White Collar Crime and Government Investigations Alert

SEC Amends Whistleblower Rules

September 28, 2020

On September 23, 2020, the Securities and Exchange Commission (SEC), in a 3-2 vote, approved several significant amendments to, and interpretive guidance on, the rules governing its whistleblower program.  Most controversially, the SEC adopted the position that it has discretion to reduce the largest whistleblower awards based upon their size.  The amendments, first proposed in 2018, have generated substantial opposition from the plaintiffs’ bar and within the Commission, and the SEC twice postponed the commissioners’ vote while they attempted to reach agreement.  The agency explained in announcing the final rule that the intent of these measures is to expedite the process of paying out awards for meritorious tips and provide more certainty and transparency concerning the whistleblower process.  Critics, however – including the two dissenting Democratic commissioners – contend that the amendments and guidance will weaken the incentive to report major violations of the securities laws and result in a lack of predictability for whistleblowers in assessing the viability of their claims and potential awards.

The whistleblower program, established in 2011 under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, requires the SEC to pay awards to whistleblowers who voluntarily provide “original information” to the agency that results in a successful enforcement action by the SEC or a “related action” by another law enforcement or regulatory agency (typically the U.S. Department of Justice (DOJ)) or self-regulatory organization.  As prescribed by Section 21F(b)(1) of the Securities Exchange Act, the award amount can range from 10 to 30 percent of the total monetary sanctions obtained in the successful action, as determined by the SEC.  SEC Rule 21F-6 sets forth the criteria – positive and negative – that govern this determination, including:  the “significance” of the information provided; the degree of assistance provided by the whistleblower to the SEC staff; the SEC’s interest in deterring the particular violations involved; the extent to which the whistleblower first tried to report wrongdoing internally; any culpability or involvement by the whistleblower in the violation; any unreasonable delay in reporting; and any interference with internal compliance and reporting systems.

In 2018, the SEC proposed adding a new subsection to Rule 21F-6 that would have expressly allowed the Commission to conduct an “enhanced review” of the largest awards ($30 million or higher) by taking into account the size of the award along with the other factors in Rule 21F-6, and to make a determination that the award amount exceeds what is “reasonably necessary” to serve the goals of the whistleblower program.  This proposal received intense and much-publicized criticism from whistleblower attorneys and advocates.  The SEC ultimately did not adopt this subsection in its September 23 vote, determining that a “formalized process” for reviewing large awards was unnecessary because Section 21F of the Exchange Act and Rule 21F-6 already authorize the Commission to take these considerations into account.        

Other significant amendments and guidance adopted include:

  • Awards Under $5 Million Presumptively Qualify for Maximum.  Where the statutory maximum amount of an award is $5 million or less, the award will now presumptively be entitled to the maximum 30% of monetary sanctions, provided, with limited exceptions, that none of the negative Rule 21F-6 criteria apply.  Approximately 75 percent of awards to date have fallen into this range.  Awards over $5 million will continue to be based on application of the Rule 21F-6 factors.
  • Deferred and Non-Prosecution Agreements May Qualify as “Actions.”  The amendments broaden the definition of “action” to make explicit that a deferred prosecution agreement or non-prosecution agreement entered into by the DOJ or a settlement agreement entered into by the SEC outside of a judicial or administrative setting qualifies as an eligible “action,” and that any money required to be paid under such an agreement is a “monetary sanction” for purposes of calculating an award.
  • Discretion to Exclude Certain Non-SEC Actions from Eligibility.  The amendments clarify that an action by another law enforcement or regulatory agency will not qualify as a “related action” if the SEC determines that a separate whistleblower award program more appropriately applies to that action.
  • Uniform Definition of “Whistleblower.”  Responding to the U.S. Supreme Court’s 2018 decision in Digital Realty Trust v. Somers,[1] the amendments adopt a uniform definition of “whistleblower.”  In Digital Realty, the Court held that in order to meet the statutory definition of “whistleblower” for purposes of Dodd-Frank’s anti-retaliation provisions, an individual must provide information to the Commission, not merely internally to the company.  To make the rules consistent with this holding, the amendments specify that in order to qualify as a “whistleblower,” an individual must provide information to the SEC in writing and before experiencing any retaliation.  The definition applies to “all aspects” of the whistleblower rules, including the award program, confidentiality requirements, and anti-retaliation provisions.  Dissenting Commissioner Caroline Crenshaw issued a statement criticizing this amendment for failing to protect employees who provide tips orally in examinations or investigative testimony.
  • Definition of “Original Information.”  Under SEC Rule 21F-4(b), to qualify as “original information,” among other criteria, a tip must be based on “independent knowledge” or “independent analysis.”  The SEC issued interpretive guidance clarifying that in order to qualify as “independent analysis,” a whistleblower’s information must “provide evaluation, assessment, or insight beyond what would reasonably be apparent to the Commission from publicly available information.”  In making this determination, “the touchstone is whether the whistleblower’s submission is revelatory in a way that goes beyond the information itself and affords the Commission with important insights or information about possible violations.”  Thus, for example, merely pointing to common indicia of fraud on the face of publicly available documents, such as unusually high guaranteed investment returns, or conversations on a message board in which others are alleging fraud, will not qualify as independent analysis.
  • Streamlined Process for Triaging Claims.  The SEC added a new paragraph to Rule 21F-8 that clarifies its ability to bar individuals from submitting whistleblower applications when they are found to have submitted false information or repeatedly submitted frivolous applications.  It also added a new summary disposition procedure for applications that the SEC frequently denies on grounds such as untimeliness or failure to follow the SEC’s requirements regarding forms and procedures.

Takeaways

Although whistleblower advocates were quick to attack the amendments and guidance as likely to deter whistleblowers from coming forward, the increasing frequency and size of recent whistleblower awards will likely continue to provide a powerful incentive for many employees to blow the whistle to the SEC.  Since the program’s inception, the agency has paid approximately $523 million to 97 individuals.  Of that amount, it awarded approximately $387 million during the past three and a half years, including the five largest awards paid to date (two $50 million awards and single awards of $39 million, $37 million, and $33 million).  Companies therefore remain well-advised to ensure that they have in place robust and effective processes for employees to report wrongdoing internally, are careful to avoid taking any actions against employees that could be construed as retaliation for whistleblowing, and prioritize the design and effectiveness of their compliance programs across global affiliates and subsidiaries.  (See here for additional discussion of these issues.)



[1] 138 S.Ct. 767.