Utah’s Little-Used Whistleblower Law Needs an Update

Utah is one of only two states in the United States that has a whistleblower act (Indiana is the other). Utah’s statute was written and passed by a young ambitious politician named Ben McAdams in 2011. Ben asked me to assist with the drafting and to provide testimony in support, which I gladly did. We hoped at the time that this new statute would provide powerful incentives for whistleblowers to come forward and help combat Utah’s unusually high Ponzi scheme problem. And that it would be a model for other states to follow.

The statute passed easily, but unfortunately other states have not followed suit. Making matters worse, Utah’s Whistleblower Act has never really been used much — they have only paid out one award so far. I can personally attest to the fact that there have been many applications for whistleblower awards filed with the Division of Securities (because I have filed a bunch of them), so why haven’t they paid out more awards?

Paying big awards with a press conference would be a great way to publicize this little-known program. Paying awards will incentivize people with knowledge of fraud to file whistleblower tips, which would stop more fraudulent schemes and put more fraudsters in prison. So why haven’t they done that?

I actually have no idea.

Whistleblower Programs are a Good Thing

I think it is fairly noncontroversial for me to say that whistleblower laws are a good way to expose and stop fraudsters. They provide financial incentives to individuals with knowledge of fraud to report that knowledge to state or federal securities (and tax) regulators.

Whistleblowing can be really bad for your career and can even put you in physical danger, so understandably people are not terribly excited about sticking their neck out. But the prospect of receiving a financial award can change that calculus in a big way. These programs really do work!

The SEC’s Whistleblower Program was created by Congress on July 21, 2010 and can be found in Section 922 of the Dodd-Frank Act.  In its most recent report to Congress, the SEC reported that since the program’s inception they have imposed over $2 billion in total monetary sanctions as a result of whistleblower reports, of which almost $500 million has been returned to harmed investors.

In 2019, the SEC received its second largest number of whistleblower tips ever and paid out its third largest award to date – $37 million. The SEC’s Office of the Whistleblower paid out a $50 million award in March 2018 and a $39 million award in September 2018. Clearly, massive whistleblower awards like that provide a powerful incentive for those with knowledge of fraud to come forward.

The CFTC also has a very successful whistleblower program. In its 2019 report to Congress the CFTC reported that since the inception of its whistleblower program it has issued 14 awards totaling approximately $100 million, and that enforcement actions initiated as a result of those tips have let to sanctions totaling more than $800 million.

The IRS whistleblower program has also paid out millions in awards – from billions in collections. Since 2007, the IRS Whistleblower Office has paid out over $931.7 million based on the collection of $5.7 billion in additional taxes. In 2019 alone the IRS handed out 181 awards totaling $120,305,278. According to IRS whistleblower expert (and friend) Dean Zerbe the IRS program has been very successful:

“For all the talk that fills Washington about making sure people pay their fair share, this little program of awarding whistleblowers … has punched far above its weight in terms of successfully going after big-time tax cheats.  Any country (or state) that wants to get serious about tax evasion should take note.”

IRS Reports Ten-Fold Increase in Tax Whistleblower Awards: $312 Million, Forbes Magazine

How a Whistleblower Stopped the Rust Rare Coin Ponzi Scheme

Utah’s largest Ponzi scheme, Rust Rare Coin (RRC), would still be ongoing today if not for a brave whistleblower who was an employee at the company, and an investor. He stumbled upon information that led him to be highly skeptical of the outrageously high profit claims that were being made by RRC’s owner Gaylen Rust and began to investigate.

The whistleblower’s suspicions grew as he observed unusual business activities and the total lack of financial controls RRC had.  What began as observations of odd and unusual business practices quickly let to serious concerns about outright fraud.  By early 2018 the whistleblower concluded that the RRC businesses were operating fraudulently, that investor money was being commingled with other company funds, and that Gaylen Rust was likely running a massive a Ponzi scheme. 

Once he became convinced that the company was a scam he reported his concerns to the FBI and began meeting with the state and federal securities regulators. Eventually the SEC, CFTC and State of Utah filed coordinated complaints, froze all of RRC’s assets and shut the whole scheme down.

There were at least 430 victims of the RRC Ponzi, and their collective losses were at least $200 million. But it could have been much worse if not for the actions of this brave whistleblower. The court-appointed receiver Jonathan Hafen is now in the process of trying to unwind the whole mess and return money to the victims.

NOTE: I know this story because the CFTC filed a very detailed declaration from the whistleblower with their complaint.

NASAA’s Model Whistleblower Act

Because of the demonstrated success of the SEC, CFTC and IRS whistleblower programs the North American Securities Administrators Association (NASAA), which is comprised of state securities regulators in all fifty states, seems to have decided that more states should follow Utah’s lead.

They just released a Model Whistleblower Act, which is modeled on Utah’s law and has some nice improvements. Thomas Brady, Director of the Utah Division of Securities, tells me that he was involved in the drafting process.

Many of the provisions are based on Utah’s statute:

  • The Model Act creates a civil cause of action for a whistleblower who is retaliated against with powerful remedies including reinstatement, two times back pay with interest, actual damages, litigation costs, or “any combination of these remedies.” Utah Code Ann. § 61-1-105(5); MWA § 9-6
  • The Model Act provides that rights and remedies contained in the act cannot be waived contractually. Utah Code Ann. §61-1-108(2); MWA §9-9
  • The Model Act provides that the regulator cannot disclose information that could reveal the identity of the whistleblower. Utah Code Ann. §61-1-103(2)(a). MWA § 9-7

However, the NASAA update also includes some much-needed protections that are not currently included in the Utah law, including the following:

  • A specific prohibition on retaliatory behavior, including terminating, discharging, demoting, suspending, threatening, or harassing a whistleblower. MWA § 9-1.
  • A 10 year statute of limitations for a claim against an employer for retaliatory behavior. MWA §9-5. (Utah’s is currently only 4 years)
  • A provision that employee non-disclosure (NDA) or confidentiality agreements cannot be used to prevent or discourage communications with the securities regulator about possible securities law violations. MWA §9-8.

I think that all states should seriously consider enacting this model statute. NASAA’s Model Whistleblower Act provides a robust framework for protecting whistleblowers, and substantial financial incentives for them to come forward.

Copyright © 2020 by Mark W. Pugsley.  All rights reserved.

Rust Rare Coin: An Analysis of Utah’s Latest Massive Ponzi Scheme

Imagine waking up one day and discovering that all of your retirement savings were gone; all the money you had been working to save had evaporated in a poof.

That’s what happened to over 200 people on November 15th.  They had invested in a “Silver Pool” investment promoted by Gaylen Rust who claimed he had inside information about the silver market and told investors he was consistently making returns of 25 to 40% per year.  He claimed that investor money would be used to purchase and store silver bars, and that he had never lost money in his trading.

Photo by Chris Detrick | The Salt Lake Tribune

People bought into this Silver Pool investment and recommended it to their family and friends.  And after watching their investment increase (on paper) many “doubled down” and put all of their retirement money with him.

After all, Rust was an active, respected member of the Church of Jesus Christ of Latter Day Saints and a generous promoter of music education in the schools.  What could go wrong?

Well, as it turns out plenty.

On November 13, 2018 the Commodities Futures Trading Commission (CFTC) and the Utah Division of Securities jointly filed a lawsuit against Gaylen Rust and his company Rust Rare Coin, Inc.  The SEC filed a similar lawsuit a few days later.  The filing of simultaneous, obviously coordinated lawsuits by three different securities regulators is quite rare in this state, and is indicative of the size and seriousness of the case.

The state and federal regulators have alleged that Gaylen Rust has been “engaged in a massive scheme to defraud” and has been running a Ponzi scheme since 2008.  He raised over $200 million from investors in the last 5 years alone, and now it’s gone.

If true, this will be one of the largest Ponzi schemes in Utah history.

I have been getting calls from investors, regulators and former Rust employees over the last few weeks and almost all of them are stunned by this news.  Gaylen Rust and his father Alvin have maintained a good reputation in the rare coin and precious metals industry in Utah for many years.  Alvin Rust was an avid coin collector and started Rust Rare Coin in 1966 as a way to combine his hobby with his livelihood.  Rust Rare Coin was known as a reputable place to purchase gold and silver coins, even after Alvin got caught up in some ill-fated deals with Mark Hoffman years ago.

According to the allegations in the CFTC Complaint, Rust and his company began promoting a “Silver Pool” in 2008 as a way for people to invest in the silver market, which Rust probably seemed to understand quite well:

“[Rust] told investors and prospective investors that they would sell silver held in the pool as market prices rose and buy silver for the pool as market prices fell; thereby increasing the amount of silver held in the Silver Pool, as well as the value of each investor’s share in that pool.  [Rust] told investors and prospective investors in the Silver Pool that by trading silver in this manner, they generated extraordinarily high returns, averaging twenty to twenty-five percent per year and sometimes as high as forty percent per year or more.”

Consistent returns of 25% to 40% per year??  A simple Google search would have shown that trading commodities is extremely risky.  How did he achieve such consistent profitability? The simple answer is that he didn’t.   Potential investors should have been skeptical of those consistently high returns, but most trusted him and did not attempt to verify the claims Gaylen Rust was making.  My opinion is that if any investment claims to achieve returns of 15% or more per year you should be extremely careful.

Shockingly, Rust didn’t provide investors with any paperwork setting forth the terms of the investment, he didn’t formally disclose his financials, and he didn’t provide any risk disclosures.  All of those should have been huge red flags to any investor.

Once he had their money, Rust sent out “account statements” via email showing impressive (but unfortunately fake) returns on their investments. Rust purportedly claimed that he had as much as $80 million dollars of silver bars stored at Brink’s depositories in Salt Lake City and Los Angeles, and that this reserves would permit investors to liquidate their investments at any time.

How much silver is that?  One source told me that $80 million in silver would fill five semi-trucks.  That’s a lot of silver, but unfortunately Brinks depositories aren’t big enough to hold that much silver. Not good.

According to the CFTC complaint, Rust did not use investor money to purchase silver or silver contracts for the Silver Pool as he had represented.  Instead, investor’s retirement money went to make payments to other investors, to fund other affiliated Rust Companies, and to pay personal expenses for the Rust family.

Rust never even had a commodities trading account at HSBC Bank, and was never licensed as a broker or commodities trader.

It was all a big scam.

The Prospects for Recovery

One of the first questions I invariably get from victims in a case such as this is: “What are the chances of recovering of my retirement losses?”

Unfortunately, they are not great in this case, as in most Ponzi scheme cases.  It is exceedingly rare to recover all of your losses from a Ponzi scheme.

The CFTC case (which is the main case) has been assigned to United States District Judge Tena Campbell who is a highly respected jurist here in Utah.  Based on the CFTC’s motion Judge Campbell has selected Jonathan Hafen to serve as the receiver in this case and he will work under the direction of the Court along with several lawyers in his firm, including Joe Covey who will be lead litigation counsel.

Because I am not involved in that aspect of the case and only have access to the public filings I cannot predict how much money will ultimately be recovered. Mr. Hafen has stated in open court that there are no significant assets to recover, which is not a good sign.

Mr. Hafen’s job will be to gather assets from any sources he can, and then to distribute those assets in an equitable manner to the victims.  You can learn more about how an SEC receivership works here.  The latest filings and information about the case can be found on the Receiver’s website: https://rustrarecoinreceiver.com/.

Unfortunately, one of his primary tasks will be to file clawback lawsuits against investors who got their money out before the whole scheme collapsed.  So if you are one of the lucky investors who got out you should expect a demand letter from the receiver within a year. It’s a good idea to hire an attorney to handle that clawback case; preferably one who understands the process.

Complex receiverships such as this are extremely expensive and can stay open for years, depending on how long to takes to pull together and then distribute all of the assets. The Vescor case involving Val Southwick took ten years to complete, which led understandable criticism of the receivership process.

The only winners in this process are the lawyers.

How To Avoid Getting Scammed

This is a tragic story that is repeated over and over in our state, and most of these scams take advantage (intentionally or not) of the relationships of trust that members of the LDS Church have with one another.  This is commonly called “affinity fraud.”  Our state has a long history of financial scams and Ponzi schemes, many of which have been perpetrated by members of the LDS church on members of their ward or stake.  It’s heartbreaking to say, but Utah has one of the highest rates of fraud per capita of any state in the country.

I specialize in helping people recover losses from investment fraud, but by the time people call me the money is usually long gone – and so is the person who took the money.  So here are a few tips to avoid getting sucked into an investment scam:

  1. Slow down. Take your time, do your research, ask lots of questions, search the internet, review their financials, visit the company, kick the tires before you buy.  Be very wary of aggressive sales pitches and deadlines.  Ask the hard questions before you hand over your money, not after.
  2. Do your homework. Run a simple Google search on the company and its managers, or the individual.  If it involves a company, ask for a private placement memorandum and company financials.  Contact federal and state securities regulators see if actions have previously been taken against the company or individuals involved.  The local office of the SEC can be reached at 801-524-5796, or you can call the Utah Division of Securities at (801) 530-6600.
  3. Hire an attorney. Attorneys can be expensive, but it is much cheaper to hire an attorney to document the transaction properly on the front end than to sue the bad guys when it all blows up.  A good lawyer can help you perform due diligence on the company and individuals, and can determine whether the investment is properly structured as a private offering and complies with state and federal statutes.
  4. Get it in writing. I am amazed how often people will give hundreds of thousands of dollars to someone on nothing more than a handshake.  The terms of your deal should always be put in writing, and those terms should be reviewed by the competent attorney you hired.
  5. Beware of guarantees. If anyone tells you that your investment is “guaranteed” that should be a red flag.  All investments carry risk, and personal guarantees (especially oral ones) are rarely a means to get your money back.
  6. Beware of secret trading strategies, offshore investments, commodity or currency (FOREX) trading, futures, options and minerals. Avoid investing with anyone who claims to have a secretive investing algorithm or touts unusual success.  These types of investments nearly always involve extremely high risk, despite what you may be told.
  7. Work through licensed stock brokers or investment advisors. Even when investing in a private (unregistered) opportunity ask whether the promoter is licensed to sell securities, which is required under most circumstances.  Run their name through FINRA’s Broker Check
  8. Don’t invest with friends and neighbors. It may seem like doing business with someone you know and trust would be safer, but that is simply not true.  All investing involves risk, and just because you trust the individual soliciting the investment does not mean that the investment itself is good.  Trust but verify; and if things go badly do not hesitate to aggressively protect your interests.
  9. Keep church out of it. If someone pitching you an investment casually mentions that they used to be the bishop or in some other church position, watch out!  Church activity or high callings are not relevant to investment decisions, and if anyone mentions their church position as part of an investment pitch warning bells should be going off.
  10. If it sounds too good to be true it probably is. If you are thinking about putting money into an alternative, unregistered, or unregulated investment that promises abnormally high returns, watch out.

Copyright © 2018 by Mark W. Pugsley.  All rights reserved.