A suit filed in California last week alleges that major brokerage firms are charging customers unreasonable and undisclosed fees when selling municipal bonds.

Firms named in the suit included Goldman Sachs, Merrill Lynch, Salomon Smith Barney, UBS PaineWebber, Bear Stearns, Morgan Stanley Dean Witter, Prudential, Charles Schwab, U.S. Bancorp and Bank of America.

Although there has been a proliferation of electronic bond trading platforms and some initiatives to improve the transparency of bond prices, there is no central exchange for bond prices; spreads can very widely. As a result, allegations of improper pricing is nothing new. Indeed, in 2000, when Arthur Levitt was chairman of the SEC, Levitt criticized Wall Street institutions for the bond market’s lack of pricing transparency.

Kevin Olson, founder and executive director of MunicipalBonds.com, filed the suit on behalf of the general public under a California law that allows him to act as a private attorney general. As such the case is not considered a class-action lawsuit.

Olson, a bond industry gadlfy, established his website in 2000 in an effort to gain, he says, more equitable pricing and fair disclosure in the opaque municipal bond market. He is now making quarterly reports on what he calls the worst spreads in the bond market; further, he says he has developed a red flag system to mark those transactions. He believes some of these may be found to be illegal.

Olson is represented by Milberg Weiss Bershad Hynes & Lerach, a prominent securities litigation firm with substantial background in class-action lawsuits. Currently the firm is serving as lead counsel for shareholders in the Enron case as well as representing shareholders in a suit against AOL TimeWarner. (William Lerach, one of the partners, is infamous among business executives because of his prodigious use of class action law suits.)

The problem occurs, says Olson, in a secondary bond market, where bonds purchased from a municipality are resold. Unfair pricing and excessive fees "run rampant" in this market and end up costing customers billions each year, Olson says. This, despite municipal bonds being low risk transactions with little cost to brokers.

"Everybody knows this practice has been going on," says Stan Mallison, a lawyer with Milberg Weiss. The suit contends that spreads in excess of 1 percnet are excessive and often times abusive. The suit also claims the fees violate California’s unfair business practice statute and state rules that require fair dealing with customers. The plaintiffs are seeking no monetary award for damages, but are asking for an injunction preventing the firms from continuing the practice.

Olson and Milberg Weiss have set up a free evaluation service on municipalbonds.com that allows customers to see if they were given a fair market price by their brokers.

"These are changes that have been much needed for some time. They’re inevitable," says Olson.