Legal Alert

SEC Amends Whistleblower Program Rules

by Gerald J. Guarcini, Brian D. Short, David L. Axelrod, and Simon A. Michnick
September 6, 2022

Summary

Section 21F of the Securities Exchange Act of 1934 (the Exchange Act) governs the Securities and Exchange Commission (the SEC or the Commission) whistleblower program, which pays awards to eligible whistleblowers who voluntarily provide the SEC with original information relating to a violation of federal securities laws that leads to successful enforcement proceedings in certain judicial or administrative actions or non-SEC related actions. The SEC recently adopted two amendments to make incremental changes to its whistleblower program rules.

The Upshot

  • Amended Rule 21F-3 expands the scope of non-SEC “related actions” that may be deemed eligible for an award under the whistleblower program. The Commission now has the authority to pay awards to whistleblowers even if another award program has the more direct or relevant connection to the action.
  • Amended Rule 21F-6 affirms the Commission’s authority to consider the dollar amount of a potential award for the limited purpose of increasing an award, but eliminates the Commission’s authority to consider dollar amount for the purpose of decreasing an award. This amendment clarifies a 2020 amendment that created uncertainty regarding the Commission’s authority to consider the dollar amount of an award when making an award determination.

The Bottom Line

Since 2010, enforcement matters brought using information provided by whistleblowers have resulted in orders for more than $5 billion in total monetary sanctions and $1.3 billion in awards to whistleblowers. Amended Rules 21F-3 and 21F-6 aim to clarify the Commission’s authority and provide the Commission with additional flexibility to pay whistleblower awards for certain actions brought by other entities.

Section 21F of the Securities Exchange Act of 1934 (the Exchange Act) governs the Securities and Exchange Commission (the SEC or the Commission) whistleblower program. The program pays awards to eligible whistleblowers who voluntarily provide the SEC with original information relating to a violation of federal securities laws that leads to successful enforcement proceedings in certain judicial or administrative actions or non-SEC related actions. The SEC recently adopted two amendments to make incremental changes to its whistleblower program rules.

Amended Rule 21F-3 expands the scope of non-SEC “related actions” that may be deemed eligible for an award under the whistleblower program. The Commission now has the authority to pay awards to whistleblowers even if another award program has the more direct or relevant connection to the action.

Amended Rule 21F-6 affirms the Commission’s authority to consider the dollar amount of a potential award for the limited purpose of increasing an award, but eliminates the Commission’s authority to consider dollar amount for the purpose of decreasing an award. This amendment clarifies a 2020 amendment that created uncertainty regarding the Commission’s authority to consider the dollar amount of an award when making an award determination.

Since 2010, enforcement matters brought using information provided by whistleblowers have resulted in orders for more than $5 billion in total monetary sanctions and $1.3 billion in awards to whistleblowers. Amended Rules 21F-3 and 21F-6 aim to clarify the Commission’s authority and provide the Commission with additional flexibility to pay whistleblower awards for certain actions brought by other entities.

Rule 21F-3(b)(3) Amendments Concerning Non-SEC Actions Involving Other Award Programs

A whistleblower may be eligible for an SEC award for certain non-SEC actions qualifying as a “related action” under Rule 21F-3(b)(3) (the Multiple‑Recovery Rule). However, the current Multiple‑Recovery Rule provides that when both the SEC’s award program and another award program might apply to a non-SEC action, that action will be deemed a “related action” for purposes of an award from the Commission only if the SEC’s whistleblower program has the “more direct or relevant connection” to the action. This determination depends on (i) the relative extent to which the misconduct involved in the non-SEC action implicates the policy considerations underlying the federal securities laws (such as investor protection) rather than other law enforcement or regulatory interests; (ii) the degree to which the monetary sanctions imposed in the non-SEC action are attributable to conduct that also underlies the federal securities law violations that were the subject of the SEC’s covered action; and (iii) whether the non-SEC action involves state law claims, as well as the extent to which the state may have a whistleblower award program that applies to that type of law enforcement action.

The amended Multiple‑Recovery Rule incorporates the “Comparability Approach,” which establishes additional circumstances whereby a non‑SEC action may qualify as a related action without regard to whether the Commission’s program has the more direct or relevant connection to the action. As amended, such non-SEC actions may qualify as related actions in the following circumstances: (i) when the non-SEC award program has an award range or fixed dollar award cap that could yield an award that is meaningfully lower than what could be awarded under the Commission’s whistleblower program; (ii) when the decision to grant an award under the non-SEC program is discretionary, even when any specified award criteria and eligibility requirements have been satisfied; and (iii) when the maximum award the Commission could potentially pay on the non-SEC action does not exceed $5 million.

The Comparability Approach aims to ensure that the Multiple-Recovery Rule neither reduces whistleblowers’ incentive to come forward, nor places any undue burden on whistleblowers as a result of having come forward. The Comparability Approach was also praised for its practicality and its ability to strike a balance between ensuring that qualified whistleblowers are not subject to a diminished award due to a weaker alternative whistleblower program while also limiting the ability of whistleblowers to obtain a double recovery in a related action.

Consideration of Alternative Approaches

The Commission identified three potential alternatives to the Comparability Approach: the Whistleblower’s Choice Option, the Offset Approach, and the Topping-Off Approach.

The Whistleblower’s Choice Option would allow a whistleblower, after having received award determinations from the Commission and the entity administering the other program, to decide which award to accept. Under this approach, the Commission would condition any payment from its program on the whistleblower first making an irrevocable waiver of any claim to an award from the other program. Under the Offset Approach, the Commission could make an award on a non-SEC action notwithstanding the potential that another program might make and pay an award on that same action, but the Commission would then offset its payment by any amount another program pays on the same action. Finally, under the Topping-Off Approach, the current framework of the Multiple-Recovery Rule would be retained, but the Commission would have the discretion to increase the award amount on the Commission’s own covered action (up to a total award of 30 percent of the monetary sanctions imposed) if the Commission concluded that the other program’s award for the non-SEC action was inadequate.

The Commission determined that each of these alternatives had significant pitfalls. As a threshold matter, each of these alternatives could add significant delay to the processing of applications or the payment of awards, because each could require the Commission to defer any award until another program has made an award determination. By contrast, under the Multiple‑Recovery Rule (as amended by the Comparability Approach) there would be no such delay because the Commission’s process does not hinge on the award processes or determinations of the other program.

The Commission also noted that these alternatives might create unintended friction between the Commission and its partner regulatory and law enforcement agencies that oversee the alternative award programs. Unlike under the Comparability Approach, there is a risk under each of these alternatives that the Commission and one of these other authorities would make “conflicting factual determinations” after reviewing the same non-SEC action. The Commission believes that minimizing the potential for situations in which the SEC could be perceived to second-guess or preempt the judgments of partner regulatory and law enforcement authorities favors the Comparability Approach over each of these alternatives.

Rule 21F-6 Regarding Consideration of the Potential Dollar Amount of an Award When Making an Award Determination

Rule 21F-6 identifies the general criteria and standards that the Commission considers when determining the amount of an award. Rule 21F-6(a) specifies that in deciding whether to increase an award, the Commission will consider: (i) the significance of a whistleblower’s information to the action’s success; (ii) the degree of assistance provided by the whistleblower; (iii) any Commission programmatic interests in deterring securities law violations by making awards to whistleblowers; and (iv) the whistleblower’s participation in an internal compliance system. Rule 21F-6(b) provides that, in determining whether to decrease the amount of an award, the Commission will consider: (i) the whistleblower’s culpability or involvement in matters associated with the Commission’s action or related actions; (ii) whether the whistleblower unreasonably delayed reporting the misconduct; and (iii) whether the whistleblower undermined the integrity of an entity’s internal compliance and reporting system.

Amended Rule 21F-6 enables the Commission to consider the dollar amount of an award when setting the award amount and restricts the Commission from considering the dollar amount of a potential award (when applying the award factors specified in Rule 21F-6, or in any other way) to decrease a potential award. Taken together, amended Rule 21F-6 ensures that potentially large awards are not decreased because of their size, thus embodying a regulatory and programmatic determination by the Commission that large awards directly advance the purpose of the whistleblower program (and by extension the interests of the investing public) by incentivizing whistleblowers to report violations of the securities laws to the Commission. The Commission reasoned that, because public information regarding how the Commission applies award factors is necessarily limited to protect a whistleblower’s identity, the Commission risked creating the misimpression that the Commission regularly exercised its authority to reduce awards based on their dollar amount.

One commentator stated that amended Rule 21F-6 will reduce whistleblower uncertainty and increase whistleblower confidence in reporting violations. The Commission states Amended Rule 21F-6 will help strengthen the whistleblower program by encouraging high-quality tips from insiders and others who have original information relating to potential securities law violations.

The amendments to the whistleblower rules will become effective 30 days after publication in the Federal Register.

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