Lawmakers: Close SEC’s open-records loophole

Friday, August 6, 2010

WASHINGTON — A bipartisan group of senators has introduced legislation to make regulation of financial companies more transparent — and to close a major loophole in the sweeping financial overhaul enacted last month.

The bill would reverse language in the overhaul law that allows the Securities and Exchange Commission to reject many open-records requests. The SEC would not have to disclose any records related to its policing investigations of companies such as hedge funds and computer trading platforms.

A provision in the new Dodd-Frank Wall Street Reform and Consumer Protection Act, which is now law, has raised eyebrows among some First Amendment and freedom-of-information advocates.

The federal Freedom of Information Act requires that government records be released to anyone who asks, unless they fall under one of nine exceptions to the law. The overhaul law broadened the SEC's ability to invoke these exemptions.

Lucy Dalglish, executive director of the Reporters Committee for Freedom of the Press, told the Reynolds Center for Business Journalism that the Dodd-Frank law appeared to give “third-party companies the same protection the company under investigation gets.”

The SEC has been criticized for failing to catch a number of high-profile frauds before the crisis, including a multibillion-dollar Ponzi scheme operated by Bernard Madoff. Critics fear the open-records loophole would help the agency withhold information about other failures.

Lawmakers from both parties and both chambers are concerned about exempting the SEC from oversight just as it tests out new powers it gained under the overhaul.

The Senate legislation was introduced yesterday by Sens. Patrick Leahy, D-Vt.; John Cornyn, R-Texas; Ted Kaufman, D-Del. and Chuck Grassley, R-Iowa. A similar measure was introduced in the House this week by Rep. Darrell Issa, R-Calif.

The legislation mostly reverts to the old disclosure rules. But it lets the SEC protect some information by treating all the companies it regulates as if they were banks. Information produced as part of bank supervision is already exempt from the open-records law.

The SEC says it needs the exemption to keep the companies' investment practices secret. It says investment funds and others will refuse to turn over data that they think will be shared publicly.

“The new provision applies to information obtained through examinations or derived from that information,” said SEC spokesman John Nester. “We are expanding our examination program's surveillance and risk assessment efforts in order to provide more sophisticated and effective Wall Street oversight. The success of these efforts depends on our ability to obtain documents and other information from brokers, investment advisers and other registrants. The new legislation makes certain that we can obtain documents from registrants for risk assessment and surveillance under similar conditions that already exist by law for our examinations. Because registrants insist on confidential treatment of their documents, this new provision also removes an opportunity for brokers, investment advisers and other registrants to refuse to cooperate with our examination document requests.”

If passed, this measure would be the first law to close a loophole in the 2,300-page overhaul, which includes sweeping new powers for regulators and creates a new consumer financial-protection bureau.

Earlier this week, Delaware Sen. Ted Kaufman, a Democrat, said the nondisclosure provision improperly bars the public from obtaining information from the SEC. He said language in the law was too broad and should be reevaluated by the SEC and Congress, and added that transparency was key in restoring credibility to the nation's financial markets.

Steven Mintz, founding partner of law firm Mintz & Gold LLC in New York, described the new act as a “backroom deal that was cut between Congress and the SEC to keep the SEC’s failures secret. The only losers here are the American public.”

Fox Business News last week reported what it called a “flaw in the law.” Mintz, an attorney representing Fox Business News, said the network would challenge the SEC’s interpretation of the law.

First Amendment Center intern Matthew Beddingfield contributed to this report.