March 11, 2014

Federal District Court Issues First Decision Allowing Whistleblower Allegations to Proceed Under Dodd-Frank Act

On September 25, 2012, United States District Court Judge Stefan R. Underhill, District of Connecticut, issued the first decision allowing a plaintiff’s whistleblower allegations against his employer under the Dodd-Frank Act to survive a motion to dismiss. The decision applied a much more lenient definition of “whistle-blower” than that contained in the “bounty-hunter” provision of Dodd-Frank, allowing claims by employees who are terminated or disciplined after making a good faith report of violations of Dodd-Frank or Sarbanes-Oxley (“SOX”), to supervisors with investigative authority or to the SEC itself. Because Dodd-Frank has a much longer limitations period than SOX, and provides for double back-pay damages, the decision may encourage employees and plaintiffs’ attorneys to dramatically expand their use of Dodd-Frank for retaliation claims.

Dodd-Frank’s Whistleblower Protections

Section 922 of the Dodd-Frank Wall Street Reform and Consumer Protection Act authorizes the Securities and Exchange Commission (“SEC”) to pay rewards to individuals who provide the Commission with information that leads to successful SEC enforcement actions and related actions (the “bounty hunter” provisions). The Act also prohibits retaliation against employees reporting violations of the Act to the SEC. However, the Act includes a narrow definition of “whistleblower,” leading courts to dismiss previous lawsuits for failure to submit complaints of actual securities law violations in the precise manner specified by the Act.

Summary of District Court Decision

The plaintiff in Kramer was Vice President of Human Resources and Administration for Trans-Lux, where he served on the Company’s pension committee and was responsible for ensuring the Company’s compliance with federal and state laws and regulations related to the Company’s ERISA governed Pension Plan.

In March of 2011, Kramer sent an email to three supervisors, reporting his concerns that Trans-Lux was failing to follow its Pension Plan: (1) the Company’s CFO was serving as the sole trustee, and had invested in Trans-Lux bonds resulting in a loss, creating a conflict of interest; (2) the pension plan committee was only comprised of two people while the Company’s Pension Plan required three; and (3) a 2009 amendment freezing salaries had not been presented to the board of directors or filed with the SEC as required by the Pension Plan. In May, Kramer emailed the Company’s board of directors’ audit committee to reiterate his concerns. Shortly thereafter, Kramer sent a letter to the SEC reporting Trans-Lux’s failure to submit the 2009 amendment to the board of directors or the SEC.

Soon after Kramer contacted the audit committee, his supervisors began reprimanding him, and reassigned one of his subordinates. They then initiated an investigation into whether Kramer failed to report unrelated issues to senior management, began stripping him of his responsibilities, and then announced via email that his position and those of other human resources personnel were eliminated. However, Trans-Lux chose not to fire Kramer’s remaining subordinate.

Kramer brought suit under ERISA, and under the Dodd-Frank Act’s whistleblower and retaliation provisions. Dodd-Frank’s provision entitling whistleblowers to monetary awards defines a “whistleblower” as “any individual who provides, or 2 or more individuals acting jointly who provide, information relating to a violation of the securities laws to the Commission, in a manner established, by rule or regulation, by the Commission.” 15 U.S.C. § 78u-6(a)(6). However, Dodd-Frank’s anti-retaliation provision defines “whistleblower” more broadly, protecting any employee who acts lawfully:

(i) in providing information to the Commission in accordance with this section;

(ii) in initiating, testifying in, or assisting in any investigation or judicial or administrative action of the Commission based upon or related to such information; or

(iii) in making disclosures that are required or protected under the Sarbanes-Oxley Act of 2002, the Securities Exchange Act of 1934, including section 10A(m) of such Act, and any other law, rule, or regulation subject to the jurisdiction of the Commission.”

Trans-Lux argued that the retaliation provision applies only to those individuals who meet both definitions, and that Kramer did not qualify because he had not provided information to the SEC in the manner required by the SEC. Finding the Act’s retaliation provision ambiguous, the Court agreed with Kramer that Trans-Lux’s interpretation would dramatically narrow the protections available to potential whistleblowers, requiring employees to submit the information online, through the Commission’s website, or by mailing or faxing a specified SEC Form; merely mailing a regular letter would be insufficient. The Court found such a reading inconsistent with Dodd-Frank’s goal of “improve[ing] the accountability and transparency of the financial system” and creating new incentives and protections for whistleblowers.

The Court then turned to the language of an SEC Rule implemented in August of 2011, informing employees that they qualify as a whistleblower if:

“(i) You possess a reasonable belief that the information you are providing relates to a possible securities law violation (or, where applicable, to a possible 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) You provide that information in a manner described in Section 21F(h)(1)(A) of the Exchange Act [Sarbanes-Oxley’s whistleblower provision] (15 U.S.C. 78u- 6(h)(1)(A)).”

The Court explained that under the SEC Rule, disclosures protected under Sarbanes-Oxley’s whistleblower provision are also protected under Dodd-Frank’s whistleblower provision. Sarbanes-Oxley protects persons who disclose information they reasonably believe constitutes a violation of SEC rules or regulations, when the information is provided to, among others, a federal regulatory agency, 18 U.S.C. § 1514A(a)(1)(A), or “a person with supervisory authority over the employer (or such other person working for the employer who has the authority to investigate, discover, or terminate misconduct).” 18 U.S.C. § 1514A(a)(1)(C). The Court found that, by reporting his concerns internally and externally, Kramer had alleged sufficient facts to infer that he possessed a reasonable belief that he was reporting a possible securities law violation, and denied Trans-Lux’s motion to dismiss his claim under Dodd-Frank.

Practical Implications for Employers

Prior to Kramer, a District Court in New York had read Dodd-Frank’s whistleblower protection to apply to disclosures required by Sarbanes-Oxley, but had dismissed the plaintiff’s claim based on a more restrictive reading of the interplay between the statutes’ whistleblower provisions, without the benefit of the SEC’s August 2011 Rule. The Kramer decision’s application of the 2011 Rule further expands the scope of “whistleblower” protection, by including employees who report possible securities law violations to their supervisors, with a “reasonable belief” that a violation has occurred, even if the report is not submitted to the SEC in a manner that would entitle them to a monetary award.

Because Dodd-Frank provides a six to ten-year statute of limitations, while Sarbanes-Oxley requires that claims be brought within 180 days and that employees first submit their claims through an administrative process at the Department of Labor, and because Dodd-Frank provides for double back-pay awards, the Kramer case will likely provide additional encouragement for employees and plaintiffs’ attorneys to pursue whistleblower claims through Dodd-Frank using Sarbanes-Oxley’s relaxed whistleblower standard. Employers covered by these statutes must be careful to avoid action that could be construed as retaliation against employees who make internal or external complaints, even if the complaint is considered to be inaccurate, as a good faith belief in the report may be sufficient to enable the employee’s case to move forward in the courts.