The Topline
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SEC Inspector General raises alarm over volume and pace of SEC’s rulemaking activity leaving proposals vulnerable to litigation and providing fodder for congressional oversight
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CFPB funding structure ruled unconstitutional, potentially jeopardizing agency rulemaking and enforcement if decision is upheld
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SBA opens lending program to fintechs and proposes broadening access for SBICs—funds with a portion of capital backed by SBA that invest small businesses and startups
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DOJ revives focus on prohibiting interlocking directorates, prompting seven corporate directors to resign
Macro Matters
Election outlook: tax policy
Perhaps more so than other issue areas, tax policy will be driven by the election outcome. To that end, we follow last week’s edition of the election outlook series where we previewed capital markets policy with our tax policy outlook.
Democratic majorities
Over the past two years, Democrats relied on a parliamentary procedure called budget reconciliation to pass spending and tax legislation with thin majorities in both chambers of Congress—and without Republican support.
Although Carta and industry partners successfully defended many key priorities— preserving qualified small business stock ( QSBS) treatment, enabling IRAs to invest in private assets, and maintaining existing carried interest tax treatment—Democrats could again leverage reconciliation and reconsider those provisions if they retain a majority in both chambers. But if Republicans gain the majority in one chamber, reconciliation is off the table because legislation will need bipartisan support.
Tax policy in divided government
If Republicans win the House (which appears quite likely), policymakers are expected to continue discussions about restoring R&D expensing and both 100% bonus depreciation and the pass-through deduction along with several other business tax incentives that are set to expire at the end of 2025. While the adjustment to R&D has bipartisan support, bonus depreciation is not widely supported by Democrats. There is a possibility some of these policies are included in a year-end tax bill during the lame duck session if Republicans make concessions on the child tax credit (CTC) expansion or other critical Democratic priorities. If not, expect them to be the focus in the new Congress. Another key priority for both sides is SECURE 2.0, the retirement savings package. Similar to the previously mentioned provisions, there is a push to pass a bill in the lame duck (the House and Senate retirement packages are in the process of being reconciled). If not wrapped this year, expect it to be a priority next.
In a Republican House, the top candidates vying to chair the powerful Ways and Means Committee, which is the chief tax-writing committee in the House, have all identified similar policy goals. In addition to the extending the tax incentives that are set to expire, we can expect support for proposals like:
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Limiting cessation of IRA treatment – a provision that would modify the disqualification rule that applies when an IRA owner or beneficiary engages in a prohibited transaction so that only the portion of the IRA that is used in the prohibited transaction is treated as distributed to the individual.
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The Eliminating Paperwork for Startups Act – a provision that would require the IRS to allow individuals to file 83(b) election forms and receive their responses electronically.
However, if Republicans take the House and Democrats hold on to their Senate majority, partisanship will make legislating on major tax legislation difficult. Whichever party controls the Senate next session will have ultra-thin margins that necessitate bipartisan support for any bill to clear the chamber. Leadership atop the Senate Finance Committee will remain steady as both senators have uncompetitive reelection bids.
Startup policy seminar: Policies and Resources Impacting Startup Investment
It is essential that founders be well informed and up-to-date on policy developments, government resources, and the importance of startup advocacy in the capital formation space. Tune in Oct. 24 at 4:00pm (ET) as Carta Policy team’s Holli Heiles Pandol joins Engine and a panel of startup ecosystem members to federal policymakers to explore challenges faced by founders and the ways policymakers and government officials can better enable startup founders to raise capital.
Capital markets
SEC under fire for aggressive rulemaking agenda
The SEC’s Inspector General (IG) released a report highlighting concerns around the SEC’s aggressive rulemaking pace under Chair Gary Gensler and high attrition rate for senior SEC personnel and attorneys. The report outlines SEC staff concerns that short deadlines—both for drafting process and public comment —and strained agency resources could limit staff research and analysis in rulemaking. In some cases, SEC managers reported relying on the work of staffers “with little or no experience in rulemaking.” While the staff did not admit errors in the process, the IG reported that SEC staff is concerned that the Commission’s current approach to rulemaking could lead to increased litigation risk, particularly as it pertains to high-profile rules with significant impacts on external stakeholders. A number of commenters have questioned the SEC’s authority on some of its more controversial proposals and whether the related economic analysis is sufficient under the Administrative Procedures Act (APA), which governs the process agencies must follow when promulgating regulations.
As previously highlighted, we expect the SEC’s rulemaking process to be a predominant focus for congressional oversight next Congress if Republicans regain the majority. Rep. Patrick McHenry, who is expected to chair the House Financial Services Committee should Republicans win the House majority, led a letter questioning the integrity of the SEC’s rulemaking process following the technical glitch that forced the SEC to briefly reopen comment periods for 11 of its rulemaking proposals. Lawmakers focused on whether the SEC’s proxy advisor rule was impacted by the glitch, as it was open for public comment and finalized during the impacted time period. The proxy advisor rule is already the subject of legal action, but potential APA violations would be grounds for further challenges.
The length of comment periods under Gensler has been a bipartisan source of concern not only because of tighter public comment windows, but also given the complex and overlapping nature of some of the rulemaking proposals. In a previously unreleased letter from September 13, a number of moderate Senate Democrats pushed Chair Gensler to ensure the public had a reasonable amount of time to provide feedback on individual rulemaking proposals and how they interact with other proposed rule changes. Congressional pressure—and the technical glitch around comment submissions—have been successful in delaying the SEC from finalizing some of its key priorities, including implementing a climate change disclosure regime, which was originally expected to be completed this fall. But we still expect Gensler to push to accomplish the majority of his agenda during his term.
SEC open meeting next week
Continuing with the SEC-rulemaking theme, the SEC is expected to consider a proposal and adopt the following rules next week:
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Oversight requirements for registered investment advisers that outsource certain services or functions to service providers (proposal)
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Modernized mutual fund and ETF shareholder reports (adoption)
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Clawback rule for erroneously awarded compensation (adoption)
Crypto & digital assets
Gensler pushes for SEC role in stablecoin oversight; Gruenberg signals caution
SEC Chair Gary Gensler is doubling down on his view that certain dollar-backed stablecoins could be securities: While Gensler acknowledges such coins could function as a payment method, he argues their tether to liquid assets like the U.S. dollar resemble money market funds (MMFs), which are regulated by the SEC. This position conflicts with congressional efforts that would give the Federal Reserve oversight of stablecoins, and there is general consensus among the federal prudential regulators that stablecoins should be subject to bank-like regulation. With calls from FSOC and other regulators for Congress to develop a regulatory framework for stablecoins, Congress is likely to act, it is more about when. Though there have been some disagreements on the bipartisan stablecoin framework, those areas have focused on the role of state regulators, not the SEC. But until Congress acts, the SEC, as well as other federal regulators, will push forward with their own digital asset agendas.
To add another dynamic to the stablecoin debate, acting FDIC Chair Marty Gruenberg signaled support for a prudential regulatory framework for bank-issued stablecoins but cautioned that nonbank stablecoins have the potential to disintermediate community banks and risk further entrenching fintech and nonbank lending, which are not subject to same oversight as traditional financial institutions.
Carta live virtual event: How to start and manage your crypto fund
Institutional crypto investing is becoming more sophisticated and growing to include a broader reach of funds. Despite the current market slowdown fund managers are becoming more comfortable about adding a mix of digital assets to their portfolios. However, it’s still a new frontier for many investors. With a lack of visibility into the steps to incorporate digital assets, shifting federal regulations, and lagging tools and services for crypto fund admin, GPs are left with a level of uncertainty on the right process for getting started and managing digital investments. Join Carta alongside a panel of crypto experts for a live virtual event on Oct. 27 at 10:00am (PT).
In the event we’ll review:
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Process: What is a crypto fund and how can fund managers get started
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Tax & Audit: digital currency financial implication to consider
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Legalities: legal perspectives and considerations your team should prepare for
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Tools services: the right solutions and partners to assist with digital asset management
Banking & financial products
CFPB funding structure ruled unconstitutional
A three-judge panel of the 5th U.S. Circuit Court of Appeals dealt a blow to the Consumer Financial Protection Bureau (CFPB), deeming the agency’s long-contested funding structure unconstitutional and throwing out a 2017 payday lending rule as a result. The CFPB receives funding through the Federal Reserve, not congressional appropriation. This structural choice was intended to insulate the agency from legislative interference and, like many aspects of the CFPB, has long drawn Republican criticism. The CFPB will likely appeal this decision. If the 5th Circuit decision is upheld, the agency will be vulnerable to legal challenge on its rules and authority.
Republicans will use the 5th Circuit decision to push for legislation to bring the CFPB under the traditional government funding umbrella, which provides Congress with greater oversight. Under the leadership of Director Rohit Chopra, the CFPB has stoked Republican scrutiny by pursuing an expanded enforcement agenda that includes supervising fintechs and other nonbank entities.
SBA plans to open 7(a) loan program to fintechs, revamps SBIC to boost diversity
The Small Business Administration (SBA) will soon propose a rule to allow non-depository institutions—including fintechs—to apply for new Small Business Lending Company (SBLC) licenses, enabling their participation in the SBA’ primary lending window, its 7(a) Loan Program. The goal is to increase the number of participating lenders and better reach smaller-dollar and underserved markets. The SBA also published a notice of proposed rulemaking (NPRM) that would revise the regulations for the Small Business Investment Company (SBIC) program. SBICs are investment funds regulated by the SBA that use their own capital as well as funds borrowed with an SBA guarantee to invest predominately in small businesses and startups. The SBIC proposed rulemakings are intended to reduce barriers to participation in the program and modernize its license offerings to better reflect the diversity of private funds that invest in small businesses, which could help support emerging managers that are building funds, especially in a contractionary environment where raising capital may be more challenging. Public comments will be accepted until December 19.
Taxation & accounting
Inflation adjustments drive up tax thresholds
Deductions and exemption thresholds will jump in tax year 2023 under the IRS’ newly released inflation adjustments, which benefits taxpayers but remains outpaced by still increasing inflation levels. The thresholds include a 7% increase in the alternative minimum tax (AMT) exemption amount and higher maximums for the earned income tax credit ($7,430), annual exclusion for gifts ($17,000) and estate tax exemption ($12.92 million). Similarly, earners in the highest tax bracket will have approximately $40,000 to $46,000 more shielded from the 37% top rate. The standard deductions for married couples filing jointly and single taxpayers will rise by $1,800 and $900, respectively, with heads of households seeing a $1,400 bump in their standard deduction.
Deregulation of marijuana could bring tax clarity for businesses
If the federal government shifts marijuana to a lower scheduling class (as contemplated in the White House’s push for marijuana reform), the ripple effects would have significant tax implications for cannabis businesses. Companies that deal in marijuana products are currently barred from using normal business tax incentives due to the drug’s federal status as a Schedule I controlled substance. As a result, cannabis companies that operate in the 19 states where marijuana is legal are unable to offset their gross receipts by the cost of goods sold when calculating their income. These prohibitions would no longer apply if marijuana were to be reclassified. State-level tax regimes’ treatment of marijuana companies vary, but federal action may also trigger legislative movement in states with similarly restrictive approaches.
Antitrust, privacy, and technology
DOJ wields Clayton Act prohibition on interlocking directorates
The Justice Department shifted its competition policy this week, using Section 8 the Clayton Act on interlocking directorates and prompting seven directors at five companies to resign their corporate board positions. DOJ asserted that interlocking directorates may facilitate the sharing of confidential information and lead to more consolidation, stifling competition. Interlocking directorates, which occur when an individual concurrently serves as an officer or director for two corporations, are a per se violation of antitrust law but have been left largely intact to date. Section 8 enforcement is typically seen during merger reviews, but the ramp up enforcement of Section 8 to break up interlocking directorates and proactively address behaviors deemed anticompetitive across industries marks a notable expansion in antitrust enforcement. DOJ’s spotlight on this practice may have a significant impact on private equity and investment firms, with some reportedly receiving confidential investigation letters from the agency. This is the first step in a broader review of potentially unlawful interlocking directorates, according to the DOJ.
Upcoming events
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Chairman Behnam to participate in a discussion at SIFMA’s Annual Meeting – Oct. 24 at 1:40pm (ET)
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SEC Open Meeting – Oct. 26 at 10:00am (ET)
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Blockchain Association Policy Summit – Nov. 15-16
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FTA Fintech Summit: Shaping the Future of Finance – Nov. 16
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Carta Equity Summit 2022 – Dec. 7 at 1:00pm (ET)
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