(Dow Jones) Legislation that would have empowered self-regulatory organizations, such as the Financial Industry Regulatory Authority, to regulate investment advisors was defeated Friday, prompting relief from advocacy groups and regulators that opposed the measure.

The provision was part of an earlier version of a sweeping financial reform bill that the U.S. House of Representatives approved Friday. But earlier in the day, lawmakers passed an amendment stripping language from the bill that state regulators feared would give self-regulatory bodies such as Finra too much power. The final bill approved by the House would make historic changes to the government's oversight of U.S. financial markets and revolutionize the way businesses and consumers deal with financial products. The Senate is working on its own bill.

Language in the earlier House version would have permitted the Securities and Exchange Commission to delegate investment-adviser enforcement to organizations like Finra. Speaking on the House floor, House Financial Services Chairman Barney Frank (D., Mass.) said that language may have gone too far.

"It will be our goal next year, if this bill passes [in the Senate and becomes law, to decide] how best to allow the SEC to draw on the increased role of Finra," he said.

Denise Voigt Crawford, president of the North American Securities Administrators Association, a investor protection group in Washington, called the amendment "the right result for the right reasons." Crawford, who is also Texas Securities Commissioner, said that Finra is accountable to its membership of broker dealers, rather than being a government agency that is accountable to the investing public. Finra's experience is also limited to enforcing a suitability standard, which applies to broker dealers--not a higher fiduciary standard that is required for investment advisers, she said.

Howard Schloss, a Finra spokesman, said the regulator isn't run by brokerages, but a board of governors, many of whom are public members. Finra is accountable to the SEC, he said, not to the industry it regulates.

The self-regulatory debate, however, could unfold again in the Senate, where lawmakers are developing their own version of a regulatory reform bill, according to Neil Simon, vice president of government relations for the Investment Adviser Association, a Washington trade group that opposes expansion of Finra's authority

"I certainly wouldn't count Finra out. They remain intent on gaining authority over investment advisers," he said. A legislative proposal released by Sen. Christopher Dodd (D., Conn.) doesn't contain a self-regulatory mandate for investment advisers, he said, but that could change as the Senate debate heats up during 2010, according to Simon.
"It's incumbent upon us to remain vigilant," said Simon

Investor advocates were also pleased by Friday's amendment.

"Finra didn't miss the Madoff scandal because it lacked investment adviser jurisdiction," said Barbara Roper, director of investor protection for the Consumer Federation of America in Washington. "They missed it because they didn't have a regulatory regime robust enough to capture the fraud."

Scott Schewan, president of the Public Investors Arbitration Bar Association, a Norman, Okla.-based group of attorneys that represents investors in securities arbitration, called the development "surprising" but said the group agreed with the outcome. "We don't believe that self regulation is as effective as government regulation," he said.

Finra's spokesman, Schloss, said the regulator is encouraged by language in the bill that directs the SEC to study the potential need for a self-regulatory organization for investment advisers and report back to Congress. He noted that 91% of investment advisers registered with the SEC are unexamined every year.

Copyright (c) 2009, Dow Jones. For more information about Dow Jones' services for advisors, please click here.