Whistleblowers Who Disclose Investment Fraud Should Be Protected

The ongoing impeachment proceedings and related investigations have highlighted the need to protect federal employees who disclose official misconduct, including misconduct in the Oval Office. Unfortunately, the debate regarding public sector whistleblowers has overshadowed the equally pressing need for better protection for workers in the private sector, who vastly outnumber public employees and could “blow the whistle” on corporate misconduct affecting millions of Americans. In particular, there is little effective protection today for most whistleblowers who disclose securities fraud.

In response to the Wall Street excesses that precipitated the 2008 credit crisis, Congress determined that potential whistleblowers should be encouraged to report securities violations. Consequently, Congress provided in the Dodd-Frank legislation in 2010 that “no employer” could retaliate against a whistleblower for making a disclosure protected under the federal securities laws.

Most employees who report securities fraud do so internally, i.e., to their employers. Prior to 2018, Dodd-Frank was generally understood (per guidance issued by the SEC) to protect employees who made such internal disclosures, regardless of whether the employee also disclosed the information to the SEC.

The Supreme Court dismantled this protection in the 2018 Digital Realty decision. The Digital Realty case arose when a senior employee discovered securities violations in the course of his work, reported the violations to his employer (but not to the SEC), and was fired. The employee sued the employer, claiming retaliation in violation of Dodd-Frank. The Supreme Court rejected the employee’s claim, not on the facts but on the more damaging ground that the employee was not a whistleblower at all -- because the term “whistleblower” was defined (in a portion of Dodd-Frank dealing with monetary awards) as one who reported violations to the SEC. In short, the Court held that Dodd-Frank protects only the small percentage of whistleblowers who disclose securities violations directly to the SEC.

All others who disclose securities fraud must look to the Sarbanes-Oxley Act, enacted in 2002. But SOX protects only employees of public companies and their affiliates and contractors. Moreover, even for that small minority of whistleblowers, the SOX protections are often inadequate, as Congress itself determined before enacting Dodd-Frank in 2010. Thus, the vast majority of whistleblowers who report violations only to their employers are not protected under federal securities law, and even for those covered by SOX the protection is often more nominal than real.

Only Congress can undo the damage caused by the Digital Realty decision. The House of Representatives took a first step in the right direction last July by passing H.R. 2515, which would return Dodd-Frank protections to some whistleblowers who disclose securities violations via an employer’s internal compliance system. In September 2019 a similar bill (S. 2529) was introduced in the Senate. Because this effort to reverse Digital Realty had strong bi-partisan support (H.R. 2515 passed the House by a vote of 410 to 12), the prospects for corrective legislation seemed favorable just a few months ago. However, after a tip from a whistleblower in the intelligence community triggered the impeachment inquiry, all whistleblower matters have become tainted in partisan colors and there has been no action on the Senate bill.

Further, the proposed legislation alone would not provide the protection actually needed by many whistleblowers. The pending bills would expand the Dodd-Frank definition of “whistleblower” so that it expressly includes an employee who discloses securities violations to his or her employer – but only if the employer is “an entity registered with or required to be registered with” the SEC or another securities regulator. Such an amendment would not benefit the tens of millions of Americans whose employers are not public companies or otherwise registered with securities regulators. The proposed legislation must be broadened significantly before it would reinstate the protection that was available prior to the Digital Realty decision.

But even re-establishing the Dodd-Frank protections would not fully protect employees who risk their jobs to disclose investment fraud. Whistleblower protections recently mandated by the European Union (EU) illustrate how far the US has fallen behind in this area. In October 2019, the European Parliament adopted minimum anti-retaliation protections that each member country must put in place within two years to protect those who report breaches of EU law in the financial sector and other specified industries. These EU minimum standards will ensure that European workers receive far better anti-retaliation protection than is available to most US whistleblowers.

For example, the EU’s minimum standards protect a much broader group of whistleblowers than do the US securities laws. Rather than focusing solely on employees, EU countries must also protect whistleblowers who are independent contractors, suppliers, volunteers, unpaid trainees, civil servants, self-employed persons, and former employees, as long as the information disclosed by the whistleblower was acquired in a work-related context. This reflects the EU’s recognition that individuals outside the traditional employer-employee relationship can learn of and disclose invaluable information relating to fraud or other corporate misconduct.

The EU also requires that whistleblowers be protected against retaliation regardless of whether the disclosure is made to the employer or to enforcement authorities. Even direct disclosures to the public (for example, through social media) must be protected in several situations, including when the whistleblower reasonably believes that violations pose a manifest danger to the public interest or there is “a low prospect” that reporting to regulators would lead to effective action.

Additionally, under the EU directive, a whistleblower alleging retaliation is entitled to a presumption that the employer’s adverse action was taken in retaliation for the whistleblower’s disclosure. From the very outset, the EU places the burden on the employer to show that the adverse action was “based on duly justified grounds.” US securities law provides no such presumption in favor of US whistleblowers.

In short, employees who disclose financial misconduct now have significantly less protection against retaliation than they did two years ago, before Digital Realty, and much less protection than will be guaranteed to whistleblowers in the EU. Because protecting those who disclose investment fraud is in the best interest of America’s workers and investors, and is ultimately good for the business community as well, Congress should restore the anti-retaliation protection the Supreme Court nullified in 2018 and ensure that US whistleblowers receive the type of expanded protection being required in the European Union.

Whistleblower Aid

The foregoing discussion is provided by Whistleblower Aid for general information purposes and is not intended to be, and should not be, taken as legal advice. For guidance on how to contact Whistleblower Aid, see https://whistlebloweraid.org/contact#whistleblower-contact.