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Whistleblowing: Can New Incentives Overcome Apprehension?

Mary-Jo Kranacher, MBA, CPA/CFF, CFE

Blowing the whistle on wrongdoing is never easy. Most of us learned in our childhood that “telling” on someone had negative connotations and consequences associated with it. Consider the words we use to describe someone who informs on another's misdeeds: Fink, informant, rat, snitch, squealer, stool pigeon, and tattletale are just a few of the synonyms for whistleblower cited in Merriam-Webster's Dictionary. Is it any wonder then that people are sometimes reluctant to blow the whistle when they uncover unethical or illegal activities?

Nevertheless, tips from whistleblowers are the most common means of fraud detection, according to every study conducted by the Association of Certified Fraud Examiners (ACFE) since 2002. How can more individuals be encouraged to come forward, despite the potential consequences of employer retaliation, peer ostracism, loss of employment, and slander to reputation?

The final rule does little to address the retaliation issues that whistleblowers face.

On May 25, 2011, the SEC decided in a 3–2 vote to approve a final rule that implements the whistleblower award program of section 21F of the Securities Exchange Act of 1934, a section that was added by the Dodd-Frank Wall Street Reform and Consumer Protection Act. The rule sets the standards and procedures for the SEC to apply in awarding financial compensation to those who provide information about possible violations of securities laws that result in successful enforcement actions. It also constructs the outline for whistleblower protections from retaliation under the Dodd-Frank Act of 2010.

Key Elements of the Rule

The Dodd-Frank Act sought to incentivize whistleblowers with substantial monetary compensation and, consequently, required the SEC to pay these individuals for providing information to the government regarding possible violations of federal securities laws. Eligibility for an award under the SEC's final rule are summarized as follows: 1) A whistleblower, 2) who voluntarily provides the SEC, 3) with original information, 4) that leads to a successful enforcement action by the SEC that results in monetary sanctions of more than $1 million, 5) is eligible for an award of 10% to 30% of any amounts recovered. The rule defines each of the segments in the above summary.

Prior to the Dodd-Frank Act, awards were limited to insider trading cases, and the amounts were capped at 10% of the penalties collected in the case. Although the new rules do not require whistleblowers to report violations internally before they bring the information to the SEC, whistleblowers may be given additional incentives to report the violation within the organization first. A whistleblower may also retain anonymity if the possible violation is reported through an attorney.

The final rule becomes effective 60 days after it is published in the Federal Register, but will apply retroactively to all tips received since July 21, 2010, the date the Dodd-Frank Act was passed.

A new SEC Office of the Whistleblower was also established. It will work with whistleblowers, handle tips and complaints, and assist the commission in determining award amounts.

Whistleblower Motivation

Despite these changes, some have raised questions about whether the new standards and procedures are appropriate to address the problems that prompted their creation. Do they go far enough to incentivize potential whistleblowers?

Most would agree that money is a strong motivator; however, a number of exclusions severely limit its usefulness under this rule. Exclusions for awards generally apply to principals of the company, attorneys, compliance personnel, accountants, individuals retained to conduct an inquiry, and various other persons. A colleague recently pointed out that none of the three whistleblowers who appeared on the cover of Time magazine as the 2002 Persons of the Year would have qualified for an SEC payment under the final whistleblower rule—Cynthia Cooper was WorldCom's director of internal audit; Coleen Rowley was the FBI's staff attorney; and Sherron Watkins was Enron's vice president, who was requested to testify before a congressional subcommittee hearing. Furthermore, the final rule does little to address the retaliation issues that whistleblowers face; some have posited that there may be overlap and even conflict between the jurisdictions of the SEC and the Department of Labor in this area.

The protections provided under the final SEC rule represent a valiant attempt to encourage responsible whistleblowing. If history is any guide, however, potential whistleblowers might still be wary that doing the right thing will lead to more than just schoolyard name calling.

As always, I welcome your comments.

Mary-Jo Kranacher, MBA, CPA/CFF, CFE. Editor-in-Chief. ACFE Endowed Professor of Fraud Examination, York College, The City University of New York (CUNY) mkranacher@nysscpa.org.

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