Risky SEC Rule for Noisy Withdrawal?

Article excerpt


April may well be the cruelest month for lawyers practicing before the Securities and Exchange Commission; that is, if the Commission has its way with a new rule, set for adoption April 7, that many believe would strike a dagger to the heart of the attorney client relationship.

In enacting Sarbanes-Oxley, a nostrum intended to curb the notorious corporate excesses of the 1990s, Congress addressed the role of lawyers as decisionmakers in a highly regulated scheme of corporate governance involving outside directors, outside auditors and management.

The measure directed the SEC to promulgate rules requiring lawyers for corporate issuers of securities who became aware of possible violations of the federal securities laws, or breaches of trust on the part of the management, to report the facts "up the ladder" to the in-house general counsel; the chief executive officer; the audit committee of the board of directors; in some cases, a special committee consisting solely of outside directors or even the full board so the problem could be corrected and necessary remedial action taken.

Most lawyers for corporations had done this anyway, but the new statute provided bright-line guidance to a Bar beleaguered by the investigations of Enron, Tyco and WorldCom to cite but a few notorious examples.

The SEC was quick to publish a new rule implementing the new "up the ladder" reporting regime. It will become effective in August. Then, it went a step beyond anything authorized in Sarbanes-Oxley. Amazingly, it proposed an additional rule requiring all lawyers practicing before the SEC, who report a violation "up the ladder," and are not satisfied that their client is responding appropriately, to resign and notify the SEC that they were resigning for "professional reasons." The SEC called this a "noisy withdrawal" rule, but it is really a euphemism for "blowing the whistle" on the client.

The Bar immediately viewed the requirement that the lawyer "rat out" the client as undermining a relationship built on confidence, trust and zealous devotion to the client's interests. Its reaction was so strident and so negative that it drove the SEC to a fallback position.

Extending the time for comment on "noisy withdrawal," the commission floated as a "spoonful of sugar" an alternative proposal that would require the lawyer to resign, but would shift to the client the obligation of tipping off the SEC that the lawyer had resigned for "professional reasons." Of course, either formulation is equally obnoxious as the minute that the SEC got wind of the noisy withdrawal, it would obviously pressure the lawyer for the whole story information that would certainly intrude on the attorney client privilege.

The proposed rule would ride roughshod over state Bar rules which impose no obligation on the lawyer to report even a client's criminal activity, except that a lawyer may report to the authorities facts learned from a client that present an imminent danger to life or limb.

Only a minority of states permit the lawyer to report criminal activity involving a client's intended financial fraud. …