Many people – particularly those who aren’t in investment or financial careers – are unclear about when acting on information someone gives them constitutes “insider trading,” which is against the law. Both the person who shares the information (the tipper) and the person who receives and then acts on it (the tippee) can face serious criminal charges.
The Securities and Exchange Commission (SEC) and the courts use something called the personal benefits test to determine whether someone has violated the law. This is commonly referred to as the Dirks test after a U.S. Supreme Court case (Dirks v. SEC).
What is a tipper engaged in insider trading?
For the tipper, the test is, first, whether they knowingly breached their fiduciary duty to a company by sharing “material nonpublic information.” This is information that hasn’t yet been publicly disclosed about something that’s going to occur that will likely affect the stock price and value of the company – like an upcoming merger, a bad earnings report, a high-level executive resignation or a new product.
Second, they must personally benefit from sharing this information. For example, they might trade that information for insider information the other person has or even for money or something else of value. It doesn’t have to be of monetary value, however. Trying to impress or help a friend or family member can be considered a personal benefit.
When can the tippee be in legal peril?
When can the person on the receiving end of this information be charged with insider trading? Under the Dirks test, they don’t need to have personally made money off the insider information. Even if they merely pass it on to someone who acts on it, they could be charged with insider trading.
In the Dirks case, SCOTUS ruled that once a person receives insider information, they take on a fiduciary duty not to share it as long as they knew or should have known that it was insider information.
Insider trading is one of the most misunderstood and sometimes confusing white collar crimes. That’s why it’s crucial for anyone who has been charged or is even under investigation to get experienced legal guidance before talking to any authorities.
