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Lawyers as Whistleblowers? New York Judge Says No

Dec. 3, 2015, 2:25 PM

Can attorneys act as whistleblowers when they suspect their clients are acting illegally?

In New York, a state trial court judge ruled last month that a lawyer who discloses confidential client-information can be precluded from acting as a whistleblower. Moreover, the ruling found the attorney in the case had violated state bar ethics rules.

In the case, David Danon, a former in-house lawyer at Vanguard Group accused the mutual fund of a scheme to systematically undercharge its affiliates and thereby reduce its overall tax liability. Despite filing his claim in a half-dozen venues, including Texas and California, Danon’s status as an attorney has only been a problem in New York.

“Even assuming arguendo that Danon reasonably believed Vanguard intended to commit a crime based on the alleged tax violations...” Justice Joan Madden wrote in her Nov. 19 ruling, “it cannot be said that bringing this qui tarn action through revealing Vanguard’s confidential material was reasonably necessary to prevent the Vanguard from committing such a crime.”

Although she dismissed his qui tarn suit, Madden ruled that New York State regulatory authorities can still pursue his allegations about Vanguard’s tax practices and filings.

Danon, however, cannot be involved in the case, nor obtain a whistleblower award for his role in bringing the information to regulators in New York, according to the ruling.

His attorney Stephen Sorensen said his client will appeal.

Kathleen Clark, a professor at the Washington University School of Law who specializes in legal ethics as well as whistleblowing, called the New York decision puzzling.

Clark expressed surprise that Madden had invoked New York ethical rules, which are more restrictive than those of Pennsylvania, where Vanguard is based and Danon practiced. Under the Pennsylvania rules, she said it is likely Danon’s case could have survived a motion to dismiss.

He has also filed claims with the U.S. Securities and Exchange Commission and the Internal Revenue Service, as well as with the states of California, New Jersey, Massachusetts and Texas.

Regulators haven’t made decisions in most of the cases to date, but according to Sorenson, Texas regulators, having separately reviewed Vanguard’s practices, already paid Danon $117,000 for disclosing the information.

Bloomberg News reported that Vanguard has paid an unspecified amount to Texas for taxes owed after an audit.

Heidi Wendel, a partner at Jones Day representing Vanguard, declined to comment on the amount paid to Texas and instead referred questions to Vanguard.

The company’s spokeswoman, Linda Wolohan, said in an email that periodic audits are commonplace and that “Vanguard worked with the state of Texas during a routine audit and resolved a tax liability without any penalty.”

Wolohan added that the company has “no knowledge of any other claims and are confident in our approach to paying the fair and appropriate amount of taxes.”

Of the two actions, the New York ruling may be the outlier. Lawyers aren’t precluded from acting as whistleblowers in all states and can act in that role under SEC rules, thew agency that regulates the Vanguard’s funds in the case, according to Clark.

Clark added that securities laws preempt state laws thereby permitting “lawyers who practice before the SEC to disclose information that can rectify or prevent securities fraud.”

The SEC only recently started paying whistleblowers - including lawyers - whose tips result in recovery, as a result of new provisions made possible through the Dodd-Frank Act of 2010. According to the SEC’s annual report released November 16, the agency has “paid more than $54 million to 22 whistleblowers since the Commission’s new whistleblower’s rules went into effect in August 2011.”

Among the actions: In April, the SEC announced it paid more than $600,000 to a whistleblower at Paradigm Capital Management, Inc. who had been fired after alerting the agency about alleged wrongdoing. The award, the SEC said in a statement, reflected the maximum 30 percent of the amount collected because the whistleblower had provided “key original information that led to the successful SEC enforcement action.”

A $3 million award announced in July was the third highest payment to a whistleblower , although the SEC didn’t release the name of the company or individual in the action.

The largest SEC award to date – more than $30 million --was announced in 2014. Details of that award remain confidential as well.

Meanwhile, in a separate case in California, Sanford Wadler, the former general counsel of Bio-Rad Laboratories, Inc., filed a federal lawsuit accusing his former employer of firing him in 2013 when he voiced concerns that about potential violations of the Foreign Corrupt Practices Act. The court, ruling on Bio-Rad’s motion to dismiss, found that individual directors, as well as a corporate employer, can be sued for retaliatory firing under Sarbanes-Oxley, the law that followed the financial fraud involving companies like Enron, as well as Dodd-Frank.

The court also found that a potential whistleblower need not alert the SEC as a predicate for a suit for retaliatory firing. As a result, the court allowed the complaint to go forward, although it did dismiss some of the Sarbanes-Oxley claims against the individual directors for timeliness.

Linda Inscoe, a partner at Latham & Watkins LLP representing Bio-Rad, didn’t respond to an email seeking comment on the October 23 ruling.

The Vanguard case is State of New York ex rel David Danon v. Vanguard Group, Inc. 100711/13, Supreme Court, State of New York (Manhattan). The Bio-Rad case is Wadler v. Bio-Rad Laboratories, Inc., 3:15-CV-2356, U.S. District Court for the Northern District of California (San Francisco).

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