The Securities and Exchange Commission (SEC) has issued its final rule (pdf) implementing the securities whistleblower incentives and protection program contained in the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank” or “Financial Reform” Act). The Dodd Frank Act, signed into law in July of 2010, created sweeping new federal whistleblower protections for employees. Among other things, the Dodd-Frank Act created an incentive program to encourage individuals to report Securities Exchange Act of 1934 (“Exchange Act”) violations and prohibits retaliation against those who blow the whistle on securities-related violations.
Section 922 of the Act provides monetary rewards to those who voluntarily contribute original information that leads the SEC to recover monetary sanctions of $1,000,000 or more in criminal and civil proceedings in federal court or through administrative action. Whistleblowers may be eligible for amounts between 10% and 30% of the monetary sanctions that are collected, based on the original information provided by the whistleblower.
Final regulations adopted on Wednesday by the SEC clarify and expand upon several aspects of both the whistleblower “bounty” provision and anti-retaliation provisions. Perhaps the most significant and highly anticipated aspect of the new rules is their treatment of internal complaints. When the SEC issued its proposed rule in September 2010, many in the business community expressed concern that the incentive program encouraged employees to circumvent internal compliance and reporting procedures. Although the SEC did not issue a rule requiring that employees first report violations through their company’s internal channels in order to qualify for the award, it did attempt to address these concerns by creating incentives for employees to do so.
For example, the rule makes whistleblowers eligible for an award if they report internally and the company informs the SEC about the violations. In essence, all information provided by the employer to the SEC will be attributed to the whistleblower for award purposes. Second, a whistleblower’s voluntary participation in the company’s internal compliance and reporting system would constitute a factor that could increase the amount of the award, while the whistleblower’s interference with the company’s reporting process could decrease the amount of the award. In addition, the final rule extends the amount of time from 90 to 120 days in which the employee can report the information to the SEC after first reporting it internally and still be considered a whistleblower. According to the SEC, this would allow an employee to report the information through company channels while still preserving his “place in line” for a possible award.
One significant change from the proposed rules is that the SEC will allow the aggregation of smaller actions that arise from the same “nucleus of operative facts” to go towards the $1 million threshold entitling the whistleblower to an award. Under the proposed rule, awards would have only been available if the SEC brought a single judicial or administration action in which it obtained sanctions of more than $1 million.
In addition, the final rule clarifies who would be excluded from award eligibility. As stated in the rule, the final regulations “provide greater clarity and specificity about the scope of the exclusions applicable to senior officials within an entity who learn information about misconduct in connection with the entity’s processes for identifying, reporting, and addressing possible violations of law.”
For example, as discussed in a fact sheet on the final rule, those people who will not be considered whistleblowers eligible for awards include:
- People who have a pre-existing legal or contractual duty to report their information to the SEC.
- Attorneys (including in-house counsel) who attempt to use information obtained from client engagements to make whistleblower claims for themselves (unless disclosure of the information is permitted under SEC rules or state bar rules).
- People who obtain the information by means or in a manner that is determined by a U.S. court to violate federal or state criminal law.
- Officers, directors, trustees or partners of an entity who are informed by another person (such as by an employee) of allegations of misconduct, or who learn the information in connection with the entity’s processes for identifying, reporting and addressing possible violations of law (such as through the company hotline).
- Compliance and internal audit personnel.
- Public accountants working on SEC engagements, if the information relates to violations by the engagement client.
Notably, however, in some instances a company’s compliance and internal audit personnel as well as public accountants could become whistleblowers when:
- The whistleblower believes disclosure may prevent substantial injury to the financial interest or property of the entity or investors.
- The whistleblower believes that the entity is engaging in conduct that will impede an investigation.
- At least 120 days have elapsed since the whistleblower reported the information to his or her supervisor or the entity’s audit committee, chief legal officer, chief compliance officer – or at least 120 days have elapsed since the whistleblower received the information, if the whistleblower received it under circumstances indicating that these people are already aware of the information.
The final rule also clarifies that employees are protected from retaliation if they possess a reasonable belief that the information they are providing relates to a possible securities law violation that has occurred, is ongoing, or is about to occur. Under the rule it is also unlawful for anyone to interfere with a whistleblower’s efforts to communicate with the SEC, including threatening to enforce a confidentiality agreement.
The final rule will become effective 60 days after it is published in the Federal Register.
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