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Effort to Dilute New SEC Rules

By Stephen Labaton with Jonathan D. Glater, NY Times

January 22, 2003

The staff of the Securities and Exchange Commission plans to recommend that the agency soften proposed rules that would impose new obligations on lawyers and accountants, government officials said today.

After an onslaught of lobbying, the commission will complete work this week on regulatory proposals that were required under a law passed by Congress nearly six months ago to address a spate of corporate scandals.

Earlier proposals had been intended to instill investor confidence by imposing the new regulations. The rules would have required corporate lawyers, for instance, to report to regulators if they failed to persuade managers to fix potential securities law violations. The proposals would also have restricted accountants from auditing the same tax shelters they created. And corporations would have been required to spell out in more precise detail how much they paid their accounting firms for auditing and consulting services

But some of the toughest proposals appear to be dead, watered down or postponed, S.E.C. officials said today. Critics attributed the shift to heavy lobbying from prominent law firms, bar associations and some leading accounting firms and trade groups.

"This is very disappointing," said Lynn Turner, a former chief accountant at the commission during the Clinton administration who is now a professor of accounting at Colorado State University. "We've had Enron, Tyco, WorldCom. We've had the most tumultuous year ever in corporate America. And despite all of that, the commission is softening, rather than toughening, the rules in favor of the attorneys and auditors to the great detriment of investors. To me, it's just amazing."

Officials said the provisions had been changed from earlier drafts after meetings with the commissioners, including Harvey L. Pitt, who has remained as chairman of the agency more than two months after announcing his resignation. Last month, President Bush announced his selection of William H. Donaldson to succeed Mr. Pitt, but Mr. Donaldson has yet to be nominated formally for the post.

Mr. Pitt played an active role in drafting the new rules. Before his resignation, he was the subject of intense criticism from members of Congress, who said his actions suggested that he remained too close to his former clients in the accounting business.

Officials say the commission will table the requirement that lawyers make a public or "noisy" withdrawal from their clients if they fail to persuade the company to fix potential securities law violations. The S.E.C. staff plans to back away from proposals that would have restricted accountants from providing advice on tax shelters for the clients they audit. It is also preparing to weaken — indirectly — existing rules requiring public companies to disclose how much they pay to accountants for auditing services and consulting services, the officials said.

S.E.C. officials say the agency has resisted heavy lobbying pressure from the mutual fund industry and will adopt a measure this week that requires funds to disclose to investors the way they voted the shares they hold in individual companies.

Through a spokeswoman, Christi Harlan, Mr. Pitt declined to discuss any of the proposals.

Mr. Pitt announced his resignation on Nov. 5 after a series of political missteps. He has denied accusations by his critics that he remained too close to his former clients, including the top firms in the accounting profession. The White House has permitted him to remain as head of the agency until the confirmation of Mr. Donaldson, a process that could take months.

The accounting rules, which will be decided on Wednesday, would permit companies to allow auditors to provide advice on issues like tax shelters, even though the same accounting firm could find itself auditing the shelters it helped create. It would leave it up to audit committees of the companies to decide what nonaudit services their accountants could perform.

Moreover, the staff has written a proposal that would make it harder for investors to determine how much a company pays an accounting firm for its audit work and how much is paid for consulting work.

The rule requiring that companies disclose their annual payments to accountants was promulgated in 2000 after the commission was unable to approve a proposal by Arthur Levitt, then the S.E.C. chairman, that would have restricted accounting firms from offering consulting and auditing services to the same clients. Mr. Pitt represented the accounting firms during that battle and had written a white paper on behalf of the industry that was sharply critical of efforts to restrict the accountants from offering consulting services.

The proposed rules on accounting firms would still restrict some of the services that accounting firms can provide to the companies they audit. The rules are intended to address concerns that auditors may too easily approve financial disclosures to win valuable consulting contracts.

As proposed late last year, regulations on accounting would have required firms to rotate the partners supervising audits of a particular client after five years and would have prohibited the firms from providing information technology consulting services, from performing internal audit work or from providing brokerage or investment advisory services to audit clients.

The new proposal on auditor rotation would require only the two lead partners to rotate after five years; other partners with a significant role in an audit would rotate after seven years.

In a conference call with reporters, S.E.C. officials also provided details on a required one-year cooling-off period before accountants who had worked on the audit of a client could begin working directly for that client. The rules would not prevent an accountant, for example, from immediately working for the client, as long as the accountant did not oversee preparation of financial disclosures.

Accounting firms would also be able to provide the same range of tax advice to clients that they now do, but agency officials said the rules they would recommend on Wednesday would try to distinguish legitimate tax services from those that had no business purpose. The four largest accounting firms have submitted comments contending that they should be allowed to provide a range of nonaudit services to clients and in particular have argued that they should be allowed to sell tax advice to them.

"Congress did not prohibit accounting firms from performing tax services — a bedrock accounting firm activity that long predates the federal securities laws for audit clients," wrote Ernst & Young, one of the four firms. "As Congress intended, the commission should let audit committees decide whether tax services are appropriate."

Big law firms and bar associations have submitted a barrage of comment letters opposing proposals that would require a lawyer to cease representing a client and to notify the S.E.C. if a client failed to take appropriate steps to comply with federal securities laws. That requirement would force lawyers to violate client confidence, lawyers have argued. "This proposal makes lawyers policemen," said H. Rodgin Cohen, chairman of the law firm of Sullivan & Cromwell.

Supporters of the proposed requirement tend to be law professors, who say that corporate lawyers do not want to be regulated and do not want to risk lawsuits by shareholders.

"Partly, it's turf," said Roger Cramton, a law professor at Cornell University who wrote a comment letter supporting the original proposal. "It's partly that there's no effective regulation of lawyers at the state level," he added, and lawyers do not want the federal government to step in.