New SEC Whistleblower Rules Fall Short

Wayne Carlin is a partner in the Litigation Department at Wachtell, Lipton, Rosen & Katz. This post is based on a Wachtell Lipton firm memorandum by Mr. Carlin, Theodore A. Levine and John F. Savarese.

The SEC recently released its proposed rules implementing the whistleblower program established under Section 922 of the Dodd-Frank Act.  The proposed rules do not go far enough to avoid undermining corporate compliance systems.  We summarize our key observations in this memo, and a more detailed discussion of the proposal and the issues it presents is attached.

To be eligible for a bounty, a whistleblower must supply “original information” which the SEC has not otherwise already obtained.  This creates an incentive to race in to the SEC to stake the first claim, rather than report up through established corporate compliance channels.  The rules would allow a whistleblower’s report to the SEC to relate back to the date of the same person’s earlier internal corporate report, as long as the whistleblower contacts the SEC within 90 days of reporting internally.  While this provision would allow for internal reporting, it would do nothing to encourage it.  We propose that internal reporting should be a prerequisite to an SEC whistleblower report, absent extraordinary circumstances, and that up to 120 days should be permitted for the internal review to proceed.

The proposed rules create an opening for second-guessing of internal reviews, by allowing for whistleblower bounties when such reviews are not completed in a “reasonable time” or are conducted in “bad faith.”  Both of these concepts have the potential to be applied in an overly expansive manner, and the SEC needs to be vigilant to avoid that result.  Finally, while the rules contemplate that the SEC’s staff will have a variety of communications with whistleblowers, there is a need for precise ground rules to govern those communications (and to protect against incursions upon the attorney-client privilege and possible Privacy Act and constitutional violations).

Whatever form the final rules may take, the enactment of Section 922 is an occasion for companies to:

  • Review the overall structure of the ethics and compliance function and its role within the organization, including ensuring the availability of robust internal reporting mechanisms;
  • Think creatively about effective ways to raise employee awareness of the importance of surfacing compliance concerns internally and of the mechanisms available to do so;
  • Look for ways to reinforce to employees the company’s genuine commitment to appropriate handling of compliance concerns;
  • Review protections for known whistleblowers so as not to run afoul of the newly strengthened anti-retaliation provisions in Section 922; and
  • Revisit the firm’s approach to conducting internal inquiries to assess whether any changes are warranted in light of the new rules, including steps to expedite the completion of such inquiries.
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One Comment

  1. Wayne Isaacks
    Posted Tuesday, December 14, 2010 at 4:45 pm | Permalink

    Proceed With Extreme Caution.
    Whistle-blower laws will all be ineffective for the purpose of protecting whistle-blowers from recrimination, and encouraging validly shinning the light of day onto corporate shenanigans until whistleblowers are truly protected from recrimination. Under current 5th circuit case law sanctions to prevent recrimination against whistle-blowers only id the whistle-blower can prove that the whistle-blowing was the sole reason for firing, suing, perhaps filing criminal charges by the employer and affected individual corporate officer/actors.

    I have seen it first hand, and it is a sad site when the whistle-blowing employee is fired, sued, and subjected to criminal charges for “improperly” obtaining or knowing about corporate secrets essentially consisting of the proof of impropriety, and proof they lied through their teeth about it. Yes, the whistleblower blows his/her cover on revealing the truth, and if the employer can make out an easy case that the whistle-blower employee did not have authorized access to the corporate secrets, illegally obtained confidential information, that access, and improper, unauthorized use (the whistle blowing) appears to support a basis for firing the employee; or the employer may easily show other reasons for terminating the employee (who may not have had the best relations with management leading up to the whistle blowing) denying benefits, suing the employee and even filing criminal charges for his/her misdeeds.

    Meanwhile to obtain whistleblower protection the employee generally must prove that the employer or a review board’s decision to fire the employee was arbitrary and capricious. Why both? Wouldn’t “or” work better here in the spirit of at least leaving valid whistle blowing a viable practice favored by social policy? See recently, Klopfenstein v. ARB, USDOL 10-60144 5th Cir.

    It is a brave, dauntless, and financially resourceful whistleblower indeed who can persist through their own civil and criminal prosecution to find out if the 5th circuit is wrong. (The Supreme Court is a long ride and expensive).
    Did I mention that justice is not free to whistleblowers? They have to pay their attorneys during harsh recrimination, and I have so far seen no stampede of pro-bono or contingent fee representation to their aid. especially when the 5th Circuit sets the anti-recrimination bar so high.

    In the 5th Circuit, whistleblowers act in their peril, unless they have already quit their jobs or have been fired. Even so, they may be subject to effective civil suit, injunction and criminal charges, depending on what they know, how they know it, and if they have confidential documents and records.

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