SEC Proposes Rule 22e-4 on Fund Liquidity

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The SEC Commissioners today voted 5-0 to propose a rule requiring asset managers of mutual funds and exchange traded funds to disclose additional information about their liquidity risk and redemption practices. Rule 22e-4, if adopted, would also require open-end funds to assess and periodically review their liquidity risk.

The regulation is designed to bolster the Investment Company Act of 1940 requirement that mutual funds honor redemption requests within seven days. Earlier this year in a talk at the Brookings Institution, Commissioner Kara Stein expressed concern that some funds are promising investors high liquidity in their fund where the underlying investment is in illiquid assets.

The proposed law would require fund managers to establish a minimum requirement for investments in cash and three-day liquid assets. It would also codify the current SEC guideline that only 15 percent of positions can be invested in illiquid assets.

We have been talking about liquidity in the bond market and ETFs for some time here as a potential area for reports by SEC whistleblowers, and this proposal indicates the SEC is listening to the same concerns from the marketplace.

The proposed rule will need additional approval from the SEC Commissioners as well as to pass through the notice and comment rulemaking process before it is implemented.

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Key Whistleblower Changes in Bipartisan Budget Act

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The Bipartisan Budget Act of 2018, passed overnight and signed this morning by President Trump to end the second federal government shutdown of this year, includes two key provisions for whistleblowers previously introduced by Senator Charles Grassley but removed from the January budget deal.

For IRS whistleblowers, the law clarifies the term collected proceeds to include criminal fines and civil forfeitures as well as violations of reporting requirements. The IRS has previously taken the position that tax whistleblowers are only eligible for rewards based on fines pursuant to Title 26. This interpretation was rejected by the U.S. Tax Court last year and the Government appealed to the D.C. Circuit to reverse the decision. This section essentially resolves that appeal and affirms the U.S. Tax Court decision giving a broad definition to the term.

The legislation will also unify the tax treatment of whistleblower awards for the major laws. For some time, whistleblowers awarded money under the Federal False Claims Act and IRS whistleblower program were entitled to an above-the-line tax deduction for their attorney fees. The tax deduction did not clearly extend to CFTC and SEC whistleblowers, or rewards under the State False Claims Acts. These awards were subject to taxation of the entire amount received by the individual and then again for the amount paid by the client to the law firm.

In other words, IRC sections 62(a)(20) and 62(a)(21) allowed False Claims Act relators and IRS whistleblowers to only pay taxes for the amount received after paying their attorney fees. The law firm is responsible for paying tax on the amount of attorney fees that they are paid by their client. The legislation extends the above-the-line deduction to Dodd Frank Act whistleblowers and relators paid under the state False Claims Acts. Notably, it does not mention the Motor Vehicle Safety Whistleblower Act, which was

We have discussed these issues several times on this blog since the Grassley Amendments were initially introduced into the Senate’s Tax Cuts and Jobs Act in November 2017. If you have questions about these or other aspects of the whistleblower laws, please call 1-800-590-4116 to speak to a McEldrew Young whistleblower attorney.

Collected Proceeds Clarification for IRS Whistleblowers Dropped from Tax Bill

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The Wall Street Journal reported yesterday that the reconciliation of the tax legislation has dropped the definition of collected proceeds for the IRS whistleblower program introduced into the Senate version that passed. The amendment was added by Senator Chuck Grassley, an advocate for whistleblowers and responsible for introducing the legislative provision in 2007 that created the IRS whistleblower program.

The reconciliation process is used to achieve a final bill when there are differences in the bills passed by the House and Senate. The original version of the tax bill passed by the U.S. House of Representatives did not include Senator Grassley’s amendments.

The definition of collected proceeds for the IRS whistleblower law is currently under review by the U.S. Court of Appeals for the D.C. Circuit. The proposed measure would have codified an interpretation of the term collected proceeds to provide whistleblowers a percentage of both criminal fines and civil forfeitures. The IRS argued in U.S. Tax Court last year that these funds were not included in the term. The U.S. Tax Court decided a broad interpretation of the term was warranted in a decision that favored the whistleblowers. The ruling is now on appeal.

The reconciled bill also appears to have eliminated Senator Grassley’s other proposed amendment, to clarify that SEC and CFTC whistleblower awards are exempt from double taxation under the Civil Rights Tax Relief Act (adopted as part of the American Jobs Creation Act of 2004).

The potential for double taxation is created when successful whistleblowers must pay tax on the entire amount of their award and then the whistleblower’s attorney pays tax on the portion they receive from the contingency fee. The Relief Act allows for an exemption for the contingent fee portion so that only one tax payment is made. As always, consult a tax lawyer for specific legal advice with regard to tax issues.

The reconciliation was passed by the U.S. House, 227-203, and the U.S. Senate, 51-48. It will now be sent to President Trump’s desk for signature.

Switch from GAAP to IFRS could expose accounting fraud to whistleblowers.

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Last week, James Schnurr, the new chief accountant for the Securities and Exchange Commission, told reporters that he was reviewing prior agency work on the potential accounting switch from Generally Accepted Accounting Principles (GAAP) to International Financial Reporting Standards (IFRS). The transition, which the SEC has been considering since at least 2007, will be revisited again by Scnhurr, a partner at Deloitte LLP prior to starting at the SEC a month ago. No decision has been made on the ultimate course of action the agency will pursue, although it will have implications for the method of accounting used by public companies distributing financial statements to shareholders.

The Wall Street Journal identified computer software and wireless communications as two industries where this transition could lead to dramatic changes in corporate accounting. In areas where GAAP and IFRS differ, there is the possibility that the rule switch could potentially expose accounting irregularities at large corporations as historical treatments are re-examined or lead to new situations of accounting fraud if companies attempt to adopt more favorable treatments during the transition.

More than 100 countries including the European Union currently use IFRS. The United States still uses GAAP in company-issued financial statements. When measured by market capitalization, more than half of the world’s companies still use US GAAP.

DEVELOPMENT OF ACCOUNTING STANDARDS

GAAP has been used extensively in the United States since the 1930s. Development started during the Great Depression as the country needed a way to restore confidence in the financial statements of corporations. The SEC encouraged the private sector to develop the accounting standards in 1938.

The movement for development of a set of international accounting standards started to grow in the 1960s. In the 1970s, the Financial Accounting Standards Board was created and began developing the International Accounting Standards. In 2001, the International Accounting Standards Board took over development and the name change to IFRS happened.

In 2005, companies began using IFRS in the European Union. Canada replaced its GAAP with IFRS in 2011. Japan has been promoting greater use of IFRS on a voluntary basis.

The SEC began exploring convergence with the IFRS set by the IASB in 2007. The initial roadmap published in 2008 suggested the potential for use by US issuers as early as 2014. However, according to the Wall Street Journal, “concerns about cost, implementation and the burden on smaller companies” stalled momentum.

IMPLICATIONS FOR WHISTLEBLOWERS

If new rules are adopted, the transition may expose problematic accounting treatments currently on the books or lead to new cases of accounting fraud. If the transition happens, and accountants are asked to adopt questionable accounting practices, they should consider the appropriate response given available options at their employer, the company and the SEC. The SEC whistleblower program or even the IRS program are options.

The IESBA is still working on a new code of ethics for professional accountants but the proposed guidelines currently open the door for an accountant to follow their conscience and report suspected noncompliance with laws and regulations.

SEC Whistleblowers May Not Receive Jury Trial in Retaliation Cases

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A recent decision in a Georgia federal court presents serious implications for SEC whistleblowers subject to retaliatory employment actions.  In an apparent case of first impression, on Nov. 12, U.S. District Judge J. Owen Forrester of the United States District Court for the Northern District of Georgia rendered a decision holding an SEC whistleblower is not entitled to a jury trial in a retaliation action.  The whistleblower in the matter was a former compliance manager for BlueLinx Holdings, Inc. who brought his concerns that the company violated securities laws to the SEC and the company’s internal ethics committee.

The Dodd-Frank Wall Street Reform and Consumer Protection Act enacted a series of sweeping regulatory reforms, designed to prevent the abuses and risky Wall Street behavior, which in large part led to our nation’s latest economic calamity, dubbed the “Great Recession.”  In addition to financial reforms, Dodd-Frank mandated the creation of the Securities and Exchange Commission’s Office of the Whistleblower.  This office is tasked with processing and overseeing complaints of securities violations brought forth by knowledgeable whistleblowers.

Critically important to the program’s success, Dodd-Frank also created significant anti-retaliation protections for whistleblowers, which mirror those of the False Claims Act.  Pursuant to Dodd-Frank, it is unlawful for an employer to take retaliatory actions, including but not limited to termination, against employees attempting to report securities violations.  Dodd-Frank expressly grants whistleblowers, subject to retaliatory action, the right to file a civil lawsuit in federal court, seeking doubled back-pay, reinstatement, and attorney fees and costs.

In his decision, Judge Forester determined that these individuals are not entitled to a jury trial, as required by the Seventh Amendment to the U.S. Constitution.  Judge Forester determined that the remedies available to SEC whistleblowers in retaliation actions are inherently equitable in nature.  Plaintiff’s seeking equitable remedies, such as injunctive relief, are not entitled to a jury trial.  The Court was not persuaded by the plaintiff’s argument that the statutory relief of double back-pay was akin to compensatory or punitive damages, prayers for relief which generally entitle a litigant to a jury trial.  Finally, the Court found legislative silence on the issue favored the defendant’s position.

While the implications of this case outside the Northern District of Georgia are not yet known, if the rationale employed by Judge Forester is widely adopted the ramifications for SEC whistleblowers could be significant.  Generally speaking, a jury trial in an action claiming that a whistleblower was subject to retaliation is certainly preferable to a bench trial.  Many trial lawyers will attest that the juries are more receptive than judges to the emotional drama presented by the facts of such cases.

The case is Pruett v. BlueLinx Holdings, Inc., case number 1:13-cv-02607, in the U.S. District Court for the Northern District of Georgia.

McEldrew Young is a nationwide leader in whistleblower representation and has successfully represented numerous clients in some of the nation’s largest qui tam cases for over a decade.  For a free confidential consultation with one of our SEC whistleblower attorneys concerning whistleblower protections from retaliation, please call Eric L. Young, Esquire at (800) 590-4116 or complete the online form here.

 

SEC Investigates Channel Stuffing at British Liquor Company

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The British liquor company that makes Smirnoff, Johnnie Walker, Baileys and Guinness is under investigation by the Securities and Exchange Commission for shipping excess inventory to distributors to boost revenue.

The company, Diageo PLC, is based in Britain but has issued American Depository Receipts which trade here in the United States on the New York Stock Exchange. The company is the largest producer of spirits in the world and a major beer and wine producer. Its shares trade on the London Stock Exchange and the company has a market capitalization of more than $45 billion GBP.

Diageo ships its product to wholesalers who then distribute the product to retailers. Prior to an accounting change in January, it recorded revenue when it shipped its product to the wholesalers. It is accused of shipping them more inventory then they wanted.

The SEC will take insider tips about revenue recognition problems and shareholder fraud like these through its whistleblower office. An individual does not need to be an employee of the public company that is reported. An individual at a distributor and aware that it is being forced to take more inventory than it would like to purchase would also be able to submit a TCR. A successful tip would entitle an eligible individual to receive a 10 to 30 percent reward of monetary sanctions recovered in excess of $1 million.

If you have evidence of accounting fraud, contact one of our whistleblower attorneys for additional information on reporting it to appropriate agency at the U.S. Government. An attorney can be reached by our contact form or calling 1-800-590-4116.

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Bond Turmoil in Corporate Debt Market

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Corporations with debt financing needs are delaying bond offerings in the hopes that the Chinese stock market and Greece will stabilize. But if they wait too long, the Federal Reserve might increase interest rates and make their issuance more expensive. This is the latest from Bloomberg in an article about the M&A debt needs piling up as a result of financial uncertainty.

Bond issues, which had been on a historic pace for the year, fell 40% in June. In light of all the corporate takeovers and the impending interest rate increase, Bank of America analysts have predicted July and August will be the busiest months for corporate securities sales ever.

Charter Communications has taken the plunge today. It apparently doesn’t think the market is going to get any better as it announced a benchmark bond offering of between $12 and $15 billion priced later today. Bloomberg thinks it might “be the biggest junk-bond sale of the year.” The bond will help fund its acquisition of Time Warner Cable for $56 billion.

Why do we keep talking about bonds? Because this could very well be the next major area of corporate misconduct. If the bond market collapses, there will definitely be a need for whistleblowers to point out corporate misconduct related to accounting and market manipulation issues.

Meanwhile, the New York Stock Exchange took a historic pause in trading yesterday as the exchange reportedly had difficulties with implementation of a new software update and had to cancel all open orders by hand. This caused floor trading to shut down for a few hours before re-opening in the final hour of trading. While it’s incredibly news worthy, it will be interesting to see if the SEC will actually pursue an enforcement action because of the problem. Chair Mary Jo White issued a statement yesterday that the SEC was monitoring the situation and in contact with the NYSE.

If you have evidence of corporate wrongdoing in the bond market, contact one of our SEC whistleblower attorneys to learn about the rewards for bond whistleblowers. An attorney can be reached by our contact form or calling 1-800-590-4116.

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SEC Has Recovered Over $1 Billion Due to Whistleblower Tips

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Over the past week, the U.S. Securities and Exchange Commission has issued total rewards of over $20 million to three SEC whistleblowers. As a result, SEC enforcement actions involving whistleblowers have now recovered more than $1 billion in financial remedies against whistleblowers.

The SEC whistleblower program has been accepting tips for more than five years now and has been repeatedly acknowledged as an important tool in the government’s arsenal to detect and stop violations of federal securities laws.

In the first announcement (last week), the SEC split more than $16 million between two whistleblowers. According to the press release, the first whistleblower alerted the agency to the misconduct that became the focus of the investigation and the cornerstone of the enforcement action. The second SEC whistleblower on this matter provided significant additional information and provided ongoing cooperation that saved significant time and agency resources.

One interesting aspect of this announcement was that the second whistleblower received a similar award to the first. Although the SEC whistleblower program favors the first person to provide information to the U.S. Government, it makes clear that there is still substantial value to the Government in receiving information after the investigation has already started.

In the second announcement (two days ago), the SEC paid a former company insider more than $4.1 million for reporting a widespread, multi-year violation of the securities laws. According to the press release, the whistleblower was a foreign national working outside of the United States. The individual alerted the SEC to the fraud and provided assistance throughout the investigation.

No money has been taken or withheld from harmed investors to pay whistleblower awards. When Congress set up the whistleblower programs in the Dodd-Frank Act, it committed a certain amount of money in the budget to the payment of whistleblower awards. As a result, rewards are not paid out of the amount of funds recovered even though the amount of funds paid are expressed as a percentage of the money collected from the enforcement action.

More awards are expected. In the financial reports released about the program last month, the SEC recognized contingent liabilities of $221 million. This suggests that there are at least $200 million more in awards announcements coming.

SEC Cyber Unit Files First Action to Halt ICO Fraud PlexCoin

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The SEC today announced an enforcement action against the Initial Coin Offering (ICO) by PlexCoin. The SEC obtained a freeze on the purportedly $15 million in investor funds raised by PlexCoin from thousands of U.S. and international investors since August.

According to the complaint filed by the SEC in the emergency action, PlexCoin and its owners promised early investors returns of 1,354% in under 29 days. They also indicated the potential returns could be as high as 88,000% based on other ICOs or cryptocurrency investments. They made other misrepresentations too, including that they had a team of people operating in Singapore.

Quebec’s Financial Markets Authority obtained an injunction against the sale of PlexCoin Tokens but the Defendants continued to sell them. The U.S. alleged that the Defendants misappropriated at least $200,000 from investor funds for extravagant personal expenditures as well as would soon gain access to three accounts with more than $810,000 from their fraud.

The SEC press release praised the quick action of the Cyber Unit to protect retail investors and the Chief of the Cyber Unit said this “is exactly the kind of misconduct the unit will be pursuing.”

The SEC’s pursuit of fraud in the ICO market should come as no surprise since many have already warned about it.  Previously, Wikipedia founder Jimmy Wales told CNBC in October that many initial coin offerings were scams as he cautioned investors from participating. Brad Garlinghouse, CEO of Ripple (a large cryptocurrency), told CNBC that “a lot of what’s happening in the ICO market is actually fraud ….” Joseph Lubin, co-founder of ethereum, told CNBC that there has been “a lot of copycat projects” where the company was copying previously used materials and didn’t intend to deliver value to buyers.

In other bitcoin news, Thomas Peterffy, CEO of Interactive Brokers, expressed concerns to the CFTC that the launch of bitcoin futures could create a Lehman Brothers-style collapse of a clearing house if traders purchased too many futures and couldn’t cover the shortfall during a price decline.

The bitcoin futures contracts at the CME will start trading on December 18, 2017 and there will be a margin requirement of 35% for transactions, which is high for a currency.  CBOE trading will start on December 11th.  The Nasdaq has not yet confirmed media reports that they will soon allow trading in the digital currency.

If you have evidence of an ICO fraud, contact our SEC whistleblower attorneys by calling 1-800-590-4116. We offer a free, confidential consultation to evaluate your evidence and discuss the process of reporting to the U.S. Government.

SEC Declines FCPA Action for Brookfield in Brazil

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The SEC has declined to proceed with an enforcement action after an investigation into allegations of bribery by employees of Brookfield Asset Management’s Brazil subsidiary, according to the Wall Street Journal.

The investigation centered around allegations that employees of the Brazilian subsidiary hired an armored truck to deliver 1.28 million reais to two officials in Sao Paulo to speed permit approval of a shopping mall. If converted to U.S. dollars, the amount would have been approximately $640,000.

The SEC reportedly interviewed a former executive of the company in connection with the investigation. The former executives allegations led to a Sao Paulo prosecutor filing civil charges against the Brazilian subsidiary. It is unknown whether he had filed a whistleblower tip under the Dodd-Frank program.

The Wall Street Journal article is currently behind a paywall, but it seems likely that the SEC investigation discovered that the incident was no more than a one time action and the company had adequate safeguards in place to deter other incidents from happening.

After reading the article, the company reported that the independent investigation produced by a law firm it hired found no evidence of wrongdoing. Of course, in light of the information revealed in the whistleblower retaliation lawsuit filed against Bio-Rad, perhaps the report should be viewed suspiciously. The Bio-Rad whistleblower in that case alleged that there was substantial evidence of misconduct in China which that law firm ignored in its investigation.

Brookfield is one of the largest property investors in the world with over $200 billion in assets under management. The company started more than 100 years ago as an operator of electricity and transportation infrastructure in Brazil. It is currently headquartered in Toronto, Canada with more than 100 offices in 20 different countries. It is listed on the New York Stock Exchange under the stock symbol BAM.

Real estate permits and approvals have been a bit of a hot area for potential FCPA actions recently. WalMart has spent hundreds of millions of dollars to investigate reports it bribed government officials in Mexico (and other countries) in connection with securing real estate locations (and other measures). Leaked information from the DOJ investigation suggests that there was misconduct in India, although not to the extent that commentators had speculated based on media reports and the amount spent by the company.

Brazil has specifically been a hot area for whistleblowing and corruption recently. Potential billion dollar corruption scandals have been publicly exposed concerning both Petrobras, the state run oil company, and government tax collections. There have also been other FCPA investigations in connection with infrastructure improvements made in connection with the country’s hosting of the World Cup and Olympics.

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