Friday, August 05, 2011

House Legislation Would Change Dodd-Frank Whistleblower Provisions to Require Initial Internal Reporting

House legislation would amend SEC and CFTC whistleblower provisions in Dodd-Frank to preserve internal company reporting standards and mechanisms. The legislation would require the whistleblower to first report the information to the company before reporting it to the SEC or CFTC. The whistleblower must report the information to the SEC or CFTC within 180 days of reporting it to the company. The overreaching provisions in Dodd-Frank make internal corporate programs obsolete, open the floodgates of claims to an already overburdened SEC, and delay action within a company, said Rep. Michael Grimm (R-NY, sponsor of the Whistleblower Improvement Act (H.R. 2483). The legislation is co-sponsored by House Capital Markets Subcommittee Chair Scott Garrett (R-NJ), Rep. John Campbell (R-CA), and Rep. Steve Stivers (R-OH).

The Sarbanes-Oxley Act mandated that companies have an internal mechanism to report criminal activity, such as an anonymous tip-line. According to Rep. Grimm, these internal compliance programs are important as they protect shareholders and investors and save time and money by stopping a problem before it causes excessive damage. In his view, Dodd-Frank undermines these internal company programs by incentivizing whistleblowers to go directly to the SEC. H.R. 2483 makes internal reporting a prerequisite for such a reward.

The legislation carves out exceptions allowing whistleblowers to report directly to the SEC or CFTC in situations when the wrongdoing is conducted by compliance officers or the highest level of management. It also makes an exception for whistleblowers reporting on activity in a company that does not have a robust internal reporting mechanism in place. Rep. Grimm said that these exceptions help protect the whistleblower from retaliation, as well as prevent an investigation from being compromised.

Thus, internal reporting is required initially unless the whistleblower alleges, and the Commission determines, that the company lacks either a policy prohibiting retaliation for reporting potential misconduct or an internal reporting system allowing for anonymous reporting, or the Commission determines that internal reporting was not a viable option based on evidence that the alleged misconduct was committed by, or involved the complicity of, the highest level of management or other evidence of company bad faith.

The legislation also amends Dodd-Frank to require the SEC and CFTC, prior to commencing any enforcement action based on whistleblower information, to notify the subject company of information received by the Commission from a whistleblower who is a company employee in order to enable the company to investigate the alleged misconduct and take remedial action, unless the Commission determines that notification would jeopardize necessary investigative measures and impede the gathering of relevant facts, based on evidence that the alleged misconduct was committed by, or involved the complicity of, the highest level of management or other evidence of company bad faith on the part of the entity. When a company so notified responds in good faith, which may include conducting an investigation, reporting results of such an investigation to the Commission, and taking appropriate corrective action, the Commission must treat the company as having self-reported the information and its actions in response to such notification must be evaluated in accordance with the Commission's policy statement entitled ``Report of Investigation Pursuant to Section 21(a) of the Securities Exchange Act of 1934 and Statement of the Relationship of Cooperation to Agency Enforcement Decisions.’’

Under Dodd-Frank, whistleblowers are guaranteed a payout of 10-30 percent in claims that lead to successful civil or criminal penalties exceeding $1 million. According to Rep. Grimm, this provides an incentive for whistleblowers to allow a criminal act to go unreported in order to increase the penalty to a level that would bring in a reward. It also can cause an influx of frivolous claims from those seeking financial gain, causing the SEC to become overwhelmed. The legislation would change the range from 0 to 30 percent, and thus drop the guarantee.
Dodd-Frank also allows those culpable, but not criminally charged, to receive a reward. The legislation would change the rules to provide that someone guilty of wrongdoing who later becomes a whistleblower cannot benefit from his or her own malfeasance.

The original draft of the legislation would have prohibited contingency fee arrangements for attorneys representing whistleblowers seeking SEC bounties. The revised draft has been modified to eliminate the contingency fee provision based on testimony received at a May 11, 2011, House Financial Services Committee hearing on the draft. In testimony before the House panel, University of Toledo Law Professor Geoffrey Rapp said that the contingency fee provision would virtually guarantee that no whistleblowers would be represented by talented attorneys in connection with the application for a bounty. He also noted that no such prohibition on contingency fee arrangements exists in other federal bounty programs.

The legislation directs the GAO to conduct a study and report to Congress to determine what impact, if any, the whistleblower incentives program established by Dodd-Frank, codified as Section 21F of the Securities Exchange Act and Section 23 of the Commodity Exchange Act, has had on shareholder value.

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