if a customer 

wishes to sell a municipal security, its broker may purchase the customer securities and hold 

them in inventory if it is a municipal securities dealer, or it may seek out another dealer that is 

willing to purchase them directly. A brokers’ broker also may be used to find another dealer that 

wants to buy the securities, or the broker could make a “request for quote” on an ATS. The 

method the broker uses to purchase or sell a municipal security for its customer can materially 

impact the price and timeliness of the transaction. For example, a dealer may be able to quickly 

sell (purchase) a municipal security from (into) its inventory, providing the customer certainty of 

execution, but this may come at the expense of a better price that might be obtained if the 

customer’s order were exposed to competition. 

Retail investors may not be aware of the variety of options that exists for buying or 

selling a municipal security, or their relative advantages and disadvantages. Accordingly, the 

Commission and the MSRB should consider initiatives to improve the understanding of retail 

investors in this area. For example, initiatives that would require municipal bond dealers to

disclose to retail customers, at account opening and annually thereafter, relevant information 

about their execution options could be considered. Consideration also could be given to 

enhancements to investor education programs in this area. Relevant information to be conveyed 

to retail investors might include: 

(1) the customer may purchase the security from the municipal bond dealer’s 

inventory, or sell to the dealer to hold in inventory, if the municipal bond 

dealer is in a position to do that; 

(2) the customer may have its dealer contact its network of other municipal bond 

dealers for potential interest; 

(3) the customer may have its dealer seek trading interest by using the services of 

a brokers’ broker or an ATS to which it has access; and 

(4) the potential benefits, risks and costs of each of these execution options. 

• The Commission and the MSRB could consider ways to encourage the use of ATSs 

or similar electronic networks that widely disseminate quotes and provide fair 

access. 

Today, there is very limited pre-trade price transparency in the municipal securities 

market and, to the extent it exists, such transparency is provided through electronic networks 

such as ATSs. Pre-trade price transparency is beneficial to the markets, in that it facilitates best 

execution, improves market efficiency, and promotes price competition. These benefits are 

maximized if pre-trade pricing information is made widely available to market participants, and 

fair access is provided to the trading interest represented thereby. Fostering the development of 

ATSs or similar electronic networks that widely disseminate quotes and provide fair access could 

improve the market structure for municipal securities, and provide better prices for investors. 
147 

Accordingly, the Commission and the MSRB could explore ways to encourage the use of 

transparent execution venues such as these. For example, consideration could be given to a rule 

requiring municipal bond dealers to affirmatively offer retail customers the option of exposing 

their orders on one or more ATSs that widely disseminate quotes and provide fair access. These 

ATSs could include the “material” ATSs that may become subject to the order display and 

execution access provisions of Regulation ATS, if the review recommended above results in

Regulation ATS amendments, as well as smaller ATSs that have elected to voluntarily meet 

these requirements. Such a rule could, as a practical matter, require dealers effecting municipal 

securities transactions for retail customers to become subscribers to these ATSs or arrange for 

indirect access to them. Customers that elect to expose their orders on such ATSs could obtain 

better prices, as well as contribute more broadly to the price discovery process in the municipal 

securities market. Another alternative that could be considered is requiring a municipal bond 

dealer to expose a retail customer order on one or more of these ATSs before it executes as 

principal, unless the customer affirmatively opts out of this process. 

Disclosure of Pricing Information 

• The MSRB should consider encouraging or requiring municipal bond dealers to 

provide retail customers relevant pricing reference information in connection with 

any municipal securities transaction a municipal bond dealer effects for such 

customer.

Retail investors today have access to substantially less pricing information than 

institutional investors and municipal bond dealers. Although the MSRB has enhanced the 

pricing and other information available to the public on its EMMA website, and we recommend

further improvements as discussed above, retail investors may benefit from having relevant 

pricing reference information provided to them by their municipal bond dealers in connection 

with a municipal securities transaction. Among other things, ready access to such pricing 

reference information could allow retail customers to better assess whether they have received 

best execution and could discipline municipal bond dealer fair pricing obligations. 

Accordingly, the MSRB should consider encouraging or requiring municipal bond 

dealers, in connection with any transaction effected for a retail customer, to provide such 

customer relevant pricing information. This information might include: 

(1) Recent transactions in the municipal security bought or sold by the customer, 

with an indicator as to whether they are interdealer or customer transactions, 

as reported to the MSRB’s EMMA database; and if there are no recent 

transactions in such security, similar transaction information for comparable 

securities;

(2) Current quotation information for the municipal security bought or sold by the 

customer, including those reflected on ATSs or similar electronic networks, as 

well as the bids received from any bids-wanted or RFQ process pursued by the 

dealer in connection with the customer’s transaction; and
148 

(3) The “yield spread” of the customer’s transaction to applicable benchmarks, 

such as to Treasury securities or municipal yield curves. 

Enhanced Fair Pricing Guidance and Markup Disclosure 

• The MSRB should consider issuing more detailed interpretive guidance to assist 

dealers in establishing the “prevailing market price” for a municipal security, for 

purposes of determining whether the price offered a customer (including any 

markup or markdown) is fair and reasonable.

As discussed above, determining the prevailing market price for municipal securities, 

particularly those that are illiquid, can be a complex task. If there have been no recent 

transactions in the particular security to be bought or sold, other sources of pricing information 

must be considered, such as the prices of “comparable” securities, benchmark yield curves or 

other economic models. In 2007, the Commission approved detailed interpretive guidance 

proposed by FINRA that establishes a framework for how a dealer should determine the 

prevailing market price for non-municipal debt securities in a variety of scenarios.833

 Accordingly, the MSRB should consider possible rule changes that would set forth more 

detailed guidance as to how dealers should establish the “prevailing market price” for municipal 

securities, and that is consistent with that provided by FINRA for non-municipal debt securities. 

 Although 

the MSRB, in 2010, sought comment on similar draft interpretive guidance that would apply to 

municipal securities, the MSRB has not yet filed a proposal with the Commission to incorporate 

that guidance into its rules. Providing municipal securities dealers a clear and consistent 

framework as to how they should approach the complex task of establishing the prevailing 

market price of municipal securities – particularly those that are illiquid – should enhance their 

ability to comply with fair pricing obligations, facilitate regulators’ ability to enforce those 

obligations, and better protect customers. 

• The MSRB should consider requiring municipal bond dealers to disclose to 

customers, on confirmations for riskless principal transactions, the amount of any 

markup or markdown. 

While MSRB Rule G-15 generally requires municipal bond dealers to disclose to 

customers on the transaction confirmation the amount of any remuneration to be received from 

the customer, if they are acting as agent, there is no comparable requirement if the dealer is 

acting as principal. As discussed above, however, municipal bond dealers execute virtually all 

customer transactions in a principal capacity, including on a “riskless principal” basis. As a 

result, customers today receive very little in the way of confirmation disclosure of their dealer’s 

compensation. Because riskless principal transactions are very similar, as a practical matter, to 

agency transactions, and the amount of the markup or markdown is readily determinable, 

confirmation disclosure of a municipal bond dealer’s compensation in these circumstances 

should allow customers to more effectively assess the fairness of the prices provided by dealers. 

 

833 See Exchange Act Release No. 55638 (Apr. 16, 2007), 72 FR 20150 (Apr. 23, 2007) (SR–NASD–2003–

141).
149 

This type of disclosure would be comparable to the Rule 10b-10 disclosures required when 

transacting in equity securities on a riskless principal basis.834

Accordingly, the MSRB should consider possible rule changes that would require 

municipal bond dealers acting as riskless principal to disclose on the customer confirmation the 

amount of any markup or markdown. The Commission should also consider whether a 

comparable change should be made to Rule 10b-10 with respect to confirmation disclosure of 

markups and markdown in riskless principal transactions for corporate bonds. 

• The MSRB should consider a rule that would require municipal bond dealers to 

seek “best execution” of customer orders for municipal securities.

As discussed above, MSRB rules generally require municipal bond dealers to trade with 

customers at “fair and reasonable” prices and to exercise diligence in establishing the market 

value of municipal securities and the reasonableness of their compensation.835 The MSRB, 

however, has not expressly imposed on municipal bond dealers an obligation to seek “best 

execution” for customer orders by evaluating where, among the variety of venues at which 

municipal securities may be executed, the most favorable price for the customer might be 

obtained.836 We note that FINRA does impose such an obligation on corporate bond dealers by 

requiring them, among other things, to use reasonable diligence to ascertain the best market for 

the security, and buy or sell in such market so that the resultant price to the customer is as 

favorable as possible under prevailing market conditions.837

The municipal securities market offers a variety of options for executing a transaction, 

including the dealer buying or selling from its own inventory, seeking prices from other dealers, 

or using the services of a brokers’ broker or ATSs. Which of these various options offers the 

most favorable terms reasonably available may vary substantially depending on the security in 

question, the needs of the customer, and the other particular facts and circumstances. 

Incorporating a best execution obligation into MSRB rules and providing related guidance, 

similar to FINRA’s approach to corporate fixed income securities, could buttress dealer fair 

pricing obligations and improve execution quality for municipal securities investors. 

 

 

834 See 17 C.F.R. 240.10b-10. Specifically, Rule 10b-10(a)(2)(ii)(A) requires that, if a broker-dealer, after 

having received a customer order to buy or sell an equity security, buys or sells that security from another 

person to offset a contemporaneous sale to or purchase from the customer, then the broker-dealer must 

disclose on the customer confirmation the difference between the price to the customer and the dealer’s 

contemporaneous purchase or sale price. In addition, for principal transactions in exchange-listed 

securities, Rule 10b-10(a)(2)(ii)(B) requires the broker-dealer to disclose the difference, if any, between the 

reported trade price and the price to the customer. 

835 See, e.g., MSRB Rules G-18 and G-30(a);MSRB Interpretive Notice, “Review of Pricing 

Responsibilities,” (Jan. 26, 2004); MSRB Interpretive Notice, “Interpretive Notice on Commissions and 

Other Charges, Advertisements and Official Statements Relating to Municipal Fun Securities,” Dec. 2001; 

MSRB Interpretive Notice, “Report on Pricing,” Sept. 1980.

836 See supra note 782 (noting a recent MSRB statement regarding the lack of a best execution obligation 

under the MSRB’s rules).

837 See FINRA Rule 5310.
150 

Accordingly, the MSRB should consider possible rule changes that would require 

municipal bond dealers to seek “best execution” of customer orders in connection with municipal 

securities transactions and provide more detailed guidance to municipal bond dealers on how 

“best execution” concepts would be applied in connection with transactions in municipal 

securities.