What Is the Insider Trading Sanctions Act of 1984?

The Insider Trading Sanctions Act of 1984 is a piece of federal legislation that allows the Securities and Exchange Commission (SEC) to seek a civil penalty, of up to three times the amount of profit or loss, from those found guilty of using insider information in trades, as well as from those who provided information not generally available to the public. The Insider Trading Sanctions Act of 1984 also provides for criminal fines to be levied.

Key Takeaways

  • The Insider Trading Sanctions Act of 1984 allows the SEC to impose civil penalties on insider trading.
  • By shifting the emphasis from compensation of victims to punishment for offenders, the Act significantly strengthened actions against insider trading.
  • Insider trading is trading based on non-public information (given or received) for financial gain, whether personal or through another entity.

Understanding the Insider Trading Sanctions Act of 1984

The U.S. Congress passed the Insider Trading Sanctions Act of 1984 in order to help the SEC prosecute those accused of insider trading, which was a top priority in the 1980s. Before the Act was passed, the amount someone could make through insider trading far outweighed the potential financial penalties.

Signed into law by President Reagan on Aug. 10, the Act severely ratcheted up civil penalties and other legal solutions available to federal regulators for violations related to the use of non-public, material information in the trading of stocks and other securities. Before that, the SEC was limited to submitting injunctions to stop fraudulent actions and try to force payment back to victims of illicit profit-taking, as permitted by the Securities Exchange Act of 1934.

By shifting the emphasis from compensation of victims to punishment for offenders, the move was largely received as a sign the government was getting tough on those abusing inside information.

$100,000

The maximum criminal fine that may be imposed on persons who commit insider trading, as set by the Insider Trading Sanctions Act of 1984—up from a previous maximum of $10,000

From a market theory perspective, the Act served as a "risk-reward" mechanism that created an equation by making the penalties for insider trading more aligned with the size of the temptation for profit. Lawmakers reasoned potential violators would be restrained by the threat of material monetary penalties.

Insider Information and Insider Trading

Insider information is defined as data, news, or other info about an investment that is not published or a matter of public record but is only known by corporate insiders, such as directors, officers, or employees of a company. These people are called insiders because they have knowledge about the company that the public does not have. They are not allowed to act on that knowledge in the public financial markets for financial gain.

Therefore, insider trading is acting upon non-public information for financial gain, even if it is not personal gain. For example, if an employee of a public traded company finds out via a memo in the trash can that their company is going to be bought out at a premium to the current share price, it is insider trading to buy stock in anticipation of the announcement or to tell someone else to do the same.

While some forms of insider trading are legal, if promptly and fully disclosed, the term generally refers to illegal activities. Those who participate in illegal insider trading are subject to civil and criminal penalties, including fines and prison time.

Insider trading is not just acting to make money—it can also refer to efforts to avoid losses. Selling a stock knowing that negative news is going to be released to the public in a couple of days—because you surmise the shares will drop in price—is also considered insider trading.

Once information is public, it is no longer inside information and can be acted on in any way a particular investor sees fit.

The penalties for Insider trading were further enhanced four years after the 1984 act, with the passage of the Trading and Securities Fraud Enforcement Act of 1988 (ITSFEA). It increased the size of monetary penalties and delineated prison sentences for those found guilty.

Special Considerations

One element of the Act remains uncertain today: fiduciary duty. The existence of fiduciary responsibility is the first requirement for establishing liability—meaning, a defendant must first be an insider. While the Act presented some vagaries surrounding who exactly is an insider, it did add some needed safeguards useful in promoting the confidence of investors in capital markets. By better leveling the playing field for all investors, the Act likely contributed to making U.S. financial markets more trusted.