The historically sedate municipal bond market has been jarred by recent civil enforcement actions and criminal prosecutions. In the past several years, in a focused targeting of the muni-bond marketplace previously afforded “second-class treatment,” the SEC has brought many “first-of-their-kind” actions against municipal bond issuers, underwriters and public officials. As this column went to press, the federal criminal trial of former Town of Oyster Bay Supervisor John Venditto (and former Nassau County Executive John Mangano) on securities fraud charges related to municipal bond sales by the Town of Oyster Bay was heading to conclusion. This trial follows on the heels of the December 2017 sentencing to 30 months’ imprisonment of former Ramapo, New York Town Supervisor Christopher St. Lawrence after his conviction on the DOJ’s first-ever criminal securities fraud trial related to municipal bonds.
In the wake of the financial crisis, disclosure requirements and other regulations protecting the $4 trillion municipal debt market were strengthened. Despite its importance, the muni-bond market had been substantially less regulated than most others. This regulatory ramp up was the result of an announced effort by regulators to police the muni-bond market and try to make it more transparent for investors.
The municipal securities market currently has almost 50,000 issuers, including states, counties, cities, and special districts and authorities. Comm’r Kara M. Stein, Sec. & Exch. Comm’n, Statement on Proposal of Amendments to Municipal Securities Disclosure Rule (Exchange Act Rule 15c2-12) (March 1, 2017) (Stein Statement). Proceeds from muni-bond offerings are typically used for a variety of infrastructure and capital improvement projects, such as roads and bridges, and to fund public institutions, such as schools and hospitals. Significantly, retail investors make up the largest segment of municipal debt holders at an estimated 70 percent of the entire market. Andrew J. Ceresney, Dir., Div. of Enf., Sec. & Exch. Comm’n, The Impact of SEC Enforcement on Public Finance: Keynote Address at Securities Enforcement Forum 2016 (Oct. 13, 2016) (Ceresney Speech). Traditionally seen as a relatively safe investment, there have been several high profile municipal issuer defaults, including defaults of more than $22 billion in 2016 alone.
In recent years, the SEC has brought many actions against municipal issuers, underwriters, and public officials under new regulations and by enforcing existing statutes, including some for the first time. These concerted actions have been led by the Enforcement Division’s relatively new Public Finance Abuse Unit, created in 2010 in a response to the financial crisis.
This column focuses on recent and novel enforcement actions in the municipal bond space. It surveys municipal securities regulatory changes and enforcement innovations geared toward municipal issuers, and looks at the future direction for enforcement and regulation in the muni-bond market.
The Municipal Securities Market Post-Financial Crisis
In the aftermath of the financial crisis, lawmakers and regulators implemented a number of improvements to shore up the integrity, professionalism and transparency of the muni-bond market.
First, in 2008, the SEC’s Municipal Securities Rulemaking Board enacted the Electronic Municipal Market Access (EMMA), requiring for the first time municipalities to disclose public information to investors online. Much like EDGAR, “EMMA provides free public access to official disclosures, trade data, credit ratings and other information about the municipal securities market.” Electronic Municipal Market Access (EMMA) Website, Mun. Sec. Rulemaking Bd. Until then, investors had no free or easily available way to get municipal offering and disclosure information.
Second, as required by §979 of Dodd Frank, the SEC created the Office of Municipal Securities (OMS). An independent office that reports directly to the SEC Chair, its role is to coordinate the SEC’s municipal securities activities and administer the regulations concerning municipal securities brokers and dealers, municipal advisors, investors in municipal securities, and municipal issuers. About the Office, Office of Mun. Sec., Sec. & Exch. Comm’n.
Third, in 2010, the SEC created a specialized Municipal Securities and Public Pensions Unit, recently renamed the Public Finance Abuse Unit, that is tasked with enforcement of the municipal securities market. Press Release, Sec. & Exch. Comm’n, SEC Names New Specialized Unit Chiefs and Head of New Office of Market Intelligence (Jan. 13, 2010). This unit is comprised of both attorneys and non-attorney specialists.
Enforcement in the ‘Broken Windows’ Era
During the Obama administration, the SEC’s Public Finance Abuse Unit took a self-described “broken windows” approach to municipal securities, in part because of the SEC’s prior “second-class” treatment and “relative lack of attention  given to the municipal securities market.” Walter Speech; see Ceresney Speech (SEC had traditionally “lacked sustained enforcement attention and the development of deep expertise regarding abuses in public financing.”). This new sustained attention resulted in several enforcement initiatives, rules, and proposed regulations designed to create an environment of more robust reporting by municipal issuers. Because municipal issuers are broadly exempt from the registration requirements of the Securities Act, fewer enforcement remedies are available, but do include the antifraud provisions of the Securities Act, the Securities Exchange Act and Rule 10b-5. Sec. & Exch. Comm’n, Report on the Municipal Securities Market (July 31, 2012). Because the SEC has limited ability to regulate municipal issuers, its investor protection efforts are primarily accomplished by regulating gatekeepers such as broker-dealers and municipal advisors. As such, municipal issuers are not required to file offering materials or periodic reports with the Commission. Additionally, municipal bonds are not traded on any exchange. They are traded in a decentralized over-the-counter dealer market, which is relatively opaque as to normal market information such as pre-trade pricing data.
Municipalities Continuing Disclosure Cooperation Initiative. In July 2014, OMS in conjunction with the Public Finance Abuse Unit launched the Municipalities Continuing Disclosure Cooperation Initiative (the MCDC Initiative), which was designed as a “sweep” to build awareness of investor protection rules that were previously under-enforced, particularly “continuing disclosure” obligations. Municipalities Continuing Disclosure Cooperation Initiative, Div. of Enf’t, Sec. & Exch. Comm’n, Municipalities Continuing Disclosure Initiative (last visited Dec. 28, 2017) (MCDC Initiative); Ceresney Speech. Under the initiative, if a municipal entity self-reported a violation but otherwise complied with the program’s requirements, the Enforcement Division would seek a settlement with reasonable terms. Those terms included implementation of appropriate practices to prevent future violations.
The MCDC Initiative by all accounts was successful. In FY 2016, the SEC brought 84 actions as part of the MCDC Initiative, accounting for 15 percent of standalone enforcement actions that year. Div. of Enf’t, Sec. & Exch. Comm’n, Annual Report: A Look Back at Fiscal Year 2017 (Nov. 15, 2017) (Annual Report). Since 2013, the Division has brought enforcement actions against 76 state or local government entities and 16 public officials under the program. By comparison, from 2002 to 2012, the SEC brought only 24 actions in the public finance category. Ceresney Speech. In 2016, the SEC ended the program, shifting its enforcement priorities to those issuers, underwriters and public officials that did not report under the initiative.
Municipal Advisors. In 2010, the Dodd-Frank Act imposed registration requirements on “municipal advisors,” and further established that “municipal advisors” owe a fiduciary duty to its government clients. 15 U.S.C. §78o-4(b). The registration and fiduciary duty requirements for municipal advisors are intended to reduce undisclosed conflicts and professionalize advice given to municipal issuers. In 2016, the SEC filed its first action against a municipal advisor, finding that a Kansas-based entity did not disclose its financial interest in underwriting its municipal client’s offering. Order Instituting Administrative and Cease-and-Desist Proceedings, March 15, 2016, In re Central States Capital Markets, (SEC Admin. Proc. File No. 3-17170).
Proposed Amendments to Rule 15-c2-12. OMS’s regulatory authority comes through Rule 15-c2-12, which governs municipal securities disclosure. See 17 C.F.R. §240.15c2-12. In 2017, the SEC issued a proposal to expand its event-driven disclosure requirements under Rule 15c2-12. Press Release, Sec. & Exch. Comm’n, SEC Proposes Rule Amendments to Improve Municipal Securities Disclosures (March 1, 2017). Under the amendments, municipal issuers would be required to disclose a material financial obligation and any material agreement that could affect security holders, any material default, event of acceleration, termination event, modification of terms, or other similar event that would reflect financial difficulties. Id. The goal of the proposed rule is to require municipal bond issuers to disclose more information about bank loans, direct purchases, and private placements. Stein Statement (As of 2018, the OMS was still meeting with interested parties to discuss the proposed amendments.) Though many stakeholders see these reporting requirements as overly broad, acting OMS Director Rebecca Olson recently (and correctly) stated that “[u]nless there is a requirement,” many issuers would decline to report information about bank loans and private placements—the very type of liabilities at issue in the Town of Oyster Bay criminal and civil enforcement actions. Lynne Hume, “Lawyer sees alternative to controversial SEC disclosure proposal,” The Bond Buyer (Oct. 5, 2017).
First-of-their-Kind Enforcement Actions and Remedies
Since the creation of the Public Finance Abuse Unit, the Division has engaged in a number of “first-of-their-kind” actions. Ceresney Speech. In 2013, the Division sought a temporary restraining order enjoining the City of Harvey, Illinois from bond offerings. The city ultimately agreed to a final judgment requiring it to obtain independent disclosure counsel for any new offerings. Press Release, Sec. & Exch. Comm’n, SEC Obtains Court Order to Halt Fraudulent Bond Offering by City of Harvey, Ill. (June 25, 2014). Also in 2013, the Division for the first time sought civil penalties against a municipal issuer when it brought and settled charges against the Greater Wenatchee (Washington) Regional Facilities District. Order Instituting Cease-and Desist Proceedings, Making Findings, and Imposing Remedial Sanctions, In re The Greater Wenatchee Regional Events Center Public Facilities Districts, Nov. 5, 2013 (SEC Admin Proceeding File No. 3-15602). In 2014, the Division sought controlling person liability under Section 20(a) of the Exchange Act, holding the former mayor of the City of Allen Park, Michigan liable in connection with a municipal bond offering to support a movie studio project. Order Instituting Cease-and Desist Proceedings, Making Findings, and Imposing Remedial Sanctions, In re City of Allen Park, Nov. 6, 2014, (SEC Admin. Proc. File No. 3-16259). Until that action, §20(a) had only been used for corporate enforcement actions.
Recent Criminal and Civil Muni-Bond Prosecutions in New York
The DOJ and SEC recently brought charges against elected officials in two well-publicized municipal bond fraud cases in New York. In April 2016, the SEC filed fraud charges against Ramapo, New York, its local development corporation, and four town officials for concealing a deteriorating financial outlook over a $60 million baseball stadium. Compl., April 15, 2016, SEC v. Town of Ramapo, New York, (7:16-cv-02779-CS, Doc. No. 11). Concurrently, federal prosecutors brought parallel criminal charges against the town supervisor and the executive director of the development corporation. Indictment, April 15, 2016, United States v. St. Lawrence, (16-cr-259-CS, Doc. No. 1). In November 2017, a final judgment on consent was entered against the town and the Ramapo Local Development Corporation, permanently enjoining them from violating the securities laws and requiring them to retain an independent consultant and an independent auditing firm. Judgment, Nov. 17, 2017, SEC v. Town of Ramapo, New York (7:16-cv-02779-CS, Doc. No. 125). In December 2017, the former town supervisor was sentenced to 30 months in prison after a jury convicted him. Press Release, U.S. Dep’t J., Former Ramapo Town Supervisor Christopher St. Lawrence Sentenced To 30 Months In Prison In Municipal Bond Securities Fraud Case (Dec. 13, 2017). This was the Department of Justice’s first conviction for securities fraud in connection with municipal bonds.
The SEC and DOJ have lodged a similar set of actions against the Town of Oyster Bay and its former Supervisor John Venditto. In 2016, Mr. Venditto, then-current Nassau County Executive Edward Mangano, and Mangano’s wife, were all charged in a federal indictment with crimes related to privately held loans which Oyster Bay illegally guaranteed and concealed from the public. Indictment, Oct. 18, 2017, United States v. Mangano (2:16-cr-00540-JMA-SIL, Doc. No. 1). (Private loan guarantees by municipalities are barred by New York’s Constitution. N.Y. Const. art. VIII, §1.) The loans were for a political supporter, who was the operator of many Oyster Bay restaurants. In exchange for the guaranteed loans, the former elected officials were allegedly bribed with meals, chauffeurs, vacations, jewelry, and a $450,000 “no-show” job for Mr. Magnano’s wife. Govt.’s Omnibus Mem. of Law in Opp’n to Defs.’ Pretrial Mots., Nov. 14, 2017, United States v. Mangano (2:16-cr-00540-JMA-SIL, Doc. No. 90).
In November 2017, in a superseding indictment, federal prosecutors charged Mr. Venditto with securities fraud and wire fraud related to Oyster Bay muni-bond securities offerings, alleging that he concealed the illegal loan guarantees from investors and others. Superseding Indictment, Nov. 21, 2017, United States v. Mangano (2:16-cr-00540-JMA-SIL, Doc. No. 92). Concurrently with the superseding indictment, the SEC in parallel civil litigation charged Oyster Bay and Mr. Venditto with defrauding investors of the town’s bonds by hiding the existence and potential financial impact of the illegal loan guarantees. The federal criminal trial commenced in mid-March 2018 and was ongoing as this column went to press.
Also in 2017, the Port Authority of New York and New Jersey agreed to $400,000 in civil penalties after the SEC brought an enforcement action involving securities offerings that were outside the scope of the Port Authority’s mandate. Press Release, Sec. & Exch. Comm’n, SEC: Port Authority Omitted Risks to Investors in Roadway Projects, (Jan. 10, 2017).
Municipal Securities Enforcement Today
Under the Trump administration, a clear picture of the SEC’s enforcement priorities for municipal issuers is still being developed. In FY2017, the SEC filed 17 public finance abuse enforcement actions compared to 97 in FY2016, but that drop was in large part accounted for by the elimination of the MCDC Initiative. It is likely that the SEC has reshuffled its previous priorities from the wide band of sweep actions in recent years to more discrete misconduct prosecutions. The end of the MCDC Initiative and shifting priorities of the current administration could signal a brief reprieve for municipal issuers. However, given that the SEC has honed its enforcement tools in recent years, it will likely continue to pursue actions typical in the current enforcement environment, and seek stronger penalties for misconduct that is not self-reported.
Municipal issuer fraud has far reaching and tangible effects for residents and property taxpayers as well as investors. In Oyster Bay, for example, not only will the town likely need to pay monetary penalties, but also its costs for issuing securities both in bond yields and offering costs are likely to greatly increase in the years ahead due to the enforcement proceedings and the town’s new near-junk bond status. Global Credit Research, “Rating Action: Moody’s affirms Baa3 on Oyster Bay, NY’s GOs; Outlook remains stable,” Moody’s (Dec. 27, 2017). (Several million dollars of attorney fees related to the different actions have also accrued, all at taxpayers’ expense.) This burden falls on taxpayers.
Whether this new atmosphere of disclosure and enforcement will prevent nascent bad actor municipal bond players from misconduct is of course unknowable, but it would appear to provide sounder protections for taxpayers and investors. It will be interesting to watch the next arc of municipal securities regulation and enforcement. Prosecutions like Oyster Bay and Ramapo certainly do get local officials’ attention. Overall, with respect to municipal securities, municipalities need to catch up with the times with increased professionalization, disclosure and transparency, just like commercial entities. These developments should be good news for investors.
 Moody’s Investor Service, Default Research: US Municipal Bond Defaults and Recoveries, 1970-2016 (2017). Comm’r Elisse B. Walter, Sec. & Exch. Comm’n, Speech by SEC Commissioner: Regulation of the Municipal Securities Market: Investors Are Not Second-Class Citizens (Oct. 28, 2009) (Walter Speech) (noting over $24 billion in municipal bond defaults from 2000-2009). Egregious instances of municipal issuer misconduct and mismanagement have always triggered the SEC’s attention, such as the Washington Public Power Supply System and Orange County defaults and bankruptcies. Known as the “WHOOPS” scandal, the $2.25 billion bond default by the WPPSS consortium led the SEC in the late 1980’s to more closely examine municipal securities, resulting in the creation of Rule 15c2-12. Recent important enforcement matters dealing with public finance include actions against the City of San Diego in 2006, actions involving Jefferson County, Alabama in 2008, actions involving the sale of Puerto Rican bonds in 2014, and settled orders against Edward Jones in 2015 and State Street Bank in 2016.
 The “broken windows” approach was a hallmark of the enforcement regime by then-Chair Mary Jo White. Chair Mary Jo White, Sec. & Exch. Comm’n, Remarks at the Securities Enforcement Forum (Oct. 9, 2013).
 Annual Report, supra. The SEC has continued to file cases affecting the muni-bond market. Two cases of note from 2017 include an enforcement action against the former mayor of Markham, Illinois, for engaging in a pay-to-play scheme involving bond proceeds. Compl., Dec. 1, 2017, SEC v. David Webb, Jr., (17-cv-8685, Doc. No. 1). The second case, in April 2017, involved settled charges against an Arizona-based brokerage firm, its CEO, and its former underwriter’s counsel related to fraudulent municipal bond offerings. Order Instituting Administrative and Cease-and-Desist Proceedings, In re Lawson Financial Corporation (SEC Admin Proceeding File No. 3-17902 April 5, 2017); Order Instituting Administrative and Cease-and-Desist Proceedings, In re John T. Lynch, Jr., (SEC Admin Proceeding File No. 3-18901 April 5, 2017). The SEC noted that the violators would have received more lenient remedies had they been self-reported under the MCDC Initiative. Press Release, Sec. & Exch. Comm’n, SEC Charges Muni Bond Underwriter With Gatekeeper Failures (April 5, 2017).
Steven M. Witzel is a partner of Fried, Frank, Harris, Shriver & Jacobson and chair of the white-collar defense, regulatory enforcement and investigations practice. Daniel C. Fishbein is a former associate at the firm currently serving as a law clerk to a federal judge. Jasen Fears, an associate at the firm, assisted in the preparation of this column.