On August 6, 2024, US Vice President Kamala Harris announced Minnesota Gov. Tim Walz as her running mate for the 2024 presidential election. This selection triggers the political contributions rule under the Investment Advisers Act of 1940, Rule 206(4)-5, also known as the Pay-to-Play Rule. Under that rule, contributions to certain state or local “officials” by an investment adviser or its “covered associates” can result in a two-year ban on the adviser receiving compensation from “government entity” investors from that state or locality. The purpose of the rule is to prevent investment advisers, including fund managers, from exerting improper influence over elected officials who can, in turn, influence investment decisions by public-sector investors. The rule applies to both registered investment advisers (RIAs) and exempt reporting advisers (ERAs).

As the governor of Minnesota, Walz is an “official” as defined in the rule, which means that contributions to the Harris-Walz ticket could implicate an adviser’s ability to receive compensation from investors such as Minnesota State Retirement System, Public Employees Retirement Association, Teachers Retirement Association, and other plans or funds managed by the Minnesota State Board of Investment (SBI). (Note: Contributions to the Harris-Walz campaign do not appear to implicate an adviser’s ability to receive compensation from the University of Minnesota for purposes of the rule.) While the SBI website lists a number of fund managers in its private equity portfolio, the SBI historically has not been known for its venture investments. That said, given the rule’s “stickiness,” VC firms may still want to be mindful of the rule.

Below, we’ve outlined the rule’s main requirements and some compliance considerations. But first, we note the following points, which many of our clients have asked about since the announcement of Walz as Harris’ vice presidential pick:

• Contributions to the Harris campaign made prior to August 6, 2024, do not need to be returned, even if they exceed the de minimis limits discussed below.
• Because the Harris-Walz ticket cannot be bifurcated, contributions to the Harris campaign made on or after August 6, 2024, would implicate the rule even if intended to be “only for Harris and not Walz.”
• A contribution to a national committee such as the Democratic National Committee or a political action committee (PAC) would not, in and of itself, implicate the rule, but please see below regarding the rule’s prohibitions on coordinating, soliciting and otherwise circumventing the rule. (For instance, contributions to a PAC should not be earmarked for an official that would otherwise implicate the rule. To this end, we recommend obtaining a representation letter when contributing to a PAC.)

Quick primer on the Pay-to-Play Rule

The rule makes it unlawful for an adviser to receive compensation for providing advisory services to a government entity for a two-year period after the adviser or any of its “covered associates” (including senior personnel and members of the marketing or investor relations team) makes a contribution to a government entity’s “official” (including candidates and incumbents) who is or will be in a position to influence (directly or indirectly) the award of advisory business. Determining whether a particular government investor is captured often requires reviewing the governing documents and organizational structure of a government entity.

The rule generally prohibits advisers from paying third parties to solicit government entities for advisory business, unless such third parties are registered broker-dealers or registered investment advisers, which are in each case themselves subject to pay-to-play restrictions. Intended to address the concern that advisers and covered associates might try to indirectly solicit government entities and officials, the rule seeks to ensure that those who solicit through third parties still fall within the rule’s scope.

The rule also makes it unlawful for an adviser or its covered associates to coordinate or solicit either of the following:

• Contributions to an official of a government entity to which the investment adviser is seeking to provide investment advisory services.
• Payments to a political party of a state or locality where the investment adviser is providing or seeking to provide investment advisory services to a government entity.

This provision also seeks to prevent advisers and covered associates from indirectly engaging in conduct they would not be able to engage in directly.

Finally, the rule makes it unlawful for an adviser or any of its covered associates to do anything indirectly which, if done directly, would result in a violation of the rule. This catch-all provision triples down on the anti-circumvention goals of the rule. Making contributions through a family member to avoid the rule, for example, would be prohibited.

Compliance considerations

De minimis exception

The rule has a de minimis carve out pursuant to which any person who is eligible to vote for an official can contribute up to $350 to the official without running afoul of the rule. Those who are ineligible to vote for an official may contribute up to $150. Many VC firms often expect de minimis thresholds to be higher and are surprised by these limits.

Non-monetary contributions

The rule covers monetary and non-monetary contributions. Non-monetary contributions may include providing one’s home for a fundraiser or providing firm resources to support campaign activity. The rule does not prohibit covered associates from volunteering their time, provided the volunteering is not solicited by the adviser, adviser resources are not used, and it takes place during the covered associates’ personal time.

Look-back and look-forward limitations

The rule is “sticky” in that it covers contributions by persons who become covered associates – i.e., it covers contributions regardless of whether a person was a covered associate of the adviser at the time of the contribution. Unless a covered associate does not solicit investors after becoming a covered associate, in which case the look back period is six months, the two-year look-back period applies to new covered associates. Moreover, the two-year look-back period applies even where a covered associate contributes and then becomes a noncovered associate. Thus, for example, the departure of a covered associate would not lift the two-year ban on compensation if that covered associate has made a contribution to an official in excess of the de minimis limit within the prior two years.

Importantly, the rule also is “sticky” because it impacts an adviser’s ability to receive compensation from relevant government entities at any time during the two-year period following the date of contribution. Therefore, a contribution by a covered associate now could limit an adviser’s ability to accept an investment from a relevant government entity in the future, even if that government entity has not invested with the adviser at the time of the covered associate’s contribution.

Strict liability

Firms should note that the rule is a strict liability rule. In a recent enforcement settlement, the Securities and Exchange Commission (SEC) stated that the rule “does not require a quid pro quo or actual intent to influence an elected official or candidate.” In fact, the SEC has brought enforcement actions against private fund managers whose covered associates made contributions to an official of a government entity that was already invested in the adviser’s funds.

Conclusion

Fund managers and their covered associates should familiarize themselves with the rule’s restrictions and compliance requirements to prevent violating the rule. Given the costly consequences that can result from violations, a lot of firms have adopted policies that are broader than the bare minimum required under the rule. For instance, a policy might apply to all employees and not just “covered associates,” or de minimis exceptions might not apply.

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