Tag: Whistleblower

What is Market Manipulation?

The financial market is supposed to be a place where investors put their hard-earned money to work. Market manipulation disrupts the playing field, undermining the integrity of financial systems and causing a great deal of harm to investors. Between 2020 and 2022, the United States recovered $2.7 billion from market manipulation incidents.

What Does Market Manipulation Mean?

The stock market thrives on constant movement as part of a healthy financial ecosystem. However, when someone artificially exploits the supply and demand for securities, the stock market sees a shift in the pricing and value of certain stocks. Market manipulation is an attempt to take advantage of those shifts with insider information, or create false ups and downs to turn a profit. A simple example might be spreading misinformation about a stock in order to cause its price to rise or fall.

How Market Manipulation Works

Market manipulation disrupts the natural flow of supply and demand in a security. For example, a person may attempt to manipulate the stock market in their favor by engaging in a series of transactions designed to make it look like there is a flurry of activity around their stock. This illusion prompts others to buy into such stock, convinced that the company is on the rise because of this artificial energy. This way, the person who began the market manipulation ends up in a better position.

Who Manipulates Stocks?

The stock market is manipulated by any number of bad actors. Investors, company leadership, and anyone who buys and sells securities may attempt to partake in market manipulation.

Why is Market Manipulation Illegal?

If the stock market naturally ebbs and flows, and people are always seeking to profit from it, why is market manipulation illegal?

The answer lies in the importance of honest trading practices and consumer trust. Market manipulation is a method of misleading investors, usually by spreading false information or artificially adjusting prices. Just as you should not sell someone a house by claiming that it has six stories when it is really a shack, similarly you should not manipulate security prices to scam investors.

Who Investigates Market Manipulation?

The US Department of Justice’s Market Integrity and Major Frauds Division (MIMF) investigates claims of securities fraud and market manipulation. The MIMF Division prosecutors can bring criminal charges as well as civil claims for damages against those accused of market manipulation. They utilize data analysis tools and traditional law enforcement techniques to identify and prosecute instances of securities fraud, manipulation, spoofing, insider trading, and more.

How Big Players Manipulate the Stock Market

While more smaller and highly liquid stocks or widely traded securities, are most susceptible to market manipulation, major players can influence the stock market in significant ways. Large financial institutions like Goldman Sachs or Morgan Stanley have a massive hold on how the overall market moves. The 2008 financial crisis is a reminder of how securitization and risky trading of mortgage-backed securities played such a role and led to a ripple effect throughout the market.

Market Manipulation Examples

Stock market manipulation is only limited by the bounds of human ingenuity. Unfortunately, there are a number of ways scam artists attempt to manipulate the market. We have outlined common market manipulation schemes that have emerged over the years:

CRYPTOCURRENCY MARKET MANIPULATION

Although cryptocurrency is less regulated than other investments, it can still be subject to market manipulation. The legal classification of crypto assets as securities is still debatable. However, an August 2023 ruling in Manhattan federal court stated that all cryptocurrencies should be considered securities, regardless of the context in which they are sold. The SEC guidelines on the subject, meanwhile, have hinged on whether or not the particular blockchain is sufficiently decentralized.

The ICO, or Initial Coin Offering, is usually the area where cryptocurrency market manipulation occurs. Crypto is particularly vulnerable to the spread of misinformation on social media, the use of celebrities to artificially inflate an ICO’s value, and pump-and-dump schemes.

HEDGE FUNDS MARKET MANIPULATION

The 2021 GameStop scenario highlighted the upper hand hedge funds often have in the market. In this case, a group of individuals met online and attempted to manipulate the market. Retail investors on Reddit collectively purchased the stock in large quantities after being concerned about the alleged short selling by hedge funds that could devalue GameStop. This surge in buying pressure forced hedge funds to buy back their shares for more money to cover their short sales. However, in the long run, many hedge fund managers profited from the massively increased prices.

FUTURES MARKET MANIPULATION

Attempting to create monopoly power, or “cornering the market” is the primary method of futures market manipulation. This strategy involves a major player artificially creating scarcity in the market by buying up available assets, along with a large stake in a futures contract for delivery at a later date. This is followed by the player refusing to sell at anything except their own price, creating a squeeze on investors who need to buy contracts to fulfill their delivery obligations. Because the futures market hinges upon upcoming deliverables, it forces short sellers to buy contracts at inflated prices from the dominant player.

CROSS-MARKET MANIPULATION

Cross-market manipulation has become more prevalent in recent years, as technology allows trades to happen in real-time and with a higher frequency. Cross-market manipulation is the effort to trade in one venue with the goal of affecting the price of the same security or financial instrument in another market. Cross-market manipulation is also known as inter-trading venue manipulation.

CHURNING MARKET MANIPULATION

Churning is an illegal practice designed to create the illusion of activity and generate commission fees. It involves an excessive amount of trading in a brokerage account solely to generate commissions for the broker from each sale, and not for the client’s benefit.

WHAT IS SPOOFING MARKET MANIPULATION?

Order spoofing, or spoofing, is a method of market manipulation designed to generate interest in a security. One or more players place multiple buy or sell orders on a stock to adjust its price, only to cancel them once other traders accordingly adjust their activities. Thus, the bids are “spoofs,” and therefore, never meant to be followed through.

WHAT IS COORDINATED PRICE MANIPULATION IN THE STOCK MARKET?

Coordinated price manipulation involves agreements between competitors to artificially inflate or deflate stock market prices. For instance, short selling, while legal on its own as a strategy, can cross the line into market manipulation by generating fear around securities to unnaturally lower its price.

WHAT IS LAYERING MARKET MANIPULATION?

Layering is a form of spoofing that involves placing a series of orders designed to be eventually canceled. However, in layering market manipulation efforts, the bids are all placed at different price points, setting the market price somewhere in the middle of the fake trades. This way, the manipulator achieves a better understanding of the market price based on their fake activity, and can trade on the other side of the market to turn in a profit while canceling extraneous offers.

FRONT-RUNNING MARKET MANIPULATION

Front running is often done by an individual broker who has insider information about a future development that will impact stock price. For example, a broker who is ordered to sell a large amount of stock instead goes to their own account before executing the trade and dumps their stock in the same company, now knowing the market price is predicted to plummet. Here, the broker has “run out in front” of natural market fluctuations to illegally sell their stock.

SHORT SELLING MARKET MANIPULATION

Short selling can become market manipulation in the event of cross-market manipulation or coordinated price manipulation.

Naked short selling is the illegal practice of selling shares in an asset before acquiring them, or ensuring that they can in fact be purchased or acquired. The goal here is the same as in usual shorting; however, in short selling, shares must be borrowed before they can be offered to other investors.

PUMP-AND-DUMP SCHEMES

Pump-and-dump schemes typically involve spreading misinformation about a stock in order to “pump up” a frenzy of orders and investments. The perpetrators then “dump” their stocks at the new and artificially inflated price point. The Securities and Exchange Commission (SEC) warns that microcap securities are particularly vulnerable to pump-and-dump schemes because of limited publicly available information.

How Do You Tell if a Stock is Being Manipulated?

Opportunities for market manipulation have become more widespread with mobile trading apps, AI algorithms and bot activity enabling trading to happen in the blink of an eye from anywhere. Traders must examine stock market activity more thoroughly, keeping an eye out for possible warning signs of market manipulation:

  • Unlikely performance compared to company indexes: The stock market cannot tell the full picture of a company’s well-being. It is better to compare market prices against other metrics like revenue, growth potential, and capitalization. When a company’s stock prices remain low even as other signs point to growth, it may be a sign that artificial market activity is at play.
  • Fake news on social media: The spread of bot-led accounts designed to appear like genuine human activity on social media points toward the potential for misinformation. False information often plays a key role in market manipulation and price-adjusting efforts.
  • Flurries of activity: Churning, spoofing, and layering all involve sudden onsets of orders not related to genuine developments. A sudden rush can indicate that a stock is being manipulated. Likewise, a large volume of activity without matching price action can be a warning sign of wash trading.

How Do You Stop Market Manipulation?

Here are some tips to protect yourself from stock market manipulators:

  • Understand your risk appetite and ensure you have an exit strategy for your investments
  • Verify claims that seem too good to be true
  • Avoid excessively large bids or “limited time offers”
  • Review your account activity on a regular basis and report any suspicious activity in your account

SEC MARKET MANIPULATION

The SEC runs the Office of the Whistleblower, which allows whistleblowers to come forward to anonymously report market manipulation. The SEC Office of the Whistleblower has awarded over $1 billion to whistleblowers who have shared information leading to a recovery after a stock market manipulation scheme.

CFTC MARKET MANIPULATION

The Commodity Futures Trading Commission (CFTC) relies heavily on tips and whistleblower information to ensure fair trading practices in the commodity and futures markets. The CFTC Whistleblower Program offers rewards for information as well as protection against retaliation.

How Do You Prove Market Manipulation?

A whistleblower attorney can be your strongest ally to help you gather proof of market manipulation, including:

  • Proof of intent to defraud: Emails, text messages, social media posts, and sworn testimonies to private conversations
  • Refutation of legitimate business purposes: Internal memos, monthly reports, notes from meetings, staff emails, etc. to show that the suspicious activity was not in pursuit of legitimate business purposes
  • Records of trades, monthly account statements, canceled checks, wire transfers, stock transfers, and more: All of these documents can help present a bigger financial picture to illustrate the motive to manipulate market prices

What Are the Consequences of Market Manipulation?

Market manipulation undermines fair and stable markets, and erodes investors’ trust in financial systems. When investors fear manipulation, they may become less confident and willing to invest in diverse portfolios. Market manipulation also creates an uneven playing field, hurting fair competition when scam artists profit at the expense of investors who may lose savings and watch their assets dissolve.

Rewards for Reporting Market Manipulation

You may qualify as a protected whistleblower under the following statutes:

How Are Whistleblowers Protected After Reporting Market Manipulation?

Whistleblowers can anonymously report suspected market manipulation through the SEC Whistleblower Program and have their identity redacted even from Freedom of Information Act (FOIA) requests. Whistleblowers who have been retaliated against by their employers can sue for the following actions:

  • Reinstatement to former seniority level
  • Payment of double back pay, with interest
  • Payment of front pay, in cases where reinstatement is not possible
  • Attorney fees and legal costs
  • Additional damages

Biggest Market Manipulation Cases

New market manipulation cases are constantly coming to light, as whistleblowers step forward to reveal wrongdoings in the stock market. Some of the biggest market manipulation settlements include:

  • $1.186 billion against Glencore International AG: The CFTC ordered Glencore to pay $1.186 billion to settle accusations that the energy and commodities trading firm strategically manipulated at least four US-based S&P Global Platts physical oil benchmarks from 2007 to 2018.
  • $920 million from JP Morgan for spoofing: The 2020 settlement ordered JP Morgan Chase to pay $920.2 million to settle allegations of at least eight years of spoofing in precious metals and US Treasury futures contracts.
  • $249 million from Morgan Stanley and former executive Pawan Passi: In 2024, the SEC charged Morgan Stanley and its former executive Pawan Passi for executing block trades and acting on insider information. The firm agreed to pay $249 million to settle allegations of multi-year wrongdoing.

What is the SEC Doing about Market Manipulation?

The SEC relies on tips from whistleblowers to take out insider trading rings, spoofing attempts, pump-and-dump schemes, and other kinds of market manipulation attempts. If you have information about such tactics, you may be able to take part in the SEC Whistleblower Program. A whistleblower lawyer with Tycko & Zavareei LLP can help make sure your claim is as strong as possible before you bring it to the SEC. Remember, information once reported is no longer eligible for a reward.

Market Manipulation: FAQs

IS MARKET MANIPULATION ILLEGAL?

Yes. While everyone wants to “get ahead” on the stock market, manipulating the market is an illegal activity that can result in criminal penalties like jail time, as well as the imposition of civil fines and damages.

WHAT IS A REAL-LIFE EXAMPLE OF MARKET MANIPULATION?

One of the most notorious examples of market manipulation is the 2001 Enron scandal. When the energy company was found to have altered and misrepresented financial statements to inflate its stock price, it went bankrupt and multiple executives were indicted for the fraud.

WHO DOES MARKET MANIPULATION HURT?

Market manipulation hurts investors who lose money on investments that are either illegitimate or inaccurately represented. At the same time, its negative impact may also be felt throughout the economy, the 2008-2009 Great Recession being a case in point.

WHAT IS THE DIFFERENCE BETWEEN MARKET ABUSE AND MARKET MANIPULATION?

Market manipulation is a specific tactic within the larger issue of market abuse. Market manipulation focuses on artificially controlling prices to secure unearned profit, whereas market abuse encompasses various schemes with the aim of disadvantaging investors for personal gain.

© 2024 by Tycko & Zavareei LLP
For more news on Market Manipulation, visit the NLR Criminal Law & Business Crimes section.

The Double-Edged Impact of AI Compliance Algorithms on Whistleblowing

As the implementation of Artificial Intelligence (AI) compliance and fraud detection algorithms within corporations and financial institutions continues to grow, it is crucial to consider how this technology has a twofold effect.

It’s a classic double-edged technology: in the right hands it can help detect fraud and bolster compliance, but in the wrong it can snuff out would-be-whistleblowers and weaken accountability mechanisms. Employees should assume it is being used in a wide range of ways.

Algorithms are already pervasive in our legal and governmental systems: the Securities and Exchange Commission, a champion of whistleblowers, employs these very compliance algorithms to detect trading misconduct and determine whether a legal violation has taken place.

There are two major downsides to the implementation of compliance algorithms that experts foresee: institutions avoiding culpability and tracking whistleblowers. AI can uncover fraud but cannot guarantee the proper reporting of it. This same technology can be used against employees to monitor and detect signs of whistleblowing.

Strengths of AI Compliance Systems:

AI excels at analyzing vast amounts of data to identify fraudulent transactions and patterns that might escape human detection, allowing institutions to quickly and efficiently spot misconduct that would otherwise remain undetected.

AI compliance algorithms are promised to operate as follows:

  • Real-time Detection: AI can analyze vast amounts of data, including financial transactions, communication logs, and travel records, in real-time. This allows for immediate identification of anomalies that might indicate fraudulent activity.
  • Pattern Recognition: AI excels at finding hidden patterns, analyzing spending habits, communication patterns, and connections between seemingly unrelated entities to flag potential conflicts of interest, unusual transactions, or suspicious interactions.
  • Efficiency and Automation: AI can automate data collection and analysis, leading to quicker identification and investigation of potential fraud cases.

Yuktesh Kashyap, associate Vice President of data science at Sigmoid explains on TechTarget that AI allows financial institutions, for example, to “streamline compliance processes and improve productivity. Thanks to its ability to process massive data logs and deliver meaningful insights, AI can give financial institutions a competitive advantage with real-time updates for simpler compliance management… AI technologies greatly reduce workloads and dramatically cut costs for financial institutions by enabling compliance to be more efficient and effective. These institutions can then achieve more than just compliance with the law by actually creating value with increased profits.”

Due Diligence and Human Oversight

Stephen M. Kohn, founding partner of Kohn, Kohn & Colapinto LLP, argues that AI compliance algorithms will be an ineffective tool that allow institutions to escape liability. He worries that corporations and financial institutions will implement AI systems and evade enforcement action by calling it due diligence.

“Companies want to use AI software to show the government that they are complying reasonably. Corporations and financial institutions will tell the government that they use sophisticated algorithms, and it did not detect all that money laundering, so you should not sanction us because we did due diligence.” He insists that the U.S. Government should not allow these algorithms to be used as a regulatory benchmark.

Legal scholar Sonia Katyal writes in her piece “Democracy & Distrust in an Era of Artificial Intelligence” that “While automation lowers the cost of decision making, it also raises significant due process concerns, involving a lack of notice and the opportunity to challenge the decision.”

While AI can be used as a powerful tool for identifying fraud, there is still no method for it to contact authorities with its discoveries. Compliance personnel are still required to blow the whistle, given societies standard due process. These algorithms should be used in conjunction with human judgment to determine compliance or lack thereof. Due process is needed so that individuals can understand the reasoning behind algorithmic determinations.

The Double-Edged Sword

Darrell West, Senior Fellow at Brookings Institute’s Center for Technology Innovation and Douglas Dillon Chair in Governmental Studies warns about the dangerous ways these same algorithms can be used to find whistleblowers and silence them.

Nowadays most office jobs (whether remote or in person) conduct operations fully online. Employees are required to use company computers and networks to do their jobs. Data generated by each employee passes through these devices and networks. Meaning, your privacy rights are questionable.

Because of this, whistleblowing will get much harder – organizations can employ the technology they initially implemented to catch fraud to instead catch whistleblowers. They can monitor employees via the capabilities built into our everyday tech: cameras, emails, keystroke detectors, online activity logs, what is downloaded, and more. West urges people to operate under the assumption that employers are monitoring their online activity.

These techniques have been implemented in the workplace for years, but AI automates tracking mechanisms. AI gives organizations more systematic tools to detect internal problems.

West explains, “All organizations are sensitive to a disgruntled employee who might take information outside the organization, especially if somebody’s dealing with confidential information, budget information or other types of financial information. It is just easy for organizations to monitor that because they can mine emails. They can analyze text messages; they can see who you are calling. Companies could have keystroke detectors and see what you are typing. Since many of us are doing our jobs in Microsoft Teams meetings and other video conferencing, there is a camera that records and transcribes information.”

If a company is defining a whistleblower as a problem, they can monitor this very information and look for keywords that would indicate somebody is engaging in whistleblowing.

With AI, companies can monitor specific employees they might find problematic (such as a whistleblower) and all the information they produce, including the keywords that might indicate fraud. Creators of these algorithms promise that soon their products will be able to detect all sorts of patterns and feelings, such as emotion and sentiment.

AI cannot determine whether somebody is a whistleblower, but it can flag unusual patterns and refer those patterns to compliance analysts. AI then becomes a tool to monitor what is going on within the organization, making it difficult for whistleblowers to go unnoticed. The risk of being caught by internal compliance software will be much greater.

“The only way people could report under these technological systems would be to go offline, using their personal devices or burner phones. But it is difficult to operate whistleblowing this way and makes it difficult to transmit confidential information. A whistleblower must, at some point, download information. Since you will be doing that on a company network, and that is easily detected these days.”

But the question of what becomes of the whistleblower is based on whether the compliance officers operate in support of the company or the public interest – they will have an extraordinary amount of information about the company and the whistleblower.

Risks for whistleblowers have gone up as AI has evolved because it is harder for them to collect and report information on fraud and compliance without being discovered by the organization.

West describes how organizations do not have a choice whether or not to use AI anymore: “All of the major companies are building it into their products. Google, Microsoft, Apple, and so on. A company does not even have to decide to use it: it is already being used. It’s a question of whether they avail themselves of the results of what’s already in their programs.”

“There probably are many companies that are not set up to use all the information that is at their disposal because it does take a little bit of expertise to understand data analytics. But this is just a short-term barrier, like organizations are going to solve that problem quickly.”

West recommends that organizations should just be a lot more transparent about their use of these tools. They should inform their employees what kind of information they are using, how they are monitoring employees, and what kind of software they use. Are they using detection? Software of any sort? Are they monitoring keystrokes?

Employees should want to know how long information is being stored. Organizations might legitimately use this technology for fraud detection, which might be a good argument to collect information, but it does not mean they should keep that information for five years. Once they have used the information and determined whether employees are committing fraud, there is no reason to keep it. Companies are largely not transparent about length of storage and what is done with this data and once it is used.

West believes that currently, most companies are not actually informing employees of how their information is being kept and how the new digital tools are being utilized.

The Importance of Whistleblower Programs:

The ability of AI algorithms to track whistleblowers poses a real risk to regulatory compliance given the massive importance of whistleblower programs in the United States’ enforcement of corporate crime.

The whistleblower programs at the Securities and Exchange Commission (SEC) and Commodity Futures Trading Commission (CFTC) respond to individuals who voluntarily report original information about fraud or misconduct.

If a tip leads to a successful enforcement action, the whistleblowers are entitled to 10-30% of the recovered funds. These programs have created clear anti-retaliation protections and strong financial incentives for reporting securities and commodities fraud.

Established in 2010 under the Dodd-Frank Act, these programs have been integral to enforcement. The SEC reports that whistleblower tips have led to over $6 billion in sanctions while the CFTC states that almost a third of its investigations stem from whistleblower disclosures.

Whistleblower programs, with robust protections for those who speak out, remain essential for exposing fraud and holding organizations accountable. This ensures that detected fraud is not only identified, but also reported and addressed, protecting taxpayer money, and promoting ethical business practices.

If AI algorithms are used to track down whistleblowers, their implementation would hinder these programs. Companies will undoubtedly retaliate against employees they suspect of blowing the whistle, creating a massive chilling effect where potential whistleblowers would not act out of fear of detection.

Already being employed in our institutions, experts believe these AI-driven compliance systems must have independent oversight for transparency’s sake. The software must also be designed to adhere to due process standards.

Copyright Kohn, Kohn & Colapinto, LLP 2024. All Rights Reserved.
For more news on AI Compliance and Whistleblowing, visit the NLR Communications, Media & Internet section.

Whistleblower Tax Fraud Lawsuit Against Bitcoin Billionaire Settles for $40 Million

MicroStrategy’s founder is alleged to have falsified tax documents for ten years. The settlement resolves the first whistleblower lawsuit filed under 2021 amendments to the DC False Claims Act.

Key Takeaways
On June 3, the District of Columbia Office of the Attorney General announced the $40 million settlement with Michael Saylor
It is the largest income tax recovery in D.C. history
The settlement, which resolves a qui tam lawsuit filed under the DC False Claims Act, underscores the power of whistleblowers in combatting tax fraud
On June 3, the District of Columbia Office of the Attorney General (OAG) made a landmark announcement. The billionaire founder of MicroStrategy Incorporated, Michael Saylor, settled a tax fraud lawsuit for a staggering $40 million. This case, stemming from a qui tam whistleblower suit filed under the District’s False Claims Act, marks a significant milestone in the fight against tax fraud. The OAG declared this as the largest income tax recovery in D.C. history, underscoring the importance of this case.

The DC False Claims Act
This settlement is not just a victory for the District but also a testament to the power of whistleblowers. Under the 2021 extension of the D.C. False Claims Act, individuals have the power to file qui tam suits against large companies and suspected tax evaders. The 2021 amendments even offer monetary awards to those who report tax cheats. This settlement, the first settlement under these amendments, serves to put would-be tax cheats on notice.

As the District of Columbia expands its arsenal against tax fraud, other states should take note. The DC False Claims Act, now covering tax fraud, has become a powerful tool in the fight against financial misconduct. With the District joining the ranks of Delaware, Florida, Illinois, Indiana, Nevada, New York, and Rhode Island as states where false claims suits may be brought based on tax fraud claims, the fight against tax cheats looks promising.

The Case Against Saylor
In 2021, unnamed whistleblowers filed a lawsuit against Saylor, alleging that he had defrauded the District and failed to pay income taxes from 2014 to 2020. The OAG independently investigated these claims and filed a separate complaint against Saylor. The District’s lawsuit alleged that Saylor claimed to be a resident of Florida and Virginia to avoid paying over $25 million in income taxes. Another suit was filed against MicroStrategy, claiming it falsified records and statements that facilitated Saylor’s tax avoidance scheme.

The District’s allegations against Saylor paint a picture of a lavish lifestyle. Saylor is accused of unlawfully withholding tens of millions in tax revenue by claiming to live in a lower tax jurisdiction to avoid paying D.C. income taxes. The OAG’s investigation revealed that Saylor owned a 7,000-square-foot luxury penthouse overlooking the Potomac Waterfront and docked multiple yachts in the Washington Harbor. He purchased three luxury condominium units at 3030 K Street NW to combine into his current residence and a penthouse unit at the Eden Condominiums, 2360 Champlain St. NW. The Attorney General compiled several posts from Saylor’s Facebook, in which he boasted about the view from his D.C. residence.

Whistleblower Tax Fraud Lawsuit Against Bitcoin Billionaire Settles For $40 Million

Furthermore, the OAG found evidence that Saylor purchased a house in Miami Beach, obtained a Florida driver’s license, registered to vote in Florida, and falsely listed his residence on MicroStrategy W-2 forms. Attorney General Brian L. Schwalb stated, “Saylor openly bragged about his tax-evasion scheme, encouraging his friends to follow his example and contending that anyone who paid taxes to the District was stupid.”

The lawsuits allege that records from Saylor’s security detail provide Saylor’s physical location and travel from 2015 to 2020 and show that across six years, Saylor spent 449 days in Florida and 1,397 days in the District. Saylor allegedly directed MicroStrategy employees to aid his scheme to avoid paying District income taxes. The District claims that for the last ten years, MicroStrategy has falsely reported its income tax exemption on Saylor’s wages, claiming he was tax-exempt due to his residential status.

Saylor agreed to pay the District $40 million to resolve the allegations against him and MicroStrategy.

A copy of the settlement can be found here.

Copyright Kohn, Kohn & Colapinto, LLP 2024. All Rights Reserved.

by: Whistleblower Law at Kohn Kohn Colapinto of Kohn, Kohn & Colapinto

For more on Whistleblowers, visit the NLR Criminal Law / Business Crimes section.

Justice Department has Opportunity to Revolutionize its Enforcement Efforts with Whistleblower Program

Over the past few decades, modern whistleblower award programs have radically altered the ability of numerous U.S. agencies to crack down on white-collar crime. This year, the Department of Justice (DOJ) may be joining their ranks, if it incorporates the key elements of successful whistleblower programs into the program it is developing.

On March 7, the Deputy Attorney General Lisa Monaco announced that the DOJ was launching a “90-day policy sprint” to develop “a DOJ-run whistleblower rewards program.” According to Monaco, the DOJ has taken note of the successes of the U.S.’s whistleblower award programs, such as those run by the Securities and Exchange Commission (SEC) and Internal Revenue Service (IRS), noting that they “have proven indispensable.”

Monaco understood that the SEC and IRS programs have been so successful because they “encourage individuals to report misconduct” by “rewarding whistleblowers.” But how any award program is administered is the key to whether or not the program will work. There is a nearly 50-year history of what rules need to be implemented to transform these programs into highly effective law enforcement tools. The Justice Department needs to follow these well defined rules.

The key element of all successful whistleblower award programs is very simple: If a whistleblower meets all of the requirements set forth by the government for compensation the awards must be mandatory and based on a percentage of the sanctions collected thanks to the whistleblower. A qualified whistleblower cannot be left out in the cold. Denying qualified whistleblowers compensation will destroy the trust necessary for a whistleblower program to work.

It is not the possibility of money that incentives individuals to report misconduct but the promise of money. Blowing the whistle is an immense risk and individuals are only compelled to take such a risk when there is real guarantee of an award.

This dynamic has been laid clear in recent legislative history. There is a long track record of whistleblower laws and programs failing when awards are discretionary and then becoming immensely successful once awards are made mandatory.

For example, under the 1943 version of the False Claims Act awards to whistleblowers were fully discretionary. After decades of ineffectiveness, in 1986, Congress amended the law to set a mandate that qualified whistleblowers receive awards of 15-30% of the proceeds collected by the government in the action connected with their disclosure.

The 1986 Senate Report explained why Congress was amending the law:

“The new percentages . . . create a guarantee that relators [i.e., whistleblowers] will receive at least some portion of the award if the litigation proves successful. Hearing witnesses who themselves had exposed fraud in Government contracting, expressed concern that current law fails to offer any security, financial or otherwise, to persons considering publicly exposing fraud.

“If a potential plaintiff reads the present statute and understands that in a successful case the court may arbitrarily decide to award only a tiny fraction of the proceeds to the person who brought the action, the potential plaintiff may decide it is too risky to proceed in the face of a totally unpredictable recovery.”

In the nearly four decades since awards were made mandatory, the False Claims Act has established itself as America’s premier anti-fraud law. The government has recovered over $75 billions of taxpayer money from fraudsters, the vast majority from whistleblower initiated cases based directly on the 1986 amendments making awards mandatory.

Similar transformations occurred at both the IRS and SEC where ineffective discretionary award laws were replaced by laws which mandated that qualified whistleblowers receive a set percentage of the funds collected thanks to their whistleblowing. Since these reforms, the whistleblower programs have revolutionized these agencies’ enforcement efforts, leading directly to billions of dollars in sanctions and creating a massive deterrent effect on corporate wrongdoing.

Most recently, Congress reaffirmed the importance of mandatory whistleblower awards when it reformed the anti-money laundering whistleblower law. The original version of the law, which passed in January 2021, had no set minimum amount for awards, meaning that they were fully discretionary. After the AML Whistleblower Program struggled to take off, Congress listened to the feedback from whistleblower advocates and passed the AML Whistleblower Improvement Act to mandate that qualified money laundering whistleblowers are awarded.

Monaco states that the DOJ has long had the discretionary authority to pay whistleblower awards to individuals who report information leading to civil or criminal forfeitures and has “used this authority here and there — but never as part of a targeted program.”

The most important step in turning an underutilized and ineffective whistleblower award law into an “indispensable” whistleblower award program has been made clear over the past decades. Qualified whistleblowers must be guaranteed an award based on a percentage of the sanctions collected in connection with their disclosure.

By administering its whistleblower program in a way that mandates award payments, the DOJ would go a long way towards creating a whistleblower program which revolutionizes its ability to fight crime. The Justice Department has taken the most important first step – recognizing the importance of whistleblowers in reporting frauds. It now must follow through during its “90-day sprint,” making sure reforming the management of the Asset Forfeiture Fund works in practice. Whistleblowers who risk their jobs and careers need real, enforceable justice.

Copyright Kohn, Kohn & Colapinto, LLP 2024. All Rights Reserved.
For more news on DOJ Whistleblower Programs, visit the NLR Criminal Law / Business Crimes section.

The Race to Report: DOJ Announces Pilot Whistleblower Program

In recent years, the Department of Justice (DOJ) has rolled out a significant and increasing number of carrots and sticks aimed at deterring and punishing white collar crime. Speaking at the American Bar Association White Collar Conference in San Francisco on March 7, Deputy Attorney General Lisa Monaco announced the latest: a pilot program to provide financial incentives for whistleblowers.

While the program is not yet fully developed, the premise is simple: if an individual helps DOJ discover significant corporate or financial misconduct, she could qualify to receive a portion of the resulting forfeiture, consistent with the following predicates:

  • The information must be truthful and not already known to the government.
  • The whistleblower must not have been involved in the criminal activity itself.
  • Payments are available only in cases where there is not an existing financial disclosure incentive.
  • Payments will be made only after all victims have been properly compensated.

Money Motivates 

Harkening back to the “Wanted” posters of the Old West, Monaco observed that law enforcement has long offered rewards to incentivize tipsters. Since the passage of Dodd Frank almost 15 years ago, the SEC and CFTC have relied on whistleblower programs that have been incredibly successful. In 2023, the SEC received more than 18,000 whistleblower tips (almost 50 percent more than the previous record set in FY2022), and awarded nearly $600 million — the highest annual total by dollar value in the program’s history. Over the course of 2022 and 2023, the CFTC received more than 3,000 whistleblower tips and paid nearly $350 million in awards — including a record-breaking $200 million award to a single whistleblower. Programs at IRS and FinCEN have been similarly fruitful, as are qui tam actions for fraud against the government. But, Monaco acknowledged, those programs are by their very nature limited. Accordingly, DOJ’s program will fill in the gaps and address the full range of corporate and financial misconduct that the Department prosecutes. And though only time will tell, it seems likely that this program will generate a similarly large number of tips.

The Attorney General already has authority to pay awards for “information or assistance leading to civil or criminal forfeitures,” but it has never used that power in any systematic way. Now, DOJ plans to leverage that authority to offer financial incentives to those who (1) disclose truthful and new information regarding misconduct (2) in which they were not involved (3) where there is no existing financial disclosure incentive and (4) after all victims have been compensated. The Department has begun a 90-day policy sprint to develop and implement the program, with a formal start date later this year. Acting Assistant Attorney General Nicole Argentieri explained that, because the statutory authority is tied to the department’s forfeiture program, the Department’s Money Laundering and Asset Recovery Section will play a leading role in designing the program’s nuts and bolts, in close coordination with US Attorneys, the FBI and other DOJ offices.

Monaco spoke directly to potential whistleblowers, saying that while the Department will accept information about violations of any federal law, it is especially interested in information regarding

  • Criminal abuses of the US financial system;
  • Foreign corruption cases outside the jurisdiction of the SEC, including FCPA violations by non-issuers and violations of the recently enacted Foreign Extortion Prevention Act; and
  • Domestic corruption cases, especially involving illegal corporate payments to government officials.

Like the SEC and CFTC whistleblower programs, DOJ’s program will allow whistleblower awards only in cases involving penalties above a certain monetary threshold, but that threshold has yet to be determined.

Prior to Monaco’s announcement, the United States Attorney’s Office for the Southern District of New York launched its own pilot “whistleblower” program, which became effective February 13, 2024. Both the Department-wide pilot and the SDNY policy require that the government have been previously unaware of the misconduct, but they are different in a critical way: the Department-wide policy under development will explicitly apply only to reports by individuals who did not participate in the misconduct, while SDNY’s program offers incentives to “individual participants in certain non-violent offenses.” Thus, it appears that SDNY’s program is actually more akin to a VSD program, while DOJ’s Department-wide pilot program will target a new audience of potential whistleblowers.

Companies with an international footprint should also pay attention to non-US prosecutors. The new Director of the UK Serious Fraud Office recently announced that he would like to set up a similar program, no doubt noticing the effectiveness of current US programs.

Corporate Considerations

Though directed at whistleblowers, the pilot program is equally about incentivizing companies to voluntarily self-disclose misconduct in a timely manner. Absent aggravating factors, a qualifying VSD will result in a much more favorable resolution, including possibly avoiding a guilty plea and receiving a reduced financial penalty. But because the benefits under both programs only go to those who provide DOJ with new information, every day that a company sits on knowledge about misconduct is another day that a whistleblower might beat them to reporting that misconduct, and reaping the reward for doing so.

“When everyone needs to be first in the door, no one wants to be second,” Monaco said. “With these announcements, our message to whistleblowers is clear: the Department of Justice wants to hear from you. And to those considering a voluntary self-disclosure, our message is equally clear: knock on our door before we knock on yours.”

By providing a cash reward for whistleblowing to DOJ, this program may present challenges for companies’ efforts to operate and maintain and effective compliance program. Such rewards may encourage employees to report misconduct to DOJ instead of via internal channels, such as a compliance hotline, which can lead to compliance issues going undiagnosed or untreated — such as in circumstances where the DOJ is the only entity to receive the report but does not take any further action. Companies must therefore ensure that internal compliance and whistleblower systems are clear, easy to use, and effective — actually addressing the employee’s concerns and, to the extent possible, following up with the whistleblower to make sure they understand the company’s response.

If an employee does elect to provide information to DOJ, companies must ensure that they do not take any action that could be construed as interfering with the disclosure. Companies already face potential regulatory sanctions for restricting employees from reporting misconduct to the SEC. Though it is too early to know, it seems likely that DOJ will adopt a similar position, and a company’s interference with a whistleblower’s communications potentially could be deemed obstruction of justice.

© 2024 Bracewell LLP
For more on Whistleblowers, visit the NLR Criminal Law / Business Crimes section.

The False Claims Act in 2023: A Year in Review

In 2023, the government and whistleblowers were party to 543 False Claims Act (FCA) settlements and judgments, the highest number of FCA settlements and judgments in a single year. As a result, collections under the FCA exceeded $2.68 billion, confirming that the FCA remains one of the government’s most important tools to root out fraud, safeguard government programs, and ensure that public funds are used appropriately. As in recent years, the healthcare industry was the primary focus of FCA enforcement, with over $1.8 billion recovered from matters involving hospitals, pharmacies, physicians, managed care providers, laboratories, and long-term acute care facilities. Other areas of focus in 2023 were government procurement fraud, pandemic fraud, and enforcement through the government’s new Civil Cyber-Fraud Initiative.

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© 2024 Bradley Arant Boult Cummings LLP
For more on the False Claims Act, visit the NLR Criminal Law / Business Crimes section.

Road to Victory Just Got a Little Easier for Whistleblowers

In 2017, a federal jury found whistleblower Trevor Murray was wrongfully terminated after he refused “to change his research on commercial mortgage-backed securities.” He won over $900,000. On appeal in 2022, the U.S. Court of Appeals for the Second Circuit overturned Murray’s award, finding whistleblowers who bring a retaliation claim against their employer under the Sarbanes-Oxley Act (SOX) must prove their employer acted with “retaliatory intent.”

Earlier this month, the U.S. Supreme Court weighed in, issuing a unanimous decision in Trevor Murray v. UBS Securities LLC, et al. The justices found that the Second Circuit was wrong. That is, “when it comes to a plaintiff’s burden of proof on intent under SOX, they only need to show that their protected activity contributed to an unfavorable personnel action, such as a firing.” Once the plaintiff does this, the Supreme Court found the burden of proof shifts to the employer to prove that “it would have taken the same adverse action regardless of the employee’s protected activity.” The justices found the law is intended ”to be plaintiff-friendly.”

In light of this development, employers should continue to be diligent in documenting the reasons that lead to an employee’s termination. This is especially true if that employee may be found to have engaged in a protected activity, cloaking them with certain whistleblower protections.

In siding with whistleblower Trevor Murray, the justices rejected UBS’ position that a separate finding of retaliatory intent is required for whistleblower protection under the Sarbanes-Oxley Act, or SOX, which governs corporate financial reporting and recordkeeping.
© 2024 BARNES & THORNBURG LLP
For more on Whistleblowers, visit the NLR Labor & Employment section.

SEC Enforcement Targets Anti-Whistleblower Practices in Financial Firm’s Settlement Agreements with Retail Clients by Imposing Highest Penalty in Standalone Enforcement Action Under Exchange Act Rule 21 F-17(a)

As the year gets underway, the Securities and Exchange Commission (SEC or Commission) is continuing its ongoing enforcement efforts to target anti-whistleblower practices by pursuing a broader range of entities and substantive agreements, including the terms of agreements between financial institutions and their retail clients. The most recent settlement with a financial firm signifies that the SEC is imposing increasingly steep penalties to settle these matters while focusing on confidentiality provisions that do not affirmatively permit voluntary disclosures to regulators. We discuss below the latest SEC enforcement actions in the name of whistleblower protection and offer some practical tips for what firms and companies may do to proactively mitigate exposure.

On 16 January 2024, the SEC announced a record $18 million civil penalty against a dual registered investment adviser and broker-dealer (the Firm), asserting that the use of release agreements with retail clients impeded the clients from reporting securities law violations to the SEC in violation of Rule 21F-17(a) of the Securities Exchange Act of 1934 (Exchange Act).1

The SEC found that from March 2020 through July 2023, the Firm regularly required its retail clients to sign confidential release agreements in order to receive a credit or settlement of more than $1,000. Under the terms of these releases, clients were required to keep confidential the existence of the credits or settlements, all related underlying facts, and all information relating to the accounts at issue, or risk legal action for breach of the agreement. The agreements “neither prohibited nor restricted” the clients from responding to any inquiries from the SEC, the Financial Industry Regulatory Authority (FINRA), other regulators or “as required by law.” However, the agreements did not expressly allow the clients to initiate voluntary reporting of potential securities law violations to the regulators. The SEC found that this violated Rule 21F-17(a) “which is intended to ‘encourag[e] individuals to report to the Commission.’”2 While the Firm did report a number of the underlying client disputes to FINRA, the SEC found this insufficient to mitigate the lack of language in the release agreements that expressly permitted the clients to report potential securities law violations to the SEC.

The SEC initiated a settled administrative proceeding against the Firm, which neither admitted nor denied the SEC’s findings. In addition to the $18 million civil monetary penalty, the settlement requires that the Firm cease and desist from further violations of Rule 21F-17(a). Notably, the SEC credited certain remedial measures promptly undertaken by the Firm, including revising the at-issue release language and affirmatively alerting affected clients that they are not prohibited from communicating with governmental and regulatory authorities.

This enforcement action is significant for several reasons. First, it signals a broader enforcement focus by the SEC with respect to Rule 21F-17(a) in that this is the first action involving the terms of agreements between a financial institution and its retail clients, which are prevalent throughout the financial services industry. Previously, enforcement had focused squarely on restrictive confidentiality provisions involving employees, such as those found in employment or severance agreements or in connection with internal investigation interviews.

Second, the unprecedented magnitude of the penalty in a standalone Rule 21F-17(a) case underscores the SEC’s emphasis on preventing practices that it views as obstructions of whistleblower rights. SEC Enforcement Director Gurbir Grewal’s statement announcing the settlement reflects this position, “Whether it’s in your employment contracts, settlement agreements or elsewhere, you simply cannot include provisions that prevent individuals from contacting the SEC with evidence of wrongdoing.” Companies (public and private), broker-dealers, investment advisers, and other market participants should expect to see continued enforcement investigations in connection with the SEC’s ongoing attention toward compliance with Rule 21F-17(a), as discussed further below.

The SEC’s Whistleblower Protection Program

Established in 2011 pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the SEC Whistleblower Program provides monetary awards to individuals who “tip” the SEC with original information that leads to an enforcement action resulting in monetary sanctions that exceed $1 million. Through the end of the SEC’s FY2023, the SEC has awarded almost $2 billion to 385 whistleblowers.3 In FY2023 alone, the SEC received over 18,000 whistleblower tips and awarded more than $600 million in whistleblower awards to 68 individuals.4

In furtherance of the Whistleblower Program, the SEC also issued Exchange Act Rule 21F-17(a), which provides that “no person may take any action to impede an individual from communicating directly with the Commission staff about a possible securities law violation, including enforcing, or threatening to enforce, a confidentiality agreement . . . with respect to such communications.”5

SEC Struck Several Blows in 2023 Against Companies that Failed to Carve out Whistleblower Protections in Their Confidentiality Agreements

The SEC has been aggressively enforcing Rule 21F-17(a) since its first enforcement action in 2015 with respect to that Rule,6 through several waves of enforcement actions. During 2023, the SEC was especially active with a number of settled enforcement actions asserting violations of Rule 21F-17(a) in which the respondents neither admitted nor denied the SEC’s findings:

  • In February 2023, the SEC fined a video game development and publishing company $35 million for violating federal securities laws through its inadequate disclosure controls and procedures. The settled action also included a finding that the company had violated Rule 21F-17(a) by executing separation agreements in the ordinary course of its business that required former employees to provide notice to the company if they received a request for information from the SEC’s staff.7
  • In May 2023, the SEC imposed a $2 million fine on an internet streaming company for: (i) retaliating against an employee who reported misconduct to the company’s management prior to and after filing a complaint with the SEC; and, (ii) impeding the reporting of potential securities law violations, by including provisions in employee severance agreements requiring that departing employees waive any potential right to receive a whistleblower award, in violation Rule 21F-17(a).8
  • In September 2023, in another standalone enforcement action for violations of Rule 21F-17(a), the SEC imposed a $10 million civil monetary penalty on a registered investment adviser (RIA) for requiring that its new employees sign employment agreements that prohibited the disclosure of “Confidential Information” to anyone outside of the company, without an exception for voluntary communications with the SEC concerning possible securities laws violations.9 Further, the RIA required many departing employees to sign a release in exchange for the receipt of certain deferred compensation and other benefits affirming that, among other things, the employee had not filed any complaints with any governmental agency. Although the RIA later revised its policies and issued clarifications to employees that they were not prevented from communicating with the SEC and other regulators, the RIA failed to amend its employment and release agreements to provide the carve out.
  • Also in September 2023, the SEC charged two additional firms with violations of Rule 21F-17(a). In one case imposing a $375,000 civil penalty, the SEC found that a commercial real estate services and investment firm impeded whistleblowers by requiring its employees, as a condition of receiving separation pay, to represent that they had not filed a complaint against the firm with any federal agency.10 In another case, the SEC imposed a $225,000 civil penalty against a privately-held energy and technology company for requiring certain departing employees to waive their rights to monetary whistleblower awards.11 This particular action underscores that Rule 21F-17 applies to all entities, and not only to public companies.

Mr. Grewal, in an October 2023 speech before the New York City Bar Association Compliance Institute, emphasized that potential impediments to the SEC’s Whistleblower Program would be a continued focus of the agency’s enforcement efforts, stating, “we take compliance with Rule 21F-17 very seriously, and so should each of you who work in a compliance function or advise companies. You need to look at these orders and the violative language cited by the Commission and think about how those actions may impact your firms. And if they do, then take the steps necessary to effect compliance.”12

Key Take-Aways

The SEC’s recent enforcement actions demonstrate that violations of Rule 21F-17(a) can carry significant fines and reach virtually any confidentiality agreement that does not carve out communications between a firm’s current or former employees or customers and the SEC or other regulators about potential securities violations. Moreover, although many of the enforcement actions relate to language in agreements, Rule 21F-17 is not so limited and can also apply to language in internal policies, procedures, guidance, manuals, or training materials. The message from the SEC is clear: it will continue to enforce Rule 21F-17 with respect to public companies, private companies, broker-dealers, investment advisers, and other financial services entities.

The SEC in its recent orders has provided credit to companies for cooperation as well as for instituting remedial actions.13 Being proactive in identifying and correcting potential violations in advance of any investigation by the SEC can result in mitigation of any action or penalties.

Legal and compliance officers may want to consider the following steps in order to evaluate and potentially mitigate any potential exposure to an enforcement action:

  • Conduct a review of all employee-facing and client-facing documents or contracts with confidentiality provisions and remove or revise any content that may be viewed as impeding (even unintentionally) a person’s ability to report potential securities law violations to the SEC. Depending on the circumstances, this may involve including a reference expressly permitting communications with the SEC and other government or regulatory entities without advance notice or disclosure to the company.
  • Remove any language from the templates that could be interpreted as hindering an employee’s or client’s ability to communicate with the SEC concerning potential securities law violations, including language threatening disciplinary action against employees for disclosing confidential information in their communications with government agencies when reporting potential violations.
  • Prepare addenda or updates to current employee- and client-facing agreements that reflect the revised confidentiality clauses.
  • Include reference in written anti-retaliation policies that employees’ communications and cooperation with the SEC and other government agencies will not result in retaliation from the company.
  • Conduct trainings for company managers and supervisors regarding appropriate communications to employees regarding their interactions with the government.
  • Implement policies that prevent any company personnel from taking steps to block or interfere with an employee’s use of company platforms or systems to communicate with the SEC and other government agencies.14

1 In the Matter of JP Morgan Securities LLC, Admin. Proc. No. 3-21829 (Jan. 16, 2024), https://www.sec.gov/files/litigation/admin/2024/34-99344.pdf.

2 Id. (quoting Securities Whistleblower Incentives and Protections Adopting Release, Release No. 34-63434 (June 13, 2011)).

3 SEC Office of the Whistleblower Annual Report to Congress for Fiscal Year 2023 (Nov. 14, 2023), https://www.sec.gov/files/2023_ow_ar.pdf; SEC Whistleblower Office Announces Results for FY 2022 (Nov. 15, 2022), https://www.sec.gov/files/2022_ow_ar.pdf; 2021 Annual Report to Congress Whistleblower Program (Nov. 15, 2021), https://www.sec.gov/files/owb-2021-annual-report.pdf; 2020 Annual Report to Congress Whistleblower Program (Nov. 16, 2020), https://www.sec.gov/files/2020_owb_annual_report.pdf.

4 SEC Office of the Whistleblower Annual Report to Congress for Fiscal Year 2023 (Nov. 14, 2023), https://www.sec.gov/files/2023_ow_ar.pdf.

5 17 C.F.R. § 240.21F-17.

6 In the Matter of KBR, Inc., Admin. Proc. No. 3-16466 (Apr. 1 2015), https://www.sec.gov/files/litigation/admin/2015/34-74619.pdf (imposing a US$130,000 fine on a company in a settled enforcement action for requiring that witnesses in certain internal investigations sign confidentiality agreements warning that they could be subject to discipline if they discussed the matters at issue outside the company without prior approval of the company’s legal department).

7 In the Matter of Activision Blizzard, Inc. Admin. Proc. No. 3-21294 (Feb. 3, 2023), https://www.sec.gov/files/litigation/admin/2023/34-96796.pdf.

8 In the Matter of Gaia, Inc. et. al., Admin. Proc. No. 3-21438 (May 23, 2023), https://www.sec.gov/files/litigation/admin/2023/33-11196.pdf.

9 In the Matter of D.E. Shaw & Co., L.P., Admin. Proc. No. 3-21775 (Sep. 29, 2023), https://www.sec.gov/files/litigation/admin/2023/34-98641.pdf.

10 In the Matter of CBRE Inc., Admin. Proc. No. 3-21675  (Sept. 19, 2023), https://www.sec.gov/files/litigation/admin/2023/34-98429.pdf.

11 In the Matter of Monolith Res., LLC, Admin. Proc. No. 3-21629 (Sept. 8, 2023), https://www.sec.gov/files/litigation/admin/2023/34-98322.pdf.

12 Gurbir S. Grewal, Remarks at New York City Bar Association Compliance Institute (Oct. 24, 2023), https://www.sec.gov/news/speech/grewal-remarks-nyc-bar-association-compliance-institute-102423.

13 See, e.g., In the Matter of CBRE Inc., Admin. Proc. No. 3-21675  (Sept. 19, 2023), https://www.sec.gov/files/litigation/admin/2023/34-98429.pdf (crediting respondent’s remediation program, which included, among other measures, an audit of relevant agreements, updates to policies with respect to Rule 21F-17, and mandatory trainings); In the Matter of Monolith Res., LLC, Admin. Proc. No. 3-21629 (Sept. 8, 2023), https://www.sec.gov/files/litigation/admin/2023/34-98322.pdf (crediting respondent’s prompt remedial acts including revisions to the at-issue release language and affirmatively alerting affected clients that they are not prohibited from communicating with governmental and regulatory authorities.)

14 Cf.  In the Matter of David Hansen, Admin Proc. 3-20820 (Apr. 12, 2022), https://www.sec.gov/enforce/34-94703-s (settled SEC enforcement action against former Chief Information Officer of a technology company for violating Rule 21F-17(a) by, among other things, removing an employee’s access to the company’s computer systems after the employee raised concerns regarding misrepresentations contained in the company’s public disclosures).

Copyright 2024 K & L Gates
For more news on SEC enforcement, visit the NLR Securities and SEC section.

Supreme Court Upholds Corporate Whistleblower Protections in Landmark Ruling

Today, the U.S. Supreme Court issued a unanimous ruling holding that whistleblowers do not need to prove that their employer acted with “retaliatory intent” to be protected under the Sarbanes-Oxley Act (SOX). The decision in the case, Murray v. UBS Securities, LLC, has immense implications for a number of whistleblower protection laws.

“This is a major win for whistleblowers and thus a huge win for corporate accountability,” said leading whistleblower attorney David Colapinto, a founding partner of Kohn, Kohn & Colapinto.

“A ruling in favor of UBS would have overturned more than 20 years of precedent in SOX whistleblower cases and made it exceedingly more difficult for whistleblowers who claim retaliation under many similarly worded federal whistleblower statutes,” Colapinto continued.

“Thankfully, the Court was not swayed by UBS’ attempt to ignore the plain meaning of the statute and instead upheld the burden of proof that Congress enacted to protect whistleblowers who face retaliation,” added Colapinto.

In an amicus curiae brief filed in the case on behalf of the National Whistleblower Center, the founding partners of Kohn, Kohn & Colapinto outlined the Congressional intent behind the burden of proof standard in SOX.

“In crafting the unique ‘contributing factor’ test for whistleblowers, Congress left an incredibly straight-forward legislative history documenting the value of whistleblowers’ contributions, the risks and retaliation whistleblowers faced, the barriers the previous burden of proof presented for whistleblowers, and Congress’ explicit intention to lower that burden of proof for whistleblowers,” the brief states.

In the Court’s opinion, Justice Sonia Sotomayor likewise pointed to the Congressional intent of SOX’s contributing-factor burden of proof standard:

“To be sure, the contributing-factor framework that Congress chose here is not as protective of employers as a motivating-factor framework. That is by design. Congress has employed the contributing-factor framework in contexts where the health, safety, or well-being of the public may well depend on whistleblowers feeling empowered to come forward. This Court cannot override that policy choice by giving employers more protection than the statute itself provides.”

This article was authored by Geoff Schweller.

Copyright Kohn, Kohn & Colapinto, LLP 2024. All Rights Reserved.
For more news on Supreme Court Whistleblower Rulings, visit the NLR Labor & Employment section.

As Three Recent Settlements Demonstrate, Whistleblowers Are the Key to Enforcement of Section 301 Tariffs

The Section 301 tariffs on Chinese-made goods—at the time, known as the Trump Tariffs, although President Biden has embraced them as well—were put in place in 2018. Only recently, more than five years later, have enforcement efforts begun to show up publicly. And, as is often the case, whistleblowers are the tip of the enforcement spear. In particular, over the course of two weeks at the end of 2023, the U.S. Department of Justice (“DOJ”) announced settlements of three qui tam cases, brought under the False Claims Act, that alleged evasion of Section 301 tariffs. These are the first such settlements to be made public, but likely signal the beginning of a wave of settlements or litigation in the coming years.

Starting in July of 2018, and pursuant to Title III of the Trade Act of 1974 (Sections 301 through 310, 19 U.S.C. §§ 2411-2420), titled “Relief from Unfair Trade Practices,” and often collectively referred to as “Section 301,” the United States imposed additional tariffs on a wide range of products manufactured in China. The Section 301 tariffs were rolled out in tranches, but they fairly quickly covered a majority of all Chinese-made products imported into the United States. The Section 301 tariffs imposed an additional 25% customs duty on those products.

As is always the case when high tariffs are imposed on imported goods, the Section 301 tariffs were met with a mix of responses by importers. In some cases, importers simply paid the additional 25% duties. In some cases, the importers found new sources, outside of China, for the products they wished to import. And in many cases, the importers started cheating—evading the tariffs either by lying to Customs and Border Protection (“CBP”) about what was being imported, or engaging to transshipping schemes to make it appear that the products were actually made in some country other than China.

Evasion of customs duties violates the False Claims Act, a federal law that, among other things, outlaws the making of false statements to avoid payment of money owed to the government. Evasion of customs duties will almost always involve such false statements because when goods are imported into the United States, the importer must provide CBP with a completed form, called an Entry Summary (also known as a Form 7501), in which the importer provides information about the nature, quantity, value, and country-of-origin of the goods being imported. To avoid or reduce the payment of duties, the importer will almost always lie on the Entry Summary about one or more of those, thus exposing the importer to liability under the False Claims Act.

The False Claims Act has a qui tam provision, which means that a private person or company may bring a lawsuit in the name of the government against the importer that has evaded payment of duties. If the qui tam lawsuit is successful, most of the money goes to the government. But the person or company that brought the lawsuit typically referred to as a whistleblower or, more technically, as the “relator”—gets an award that is between 15% and 30% of the amount recovered for the government.

When a qui tam case is first filed, it is put “under seal” by the court, meaning that it is secret and not available to the public. The case stays under seal, often for multiple years, as DOJ investigates the claims made in the case. But once DOJ decides to pursue a case, the seal is lifted, and the case becomes public. Often, this happens almost simultaneously with the announcement of a settlement of the case.

That is what happened with three cases that became public in late 2023. The first announcement came on November 29, 2023, when the U.S. Attorney’s Office for the Northern District of Georgia announced a $1.9 million settlement in a case captioned United States ex rel Chinapacificarbide Inc. v. King Kong Tools, LLC. In that case, the whistleblower that had brought the qui tam lawsuit was a competitor company which alleged that King Kong Tools was manufacturing cutting tools in a factory in China, shipping them to Germany, and then importing them from Germany into the United States, claiming falsely that the tools were made in Germany. The whistleblowing company received an award of $286,861.

The second such announcement came on December 5, 2023, when the U.S. Attorney’s Office for the Northern District of Texas announced a $2.5 million settlement in a case captioned United States ex rel. Reznicek et al. v. Dallco Marketing, Inc. In that case, the whistleblowers were two individuals who alleged that the defendants evaded the Section 301 tariffs by underreporting the value of the products they were importing from China into the United States. The whistleblowers received an award of $500,000.

The third such announcement case on December 13, 2023, when the U.S. Attorney’s Office for the Eastern District of Texas announced a settlement of $798,334 in a case captioned United States ex rel. Edwards v. Homestar North America LLC. Like the Dallco Marketing case, the Homestar case was also brought by an individual who alleged that the importer had lied to the government about the value of the goods being imported from China into the United States, in order to avoid payment of Section 301 tariffs. The whistleblower received an award of $151,683.

Accordingly, over the course of just two weeks in late 2023, three Section 301 settlements were publicly announced in quick succession. And notably, all three were whistleblower qui tam cases. This demonstrates the key role that whistleblowers play in the enforcement of customs tariffs and duties. No doubt, many other such cases remain under seal, and will start to become public as DOJ concludes its investigations. And because the Section 301 tariffs remain in place to this day, additional qui tam cases will almost certainly continue to be brought by both individual whistleblowers and competing companies seeking to level the playing field. Accordingly, these three settlements are likely just the early signs of a wave of Section 301 cases that will crest in the coming years.

© 2024 by Tycko & Zavareei LLP
For more news on Whistleblowers and Section 301 Tariffs, visit the NLR Antitrust & Trade Regulation section.