On December 14, 2022, the SEC adopted final amendments to the Rule 10b5-1 insider trading plan rules. Previously, the SEC had issued proposed amendments back in December 2021.
The amendments change the Rule 10b5-1(c)(1) affirmative defense to insider trading liability to include:
- A cooling-off period for directors and officers of the later of: (1) 90 days following plan adoption or modification; or (2) two business days following the disclosure in certain periodic reports of the company’s financial results for the fiscal quarter in which the plan was adopted or modified (but not to exceed 120 days following plan adoption or modification) before any trading can commence under the trading arrangement/plan.
- A cooling-off period of 30 days for persons other than issuers or directors and officers before any trading can commence under the trading arrangement/plan or modification.
- A requirement that directors and officers include a representation in their Rule 10b5-1 trading plan, that at the time of the adoption or modification: (1) they are not aware of material nonpublic information about the issuer or its securities; and, (2) they are adopting the plan in good faith and not as part of a plan or scheme to evade the prohibitions of Rule 10b-5.
- A limitation on the ability of anyone other than issuers (companies) to use multiple overlapping Rule 10b5-1 trading plans.
- A limitation on the ability of anyone other than issuers (companies) to rely on the affirmative defense for a single-trade plan to one such plan during any consecutive 12-month period.
- A condition that all persons entering into a Rule 10b5-1 trading plan must act in good faith with respect to that plan.
The amendments also introduce a number of new disclosure requirements, including:
- Quarterly disclosure by companies regarding use of Rule 10b5-1 trading plans and certain other written trading arrangements by a company’s directors and officers for the trading of its securities.
- Annual disclosure of a registrant’s insider trading policies and procedures.
- Certain tabular and narrative disclosures regarding awards of options close in time to the release of material nonpublic information and related policies and procedures.
- Tagging of the required disclosures using XBRL.
- A requirement that Form 4 and 5 filers indicate by checkbox that a reported transaction was intended to satisfy the affirmative defense conditions of Rule 10b5-1(c).
Sell to Cover Transactions
Commenters questioned the proposed amendments to Rule 10b5-1 trading plans regarding the restriction on overlapping Rule 10b5-1 trading plans and single-trade arrangements regarding situations where an individual is granted equity awards by the company and the company sells only enough shares to cover the tax obligation of a vesting event (a “sell to cover” transaction). The final amendments provide a limited exception to permit a separate “sell to cover” Rule 10b5-1 trading plan alongside a separate Rule 10b5-1 trading plan that would otherwise qualify for the affirmative defense. However, the “sell to cover” Rule 10b5-1 plan will be deemed qualified for this exception only where the plan authorizes an agent to sell only such securities as are necessary to satisfy tax withholding obligations incident to the vesting of a compensatory award, such as restricted stock or stock appreciation rights [sic/], and the insider does not otherwise exercise control over the timing of such sales.
The SEC then clarified that this exception would not be extended to sales incident to the exercise of option awards because it could create a risk of opportunistic trading as the option exercises occur at the discretion of the insider. Instead, insiders can incorporate “sell to cover” provisions into his/her Rule 10b5-1 trading plan that would allow a broker to sell sufficient shares to cover the tax withholding obligation and exercise the option and sell the resulting shares based on other financial variables. But, in that case, an officer or director would need to meet the requirements for the affirmative defense, including the cooling-off period, for establishing the Rule 10b5-1 trading plan.
Timing
The final rules become effective 60 days after publication in the Federal Register. Section 16 reporting persons will be required to comply with the amendments to Forms 4 and 5 filed on and after April 1, 2023. Companies will be required to comply with the new disclosure requirements in Forms 10-Q, 10-K, and 20-F and in proxy or information statements in the first filing that covers the first full fiscal period that begins on or after April 1, 2023. Smaller reporting companies were basically given a six month delay in complying with the final amendments.