Unlike many financial institutions, hedge funds traditionally operated without a lot of regulation and reporting requirements. That may soon change as an office of the Treasury Department, the Financial Crimes Enforcement Network, considers a rule that may require hedge funds to report potential wrongdoing within the business. The self-regulation will effectively turn every hedge fund employee into a mandated whistleblower, which is not uncommon in the banking industry. However, the proposed regulation could meet industry resistance on the legal basis that it violates the right against self-incrimination.
The new push for more regulation of hedge funds is rooted in the Dodd-Frank Act's mandate that firms with at least $150 million in assets register as investment advisors and file regular reports with the Securities and Exchange Commission. The proposed FinCEN rule would be a part of the SEC requirement and would require investment advisers to file reports on transactions involving potential illegal activity. If the activity justifies an investigation, the firm must decide within 30 days whether to file the report with the FinCEN.
The same self-reporting mandate is already required at casinos, banks and other financial institutions. The reports are required if it appears customers are engaging in tax evasion, money laundering or terrorist financing. However, a clear difference is that banks and casinos are filing reports about the suspicious activity of their customers and not their own workers and accounts. In comparison, hedge funds would be reporting suspicious activity of their own workers.
Someone familiar with constitutional law may reasonably believe that the proposed hedge fund reporting requirement would violate the Fifth Amendment's right against self-incrimination. While the right against self-incrimination applies to individuals, the right does not apply to "collective entities", such as business organizations because, according to Braswell v. United States, such a right would interfere with the prosecution of individuals that comprise the organization who are suspected of white collar crime.
Since hedge funds are commonly organized as partnerships or limited liability companies, they fall under the collective entity rule and therefore cannot refuse to report their own suspicious activity. Moreover, an employee of a hedge fund also may not refuse to turn over information held by the hedge fund because the employee is not acting in his or her personal capacity and is considered a caretaker of the firm's information. This holds true even if the investigation leads to charges against the employee.
The changing legal landscape for financial institutions is not becoming less complicated. If you are suspected of or face white collar crime charges, contact an experienced criminal defense attorney to protect your legal rights.