Banking StandardsWritten evidence from Erika A Kelton Erika A. Kelton, Esq., is a senior partner at Phillips & Cohen LLP, a U.S. law firm that has specialized in representing whistleblowers programs for more than 25 years.

This memorandum addresses the reasons why financial incentives for whistleblowers are essential to the success of a whistleblower program, and further supports the adoption in the U.K. of whistleblower reward programs modelled on effective, fraud-fighting US statutes. It is submitted in response to the Parliamentary Commission on Banking Standards’ Question 4(b) (“arrangements for whistle-blowing”) and Question 5 (“What can and should be done to address any weaknesses identified.”)

Summary

The U.S. has four government programs that offer financial incentives to private citizens who blow the whistle on wrongdoing, such as healthcare fraud, tax fraud and securities and commodity trading frauds. These programs have not only stopped wrongdoing and collected billions of dollars in damages, they have spurred stronger internal compliance efforts by businesses and saved billions more through deterrent effects.

For a whistleblower program to be successful, experience demonstrates that awards to whistleblowers must be mandatory when funds are recovered. Predecessor whistleblower programs failed and fell into disuse because they offered discretionary awards. Without the certainty of an award in successful cases, individuals in the banking sector and other industries are discouraged from stepping forward because of the professional and personal risks.

To demand that individuals set aside financial and personal considerations when deciding whether to blow the whistle is unrealistic. Whistleblowers risk not only their jobs and their careers but also their marriages, family and friends due to the emotional and social toll of whistleblowing.

Whistleblower programs are stronger when statutes create incentives for whistleblowers and their counsel to continue to collaborate with enforcement authorities during investigations and prosecutions in addition to providing the initial information.

British citizens are turning to the U.S. to report wrongdoing by British companies, schemes that use British institutions to carry out the wrongdoing and frauds that negatively affect British taxpayers and investors. If the wrongdoing falls outside the scope of U.S. jurisdiction, many potential whistleblowers keep quiet rather than report the matter to British authorities because there are no financial awards to compensate for their risks from reporting.

A well-structured whistleblower reward program in the U.K. would greatly enhance fraud enforcement efforts in the banking sector by bringing forward high-quality information from individuals who have knowledge of large-scale frauds.

A. Background on U.S. Whistleblower Incentive Programs

1. The United States has four federal whistleblower incentive programs: (1)The federal False Claims Act’s (“FCA”), which address frauds against federal government programs, such as federal healthcare and defense spending; (2) the Internal Revenue Service (“IRS”) whistleblower program, which addresses tax underpayments and frauds; (3) the Securities and Exchange Commission whistleblower program, which addresses securities law violations; and, (4) the Commodity Futures Trading Commission (“CFTC”) whistleblower program, which concerns violations of the commodities laws.

2. These U.S. whistleblower programs have realized enormous success in helping expose fraud and corruption. Tens of billions of dollars otherwise lost to illegal practices that cheat the public fisc have been recovered as a direct result of whistleblower information. But the impact and importance of whistleblower matters goes far beyond the large dollar amounts recovered for US taxpayers. Whistleblowers have exposed grave wrongdoing, leading to changes that promote integrity and transparency in financial markets. Whistleblowers have helped stop massive mortgage frauds, gross mischarging practices, commodity price manipulation, and sophisticated money laundering schemes, among other misdeeds. Numerous other beneficial results have been realized outside the banking sector as well, from protecting patients, to safeguarding troops, to saving public employee retirement funds from plunder. Importantly, whistleblower enforcement has led to the proliferation of improved internal compliance efforts by businesses and is estimated to have saved additional billions of dollars for investors and taxpayers through deterrent effects.

B. US Whistleblower Programs Provide Meaningful Financial Rewards

3. The FCA’s amended whistleblower—or “qui tam”—provisions,2 enacted in 1986, were the first to provide non-discretionary financial incentives to individuals for blowing the whistle on fraudulent business practices. Owing to its success, the FCA’s qui tam award structure served as a model for the IRS whistleblower program, enacted in 2006,3 and the Securities and Exchange Commission and the Commodity Futures Trading Commission whistleblower programs, enacted under the Dodd-Frank Act in 2010.4 (The SEC and CFTC whistleblower programs will be referred to collectively as “the Dodd-Frank whistleblower programs.”)

4. Each program provides for non-discretionary financial rewards to whistleblowers that are intended to incentivize individuals with knowledge of frauds to provide information to the relevant federal authorities.5 In the case of the FCA and IRS whistleblower programs, the rewards range from 15% to 30% of the amounts recovered by the Justice Department and IRS, respectively. In the instance of the Dodd-Frank whistleblower programs, the rewards range from 10% to 30% of the judgment or settlement amounts. In all of these programs, the precise percentage share awarded to an individual within the designated ranges is determined by how substantially the whistleblower and his or her counsel contributed to the success of the government’s enforcement action.6

5. There is clear evidence that mandating non-discretionary awards has made a huge difference in both the quantity and the quality of whistleblower submissions given to government agencies. As described in more detail below, current U.S. whistleblower incentive laws have been enormously successful in bringing frauds to light that otherwise would have remained unknown to government investigators. Whistleblower incentive regimes are regarded as the government’s chief civil fraud enforcement tool7 to combat fraud and corruption. Their benefits are well recognized by top U.S. enforcement officials.8

C. Financial Incentives Are The Linchpins Of Successful Whistleblower Programs

6. Experience shows that meaningful, non-discretionary financial incentives are critical to establishing robust and successful whistleblower programs. From 1943 until the FCA was amended in 1986, the law’s qui tam provisions provided only discretionary awards to whistleblowers. Only about six whistleblower cases were brought each year. The uncertainty of whether an award would be paid even in successful cases discouraged individuals from stepping forward with knowledge of frauds. The Justice Department recovered only $27 million from FCA matters in 1985, the year before the FCA was amended to provide non-discretionary awards of 15% to 30% of amounts recovered.9

7. Contrast that with 2012, when the Justice Department recovered more than $9 billion in civil and related criminal fines in FCA cases initiated by whistleblowers. Post-1986 financial incentives, along with the certainty of payment in successful cases (with defined exceptions), moved the FCA qui tam provisions from near complete disuse to the central place in civil fraud enforcement. Since 1986, the FCA’s whistleblower incentives have encouraged more than 8,500 individuals to report instances of fraud against the federal government. As the successes and public awareness of the FCA’s whistleblower provisions grow, the number of individuals stepping forward each year has steadily grown. Now more than 400 cases of fraud against the government are reported each year through the False Claims Act’s whistleblower provisions.

8. A similar story is told by the IRS and SEC programs’ “before and after” experiences. Both of these programs had early, unsuccessful versions that had lackluster participation and failed due to their discretionary (and, in the case of the IRS, capped) award structures. The adoption of mandatory incentive awards, without limits on the total dollar amounts, generated a surge of whistleblower submissions. From 2007 through the end of fiscal year 2011, for example, the IRS Whistleblower Office received over 1,600 submissions from individuals, concerning alleged tax frauds and underpayments by over 10,000 taxpayers.10 Dozens of these whistleblower submissions are valued at over $100 million.

9. The SEC’s predecessor program—an insider trading whistleblower reward program enacted in 1988—also was rendered virtually ineffective by a discretionary award structure that failed to encourage informed insiders to step forward. In 22 years, this predecessor program only yielded six small cases and recovered an aggregate of $10.15 million. In contrast, in fiscal year 2012 alone, the SEC whistleblower program with its mandatory award structure has received over 3,000 submissions.11 SEC leadership has praised the program, noting that they are “seeing high-quality tips that are saving our investigators substantial time and resources.”12

10. Whistleblower incentive laws, thus, have repeatedly been shown to crack the “conspiracy of silence” that accompanies significant fraudulent practices. Without help and information from individuals who observe or are otherwise knowledgeable about wrongful activity, fraud detection is extremely handicapped. Indeed, as frauds become increasingly complex and extend across borders, the need for such “inside” assistance has become more profound. Incentivizing insiders with detailed and quality information about wrongdoing to step forward is one of the best and most efficient ways to address the substantial need to enhance fraud detection and enforcement.

11. The legislative history of the FCA’s qui tam amendments in 1986 reflects Congress’ concern that government fraud enforcement efforts were able to detect only a tiny fraction of the roughly $100 billion estimated at that time to be lost to frauds against government programs every year. The government’s inability to discover most frauds against it was a primary reason that Congress adopted the FCA’s strong, nondiscretionary, percentage-share awards to incentivize individuals to help recover the huge losses to fraud. In adopting the qui tam award structure, the Senate recognized pragmatically that no matter what the award amount, the Treasury would receive significantly more than the “zero percent it would have received had the person not brought the evidence of fraud to its attention or advanced the case to litigation.”13 The FCA’s qui tam award provisions, thus, “expresses Congress” understandable willingness to forbear between 15 and 25 cents per dollar of the recovery in order to reclaim a defendant’s ill-gotten gain.”14

D. Financial Incentives Motivate Knowledgeable Individuals To Take The Risks Of Stepping Forward

12. Critics of whistleblower financial incentives often contend that people should blow the whistle simply because it is the “right thing” to do. Such a categorical position ignores the fact that whistleblowing comes with a heavy price. Moral satisfaction doesn’t put food on the table or pay the mortgage when a whistleblower is fired for reporting the company has committed a serious fraud. In the 25 years that I have represented whistleblowers, our firm’s clients have been retaliated against, terminated by their employers and suffered “blackballing” by industry, making it impossible for many of them to ever again find work in their chosen professions. We have had clients who lost senior engineering positions at defense contracting firms and could only find work bagging groceries and mowing lawns. Others in pharmaceutical marketing lost their jobs for reporting fraudulent practices and for years earned income only sporadically by painting houses or selling insurance policies. In the financial services sector, clients who raised questions about questionable business practices lost their careers despite exceptional work reviews.

13. By far, the vast majority of whistleblowers first try to address their concerns internally by raising them with their superiors or compliance officers. Typically, whistleblowers only avail themselves of statutory reward programs when their concerns have been dismissed or unaddressed, or when they suffer retaliation. These individuals step forward because it is the right thing to do and because they are motivated by the guarantee of a financial reward if their matters are successful. To demand that a whistleblower set aside financial considerations is unrealistic. Consistent with my experience representing whistleblowers, academic studies also observe that while whistleblowers are motivated by the desire for greater integrity and ethics in business practices, few will risk the substantial downside of reporting wrongdoing to enforcement officials without relative certainty of a financial reward if successful.

14. A 2010 New England Journal of Medicine study examined the experiences of whistleblowers in reporting wrongdoing, and particularly the severe financial and emotional hardship suffered by numerous whistleblowers.15 This includes the threat of job loss, “blackballing” in the industry so that an individual is unable to work in a chosen career, loss of savings and pensions, and the loss of homes and possessions. Whistleblowers face formidable emotional stresses and challenges as well, including divorce, estrangement from their families and social communities. Often these emotional strains further lead to serious stress-related health problems.16

15. And just as practical experience counsels, these studies conclude that “a strong monetary incentive to blow the whistle does motivate people with information to come forward.”17 This can be particularly true in banking and finance where the individuals with detailed information about wrongdoing tend to be those in highly paid positions and would take a huge financial risk in blowing the whistle, no matter how much they might want to do the right thing. At the same time, the growing sophistication and complexity of most significant financial frauds make them extremely difficult for enforcement and regulatory authorities to detect without the insight and expertise of well-placed whistleblowers.

E. The US Experience Shows That Whistleblower Incentive Programs Work

16. Programs providing solid, non-discretionary financial incentives to whistleblowers have changed the landscape of fraud and corruption enforcement in the United States. The FCA, IRS and Dodd-Frank whistleblower provisions have given individuals confidence that they will almost certainly receive a guaranteed award if the information they provide leads to a judgment or settlement.

17. The benefits of offering rewards have been huge. From the federal and state False Claims Acts whistleblower provisions alone, approximately $50 billion in civil settlements and related criminal fines have been recovered as a result of whistleblower cases since Congress strengthened the whistleblower provisions of the FCA in 1986. Nearly half of that amount has been recovered in just the past five years, as the public has become more familiar with the False Claims Act and the qui tam provisions. In 2012 alone, more than $9 billion in civil and criminal fines were recovered by virtue of the FCA’s whistleblower provisions.18

18. At the same time, the amounts recovered from individual cases continue to set records: $3 billion from a 2012 civil and criminal settlement with GlaxoSmithKline and $2.3 billion from a civil and criminal settlement in 2009 with Pfizer Inc., which are the largest and second-largest US recoveries in history; $325 million from a civil and criminal settlement in 2009 with Northrop-Grumman, which was the largest defense contractor settlement; and $302 million in 2009 from a civil and criminal settlement with Quest Diagnostics, which was the largest settlement ever paid by a medical lab company for a faulty product.

19. The IRS whistleblower program also has recovered billions of dollars in lost tax revenues. Though tax confidentiality laws limit disclosure of the precise amounts collected or the affected taxpayers, it is estimated that over $5 billion was collected by the IRS as a result of a single whistleblower claim involving massive evasion of taxes by thousands through the use of secret Swiss bank accounts.

F. Financial Incentives Also Enhance Government Investigatory Resources

20. As mentioned above, each of the FCA, IRS and Dodd-Frank whistleblower programs provides for an award based on a percentage of the recovery determined by the contributions the whistleblower and his counsel made to recover the funds. By structuring awards based on contribution, these statutes create added incentives for continuing whistleblower collaboration with enforcement authorities during investigation and prosecution, long after the information is initially provided. This structure greatly enhances government enforcement efforts by bringing needed private resources to bear. As the Home Office’s 2007 “Asset Recovery Action Plan” noted, FCA whistleblower recoveries “far exceed the cost of prosecuting fraud—it has been estimated that for every dollar the federal government invests in investigating and prosecuting these cases, it receives $15 back.”

21. There are numerous examples of whistleblower counsel partnering with government prosecutors and investigators and investing heavily of their own time and funds to ensure a successful result for the federal government. In United States ex rel. Alderson v. Columbia/HCA Healthcare Corp., and United States ex rel. Schilling v. Columbia/HCA Healthcare Corp., my firm assembled a team of private lawyers to provide 30 full-time equivalent attorneys to litigate the matter, incurring over 66,000 hours of time and risking over $29 million in up-front expenses and attorneys’ fees. The Justice Department provided only five attorneys. The two cases, which the government would not have pursued without the whistleblowers’ legal team, settled for a combined total of nearly $720 million.

22. More recently, my firm took the lead in building a case to prove our clients’ allegations involving the illegal and dangerous marketing of a particular GlaxoSmithKline prescription drug. Largely as a result of the thousands of hours we spent working to help Justice Department, that piece of the case against GSK returned $700 million to the U.S. Treasury as part of Glaxo’s $3 billion settlement last year.

G. Guaranteed Financial Incentives of US Whistleblower Programs Are Attracting British Whistleblowers to File Submissions in the United States

23. The U.S. whistleblower programs are having significant impacts internationally, particularly in the UK. In 2012, more than one in ten SEC whistleblower submissions came from non-U.S. sources. Of those, roughly 25% came from the UK—more than any country outside the United States. See 2012 SEC Report, infra. Indeed, my law firm represents whistleblower clients who are Britons, or who have reported to U.S. authorities schemes that are undertaken by British companies, that use British institutions to carry out the wrongdoing, or that negatively impact British taxpayers, investors and public servants. While some UK policymakers may hesitate to embrace whistleblower incentive programs, British citizens are not. Instead, they are increasingly availing themselves of whistleblowing opportunities in the US because of the possibility of rewards and, in many cases, anonymity.

24. Evidence from U.K. citizens of fraud and corruption by British companies is welcomed by U.S. regulators provided there is sufficient jurisdiction to proceed under US laws. But it concerns me there are many other would-be whistleblowers who have contacted my law firm about corrupt and fraudulent practices by British entities or affecting British taxpayers and institutions who do not pursue their cases because jurisdiction is lacking in the United States. In each of these instances, the individuals have decided against contacting U.K. authorities in the absence of a possible financial award if the matter is successful.

25. For all the reasons discussed above, would-be whistleblowers have weighed the downside risks to their professional and personal lives, and repeatedly opted to stay silent. Whistleblower “tip lines,” such as that now offered by the Serious Fraud Office (and previously by the SEC), are commendable. But as a practical matter, “tip lines” and other similar measures can never match the targeted and developed information and enhanced resources that enforcement agencies realize with well-designed whistleblower programs. Meaningful financial incentives are needed to convince the most valuable whistleblowers, who often sacrifice not only their current employment but any future employment as well, to come forward and report corporate wrongdoing.

H. Conclusion

26. Twenty-five years of experience with whistleblower programs in the U.S. has shown that most whistleblowers with significant evidence of wrongdoing need the certainty of a reward that is commensurate with both the value of the information they provide and the amounts that are recovered by law enforcement as a result. Creating mechanisms for reporting wrongdoing that also reward individuals for the substantial risks they take should be a policy priority for Parliament as it considers ways to regulate and police the banking sector. To be effective, a whistleblower program should:

(a)Provide non-discretionary rewards to whistleblowers from the recoveries their information generates. Whistleblowers face substantial personal and professional risks and require a clear financial upside to hedge those downside risks. Moreover, generous rewards in successful cases also motivate other whistleblowers to step forward with significant information of fraud, further realizing anti-corruption and anti-fraud enforcement priorities.

(b)Create structures that foster partnerships with whistleblowers and their lawyers so that government enforcement efforts are enhanced by an inflow of private resources and expertise. Whistleblower enforcement mechanisms, such as the FCA, IRS and Dodd-Frank whistleblower programs, not only augment government enforcement efforts on particular matters, but also help enforcement generally by vetting and screening out weaker allegations before they are ever submitted to the federal agencies.

(c)Keep whistleblowers’ identities confidential or anonymous as much as possible under the law.

(d)Exclude or otherwise limit the architects of the fraud from collecting a reward and disqualify “parasitic” cases that bring no unique or original information to enforcement authorities.

27. A well-structured program in the U.K. will greatly enhance fraud enforcement efforts by bringing high-quality information from individuals knowledgeable of large-scale frauds and wrongdoing in the banking sector. Just as has occurred in the United States, whistleblower programs in the U.K. stand to realize both large recoveries and greater transparency and regulatory compliance in the banking sector and other industries. These outcomes should be embraced by all stakeholder communities—be they business, employees, government prosecutors, investors, or ordinary citizens.

28. Some may say that there is no need for whistleblower programs or that cultural impediments stop them from being adopted. But the continuing string of headline-grabbing business scandals demonstrates a clear need, and the strong international response to the U.S. whistleblower incentive programs shows that cultural barriers are eroding. It is impossible to ignore either the value whistleblowers bring or the sacrifices they make. Whistleblowers not only deter fraud and help recover the billions lost to it, but they increase transparency in the banking sector and global markets—which have become increasing complex and opaque, even to regulators.

29. For these reasons stated above, I urge Parliament to adopt robust whistleblower incentive programs.

7 February 2013