It’s hard out there for a whistleblower. First, the Supreme Court issued a narrow reading of the SEC’s whistleblower rules, limiting anti-retaliation protections for those who report securities law violations. Now, the SEC itself is putting forward some controversial changes to its whistleblower program – including one that will take substantial money away from whistleblowers who point authorities to the biggest financial frauds.
As recently as April, we remarked on this blog that the “whistleblower provision of the Dodd-Frank Wall Street Reform and Consumer Protection Act appears to be alive and well.” Hey, nobody’s perfect! In our defense, the Dodd-Frank-inspired program looked quite rosy-cheeked at the time. The SEC had just handed a record award of $83 million to three brave souls who flagged some shady dealings in Bank of America’s Merrill Lynch brokerage unit. Under the formula that generated the award, whistleblowers are entitled to 10 to 30 percent of the SEC’s recoveries in cases that bring in at least $1 million.
The new rule would change the analysis for cases in which sanctions exceed $100 million (Merrill Lynch’s hit $415 million). In such monster cases, the proposed rule gives the SEC great leeway to cap awards at 10 percent or $30 million, whichever is greater. This contentious change is tempered with others that are more generous to whistleblowers. One in particular retains the 30 percent ceiling but gives the commission more flexibility to adjust an award upward when the formula yields a payout of less than $2 million. Incentivizing the reporting of such relatively minor securities violations could give a cosmetic boost to the total number of whistleblower reports, the growth of which has stalled over the last three years.
Predictably, however, the limit on large awards has drawn the most attention. Perhaps anticipating blowback, the SEC’s 184-page proposal defends the limitation, bringing up the recent $83 million award multiple times and noting that it required the SEC to replenish its whistleblower award fund. (Ironically, then, the award that made the program look so healthy appears to be a key figure in the attempt to diminish it.) In a key passage, the proposal states: “The commission may find itself faced with the possibility of paying out significantly large awards that are in excess of the amounts appropriate to advance the goals of the whistleblower program.”
But the proposed change has faced criticism on multiple grounds, including its fidelity to the “goals of the whistleblower program” that it cites. In October of 2013, addressing the Securities Enforcement Forum, then-SEC chair Mary Jo White said that the whistleblower program was designed to prioritize “the bigger cases,” which the proposed change seems to deemphasize. There is also the strong record of the whistleblower program. Democratic Commissioner Kara Stein pointed this out in her comments after the 3-2 vote on the rule change, which tracked political lines. She noted that whistleblower tips have brought in $1.4 billion while costing just $266 million in awards.
It’s a strong return on investment, which many critics say will be threatened by the change. The other dissenting commissioner, Robert Jackson, made the point that those who would blow the whistle on massive frauds need a correspondingly massive incentive to do so. “[T]here are major risks for the employee if she comes forward,” he said of a high-ranking insider privy to the kind of securities law violations that could draw a $100 million penalty. “She may lose her job and her salary, but worse, she faces that very real prospect of never working in a senior position in her field again.”
SEC Chair Jay Clayton disagrees. He has contended that the new limitations would “not in any practical way affect incentives.”
Commenters have 60 days after the SEC’s release is published in the Federal Register to weigh in on either side of the debate.