Securities Whistleblower Incentives and Protections

Federal RegisterJun 13, 2011

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SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 240 and 249

[Release No. 34-64545; File No. S7-33-10]

RIN 3235-AK78

Securities Whistleblower Incentives and Protections

AGENCY:

Securities and Exchange Commission (“Commission”).

ACTION:

Final rule.

SUMMARY:

The Commission is adopting rules and forms to implement Section 21F of the Securities Exchange Act of 1934 (“Exchange Act”) entitled “Securities Whistleblower Incentives and Protection.” The Dodd-Frank Wall Street Reform and Consumer Protection Act, enacted on July 21, 2010 (“Dodd-Frank”), established a whistleblower program that requires the Commission to pay an award, under regulations prescribed by the Commission and subject to certain limitations, to eligible whistleblowers who voluntarily provide the Commission with original information about a violation of the Federal securities laws that leads to the successful enforcement of a covered judicial or administrative action, or a related action. Dodd-Frank also prohibits retaliation by employers against individuals who provide the Commission with information about possible securities violations.

DATES:

Effective Date:

August 12, 2011.

FOR FURTHER INFORMATION CONTACT:

Sean X. McKessy, Securities and Exchange Commission, Division of Enforcement, 100 F Street, NE., Washington, DC 20549, Tel. (202) 551-4790, Fax (703) 813-9322.

SUPPLEMENTARY INFORMATION:

We are adopting new rules 21F-1 through 21F-17, and new Forms TCR and WB-APP, under the Securities Exchange Act of 1934.

Table of Contents

I. Background and Summary

II. Description of the Rules

A. Rule 21F-1—General

B. Rule 21F-2—Definition of a Whistleblower

C. Rule 21F-3—Payment of Award

D. Rule 21F-4—Other Definitions

1. Voluntary Submission of Information

2. Original Information

3. Definition of Independent Knowledge

4. Definition of Independent Analysis

5. Rules 21F-4(b)(i) Through (vi)—Exclusions From Independent Knowledge and Independent Analysis

(a) Attorney-client privilege and other attorney conduct

(b) Responsible Company Personnel, Compliance Processes and Independent Public Accountants

(i) Proposed Rule 21F-4(b)(4)(iii)

(ii) Proposed Rules 21F-4(b)(iv) and (v)

(iii) Final Rules 21F-4(b)(4)(iii) and (v)

a. Rules 21F-4(b)(4)(iii)(A) Through (C)

b. Rule 21F-4(b)(4)(iii)(D)

c. Rule 21F-4(b)(4)(v)

(d) Rule 21F-4(b)(4)(vi)—Information Obtained From Excluded Persons

6. Original Source

7. Original Source; Additional Information

8. Original Source: Lookback

9. Information That Leads to a Successful Enforcement

10. Action

11. Monetary Sanctions

12. Appropriate Regulatory Agency

13. Appropriate Regulatory Authority

14. SRO

E. Rule 21F-5—Amount of Award

F. Rule 21F-6—Criteria for Determining Amount of Award

G. Rule 21F-7—Confidentiality of Submissions

H. Rule 21F-8—Eligibility

I. Rule 21F-9—Procedures for Submitting Original Information

J. Rule 21F-10—Procedures for Making a Claim Based on a Successful Commission Action

K. Rule 21F-11—Procedure for Making a Claim Based on a Successful Related Action

L. Rules 21F-12 & 13—Materials That May Be Used as the Basis for an Award Determination and That May Comprise the Record on Appeal; Right of Appeal

M. Rule 21F-14—Procedures Applicable to Payment of Awards

N. Rule 21F-15—No Amnesty

O. Rule 21F-16—Awards to Whistleblowers Who Engage in Culpable Conduct

P. Rule 21F-17—Staff Communications With Whistleblowers

III. Paperwork Reduction Act

IV. Economic Analysis

V. Regulatory Flexibility Act Certification

VI. Statutory Authority

I. Background and Summary

Section 922 of Dodd-Frank added new Section 21F to the Exchange Act, entitled “Securities Whistleblower Incentives and Protection.”

Section 21F directs that the Commission pay awards, subject to certain limitations and conditions, to whistleblowers who voluntarily provide the Commission with original information about a violation of the securities laws that leads to the successful enforcement of an action brought by the Commission that results in monetary sanctions exceeding $1,000,000.

Public Law 111-203, § 922(a), 124 Stat 1841 (2010).

On November 3, 2010, we proposed Regulation 21F to implement new Section 21F.

The rules contained in proposed Regulation 21F defined certain terms critical to the operation of the whistleblower program, outlined the procedures for applying for awards and the Commission's procedures for making decisions on claims, and generally explained the scope of the whistleblower program to the public and to potential whistleblowers.

Proposed Rules for Implementing the Whistleblower Provisions of Section 21F of the Securities and Exchange Act of 1934, Release No. 34-63237 (“Proposing Release”).

We received more than 240 comment letters and approximately 1300 form letters on the proposal.

Commenters included individuals, whistleblower advocacy groups, public companies, corporate compliance personnel, law firms and individual lawyers, academics, professional associations, nonprofit organizations and audit firms. The comments addressed a wide range of issues. Many commenters provided views on an issue we highlighted in the proposing release—the interplay of the whistleblower program and company internal compliance processes. Commenters also expressed a range of views on other significant issues, including the proposed exclusions from award eligibility for certain categories of individuals or types of information, the availability of awards to culpable whistleblowers, the procedures for submitting information and making a claim for an award, and the application of the statutory anti-retaliation provision.

The public comments we received are available at

http://www.sec.gov/comments/s7-33-10/s73310.shtml.

In addition, to facilitate public input on the Dodd-Frank Act, the Commission provided a series of e-mail links, organized by topic, on its Web site at

http://www.sec.gov/spotlight/regreformcomments.shtml.

As discussed in more detail below, we have carefully considered the comments received on the proposed rules in fashioning the final rules we adopt today. We have made a number of revisions and refinements to the proposed rules. Taken together, we believe these changes will better achieve the goals of the statutory whistleblower program and advance effective enforcement of the Federal securities laws. The revisions of each proposed rule are described in more detail throughout this release, but the following are among the most significant:

•

Internal Compliance:

A significant issue discussed in the Proposing Release was the impact of the whistleblower program on companies' internal compliance processes. While we did not propose a requirement that whistleblowers report through internal

compliance processes as a prerequisite to eligibility for an award, we requested comment on this topic, and we included in the proposed rules several other elements designed to encourage potential whistleblowers to utilize internal compliance. Commenters were sharply divided on the issues raised by this topic. After considering these different viewpoints, we have determined not to include a requirement that whistleblowers report violations internally, but we have made additional changes to the rules to further incentivize whistleblowers to utilize their companies' internal compliance and reporting systems when appropriate.

○ With respect to the criteria for determining the amount of an award, the final rules expressly provide: first, that a whistleblower's voluntary participation in an entity's internal compliance and reporting systems is a factor that can increase the amount of an award; and, second, that a whistleblower's interference with internal compliance and reporting is a factor that can decrease the amount of an award.

○ The final rules contain a provision under which a whistleblower can receive an award for reporting original information to an entity's internal compliance and reporting systems, if the entity reports information to the Commission that leads to a successful Commission action. Under this provision, all the information provided by the entity to the Commission will be attributed to the whistleblower, which means that the whistleblower will get credit—and potentially a greater award—for any additional information generated by the entity in its investigation.

○ The final rule extends the time for a whistleblower to report to the Commission after first reporting internally and still be treated as if he or she had reported to the Commission at the earlier reporting date. We proposed a “lookback period” of 90 days after the whistleblower's internal report, but in response to comments, we are extending this period to 120 days in the final rules.

•

Procedures for Submitting Information and Claims:

The proposed rules set forth a two-step process for submitting information, which required the submission of two different forms. In response to comments that urged us to streamline the procedures for submitting information, we have adopted a simpler process, combining the two proposed forms into a single Form TCR that would be submitted by a whistleblower under penalty of perjury. With respect to the claims application process, we have made one section of that form optional to make the form less burdensome. We also describe in greater detail below several other features of the process to assist whistleblowers that we expect will become part of the Office of the Whistleblower's standard practice.

•

Aggregation of smaller actions to meet the $1,000,000 threshold:

The proposed rules stated that awards would be available only when the Commission had successfully brought a single judicial or administrative action in which it obtained monetary sanctions of more than $1,000,000. In response to comments, we have provided in the final rules that, for purposes of making an award, we will aggregate two or more smaller actions that arise from the same nucleus of operative facts. This will make whistleblower awards available in more cases.

•

Exclusions from award eligibility for certain persons and information:

The proposed rules set forth a number of exclusions from eligibility for certain categories of persons and information. In response to comments suggesting that some of these exclusions were overly broad or unclear, we have revised a number of these provisions. Most notably, the final rules provide greater clarity and specificity about the scope of the exclusions applicable to senior officials within an entity who learn information about misconduct in connection with the entity's processes for identifying, reporting, and addressing possible violations of law.

II. Description of the Rules

A. Rule 21F-1—General

Rule 21F-1 provides a general, plain English description of Section 21F of the Exchange Act. It sets forth the purposes of the rules and states that the Commission's Office of the Whistleblower administers the whistleblower program. In addition, the rule states that, unless expressly provided for in the rules, no person is authorized to make any offer or promise, or otherwise to bind the Commission with respect to the payment of an award or the amount thereof.

B. Rule 21F-2—Definition of a Whistleblower

a. Proposed Rule

As proposed, Rule 21F-2(a) defined a whistleblower as an individual who, alone or jointly with others, provides information to the Commission relating to a potential violation of the securities laws. Under the proposed rule, a company or another entity could not qualify as a whistleblower.

Paragraph (b) of the proposed rule stated that the anti-retaliation protections set forth in Section 21F(h)(1) of the Exchange Act would apply irrespective of whether a whistleblower satisfied all the procedures and conditions to qualify for an award under the Commission's whistleblower program. Similarly, the protections against retaliation applied to any individual who provided information to the Commission about a potential violation of the securities laws.

Paragraph (c) of the proposed rule stated that, to be eligible for an award, a whistleblower must submit original information to the Commission in accordance with all the procedures and conditions described in Proposed Rules 21F-4, 21F-8, and 21F-9.

b. Comments Received

Commenters advanced a number of suggestions to refine the definition of “whistleblower.” Many commenters agreed that the definition of “whistleblower” should not turn on whether a violation of the securities laws is ultimately adjudged to have occurred,

but expressed differing opinions on our proposal to use the term “potential violation.” One commenter agreed that the whistleblower definition should include the term “potential violation” because this would allow broad application of the anti-retaliation measures in Section 21F.

Several other commenters recommended that the term “potential violation” should be coupled with a requirement that the individual have a “reasonable belief” or “good faith belief” that the information relates to a securities law violation.

Some commenters suggested instead of the term “potential violation,” we should use the terms “probable violation,” “likely violation,” or “claimed violation.”

See, e.g.,

letters from Committee on Federal Regulation of Securities, Section of Business Law, American Bar Association (“ABA”); Project of Government Oversight (“POGO”); Jones Day; Wells Fargo Advisors, LLC (“Wells Fargo”); and Society of Corporate Governance Professionals.

See

letter from POGO.

See, e.g.,

letters from Jones Day; Wells Fargo; and Morgan Lewis. As discussed further below in the text, commenters asserted that a “reasonable belief” or “good faith” standard is necessary to prevent employees from making bad-faith allegations of retaliation.

See, e.g.,

letters from ABA; Goodwin Procter.

On other aspects of the definition of whistleblower, one commenter recommended that we clarify that a “violation of the securities laws” relates only to the Federal securities laws and not to violations of state or foreign

securities laws.

A few commenters recommended that a whistleblower be limited to a person who provided information relating to a “material” violation of the securities laws.

See

letter from ABA.

See, e.g.,

letters from ABA; and Society of Corporate Secretaries and Governance Professionals (“Society of Corporate Secretaries”).

Two commenters disagreed with the proposed rule's limiting whistleblower status to natural persons,

suggesting that non-governmental organizations and/or worker representatives, including labor unions, should be permitted to bring claims.

See, e.g.,

joint letter from Voices for Corporate Responsibility, Change to Win, National Employment Lawyers Association, Government Accountability Project (“VOICES”); and Mike G. McCluir.

See

letter from VOICES.

A number of commenters responded to our request for comment on whether we should limit the definition of “whistleblower” to a person who provides information regarding violations of the securities laws “by another person”—some favoring this,

others opposing it.

Several of the commenters recommended that we limit the whistleblower definition based on an individual's relative culpability for the reported violation. For example, some commenters stated that the definition of “whistleblower” should cover only individuals who report violations by another person, and who did not participate in or facilitate the violations.

See

letters from Chris Barnard; Thompson Hine LLP; William A. Jacobson, Angel Prado, and Yaozhi Ye (“Cornell Securities Law Clinic”); Evolution Petroleum Corp.; Securities Industry and Financial Markets Association (“SIFMA”); The Washington Legal Foundation; Morgan Lewis; Continewity LLC; Davis Polk & Wardwell LLP (“Davis Polk”); Oppenheimer Funds.

See, e.g.,

letters from Grohovsky, Vogel, and Lambert (“Grohovsky Group”); Peter van Schaick.

See, e.g.,

joint letter from Americans for Limited Government; Ryder Systems, Inc.; Financial Services Institute, Inc.; U.S. Chamber of Commerce; Verizon; and White & Case, LLP (“Chamber of Commerce Group”).

Commenters made several suggestions relating specifically to the scope of the anti-retaliation protections. Among other things, commenters recommended that we expressly state in the rules that the anti-retaliation provisions do not apply to an individual if (1) he files a false, fraudulent, or bad faith and meritless submission;

(2) he lacks a good faith or reasonable belief of a violation;

or (3) the submission does not evince a “reasonable likelihood of a violation of securities laws.”

Another commenter suggested the anti-retaliation provisions should only apply to those who qualify for an award.

See, e.g.,

letters from Connolly & Finkel; National Association of Corporate Directors (“NACD”); Investment Company Institute (“ICI”); Valspar; Auditing Standards Committee of the Auditing Section of the American Accounting Association (“Auditing Standards Committee”); U.S. Chamber of Commerce Center for Capital Markets Competitiveness and the U.S. Chamber of Institute for Legal Reform (“CCMC”); joint letter from General Electric Company, Google, Inc., Honeywell, Inc., JPMorgan Chase & Co., Microsoft Corporation and Northrop Grumman Corporation (“GE Group”); Jones Day; TECO Energy. Two commenters suggested that the Commission should consider “whether it can apply additional sanctions” to any person who uses the whistleblower process in bad faith.”

See

joint letter from the Financial Services Roundtable and the American Bankers Association (“Financial Services Roundtable”); letter from TECO Energy.

See

letters from Chris Barnard; Paul Hastings.

See

letter from Goodwin Proctor.

See

letter from NACD (commenting that not limiting anti-retaliation protection to those who satisfy the conditions for an award “opens the door for employees to submit fake allegations that may cause reputational harm to the company and/or unfairly embarrass corporate employees and leadership”).

Several commenters proposed that the anti-retaliation provisions should categorically exempt a company's adverse action against an employee based on factors other than whistleblower status,

such as engaging in culpable conduct,

failing to comply with the reporting requirements of a company's internal compliance programs,

or violating a professional obligation to hold information in confidence.”

One commenter explained that, without a categorical exemption, the broad anti-retaliation provisions of the statute could prompt a “wave of litigation” alleging retaliation in such circumstances.

See

letters from Thompson Hine; Americans for Limited Government (“ALG”); AT&T; Equal Employment Advisory Council (“EEAC”); Connolly & Finkel; ICI; GE Group; Society of Corporate Secretaries; Association of Corporate Counsel; Financial Services Roundtable; Davis Polk; ABA; joint letter from Allstate Insurance Company, American Institute of Certified Public Accountants, American Insurance Association, Americans for Limited Government, Association of Corporate Counsel, AT&T, Center for Business Ethics, Dover Corporation, FedEx Corporation, Financial Services Institute, Inc., Pharmaceutical Research and Manufacturers of America, Retail Industry Leaders Association, Royal Caribbean Cruises Ltd, Ryder Systems, Inc., UPS, U.S. Chamber of Commerce, U.S. Chamber of Commerce Institute for Legal Reform, Verizon and White & Case, LLP (“Allstate Group”).

See

letters from ALG; Allstate Group; Morgan Lewis; Davis Polk; ABA.

See

letters from Thompson Hine;

see also

letters from ALG; Allstate Group; Connolly & Finkel; NACD; TECO Energy; Association of Corporate Counsel.

See

letter from the ABA.

See

letter from ALG;

see also

letter from Allstate Group.

Commenters made a series of other suggestions related to the scope and enforceability of the anti-retaliation protections, including that we should: (1) Clarify our authority to bring enforcement actions based on retaliation;

(2) provide that the anti-retaliation remedies may not be waived by any agreement, policy, or condition of employment;

and (3) exclude from anti-retaliation protection employees whose submissions are based on information that is either publicly disseminated or which the employee should reasonably know is already known to the company's board of directors or chief compliance officer, a court, the Commission or another governmental entity.

Letter from Alex Hoover;

see also

letters from Bryan Maloney; National Coordinating Committee for Multiemployer Plans (“NCCMP”).

See

letter from Kaiser Saurborn & Mair.

See

letter from ABA.

c. Final Rule

In response to the comments, we have made several changes to the definition of whistleblower in Rule 21F-2(a) and the application of the anti-retaliation provisions in Rule 21F-2(b) to more precisely track the scope of Section 21F(h)(1). We are adopting Rule 21F-2(c) as proposed, but have re-designated it as Rule 21F-2(a)(2).

With respect to the definition of whistleblower, we agree with those commenters who suggested that the term “potential violation” may be imprecise, and thus in the final rule have changed this to “possible violation” that “has occurred, is ongoing, or is about to occur.” We believe that this modification provides greater clarity concerning when an individual who provides us with information about possible violations, including possible future violations, of the securities laws qualifies as a whistleblower. An individual would meet the definition of whistleblower if he or she provides information about a “possible violation” that “is about to occur.”

Although some commenters recommended that we use the terms “probable violation” or “likely violation,” we have decided to use the term “possible violation.” In our view, this requires that the information should indicate a facially plausible relationship to some securities law violation—frivolous submissions would not qualify for whistleblower status. We believe that a higher standard requiring a “probable” or “likely” violation is unnecessary, and would make it difficult for the staff to promptly assess whether to accord whistleblower status to a submission.

In the final rule, the definition of whistleblower clarifies that the submission must relate to a violation of

the Federal securities laws, or a rule or regulation promulgated by the Commission. An individual who submits information that relates only to a state law or foreign law violation would not satisfy the whistleblower definition.

The final rule also clarifies that, to qualify as a whistleblower eligible for the award program and the heightened confidentiality provisions of Section 21F(h)(2) of the Exchange Act, an individual must submit his or her information to the Commission in accordance with the procedures set forth in Rule 21F-9(a).

Rule 21F-9(a) establishes procedures for an individual to mail, fax, or electronically submit to us information relating to a possible securities law violation. As proposed, our definition could have been misconstrued to apply to any individuals who provide us with information relating to a securities law violation, including individuals whom we subpoena and law enforcement personnel from other governmental authorities. This result would have been outside the intended scope of Section 21F.

The statutory definition of “whistleblower” in Section 21F(a)(6) of the Exchange Act provides that the Commission may “establish by rule or regulation” the “manner” in which an individual provides the Commission information so as to qualify as a whistleblower for purposes of the awards program.

We have not added a requirement that the information relate to a “material” violation of the securities laws. We believe that, rather than use a materiality threshold barrier that might limit the number of submissions to us, it is preferable for individuals to provide us with any information they possess about possible securities violations (irrespective of whether it appears to relate to a material violation) and for us to evaluate whether the information warrants action.

To the extent that commenters advanced this suggestion as a way to prevent individuals from abusing the anti-retaliation protections afforded by Section 21F(h) of the Exchange Act, we believe this issue is sufficiently addressed by the revisions to Rule 21F-2(b), discussed further below. To the extent that commenters suggested this approach as a way to reduce frivolous submissions, we believe our use of the term “possible violation” sufficiently addresses this concern.

We do not expect potential whistleblowers to make a fact-dependent materiality assessment.

We have decided not to extend the definition of whistleblower beyond natural persons because we believe that this is consistent with the statutory definition, which provides that a whistleblower must be an “individual.” The ordinary meaning of “individual” is “natural person,”

and nothing in the statutory text or legislative history suggests a different meaning here. Although one commenter identified a reference to “individuals” in the False Claims Act to argue that the term should be read to extend beyond natural persons, we note that the False Claims Act otherwise repeatedly refers to whistleblowers as “persons” (which ordinarily extends beyond natural persons),

and we believe this explains the different result under that Act.

See, e.g., Jove Engineering, Inc.

I.R.S.,

92 F.3d 1539, 1550-51 (11th Cir. 1996) (quoting Black's Law Dictionary 773 (6th ed. 1996), and Webster's New Collegiate Dictionary 581 (8th ed. 1979)).

Compare

31 U.S.C. 3730(e)(4)(B)

with id.

3730(b)(1) (“A person may bring a civil action * * *”), and

id.

3730(b)(4)(B)(5) (“When a person brings an action * * *”).

The ABA made several additional recommendations to clarify and/or narrow the definition of whistleblower.

See

letter from ABA. Specifically, the ABA recommended that we: (1) Exclude from the definition individuals who provide information that is “clearly stale (

e.g.,

flawed disclosure in a ten-year old proxy statement); (2) require as part of the definition that the individual have a non-speculative “basis in fact or knowledge” to support the potential securities law violation; and (3) exclude from the definition individuals who provide information that is “either publicly disseminated [already] or which the employee should reasonably know is already known to the company's board of directors or chief compliance officer, a court or the Commission or another governmental entity.” With respect to clearly stale information, we believe that this is already addressed by the requirement that the information relate to a “possible violation,” because we view this term as encompassing a requirement that the violation must be potentially actionable, which would preclude plainly stale violations. Similarly, we believe that the “possible violation” requirement excludes submissions that have

“basis in fact or knowledge.” Finally, rather than addressing in the threshold definition of whistleblower information that is already publicly known, we have addressed this issue in Rule 21F-4 in the definition of “original information.”

We have modified proposed Rule 21F-2(b)'s anti-retaliation protections, which are now in Rule 21F-2(b)(1). We are also adding Rule 21F-2(b)(2), which expressly states that the Commission may enforce the anti-retaliation provisions of Section 21F(h)(1) of the Exchange Act and any rules promulgated thereunder.

Rule 21F-2(b)(1) provides that, for purposes of the anti-retaliation protections afforded by Section 21F of the Exchange Act, an individual is a whistleblower if (i) he possesses a reasonable belief that the information he is providing relates to a possible securities law violation (or, where applicable, to a violation of the provisions set forth in 18 U.S.C. 1514A(a)) that has occurred, is ongoing, or is about to occur, and (ii) he reports that information in a manner described in Section 21F(h)(1)(A).

With respect to the first prong of this standard, the employee must possess a “reasonable belief that the information he is providing relates to a possible securities law violation (or, where applicable, to a violation of the provisions set forth in 18 U.S.C. 1514A(a))

that has occurred, is ongoing, or is about to occur.” The “reasonable belief” standard requires that the employee hold a subjectively genuine belief that the information demonstrates a possible violation,

and

that this belief is one that a similarly situated employee might reasonably possess.

We believe that requiring a “reasonable belief” on the part of a whistleblower seeking anti-retaliation protection strikes the appropriate balance between encouraging individuals to provide us with high-quality tips without fear of retaliation, on the one hand, while not encouraging bad faith or frivolous reports, or permitting abuse of the anti-retaliation protections, on the other.

This approach is consistent with the approach followed by various courts that have construed the anti-retaliation provisions of other Federal statutes, including the False Claims Act,

require that a whistleblower have a reasonable belief that he or she is reporting a violation of that statute even where the statute does not expressly require such a showing.

This parenthetical reflects the fact that the anti-retaliation protection afforded by Section 21F(h)(1)(A)(iii) includes not only reports of securities law violations, but also various other violations of Federal law (

e.g.,

18 U.S.C. 1341, 1343, 1344, and 1348).

See, e.g., Livingston

Wyeth, Inc.,

520 F.3d 344, 352 (4th Cir. 2008);

Clover

Total Sys. Servs., Inc.,

176 F.3d 1346, 1351 (11th Cir. 1999).

See, e.g.,

Parker

B&O R. Co.,

652 F.2d 1012, 1020 (DC Cir. 1981) (holding, in Title VII retaliation case, that “[t]he employer is sufficiently protected against malicious accusations and frivolous claims by a requirement that an employee seeking the protection of the opposition clause demonstrate a good faith, reasonable belief that the challenged practice violates Title VII”);

McDonnell

Cisneros,

84 F.3d 256, 259 (7th Cir.1996) (“There is nothing wrong with disciplining an employee for filing frivolous complaints”);

Hindsman

Delta Airlines,

2010 DOL Ad. Rev. Bd. 58 LEXIS at *10 (ARB Jun. 30, 2010) (interpreting the anti-retaliation provisions of the Wendell H. Ford Aviation Investment and Reform Act, which explicitly excludes frivolous complaints and those brought in bad faith, as requiring a “reasonable belief” by the whistleblower that the violation of the statute has occurred).

See Fanslow

Chi. Mfg, Ctr.,

384 F.3d 469, 480 (7th Cir. 2004) (noting that several circuits had held that the relevant inquiry to determine whether an employee's actions are protected under the False Claims Act is whether “(1) the employee in good faith believes, and (2) a reasonable employee in the same or similar circumstances might believe, that the employer is committing fraud against the government”) (citing

Moore

Cal. Inst. of Tech., Jet Propulsion Lab,

275 F.3d 838, 845 (9th Cir. 2002);

Wilkins

St. Louis,

314 F.3d 927, 933 (8th Cir. 2002), and

McNeil

Empl. Sec. Dep't,

2002 Wash.

App. LEXIS 1900, at *15-*16 (Wash. Ct. App. Aug. 9, 2002) (same)).

See, e.g.,

Calhoun

United States Dep't of Labor

(“

US DOL

”), 576 F.3d 201, 212 (4th Cir. 2009) (anti-retaliation provisions of the Surface Assistance Transportation Act);

Knox

U.S. DOL,

232 Fed. App. 255, 258-59 (4th Cir. 2007) (Clean Air Act);

Williams

U.S. DOL,

157 Fed. Appx. 575-76 (4th Cir. 2005) (Toxic Substances Control Act, Solid Waste Disposal Act and Clean Air Act);

see also

pre-proposal letter from James Hill.

See

letter from Hunton & Williams LLP.

See

letter from DC Bar.

Other commenters believed that our definition of “original information” should be narrowed to exclude certain information from consideration for an award. Two commenters suggested that our rule exclude information beyond the statute of limitations period for actions to recover penalties.

One of these commenters also urged that “original information” should not include information about a violation that has already been addressed by the entity that is alleged to have violated the securities laws.

See

letters from ICI and SIFMA.

See

letter from ICI.

Another commenter expressed concern that, as proposed, “original information” would not clearly exclude information a whistleblower receives as a result of an investigation by a securities exchange or other self-regulatory organization, a foreign regulator, or information received in connection with internal investigations or civil or criminal proceedings.

This commenter urged that the rule be modified to exclude information derived from any investigative or enforcement activity or proceeding, and not merely the types of proceedings set forth in the statute (

i.e.,

“an allegation made in a judicial or administrative hearing, in a governmental report, hearing, audit, or investigation”).

See

letter from ABA.

c. Final Rule

After considering the comments, we are adopting Rule 21F-4(b)(1) as proposed. Congress enacted Section 21F in order to provide new incentives for individuals with knowledge of securities violations to report those violations to the Commission. We believe that applying Section 21F prospectively—for new information provided to the Commission after the statute's enactment and not to information previously submitted—is most consistent with Congressional intent and with the language of the statute.

Similarly, we do not believe that it would be consistent with Congressional intent for our rules to categorically exclude through the definition of “original information” tips about violations that may arguably be beyond an applicable statute of limitations or that a company may have addressed through remedial action. Rather, considerations such as these are better addressed through our exercise of discretion in determining whether to open an investigation, whether to bring an enforcement action, and the nature and scope of any action filed and relief granted.

Section 924(b) of Dodd-Frank provides that “Information provided to the Commission in writing by a whistleblower shall not lose the status of original information * * *, if the information is provided by the whistleblower after the effective date of this subtitle.”

In other respects, we believe that our final rules substantially address the issues raised by the commenters. For example, under Rules 21F-4(b)(5) and (6) an individual can be considered the original source of information provided to the Commission by another source (including the individual's employer), or of information that “materially adds” to information already in our possession. Further, Rule 21F-4(c), as adopted, provides that a whistleblower may be eligible for an award based upon information that the whistleblower reports through a company's internal legal and compliance procedures if the company subsequently provides the information to the Commission. In addition, Rule 21F-4(c) provides that, even after an investigation has commenced, a whistleblower can be eligible for award consideration if he or she provides original information that significantly contributes to the success of the Commission's action. Thus, our rules will permit awards to subsequent whistleblowers in appropriate circumstances.

Similarly, we believe that several provisions in our rules will ordinarily operate to exclude whistleblowers whose only source of original information is an existing investigation or proceeding. Information that is exclusively derived from a governmental investigation is expressly excluded from the definition of “original information” under Section 21F(a)(3) of the Exchange Act and our Rule 21F-

4(b)(1)(iii). A whistleblower who learns about possible violations only through a company's internal investigation will ordinarily be excluded from claiming “independent knowledge” by operation of either the exclusions from “independent knowledge” set forth in Rules 21F-4(b)(4)(i), (ii), and (iii) (relating to attorneys, auditors, and other persons who may be involved in the conduct of internal investigations), or by Rule 21F-4(b)(4)(vi) (excluding information learned from such individuals). To the extent that information about an investigation or proceeding is publicly available, it is excluded from consideration as “independent knowledge” under Rule 21F-4(b)(2).

Further, Form TCR, to be used for whistleblower submissions, requires the whistleblower to state, under penalty of perjury, how he or she obtained the information that is the subject of the submission. A truthful answer that the whistleblower obtained the information from an investigation by a securities exchange or a self-regulatory organization—if the staff were not already aware of the investigation—would likely lead the staff to contact the other authority directly for additional information. In these circumstances, where information is obtained through the normal cooperative arrangements between the Commission and other regulators, the whistleblower's submission would not be deemed to have caused the opening of an investigation, or to have significantly contributed to the success of any action, such as to make the whistleblower eligible for an award under Rule 21F-4(c).

3. Rule 21F-4(b)(2)—Independent Knowledge

Proposed Rule 21F-4(b)(2) defined “independent knowledge,” one of the constituent elements of “original information,” as factual information not derived from publicly available sources. We are adopting the rule as proposed.

a. Proposed Rule

Under our proposed rule, “independent knowledge” was defined to mean factual information in the whistleblower's possession that is not derived from publicly available sources. As we explained in our Proposing Release, publicly available sources may include both sources that are widely disseminated (such as corporate press releases and filings, media reports, and information on the Internet), and sources that, though not widely disseminated, are generally available to the public (such as court filings and documents obtained through Freedom of Information Act requests). Further, as proposed, the definition of “independent knowledge” did not require that a whistleblower have direct, first-hand knowledge of possible violations. Instead, knowledge could be obtained from any of the whistleblower's experiences, observations, or communications (subject to the exclusion for knowledge obtained from public sources, and subject further to the exclusions set forth in Rule 21F-4(b)(4)).

b. Comments Received

Several commenters supported our proposed definition of “independent knowledge.”

Others were critical of the definition for different reasons. Some commenters criticized our exclusion of information derived from publicly available sources, and urged that awards be available for tips that are based upon various kinds of public information.

One of these commenters argued that, because Section 21F does not contain an express exclusion for all information derived from publicly available sources, the only public information that can be excluded from award consideration is information that is derived from the sources that are set forth in Section 21F(a)(3)(C)—

i.e.,

a judicial or administrative hearing, a government report, hearing, audit, or investigation, or the news media.

This commenter stated that this interpretation would be consistent with the application of the “public disclosure bar” of the False Claims Act, 31 U.S.C. § 3730(e)(4)). Similarly, this commenter argued that our proposal to exclude publicly-available information from the definition of “independent knowledge” was unsupportable because the statute only excludes claims based upon information that is “already known to the Commission.”

See

Letters from Institute of Internal Auditors, Patrick Burns, Auditing Standards Committee, Georg Merkl.

See

Letters from the VOICES, Wanda Bond, Michael Lawrence, and TAF;

see also

pre-proposal letter from Robin McLeish.

See

letter from TAF;

see also

letter from VOICES.

Section 21F(a)(3)(B), 15 U.S.C. 78u-6(a)(3)(B).

See

letter from TAF.

We requested comment on whether it is appropriate to consider knowledge that is not direct, first-hand knowledge as “independent knowledge” In response, one commenter urged that we limit “independent knowledge” to first-hand knowledge of the whistleblower.

100

This commenter expressed concerned about the reliability of second-hand information, and the potential that our rule could harm companies by creating an incentive for whistleblowers to report unsubstantiated rumors and other unreliable information. This commenter also suggested that the absence of a first-hand knowledge requirement would encourage circumvention of the statute by permitting persons who are ineligible for awards to give information to third persons in order to enable them to become whistleblowers.

100

See

letter from ABA.

c. Final Rule

After considering the comments, we are adopting Rule 21F-4(b)(2) as proposed. Accordingly, “independent knowledge” means any factual information in the whistleblower's possession that is not derived from publicly available sources. Congress primarily intended our whistleblower program “* * * to motivate those with inside knowledge to come forward and assist the Government to identify and prosecute persons who have violated the securities laws * * *.”

101

It is consistent with this purpose to require that “independent knowledge” be derived from a whistleblower's own experiences, observations, or communications, and not from information that is available to the general public.

102

101

S. Rep. No. 111-176 at 110 (2010).

102

However, publicly available information can be included as part of a submission of “independent analysis” under Rule 21F-4(b)(3).

See

discussion below.

The objection that our rule should permit submissions based upon public information as long as the information is not derived from a judicial or administrative hearing, a governmental report, hearing, audit, or investigation, or from the news media is not supported by the plain language of Section 21F. The definition of “original information” found in Section 21F(a)(3) requires both that the information be derived from the whistleblower's independent knowledge or analysis (Section 21F(a)(3)(A)), and that it also not be exclusively derived from an allegation in one of these fora (Section 21F(a)(3)(C)). If “independent knowledge” were interpreted to mean merely that the information could not be derived from one of the sources specified in Section 21F(a)(3)(C), then the separate requirement that the whistleblower also have “independent knowledge” would have no meaning.

103

The “public disclosure bar” of the False Claims Act operates differently. There, “independent knowledge” is not a separate requirement, but instead is one element of an exception to the rule that otherwise requires a court to dismiss an action if substantially the same allegations or transactions were publicly disclosed in certain specified fora, such as a Federal hearing in which the Government is a party, a Federal government report or investigation, or the news media. 31 U.S.C. 3730(e)(4).

The same analysis applies to the suggestion that “independent knowledge” cannot exclude publicly-available information and can only exclude information that is “not known to the Commission” from any other

source. The requirement of “independent knowledge” is set forth in Section 21F(a)(3)(A) of the Exchange Act, and is distinct from the requirement in Section 21F(a)(3)(B) that information be not already known to the Commission. In other words, both tests must be met separately as part of the determination of whether information qualifies as “original information.”

While we thus exclude information derived from publicly available sources from the definition of “independent knowledge,” we do not believe that “independent knowledge” should be further limited to direct, first-hand knowledge. Such an approach could prevent the Commission from receiving valuable information about possible violations from whistleblowers who are not themselves involved in the conduct at issue, but who learn about it through their observations, relationships, or personal diligence.

104

Our final rules provide that, in order to be considered eligible for an award, a whistleblower must provide information that is sufficiently specific, credible, and timely that it causes the staff to open an investigation, or significantly contributes to the success of an enforcement action.

105

We believe that commenters' concerns about whistleblowers providing wholly speculative or unsubstantiated information is most effectively addressed in connection with these determinations rather than by requiring first-hand knowledge as a threshold limitation for whistleblower submissions.

106

104

Further, as discussed in our Proposing Release, Congress recently amended the “public disclosure bar” provisions of the False Claims Act, replacing the requirement that a qui tam plaintiff have “direct and independent knowledge” of information with one requiring only “knowledge that is independent and materially adds to the publicly-disclosed allegations or transactions * * *” 31 U.S.C. 3130(e)(4), Public Law 111-148 § 10104(h)(2), 124 Stat. 901 (Mar. 23, 2010). Courts generally defined “direct knowledge” to mean first-hand knowledge from the relator's own work and experience, with no intervening agency.

E.g., United States ex rel. Fried

West Independent School District,

527 F.3d 439 (5th Cir. 2008);

United States ex rel. Paranich

Sorgnard,

396 F.3d 326 (3d Cir. 2005). Although, as noted in our Proposing Release, we do not believe that False Claims Act interpretations and precedent are necessarily authoritative for purposes of Section 21F, we note that Congress recently amended the False Claims Act to eliminate the requirement of first-hand knowledge.

105

See

Rule 21F-4(c), discussed below.

106

We have addressed commenters' concern about possible collusion through our revised Rule 21F-8(c)(6).

4. Rule 21F-4(b)(3)—Definition of Independent Analysis

a. Proposed Rule

Under Proposed Rule 21F-4(b)(3), “analysis” was defined to mean the whistleblower's own examination and evaluation of information that may be generally available, but which reveals information that is not generally known or available to the public. Analysis was defined as “independent” if it was the whistleblower's own analysis, whether done alone or in combination with others. As was explained in our Proposing Release, this definition was intended to recognize that there are circumstances where individuals can review publicly available information, and, through their additional evaluation and analysis, provide vital assistance to the Commission staff in understanding complex schemes and identifying securities violations.

b. Comments Received

Although we received few responses to our request for comment on suggested alternative definitions of “independent analysis,”

107

most commenters who addressed the proposed rule appeared to agree with the rule's fundamental premise that “independent analysis” anticipates that the whistleblower will apply his or her own evaluation and insight to information that may be derived from publicly available sources.

108

Two commenters suggested we clarify that “independent analysis” can be based on public sources, including the sources described in Section 21F(a)(3)(C) and Proposed Rule 21F-4(b)(1)(iii).

109

One commenter criticized our proposed definition of “independent analysis” on the ground that the requirement that analysis reveal information that is “not generally known or available” would preclude an award to a whistleblower who caused us to focus on publicly available information of which we were not otherwise aware.

110

Another commenter urged that “independent analysis” be restricted to analysis of the whistleblower's own “independent knowledge,” defined by the commenter to be limited to first-hand knowledge, along with other purely objective facts such as share price or trading volume.

111

107

See

letters from Wanda Bond, Auditing Standards Committee, and Kurt S. Schulzke.

108

See

letters from Wanda Bond, Auditing Standards Committee, Kurt S. Schulzke, POGO (referencing the importance of whistleblowers “who often perform original analysis based on publicly available sources”).

109

See

letters from POGO and VOICES.

110

See

letter from TAF.

111

See

letter from ABA.

c. Final Rule

After considering the comments, we are adopting Rule 21F-4(b)(3) as proposed, with a slight modification to clarify that “independent analysis” can be based upon the whistleblower's evaluation of publicly available sources.

112

Thus, as adopted, Rule 21F-4(b)(3) defines “analysis” to mean the whistleblower's own examination and evaluation of information that may be publicly available, but which reveals information that is not generally known or available to the public.

112

This would include public information that may be derived from the sources identified in Section 21F(a)(3)(C) and Rule 21F-4(b)(1)(iii);

i.e.,

a judicial or administrative hearing, a government report, hearing, audit, or investigation, or the news media.

We believe that “independent analysis” requires that the whistleblower do more than merely point the staff to disparate publicly available information that the whistleblower has assembled, whether or not the staff was previously “aware of” the information. “Independent analysis” requires that the whistleblower bring to the public information some additional evaluation, assessment, or insight.

As with other elements of the definition of “original information,” we anticipate that whether “independent analysis” provided to the Commission may be eligible for award consideration will primarily depend (assuming all other requirements are met) on an evaluation of whether the analysis is of such high quality that it either causes the staff to open an investigation, or significantly contributes to a successful enforcement action, as set forth in Rule 21F-4(c). This analysis is discussed further below.

For reasons similar to those discussed above with respect to the definition of “independent knowledge,” we also do not believe it would be consistent with the purposes of Section 21F to restrict “independent analysis” to analysis based upon facts of which the whistleblower has direct, first-hand knowledge. Such an interpretation would preclude award consideration even for highly-probative, expert analysis of data that may suggest an important new avenue of inquiry, or otherwise materially advance an existing investigation. We do not believe that Congress intended this result.

5. Rules 21F-4(b)(4)(i) through (vi)—Exclusions From Independent Knowledge and Independent Analysis

Proposed Rules 21F-4(b)(4)(i) through (vii) described circumstances under

which we would not consider a whistleblower's submission to be derived from independent knowledge or independent analysis. We are adopting a number of these exclusions, but with significant revisions in response to comments that we received.

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These comments and the resulting modifications to the rules are discussed below with respect to the specific exclusions. In this section, we briefly address the exclusions as a whole.

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We have also added the phrase “in any of the following circumstances” in the opening clause of Rule 21F-4(b)(4) in order to make clear that information is excluded from being considered as “independent knowledge” or “independent analysis” if any one of the exclusions apply.

a. Proposed Rules

As proposed, Rule 21F-4(b)(4) provided that the Commission would not credit a whistleblower with “independent knowledge” or “independent analysis” where the whistleblower obtained the knowledge, or the information upon which the whistleblower's analysis was based, under certain circumstances. These included information that was: (1) Subject to attorney-client privilege or otherwise obtained in connection with the legal representation of a person or entity (proposed Rules 21F-4(b)(4)(i) and (ii)); (2) obtained through the performance of an engagement required under the securities laws by an independent public accountant, if the information related to a violation by the engagement client, or the client's officers, directors, or employees (proposed Rule 21F-4(b)(4)(iii)); (3) communicated to a person with legal, compliance, audit, supervisory, or governance responsibilities for an entity with the reasonable expectation that he or she would cause the entity to respond appropriately (proposed Rule 21F-4(b)(4)(iv)); (4) otherwise obtained through an entity's legal, compliance, audit, or similar functions or processes for identifying, reporting, and addressing potential non-compliance with law (proposed Rule 21F-4(b)(4)(v)); (5) obtained in violation of Federal or state criminal law (proposed Rule 21F-4(b)(4)(vi)); and (6) obtained from any of the persons excluded by Rule 21F-4(b)(4). Certain of these exclusions were subject to exceptions that are discussed below in connection with the specific rules.

b. Comments Received

Some commenters generally criticized our approach of defining exclusions from “independent knowledge” and “independent analysis.” These commenters argued that Section 21F does not permit any exclusions from award eligibility other than those expressly provided for in Section 21F(c)(2). They also expressed concern that the proposed exclusions were vague and uncertain, and therefore would discourage potential whistleblowers from taking the personal and professional risks associated with coming forward. These commenters also believed that the exclusions would operate to disqualify broad categories of individuals who are most likely to have information about misconduct.

114

See

letters from TAF and NWC;

see also

letter from Stuart D. Meissner, LLC.

In our Proposing Release, we requested comment on whether we should extend the exclusions from “independent knowledge” and “independent analysis” to other professionals (in addition to attorneys and independent public accountants) who may obtain information about possible securities violations in the course of their work for clients. A number of commenters urged that we do so. These commenters emphasized that boards and companies frequently retain outside consultants to advise them on matters such as compensation, business strategies, risk, and the effectiveness of their ethics and compliance programs. These commenters expressed concern that permitting such outside advisers and consultants to become whistleblowers will harm the free flow of candid advice and information that is necessary to these relationships.

115

See

letters from NACD (advocating excluding individuals hired by boards of directors for purposes of advice and consultation); the Ethisphere Institute (exclusions should extend to external advisers who evaluate corporate ethics and compliance programs); GE Group (should exclude professionals that have relationships of trust and confidence with companies, including investment bankers, financial advisers, compensation consultants, and other consultants); TRACE International, Inc. (noting particular role of outside experts in FCPA compliance efforts, and advocating that exclusions include professionals who are regularly engaged by companies to assist with auditing, creating and implementing robust anti-bribery compliance programs and internal controls, including professionals who perform due diligence on third party relationships as required by the securities laws).

c. Final Rules

After considering the comments, we have made several changes to the exclusions set forth in Rules 21F-4(b)(4)(i) through (vii), which we have renumbered as Rules 21F-4(b)(4)(i) through (vi). We have determined not to extend the exclusions to other outside professionals.

We believe that the exclusions, as modified, are reasonable in scope and consistent with effective enforcement of the securities laws.

116

The exclusions generally apply to narrow categories of individuals whose knowledge does not, in our view, constitute “independent knowledge or analysis

of a whistleblower,

” because the information or analysis was acquired by an individual: (1) On behalf of a third party operating in a sensitive legal, compliance, or governance role (exclusions (i), (ii) and (iii)(A)-(C)); or (2) in the performance of an engagement required by the Federal securities laws (exclusion (iii)(D)); or (3) by illegal means (exclusion (iv)). Only when one of the exceptions to these exclusions set forth in the rules applies should information acquired in these situations constitute independent knowledge or analysis of the whistleblower.

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Section 21F does not define the terms “independent knowledge” or “independent analysis,” but Section 21F(j) authorizes the Commission to issue rules “to implement the provisions of [Section 21F] consistent with the purposes of [Section 21F].” A substantial purpose of Section 21F is to promote effective enforcement of the securities laws.

We believe this result is consistent with the purpose of promoting effective enforcement of the securities laws. Consultation with attorneys can improve compliance on the part of entities and individuals.

117

The

recommended exclusions for certain company officials and third parties who assist companies in investigations of possible violations of law are narrowly focused, and promote the goal of ensuring that the persons most responsible for an entity's conduct and compliance with law are not incentivized to promote their own self-interest at the possible expense of the entity's ability to detect, address, and self-report violations. The exclusion for auditors performing engagements required by the securities laws reflects the fact that these individuals occupy a special position under the securities laws to perform a critical role for investors. Further, as adopted, our rule permits such individuals to become whistleblowers under certain circumstances.

118

117

A number of comments asserted that, in addition to the attorney-client privilege, any information received in breach of other confidential relationships recognized by common-law evidentiary privileges should be excluded from the definition of independent knowledge.

See, e.g.,

joint letter from Alcoa Inc., Celanese Corporation, Citigroup, Ingersoll-Rand plc, Intel Corporation, Johnson & Johnson, JPMorgan Chase & Co., Kraft Foods Inc., Pfizer Inc., Prudential Insurance Company America, and Tyco International Ltd. (“Alcoa Group”); Auditing Standards Committee; TRACE International, Inc.

But see

letter from NWC (opposing any exclusion for privileged information). Those commenters generally took the position that these relationships have historically been recognized as deserving protection based on public policy considerations, and creating a monetary incentive for those holding this sort of privileged information to divulge it to us is contrary to those public policy considerations. We have determined to exclude (subject to the exceptions set forth in these rules) only information received in breach of the attorney-client privilege, not the other confidential relationships recognized at common-law. Although we recognize the significant public policies underlying all of these confidential relationships, we believe that for purposes of the whistleblower program the attorney-client privilege stands apart because of the significance of attorney-client communications for achieving compliance with the Federal securities laws. We will continue to address assertions of other evidentiary privileges through our normal investigative and litigation processes.

See e.g.,

SEC Division of Enforcement Manual § 3.3.1. In addition, contrary to the suggestion from a number of commenters,

see, e.g.,

letter from PricewaterhouseCoopers, LLP (“PwC”), we are not excluding information that is received in breach of state-law confidentiality requirements, such as those imposed on auditors, because to do so could inhibit important Federal-law enforcement interests.

118

See

Rule 21F-4(b)(4)(vi). The exclusions for information obtained in violation of Federal or state criminal law and for information obtained from excluded sources are discussed below.

Finally, although we recognize the important role that outside advisers and consultants play in many aspects of corporate policy and decision-making, we believe that additional exclusions for such professionals would too broadly preclude individuals with possible inside knowledge of violations from coming forward to assist the Commission in identifying and prosecuting persons who have violated the securities laws.

(a) Attorney-Client Privilege and Other Attorney Conduct

a. Proposed Rule

As proposed, Rule 21F-4(b)(4)(i) excluded from the definition of “independent knowledge” or “independent analysis” information that was obtained through a communication that is subject to the attorney-client privilege. In addition, Proposed Rule 21F-4(b)(4)(ii) excluded from the definition of “independent knowledge” or “independent analysis” information that a potential whistleblower obtained as the result of the legal representation of a client on whose behalf the whistleblower's services, or the services of his or her employer or firm had been retained, unless the disclosure had been authorized as stated above. Neither of these exclusions applied where an attorney is permitted to disclose otherwise privileged information; for example, if the privilege has been waived or if the disclosure is permissible pursuant to the Commission's attorney conduct rules

119

or applicable state statutes or bar rules governing the ethical behavior of attorneys.

120

119

17 CFR 205.3(d)(2). This Commission Rule permits attorneys representing issuers of securities to reveal to the Commission “confidential information related to the representation to the extent the attorney reasonably believes necessary” (1) to prevent the issuer from committing a material violation that is likely to cause substantial injury to the financial interest or property of the issuer or investors; (2) to prevent the issuer, in a Commission investigation or administrative proceeding, from committing perjury, suborning perjury, or committing any act that is likely to perpetrate a fraud upon the Commission; or (3) to rectify the consequences of a material violation by the issuer that caused, or may cause, substantial injury to the financial interest or property of the issuer or investors in the furtherance of which the attorney's services were used.

120

E.g.,

California Evidence Code § 956 (“There is no privilege under this article if the services of the lawyer were sought or obtained to enable or aid anyone to commit or plan to commit a crime or plan to commit a crime or fraud.”).

The proposed exclusions in 21F-4(b)(4)(i) and (ii) recognized the prominent role that attorneys play in all aspects of practice before the Commission and the special duties they owe to clients. We observed that compliance with the Federal securities laws is promoted when individuals, corporate officers, and others consult with counsel about possible violations, and the attorney-client privilege furthers such consultation.

121

This important benefit could be undermined if the whistleblower award program created monetary incentives for counsel to disclose information about possible securities violations in violation of their ethical duties to maintain client confidentiality.

122

121

See Upjohn Co.

U.S.,

449 U.S. 383, 389 (1981) (“[The attorney-client privilege's] purpose is to encourage full and frank communication between attorneys and their clients and thereby promote broader public interests in the observance of law and administration of justice.”).

122

United States of America ex rel Fair Laboratory Practices Associates

Quest Diagnostics, Inc.,

2011 WL 1330542 (S.D.N.Y. Apr. 5, 2011) (emphasizing “the great Federal interest in preserving the sanctity of the attorney-client relationship,” the court dismissed a False Claims Act

qui tam

action brought by a partnership where the suit was based on attorney-client privileged information that one of the relator's partners, an attorney, disclosed in violation of New York's attorney ethics laws).

The proposed exceptions for information obtained through privileged attorney-client communications and for information obtained in the legal representation of others did not apply, however, where the attorney is already permitted to disclose the substance of a communication that would otherwise be privileged. This included, for example, circumstances where the privilege has been waived, or where disclosure of confidential information to the Commission without the client's consent is permitted pursuant to either 17 CFR 205.3(d)(2) or the applicable state bar ethical rules.

123

See

Model Rules of Professional Conduct 1.6(b), 1.13(c). Model Rule 1.6(b), variants of which have been adopted by nearly every state in the country and the District of Columbia, permits the disclosure of information relating to the representation of a client, among other things, where the lawyer reasonably believes the disclosure is necessary (1) to prevent reasonably certain death or substantial bodily harm; (2) to prevent the client from committing a crime or fraud that is reasonably certain to result in substantial injury to the financial interests or property of another and in furtherance of which the client has used or is using the lawyer's services; and (3) to prevent, mitigate or rectify substantial injury to the financial interests or property of another that is reasonably certain to result or has resulted from the client's commission of a crime or fraud in furtherance of which the client has used the lawyer's services.

See

Model Rule 1.6(b)(1)-(3). Model Rule 1.13(c) provides that where an attorney reports violations of law to the highest authority within an organization, and “despite the lawyer's efforts * * * the highest authority that can act on behalf of the organization insists upon or fails to address in a timely and appropriate manner an action, or a refusal to act, that is clearly a violation of law, and (2) the lawyer reasonably believes that the violation is reasonably certain to result in substantial injury to the organization,” the lawyer may reveal information relating to the representation., notwithstanding Rule 1.6, but only to the extent “the lawyer reasonably believes necessary to prevent substantial injury to the organization.”

The exclusions did not preclude an individual who has independent knowledge of facts indicating possible securities violations from becoming a whistleblower if that individual chooses to consult with an attorney. Facts in the possession of such an individual do not become privileged simply because he or she consulted with an attorney.

b. Comments Received

The Commission received a number of comments related to the exclusions set forth in Proposed Rules 21F-4(b)(4)(i) and (ii). Most commenters were generally supportive of the exclusions for the reasons that we identified in our proposing release.

124

A few commenters, however, asserted that the exclusions are unnecessary, and that instead we should rely upon judicial decisions and state bar opinions to decide on a case-by-case basis whether we could use information that would otherwise be covered by the proposed exclusions.

125

124

See, e.g.,

letters from NSCP; Grohovsky Group.

125

See, e.g.,

letters from TAF; Stuart D. Meissner, LLC.

Many commenters who were generally supportive of the exclusions suggested modifications.

126

Several commenters recommended that the exclusions expressly apply to all information coming from

communications subject to the attorney-client privilege, whether or not the whistleblower was an attorney, because non-attorneys are often in possession of information that is subject to the privilege.

127

Other commenters wanted us to modify the rules to ensure that we are not receiving privileged information.

128

For example, one commenter requested that the rule explicitly state that we are not seeking privileged information, and, that if such information is provided to us, we will not argue that the privilege was waived.

129

Other commenters recommended that the rule should exclude all information coming from communications with attorneys, even if the privilege had been waived.

130

126

See, e.g.,

letters from M.J. O'Loughlin; joint letter from Apache, Cardinal Health, Goodyear, HP, Merck, Microsoft, Proctor & Gamble, TRW, United Technologies (“Apache Group”); Financial Services Roundtable; and GE Group; Arent Fox LLP; CCMC.

127

See

letters from Apache Group; Financial Services Roundtable; and GE Group.

128

See, e.g.,

letters from Arent Fox LLP; CCMC.

129

See

letter from Apache Group.

130

See

letter from NACD.

see also

letter from DC Bar (suggesting that individuals in these categories be required to report violations internally first and wait 75 days for the entity to respond appropriately before they are eligible to become whistleblowers).

A number of commenters took issue with the “reasonable time” language in Proposed Rules 21F-4(b)(4)(iv) and (v) and suggested alternative approaches for determining when persons described in the rules might be permitted to make whistleblower submissions.

150

Many of these commenters argued that the “reasonable time” standard would, in practice, require companies to disclose all allegations of wrongdoing, regardless of considerations such as the materiality or credibility of the allegations, or the results of the company's investigation. Others pointed out that, because the standard lacked clarity, it would be difficult for persons in these categories to determine whether the company had disclosed the violation and whether it had done so within a “reasonable time.” Some commenters recommended that we define a “reasonable time” as some fixed period;

e.g.,

90-180 days.

151

150

See

letters from ABA (eliminate “reasonable time” standard and only permit use of information in the event of bad faith); Society of Corporate Secretaries (same); DC Bar (require individuals in these categories to report violations internally first and wait 75 days for the entity to respond appropriately before they are eligible to become whistleblowers.); Cleary Gottlieb Steen & Hamilton LLP (replace “reasonable time” with “reasonable and appropriately substantiated basis for believing that the company has failed to remediate the alleged problem or has acted in bad faith”); Apache Group (permit compliance personnel to become whistleblowers if company failed to investigate and remediate, including consideration of whether to self-report, within a reasonable time); Chamber of Commerce Group (permit personnel in these categories to use information only after reporting internally, and if company failed to disclose information concerning substantiated violations in a reasonable time).

151

See

letters from Patrick Burns, NACD, John G. Connolly, Auditing Standards Committee, Financial Services Roundtable.

Finally, commenters from diverse perspectives shared the view that aspects of the proposed rules were vague and open to subjective interpretations. Some believed that the lack of clarity could have the effect of discouraging potential whistleblowers because they would not want to risk their livelihoods and reputations in the face of uncertainty concerning whether they might be eligible for an award.

152

However, others suggested that vagueness would encourage persons in the categories designated in the proposed rules to make their own subjective determinations (for example, of whether a “reasonable time” had passed), and would therefore prove disruptive to internal compliance mechanisms.

153

152

See

letters from TAF, DC Bar, Daniel J. Hurson, Stuart D. Meissner LLC.

153

See

letters from ABA, Financial Services Roundtable, Society of Corporate Secretaries, Protiviti, Alcoa Group.

(iii) Final Rules 21F-4(b)(4)(iii) and (v)

After considering the comments, we are adopting the proposed rules with substantial modifications. These provisions have been combined and are now set forth in Rules 21F-4(b)(4)(iii) and (v).

As adopted, Rules 21F-4(b)(4)(iii)(A) through (C) address responsible company personnel with compliance-related responsibilities. Rule 21F-4(b)(4)(iii)(D) (in conjunction with Rule 21F-8(c)(4), discussed below) addresses independent public accountants.

154

Rule 21F-4(b)(4)(v) sets forth exceptions that apply to these exclusions. These rules are discussed separately below.

154

We are addressing independent public accountants through the rules noted above instead of adopting proposed Rule 21F-4(b)(4)(iii). Paragraph (D) of Rule 21F-4(b)(4)(iii), discussed below, excludes from the definition of independent knowledge or analysis information that an accountant learns because of his work on an engagement required under the Federal securities laws unless certain enumerated exceptions apply. Rule 21F-8(c)(4) makes a whistleblower ineligible from being considered for an award if the information is gained through an audit of financial statements required under the securities laws and the submission is “contrary to the requirements of Section 10A * * * ” as provided for in Section 21F(c)(2)(C) (15 U.S.C. 78u-6(c)(2)(C)). After considering the competing views of commenters, we believe these provisions, taken together, strike a balance between the statute's goal of encouraging high quality submissions by whistleblowers and a policy of preventing auditors from getting a windfall from performing their duties.

a. Rules 21F-4(b)(4)(iii)(A) Through (C)

As discussed above, we believe there are good policy reasons to exclude information from consideration as “independent knowledge” or “independent analysis” in the hands of certain persons, and in certain circumstances, where its use in a whistleblower submission might undermine the proper operation of internal compliance systems. At the same time, we do not think it serves the purposes of Section 21F to apply this principle in a manner that creates expansive new exclusions for broad categories of company personnel (

e.g.,

any supervisor, or any employee involved in control functions or in processes related to required CEO and CFO certifications). Instead, we believe that the better approach, and one consistent with Congressional intent, is to adopt more tailored exclusions for “core” persons and processes related to internal compliance mechanisms, and to enhance the incentives for employees to report wrongdoing through their company's established internal procedures.

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With respect to enhanced incentives, as discussed below, we are adopting a rule that creates additional opportunities for employees to obtain whistleblower awards by reporting information through a company's internal whistleblower, legal, or compliance mechanisms before or at the same time that they file a whistleblower submission with us.

See

Rule 21F-4(c).

In addition, we agree with the commenters who stated that greater clarity in these rules will assist both whistleblowers and companies. For this reason, we have identified by title or function specific categories of personnel to whom the rules apply.

Thus, as adopted, Rules 21F-4(b)(4)(iii)(A) through (C) describe three categories of persons whom we will not treat as having “independent knowledge” or “independent analysis” for purposes of a whistleblower submission, unless one of the exceptions listed in paragraph (b)(4)(vi) applies.

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The first category, set forth

in paragraph (A), is officers, directors, trustees, or partners of an entity if they obtained the information because another person informed them of allegations of misconduct, or they learned the information in connection with the entity's processes for identifying, reporting, and addressing potential non-compliance with law. The term “officer” is defined in Rule 3b-2 under the Exchange Act,

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and means “a president, vice president, secretary, treasurer or principal financial officer, and any person routinely performing corresponding functions with respect to any organization whether incorporated or unincorporated.” For example, a managing member of a limited liability company who performs these types of functions would ordinarily fall within this rule.

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Rule 21F-4(b)(4)(iii) only applies to the extent that an individual is not subject to any of the exclusions set forth in Rules 21F-4(b)(4)(i) or (ii). Thus, for example, if a company officer receives a

report that is covered by attorney-client privilege, paragraph (i) would govern use of the information for purposes of our rules.

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17 CFR 240.3b-2.

This provision combines and modifies several concepts that were previously included in Proposed Rules 21F-4(b)(4)(iv) and (v). As noted, we have identified with greater specificity the persons who are covered by the rule. Further, instead of making the exclusion applicable when information is communicated to one of these persons “with the reasonable expectation that [the recipient] would take steps to cause the entity to respond appropriately to the violation,” the rule applies whenever one of the designated persons is “informed * * * of allegations of misconduct.” Thus, when an officer or one of the other designated persons receives a report of possible illegal conduct, the rule applies without the recipient having to evaluate the “expectations” of the person who made the report.

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We have also narrowed the scope of the proposed rule by removing non-officer supervisors from the list of designated persons. We agree with those commenters who stated that including all supervisors at any level would create too sweeping an exclusion of persons who may be in a key position to learn about misconduct, and that such an exclusion would not further the purposes of Section 21F.

159

158

See

letter from ABA (noting problem of requiring the recipient of information to ascertain the “reasonable expectation” of the person who reported the information).

159

See

letter from TAF.

Paragraph (A) does not preclude officers and the other designated persons from obtaining an award for a whistleblower submission in all circumstances. As noted, the rule applies when someone else informs a person in the designated categories about allegations of misconduct, or the designated individual learns the information in connection with the entity's processes for identifying, reporting, and addressing potential non-compliance with law.

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Examples include learning about a violation because an employee reports misconduct to the designated person, being informed of an allegation of misconduct that came into the company's hotline, or learning of a report from the company's auditors regarding a potential illegal act. Paragraph (A) is not intended to establish a general bar against officers, directors, and other designated persons becoming whistleblowers any time they observe possible violations at a company or other entity. For example, paragraph (A) does not prevent an officer from becoming eligible for a whistleblower award if the officer discovers information indicating that other members of senior management are engaged in a securities law violation.

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The phrase “in connection with the entity's processes for identifying, reporting, and addressing potential non-compliance with law” requires that the officer, director, or other designated individual learn the information through official responsibilities that relate to such processes.

The second category of persons that Rule 21F-4(b)(4)(iii) excludes from the definitions of “independent knowledge” and “independent analysis,” as set forth in paragraph (B), are employees whose principal duties involve compliance or internal audit responsibilities, as well as employees of outside firms that are retained to perform compliance or internal audit work for an entity. For example, a compliance officer is subject to the rule whether he or she learns about possible violations in the course of a compliance review or another employee reports the information to the compliance officer. Unlike the proposed rule, the rule does not include a company's lawyers in either of paragraphs (A) or (B), because lawyers are subject to professional obligations in their dealings with clients, and these are specifically addressed in Rules 21F-4(B)(4)(i) and (ii).

161

See

letter from SIFMA.

Paragraph (C) of Rule 21F-4(b)(4)(iii) excludes information learned by employees or other persons associated with firms that are retained to conduct an internal investigation or inquiry into possible violations of law in circumstances (as noted above), where the information is not already excluded under Rules 21F-4(b)(4)(i) or (ii).

b. Rule 21F-4(b)(4)(iii)(D)

Paragraph (D) of Rule 21F-4(b)(4)(iii) excludes information that is learned by employees of, or other persons associated with, a public accounting firm through an audit or other engagement required under the Federal securities laws, if that information relates to a violation by the engagement client or the client's directors, officers, or other employees. It only applies to those engagements which are not covered by Rule 21F-8(c)(4).

Similar to other provisions under Rule 21F-4(b)(4), we are adopting this new paragraph based on our concern about creating incentives for independent public accountants to seek a personal financial benefit by “front running” the firm's proper handling of information obtained through engagements required under the Federal securities laws. Examples include engagements for broker dealer annual audits pursuant to Rule 17a-5 under the Exchange Act

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and compliance with the custody rule by advisors.

163

162

See

§ 240.17a-5.

163

See

§ 275.206(4)-2.

Paragraph (D), however, does not limit an individual from making a specific and credible submission alleging that the public accounting firm violated the Federal securities laws or professional standards.

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If a whistleblower makes such an allegation, and if that submission leads to a successful action against the engagement client, its officers, or employees, then the whistleblower can obtain an award for that action as well. Moreover, this exclusion does not apply whenever the facts and circumstances fall within the scope of exceptions contained in Rule 21F-4(b)(4)(v).

164

See infra

discussion of Rule 21F-8(c)(4).

c. Rule 21F-4(b)(4)(v)

Rule 21F-4(b)(4)(v) sets forth exceptions to the application of Rule 21F-4(b)(4)(iii). If any one of these circumstances is present, a person in one of the designated categories under Rule 21F-4(b)(4)(iii) may be eligible for a whistleblower award using information that is otherwise excluded to that individual by operation of Rule 21F-4(b)(4)(iii).

The first exception to the operation of Rule 21F-4(b)(4)(iii) applies when the designated person has a reasonable basis to believe that disclosure of the information to the Commission is necessary to prevent the relevant entity from engaging in conduct that is likely to cause substantial injury to the financial interest or property of the entity or investors.

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For purposes of

Rule 21F-4(b)(4)(v), in order for a whistleblower to claim a reasonable belief that disclosure of information to the Commission is necessary to prevent the relevant entity from committing substantial harm, we expect that in most cases the whistleblower will need to demonstrate that responsible management or governance personnel at the entity were aware of the imminent violation and were not taking steps to prevent it. In short, the whistleblower must have a reasonable basis for believing that the entity is about to engage in conduct that is likely to cause substantial injury to the financial interests of the entity or investors, and that notification to the Commission is necessary to prevent the entity from engaging in that conduct. In such cases, we believe it is in the public interest to accept whistleblower submissions and to reward whistleblowers—whether they are officers, directors, auditors, or similar responsible personnel—who give us information that allows us to take enforcement action to prevent substantial injury to the entity or to investors.

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This provision is similar to the standard that governs the circumstances in which an attorney appearing and practicing before the Commission in the representation of an issuer may reveal

confidential information related to the representation without the issuer's consent.

See

17 CFR 205.3(d). However, we have not included a requirement of a “material violation,” as is found in the attorney conduct rule. As most whistleblowers under this provision will not be attorneys, we have decided not to require that they make legal judgments about whether a material violation has occurred, but simply consider whether they have a reasonable basis to believe that a report to the Commission is necessary to prevent conduct that is likely to cause substantial injury to the financial interest or property of the entity or investors.

The second exception to the operation of Rule 21F-4(b)(4)(iii) applies when the designated person has a reasonable basis to believe that the entity is engaging in conduct that will impede an investigation of the misconduct. Our proposed rule included a similar exception for the entity's “bad faith,” and the language, as adopted, is intended to make this standard clearer. Thus, for example, an officer or other individual covered by Rule 21F-4(b)(4)(iii) is not subject to the exclusion of that paragraph if he or she has a reasonable basis to believe that the entity is destroying documents, improperly influencing witnesses, or engaging in other improper conduct that may hinder our investigation.

Finally, under the third exception to Rule 21F-4(b)(4)(iii), an officer, director, auditor or one of the other designated persons can become a whistleblower after at least 120 days have elapsed since the whistleblower provided the information to the audit committee, chief legal officer, or chief compliance officer (or their equivalents) of the entity at which the violation occurred, or to his or her supervisor, or since the whistleblower received the information, if he or she received it under circumstances indicating that the entity's audit committee, chief legal officer, chief compliance officer (or their equivalents), or his or her supervisor was already aware of the information. As noted above, many commenters criticized as too vague and unpredictable our proposed rule that would have permitted one of the designated persons to make a whistleblower submission if an entity failed to disclose the information to the Commission within a reasonable time.

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