If the provider of insider information doesn’t benefit, did an insider trading violation occur?
The question has split federal appeals courts and is now headed to the U.S. Supreme Court, which will hear oral arguments in Salman v. United States on Oct. 5.
At issue is how to use the “personal benefit” test, which has been key to establishing liability in insider trading cases. The test has been hotly debated in lower courts since the Supreme Court established the rule in Dirks v. SEC over 30 years ago.
In the last two years, the U.S. Circuit Court of Appeals for the Second Circuit and the Circuit Court of Appeals for the Ninth Circuit handed down differing opinions on the nature of “personal benefit” in separate, though similar, insider trading cases.
Steven Crimmins, a securities regulation lawyer for Murphy & McGonigle, said the Supreme Court recognized the need to clarify the murky language embedded within the “personal benefit” test, which aims to determine liability between those providing insider tips and those receiving them.
“They see confusion amongst the lower courts,” he said. “They see confusion breaking out over the meaning of federal law and that hurts the orderly administration of justice.”
In Dirks v. SEC, the Supreme Court ruled that for fraudulent insider trading to have occurred, an insider had to have received some sort of personal benefit in exchange for disseminating material, private information.
As part of the test, the court deemed providing non-public information to a close friend or family member as a gift constituting a personal benefit.
Following Dirks, the Securities and Exchange Commission and the U.S. Department of Justice successfully convicted numerous tippers and tippees by establishing that defendants in a given case were friends, regardless of the closeness of their relationship, Crimmins said.
“If you’re having a conversation with anybody on earth about a stock and tell them good information about a stock, it’s probably not going to be somebody you just walked up to on the street,” he said. “ [The “personal benefit” test] got so watered down.”
The Second Circuit upended the trend when it ruled in favor of the appellees in United States v. Newman in 2014. The Second Circuit re-interpreted the “personal benefit” test, tightening the standards by which a personal relationship merits conviction.
The court stated the close personal relationship must generate an exchange that’s, “consequential and represents at least a potential gain of a pecuniary or similarly valuable nature.”
SECOND CIRCUIT, NINTH CIRCUIT DIFFER
In July 2015, the Ninth Circuit upheld the conviction of Bassam Salman on insider trading chargers. Salman traded on material, nonpublic information provided by his brother-in-law.
Jon Eisenberg, a defense attorney in government enforcement cases and partner at K&L Gates LLP, said the Ninth Circuit returned to the previous, looser interpretation of personal benefit in its decision.
“[The judge] said, ‘To the extent the Second Circuit decision stated that a gift of information is inadequate, we reject that notion,’” Eisenberg, a former SEC enforcement official, told The Hill Extra.
The Supreme Court agreed to hear the case and will listen to arguments from the DOJ and Salman.
The DOJ’s brief to the court calls for a further broadening of the “personal benefit” standard.
“What they’ve argued in their brief is that a gift to anyone, whether it’s a friend, relative, or a complete stranger, is enough (to convict) and anything that’s disclosed for a purpose other than corporate purposes satisfies the personal benefit stance,” Eisenberg said. “That would require the government to prove very little other than there was material, nonpublic information conveyed.”
SALMAN STRESSES NEWMAN CASE
Salman’s attorney, John D. Cline in San Francisco, cited the Newman decision in his petition to the Supreme Court, stating the “personal benefit” test requires higher standards of proof beyond a gift of information to a friend or family member.
Russell Stevenson, a law professor at Georgetown University, told The Hill Extra the case revolves around two key issues.
“One is, what is the nature of a benefit to the tipper and how meaningful does that gift have to be?,” he said. “The second is, what facts does the government have to prove that there existed such a benefit to the insider?”
Regardless of the outcome, the Supreme Court is likely to rearticulate the standards determining the nature of “personal benefit.” The degree to which the court will rework the rulebook is less certain, Crimmins said.
“I think they’ll stick with the Dirks framework about how we think about tipping liability for insider trading, but I think they’ll realize that the [personal benefit] test was not explained too well and created massive confusion, especially recently in the lower federal courts,” Crimmins said. “I don’t think they’ll go more broadly and say the whole analytical framework is just not working too well.”
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