On August 5, 2021, the U.S. Securities and Exchange Commission (SEC) issued a “Statement” seeking to address regulatory roadblocks that have hindered the administration of the Dodd-Frank Act’s (DFA) whistleblower reward program. This Statement follows just days after SEC Chairman Gary Gensler promised to address significant problems in the SEC’s whistleblower program that have resulted in years of delay in compensating whistleblowers and numerous complaints that qualified whistleblowers have been denied rewards.
The Commission’s August 5th Statement clarified that the SEC would not take the size of a potential whistleblower reward into consideration when evaluating whether to grant an award within the 10%-30% range permitted under the DFA. However, the major breakthrough in the Statement was the SEC’s action to withdraw or modify a rule implemented on September 23, 2020, that could undermine the DFA’s “related action” rule.
The “related action” rule is among the least understood provisions of the DFA. However, it has the potential of tremendous widespread impact by permitting whistleblowers to obtain rewards based on sanctions issued by other federal agencies. The rule encourages whistleblowers who provide information to the SEC under the DFA to cooperate with other federal law enforcement or regulatory agencies if their information also concerns non-securities violations of law. For example, take the case where a whistleblower’s DFA complaint against an oil company for violation of climate-related environmental disclosure rules results in a sanction of $1 million and a whistleblower award of $100,000.00. If the U.S. Environmental Protection Agency (EPA) used that same information to sanction the oil company $100 million for violations of the Clean Air Act, under the “related action” provision, the whistleblower would also be entitled to a mandatory reward of no less then 10% of the EPA fine, or $10 million.
In order to trigger a “related action” award, the SEC must sanction a wrongdoer no less than $1 million. Then the other federal regulatory agency must rely on the information provided to the SEC when sanctioning the wrongdoer under a non-securities-related law.
As can be seen, the “related action” provision of the DFA significantly expands the scope of the reward law. It incentivizes whistleblowers to fully cooperate with other law enforcement or regulatory authorities whenever they file a DFA case.
In September 2020, the SEC, by a 3-2 vote, placed significant restrictions on the ability of whistleblowers to obtain rewards under the “related action” provisions of the DFA. Whistleblower groups harshly condemned these restrictions prior to the Commission’s one-vote approval of the rule amendments.
The DFA’s requirement to pay “related action” awards is mandated under law. The DFA contains a specific definition of “related action.” As defined in the statute, “related action” “means” “any judicial or administrative action brought by” the Justice Department, a “regulatory authority,” a self-regulatory organization,” or a state attorney in a criminal proceeding, that is “based on” the “original information provided by a whistleblower” to the SEC.
If any of these federal law enforcement or criminal agencies uses the original information a whistleblower provided to the SEC in pursuing an enforcement action, the law requires the SEC to pay a reward, if the whistleblower is otherwise qualified. The right to obtain a reward under the Dodd-Frank Act covers both enforcement actions taken by the SEC and those pursued as “related actions” equally. The same percentages apply to the reward, and the same criteria are applied to determine eligibility.
The SEC’s 2020 Rule Undermined the “Related Action” Provision
In its September 23, 2020, rulemaking proceeding, a majority of the SEC Commissioners used an unlikely hypothetical to justify radically undermining the related action rule. The Commission asked what would happen if a whistleblower was entitled to a reward under two separate reward programs? Could the whistleblower double-dip and be paid twice for the same information? Although this had never occurred, a one-vote majority of the SEC Commissioners approved a rule permitting the SEC to deny DFA “related action” rewards if another law, regardless of how weak or how small, could theoretically provide a recovery.
The Commission approved a rule that if any statute had a reward provision, the Commission could unilaterally deny any and all related action awards. Under the 2020 rule, whistleblowers could be denied any related action award simply because an outdated, discretionary or little-used reward provision existed under current law. This loophole was extremely dangerous as there are numerous outdated and rarely used reward or bounty laws exist in the statute books. The simple mention of a right to obtain a small award would be enough to deny any related action payment.
The 2020 Rule Violated the DFA and has a Chilling Effect on Whistleblowers’ Cooperation with Regulatory and Law Enforcement Authorities
Numerous older reward laws lack any of the protections afforded by the DFA. These laws are purely discretionary, do not allow for anonymous or confidential whistleblowing, and set mandatory caps as low as $2500. For example, under the Major Frauds Act, whistleblowers can obtain a maximum award of $250 thousand for reporting frauds against the United States, regardless of the sacrifice, personal economic losses, or the amount of sanctions obtained by the United States. Worse, the granting of this token reward is purely discretionary, and there is no judicial review if denied. The Major Frauds Act is rarely ever used. Regardless, the fact that this law exists could and would be used by the SEC to deny “related action” awards in all cases where a public company ripped off the United States and its taxpayers.
In addition to the Major Frauds Act, the Financial Institutions Reform, Recovery, and Enforcement Act’s (FIRREA) contains a whistleblower law is completely defective. As explained below, the mere existence of that law (which is completely discretionary and rarely used) could and would block most “related action” awards in the entire banking industry.
Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA)
Under the September 23, 2020, amended “related action” rule, if a whistleblower’s
information is determined to be “more direct or relevant” in “connection” to a prosecution initiated by the Justice Department under the Financial Institutions Reform, Recovery, and Enforcement Act (FIRREA), the whistleblower would not be entitled to a “related action” award, even if the whistleblower did not file a FIRREA complaint.
The problems with the FIRREA whistleblower law, which covers numerous banking violations, are well documented. The law is not used by whistleblowers, and for good reason.
First, unlike the DFA, whistleblowers are not entitled to confidentiality or anonymity under FIRREA. Instead, it is the whistleblower who is gagged and not permitted to discuss the case. The Justice Department is free to release the whistleblower’s identity, at-will. See 12 U.S.C. § 4203. Thus, a whistleblower who wants confidentiality but whose “related action” case concerns FIRREA violations would be barred from obtaining a reward under the DFA. Moreover, they would be implicitly coerced into filing a FIRREA case and forgoing their right to confidentiality to obtain a related action award from the Justice Department under FIRREA.
Second, the decision of the Justice Department to grant an award is discretionary. A decision by the Justice Department that a whistleblower is not eligible for a reward is not subject to judicial review. Under the DFA, a whistleblower can contest a denial of a reward. Thus, the Justice Department could determine that a whistleblower is not eligible for a reward, applying criteria inconsistent with the SEC’s criteria. This whistleblower would be barred from seeking a related action award under the proposed rule changes.
Third, even if a whistleblower was willing to forgo the right to confidentiality and was able to prevail in a FIRREA case, FIRREA contains a hard cap set at $1.6 million. Therefore, regardless of the whistleblower's economic losses and the size of the FIRREA sanction, the amount of the whistleblower's reward is capped. Thus, the Department of Justice has recognized that the FIRREA law is not able to properly incentivize whistleblowers.
In 2014 the then-Attorney General explained that FIRREA was “unlikely to induce an employee to risk his or her lucrative career in the financial sector” to become an informant to the government. The Attorney General also confirmed that because of the numerous problems in the FIRREA law, it was “rarely used.”
The entire purpose of the Dodd-Frank Act’s whistleblower provision was designed to avoid these problems and create strong financial incentives for whistleblowers to not work directly with the SEC but also t with sister law enforcement agencies. The entire purpose of the related action provision was to promote interagency cooperation between whistleblowers and every federal agency that may also have an interest in the whistleblower’s information.
In a public speech the than-Attorney General Eric Holder explained some of the problems with FIRREA, problems that the SEC’s proposed rule would exasperate and reinforce:
To pursue these types of fraud cases, the Justice Department has come to rely on a statute known as the Financial Institutions Reform, Recovery, and Enforcement Act – or FIRREA – a little-used law passed after the savings and loan crisis of the 1980s. Over the last few years, the Residential Mortgage-Backed Securities Working Group – a part of the President’s Financial Fraud Enforcement Task
Force – has been aggressive in using this law to develop the types of cases that have resulted in major settlements with JPMorgan, Citigroup and Bank of America, among many others. Our use of this measure – to accuse financial institutions of committing fraud against themselves – was recently upheld in U.S. District Court here in the Southern District of New York, by Judge Jed Rakoff, among others.
Like the False Claims Act, FIRREA includes a whistleblower provision. But unlike the FCA, the amount an individual can receive in exchange for coming forward is capped at just $1.6 million – a paltry sum in an industry in which, last year, the collective bonus pool rose above $26 billion, and median executive pay was $15 million and rising.
In this unique environment, what would – by any normal standard – be considered a windfall of $1.6 million is unlikely to induce an employee to risk his or her lucrative career in the financial sector. That’s why we should think about modifying the FIRREA whistleblower provision – perhaps to False Claims Act levels – to increase its incentives for individual cooperation. This could significantly improve the Justice Department’s ability to gather evidence of wrongdoing while complex financial crimes are still in progress – making it easier to complete investigations and to stop misconduct before it becomes so widespread that it foments the next crisis.
The value of conducting investigations in real time cannot be understated. As any U.S. Attorney can tell you, investigating these cases after the fact is incredibly resource-intensive, often requiring large teams of investigators and prosecutors to sift through millions of documents or terabytes of data – sometimes in foreign languages – over multiple years. In some cases, when the institutions being investigated are based outside the United States, we are unable to compel the production of certain documents or the testimony of certain witnesses. And most critically – as we saw in 2008 – while backward-looking investigations can rigorously hold people and institutions accountable for their actions, they come too late to prevent harm to consumers, the American public, and the economy at large.
https://www.justice.gov/opa/speech/attorney-general-holder-remarks-financial-fraud-prosecutions-nyu-school-law
Conclusion
The September 23, 2020, SEC “related action” rule created confusion within the whistleblower community and discouraged whistleblowers from cooperating with law enforcement agencies. The August 5, 2021 “Statement” issued by the SEC was welcome news. It announced the SEC’s intention to fix the current “related action” reward rule in a manner consistent with the statutory requirements of the DFA. The Commission also provided guidance to the SEC’s Office of the Whistleblower not to automatically use the existence of old, ineffective, and outdated reward laws to undermine the related action requirements. This guidance is an important first step in fixing this problem.
When amending the related action rule, the Commission should clarify that a whistleblower has the right to apply for a reward from other agencies. It should also further explain that obtaining such a reward does not disqualify the whistleblower from obtaining an SEC related action award. However, the whistleblower should be placed on notice that any award given by another agency could impact the amount of an award given by the Commission. The rule should clearly state that regardless of which agency pays the reward, the Commission is obligated to ensure that the minimum award of 10% is paid from all sanctions, whether obtained by the SEC or another law enforcement agency. Moreover, the Commission would also guarantee that it would independently apply its criteria for determining the amount of an award if the award from the sister agency was less than 30%.
