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Should in-house counsel be eligible for whistleblower compensation?

In September 2012, the Internal Revenue Service awarded Bradley Birkenfeld, a former banker at United Bank Switzerland, US$104 million for blowing the lid off certain aspects of the secretive Swiss banking system. The information he provided greatly diminished Switzerland’s status as an anonymous haven for American tax cheats and allowed the IRS to recover billions in unpaid taxes. Because of his own complicity however he also served 40 months in prison.

U.S. leadership

The United States has paved the wave globally in terms of providing financial awards to whistleblowers. 

A few other countries have begun to follow their lead, including Canada.

The False Claims Act is a U.S. federal statute that protects federal government workers who allege fraud against the government by federal contractors. It provides for a financial award to individuals who report fraudulent activity by way of a qui tam claim. The government recovered $38.9 billion under the False Claims Act between 1987 and 2013 and of this amount, $27.2 billion or 70 per cent was from qui tam cases brought by relators. In 2014, whistleblowers filed more than 700 False Claims Act lawsuits.

There are a number of other federal and state statutes which provide relators with financial compensation for qualifying reports.

Eligibility

In 2011, for example, the Securities and Exchange Commission approved new whistleblower compensation rules.

To be eligible for whistleblower compensation several conditions must be met: (i) the individual must voluntarily provide information, that is the person must provide it before requested to do so by the government or a self-regulatory organization; (ii) the information must be provided to a governmental or self-regulatory organization. A report to a company's internal compliance or corporate governance official can count as a report to the government provided either the whistleblower or his or her company reports the information to the government within 120 days of the internal report; (iii) the information must be based upon the whistleblower's own knowledge or analysis and (iv) the information must lead to a successful enforcement action.  

The rules also establish who is not eligible for compensation including: (i) anyone who had a pre-existing legal or contractual duty to report the information to the governmental entity; (ii) attorneys who report privileged information, unless such reports are permitted under SEC rules or state bar rules; (iii) anyone who obtains the information through the commission of a crime; (iv) foreign government officials; (v) employees who learn the information through a firm's hotline; (vi) compliance and internal audit personnel, with some exceptions; and (vii) governmental employees and people who are criminally convicted in connection with the conduct they report.

Canada following suit

In January 2014, Canada followed the lead of the United States and started offering rewards for tax whistleblowers. The Canada Revenue Agency will pay for tips concerning international tax noncompliance through its Offshore Tax Informant Program. The program allows for an award of between five and 15 per cent when more than $100,000 in federal taxes are collected.

In Ontario the Ontario Securities Commission recently invited comment on a proposed comprehensive whistleblowing program which would award eligible whistleblowers up to $1.5 million for reporting securities law misconduct that leads to significant enforcement or settlement orders.

U.S. court decision regarding in-house counsel

The United States Court of Appeals for the Second Circuit has issued an important ruling affecting in-house counsel who act as whistleblowers in litigation against their current or former employers.

There is a growing concern in the U.S. that as the “relator’s share” awarded to whistleblowers continues to rise and is increasingly well publicized, and the number of statutes encouraging reporting and providing for recovery to those who report increases, lawyers serving as in-house counsel or compliance officers may turn the tables against their employers. The decision in Quest Diagnostic makes it clear however that not all reports made by in-house counsel will be compensated.  

The decision is of interest to general counsel in Canada who represent companies with a presence south of the border. It also holds important lessons for our legislators in terms of balancing the public interest in encouraging disclosure and attorney-client privilege as Canada wades into whistleblower legislation providing for financial awards.  

In United States ex. rel. Fair Laboratory Practices Associates v. Quest Diagnostics Inc., the Second Circuit upheld a Southern District of New York ruling which dismissed an action brought by the former general counsel of the defendant Unilab Corp., a wholly-owned subsidiary of Quest Diagnostics Inc., as well as his co-relators, Unilab’s former CEO and CFO and disqualified them and their external counsel from bringing any subsequent related qui tam action seeking a whistleblower aware, on the basis that “such measures were necessary to prevent the use of [the former general counsel’s] unethical disclosures against defendants.”  

The decision, handed down in October 2013, held that state statutes and rules regulating an attorney’s disclosure of client confidences were not pre-empted by the False Claims Act and that the former general counsel’s decision to “spill his guts and freely disclose Unilab’s confidential information” went well beyond anything that was authorized under the crime/fraud exception of the New York Rules of Professional Conduct. The court commented that his disclosure was so broad, and outside the bounds of the crime/fraud exception (i.e. exceeded what was necessary to identify and put an end to the alleged ongoing fraud), that it made it “virtually impossible to identify and distinguish each improper disclosure.”

In Quest Diagnostic the relators, three former executives (at least one of whom was in a tax dispute with the company and “felt shortchanged” after Unilab’s stock price rose) years after they parted ways with Unilab formed the entity known as Fair Laboratory Practices Associates for the express purpose of acting as a relator in a qui tam action against Unilab and its parent Quest.

FLPA alleged that, from at least 1996 through 2005, Unilab violated the Anti-Kickback Statute by operating a “pull-through” scheme in which they charged private-managed health care organizations commercially unreasonable discounted prices on non-federal business in order to induce the organizations to refer Medicare and Medicaid business to Unilab, which was then billed to the government at significantly higher prices.  One of the plaintiffs, Unilab’s former general counsel, claimed that during his tenure he allegedly advised Unilab that the pricing practices violated the Anti-Kickback Statute, and obtained an opinion letter from an outside law firm to the same effect. He claimed that as a result he was shunned by senior management and eventually replaced as general counsel.  

The defendants filed a motion to dismiss, arguing he had violated the New York Rules of Professional Conduct, including rules associated with (1) the use of confidential information to the disadvantage of a former client, and (2) representing a client with adverse interests to a former client in “the same or a substantially related matter.” The District Court granted the dismissal over FLPA’s objection that its disclosures were permitted under New York’s version of the crime/fraud exception to the attorney-client privilege when the disclosure of confidential information is reasonably necessary to prevent the commission of an ongoing or imminent crime.  

The Second Circuit upheld the District Court decision, holding that “[n]othing in the False Claims Act evinces a clear legislative intent to pre-empt state statutes and rules that regulate an attorney’s disclosure of client confidences.” The Court held that the broad and unrestricted disclosures made by Unilab’s former general counsel to his co-relators and likely to FLPA’s external counsel went well beyond what was reasonably necessary to prevent any alleged ongoing crime. I suspect the formation of FLPA purely for monetary gain and the plaintiffs’ motivation in suing their former employer in parallel with other legal proceedings after they felt shortchanged did not help the plaintiff’s cause.

Final thoughts

It will be interesting to see how Canadian legislators, including the OSC, will address the issue of attorney-client privilege in the context of regulatory violations. I suspect they will arrive at the same conclusion as the Second Circuit: the sanctity of the attorney-client relationship will in general trump allegations of regulatory violations. An additional caution can be extracted from the decision: in-house counsel who appear motivated primarily by financial gain or act out of spite may be denied compensation notwithstanding how instrumental they may have been in blowing the whistle and saving taxpayers significant dollars.


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