Legal Malpractice Corner: Risk Management Tip – SEC Reporting Rules Preempts California’s Attorney-Client Privilege

By Jennifer Becker, Long & Levit

Over the past three months this column has reviewed attorney Sanford Walder’s trial victory over his former employer, Bio-Rad. Among other attorney-client privilege issues, the district court examined whether California law is preempted by regulations promulgated under the Sarbanes-Oxley Act. The district court concluded information protected under California’s attorney-client privilege may nonetheless establish whistleblower retaliation claims under Sarbanes-Oxley.

In Sarbanes-Oxley, Congress instructed the SEC to issue rules setting forth minimum standards of professional conduct for attorneys appearing and practicing before the Commission on behalf of issuers. Section 806 of Sarbanes-Oxley, 15 U.S.C. §15144, prohibits retaliation against any employee based on reporting and disclosure requirements. Congress did not exclude attorneys from this provision, whose potential role in reporting securities fraud is evident.

The SEC enacted Standards of Professional Conduct for Attorneys, 17 C.F.R. Part 205.3(b). An attorney must report to their client evidence of a material violation of securities law or breach of fiduciary duty, and to report up the client’s chain of command until the attorney receives an appropriate response. The standard specifically allows the attorney to use reports or responses for any investigation, proceeding, or litigation in which the attorney’s compliance with the standard is in issue.

The comments accompanying the final rule explain the attorney may use any records made while fulfilling the reporting obligations defensively against charges of misconduct. It effectively equals Model Rule 1.6(b)(3) and corresponding “self-defense” exceptions to client-confidentiality rules in every state.

The district court observed nothing in the rule precludes offensive and defensive use of otherwise privileged records; it only requires an attorney’s compliance be “in issue.” Use of records in a whistleblower action is not offensive in the traditional sense, because the attorney is defending against retaliation. Fairness requires a lawyer be able to present a claim or defense without handicap. This interpretation supports the remedial purposes of securities laws enacted to combat fraud. See, e.g., Herman & MacLean v. Huddleston, 459 U.S. 375, 386-87 (1983) The SEC endorsed this interpretation of its own regulation in two amicus briefs, including one in Walder v. Bio-Rad itself, and is a reasonable interpretation of Part 205. The rule is within the authority granted by Congress, and rationally balances conflicting policies. Although it requires attorneys to report violations, it protects them as whistleblowers.

The SEC specifically addressed the tensions between its rules and states with stricter rules regarding attorney disclosures. It described its standards as supplementing the standards of other jurisdictions, and as not intended to limit the ability of a jurisdiction to impose additional attorney obligations consistent with its standards. However, if a conflict occurs, its rules govern.

A state law that stands as an obstacle to the accomplishment and execution of Congressional objectives is subordinated under the principle of obstacle preemption. See Nation v. City of Glendale, 804 F.3d 1292, 1297 (9th Cir. 2015) A state ethical rule that deprives an attorney of the protections of Sarbanes-Oxley is therefore preempted.

 

Jennifer Becker is certified by the State Bar of California, Board of Legal Specialization in Legal Malpractice, and is chair of BASF’s Legal Malpractice Section.  She is a partner at Long & Levit, and the Editor-in-Chief of Long & Levit’s Lawyers and Judges Blog, www.longlevit.com/blog/, which is searchable by topic and case name.