On August 26, 2022, the Securities and Exchange Commission (“SEC” or “Commission”) adopted two changes to its whistleblower program.  First, the SEC expanded the circumstances under which whistleblowers may be rewarded for their contributions to non-SEC actions. Second, the SEC placed limitations on its own ability to reduce awards.  No longer may the SEC consider the monetary amount of an award for the purpose of lowering it.  According to SEC’s report to Congress, these changes were inspired by a desire to encourage whistleblowers to come forward.  SEC Chair Gary Gensler lauded the changes as an effort to “strengthen” the whistleblower program in a manner that “helps protect investors.”  Both amendments went into effect on October 3, 2022, thirty days after their publication in the Federal Register.

The SEC Whistleblower Program

As expanded by the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd Frank”), the SEC Whistleblower Incentive Program (“Program”) offers monetary incentive to eligible whistleblowers who provide information regarding violations of securities law.  Under the Program, rewards are available to SEC whistleblowers who voluntarily disclose “original information” that leads to successful enforcement.  The Program, and the availability of monetary rewards, are seen by the SEC as encouraging whistleblowers to come forward in a manner that strengthens the SEC’s ability to detect wrongdoing, sanction wrongdoers, and protect impacted investors.

Eligible whistleblowers whose information leads to a sanction of at least $1 million may be rewarded with 10% to 30% of the amount collected.  Under Dodd-Frank, the calculation of a reward includes sanctions imposed through “related actions” brought by specified offices or regulatory authorities.  Reward money is pulled from the SEC Investor Protection Fund (“Fund”).  The Fund is financed by SEC-collected sanctions against violators of SEC securities law.  As of the beginning of fiscal year 2021, the Fund had a balance of over $260 million.

Since its implementation in 2010, the Program has been recognized as successfully improving the SEC’s ability to pinpoint and sanction violators of securities law.  As of the summer of 2022, the Program had awarded roughly $1.3 billion to over 275 eligible whistleblowers.  FY 2021 was a record-breaking year in terms of the number of whistleblowers rewarded, the amount rewarded, and the total number of tips received.  In total, the SEC received roughly 12,210 tips in FY 2021, nearly double the previous record high.

The overall success of the Program, as evidenced by the number of tips received and sanctions imposed, is intrinsically connected to its provisions that expand the pool of potential whistleblowers.  For instance, whistleblowers who would like to protect their identity are able to submit their tip confidentially.  Though the whistleblower will have to provide their identity to the SEC to receive their award, the SEC will not disclose any revealing information.  This ensures that whistleblowers who are fearful of being blacklisted from future employment have a reasonable pathway for submitting their tips.  As another example, individuals do not need to have first-hand knowledge of the subject of their tip to have “original information.”  Instead, “original information” can be drawn from an individual’s independent knowledge, which means it is gained from the individual’s “experiences, communications and observations in his business or social interactions,” or it can be drawn from an independent analysis, which means an “examination and evaluation of information that may be publicly available.”  Either type of information will suffice to qualify someone as a whistleblower.  This broad scope of qualified information increases the quantity of securities violations that will be brought to the Commission’s attention.  These aspects of the Program expand who may be considered a covered whistleblower in a manner that advances the overall goals of detecting wrongdoing, sanctioning wrongdoing, and protecting investors.

The 2020 Changes and Controversy

In 2020, the SEC enacted a series of amendments impacting reward payment under the Program.  As explained in a prior post about the SEC adopting final rules, the following changes were among those considered to have an especially high impact on whistleblowers contemplating coming forward with a potential tip: (1) broad discretion for the SEC to increase or decrease the amount of an award based on consideration of the dollar amount of the award; and (2) a limitation on the eligibility of whistleblowers who may recover from a non-SEC program that has a “more direct or relevant connection to the action.”  The SEC framed these changes as adding “clarity, efficiency, and transparency” to the Program.  However, as noted in our earlier post, the amendments added uncertainty and procedural hurdles to the Program’s award process.  Stakeholders were quick to voice their concerns, and an attorney in New York filed a complaint alleging that the amendments violated the Administrative Procedure Act (“APA”) because the SEC lacked the statutory authority under Dodd-Frank to consider the size of monetary awards. 

On August 2, 2021, less than one year after their adoption, SEC Chair Gary Gensler announced that the two rules would be reconsidered.  As justification, Gensler cited concerns from Commissioners and whistleblower advocates that the rules were discouraging potential whistleblowers from coming forward.  In the interim, while the rules were being reconsidered, the SEC followed a policy of (1) not lowering awards because of their dollar amount without first notifying a claimant and providing them with an opportunity to hold the matter in abeyance, and (2) allowing a whistleblower who is eligible under another program to receive an award from the SEC if the alternative program is not comparable.  If the Commission determined that a non-SEC program had a “more direct or relevant connection” to the action, the claimant was empowered to request that their claim be held in abeyance for the duration of the interim period.  As detailed below, both rules were officially amended in 2022.

Impact of the 2022 Changes to the SEC Whistleblower Program

Limiting the SEC’s ability to lower awards.  The first change, an amendment to SEC powers granted by Rule 21F-6, bars the Commission from considering the dollar amount of a potential award when deciding whether to lower it.  The Commission may continue to undertake such a consideration only for the purpose of increasing the award.

Expanding coverage for “related actions.”  The second change, an amendment to SEC Rule 21F-3, expands Program eligibility for whistleblowers whose tips have led to sanctions being imposed by statutorily-specified authorities other than the SEC.  The amendment empowers the SEC to award tips that have a more direct connection to, and are covered by, other whistleblower programs.  Actions under such programs will be considered “related” for the purpose of SEC coverage if the alternate reward program is “not comparable.” A program is considered “not comparable” if, as compared to the SEC Program, it has a more limited range of awards, a monetary award cap, or if awards are not mandatory.  To be awarded by the SEC for a related action, a whistleblower must waive their claim to the alternate reward program.

Both the SEC and whistleblower advocates celebrate these changes as furthering the overarching policy goal of encouraging whistleblowers to provide information regarding securities violations.  In the initial rule proposal published on February 10, 2022, the SEC noted that while it did not expect a large impact from the somewhat narrowly applicable amendments, it did expect that the changes would strengthen the Program’s incentive structure in a manner that would motivate individuals to come forward with their tips.  That is, at the very least, whistleblowers would have less uncertainty about their ability to secure a meaningful award.  Other stakeholders are comparatively bullish and predict that the amendments will both increase the number of tips submitted to the SEC and the amount that is awarded as a result of a successful enforcement action.

The amendments have not been without criticism.  In response to the SEC’s February 2022 proposal, Commissioner Pierce expressed concern that the rules were a “solution in search of a problem” and that the SEC’s practice of revisiting recently promulgated rules would have a negative impact on faith in the rule-making process.  Upon passage of the rules in August, Commissioner Pierce doubled down on her critique and argued that the rules are both “inconsequential” in addressing existing problems and “harmful” in complicating the awards process.  Commissioner Uyeda released a statement the same day, expressing a similar concern with the SEC’s “regulatory seesaw” given that the changes were not based on “robust evidence” indicating flaws within the current framework.  For Commissioner Uyeda, the steady annual increase in the number of tips and amount of money awarded to whistleblowers signaled a lack of “regulatory weakness” in need of corrections.

 These Commissioners’ concerns with institutional legitimacy are unconvincing here where the SEC (1) provided an interim review period, (2) fielded public comments and criticism, and (3) is making changes in furtherance of the Program’s central goals.  As emphasized by the SEC in its proposal, even if the changes do not have a clearly predictable quantitative impact, they should be understood as moving the needle for an incentive structure that strives to encourage whistleblowers to come forward.  Furthermore, the risk of loss in perceived legitimacy should be low both because the rules do not substantially change how the SEC imposes sanctions and because the amendments are inspired in large part to correct public criticisms of the 2020 amendments as illegitimate to begin with.  Rules counter to the goals of the SEC’s Program should not be maintained merely because they are new or have not yet had traceable consequences.

Conclusion

The 2022 amendments should be celebrated as steps toward aligning the structure of the SEC reward system with the Program’s goals of detecting wrongdoing, sanctioning wrongdoers, and protecting investors.  The two changes may not be consequential in most cases, but, at the very least, they limit the instances in which potential whistleblowers will be excluded or have their award reduced for reasons other than the strength of the information they have provided.  Whistleblowers are central to SEC’s ability to detect and sanction fraud, and their inclusion under the Program should continue to be a priority going forward.  Anyone who is uncertain about whether they have a viable SEC tip should seek legal advice.