The U.S. Securities and Exchange Commission should expand a program to encourage whistleblowers to help detect frauds such as Bernard Madoffs $65 billion Ponzi scheme, the agencys in-house investigator said.

Rules permitting payment for tips on insider trading should be amended to let the agency award a bounty for information leading to fines for any securities violations, Inspector General H. David Kotz said in a letter released yesterday by U.S. Representative Paul Kanjorski.

Kotz wrote in response to a request for proposals from Kanjorski, who leads a House Financial Services panel that oversees capital markets.We would recommend that the Exchange Act be amended to authorize the SEC to award a bounty for information leading to the recovery of a civil penalty from any violator of the federal securities laws, Kotz wrote in a letter dated June 30.

The statute should also require that the whistleblower be provided with status reports at certain milestones during the investigation or examination that was based on the tip.Kotz is probing the SECs failure to detect Madoffs Ponzi scheme, including claims by former money manager Harry Markopolos that the agency didnt act on his tips about the fraud.

Kanjorski, a Pennsylvania Democrat, had written two letters seeking information on Kotzs investigations, which have not been completed.The inspector general also said he supports letting the Public Company Accounting Oversight Board inspect the auditors of broker-dealers and money managers such as Madoffs closely held firm.

Kanjorski introduced legislation in February that would expand the authority of the Washington-based board, which now inspects only the auditors of publicly traded companies.

Kotz also said the Investment Advisers Act of 1940 must be amended to require investment managers, including hedge funds, to place their securities and similar investments in the custody of a bank or dealer registered with a national securities exchange.

The recommendations also call for senior officers of registered investment advisers, including funds of hedge funds, to be required to certify that they performed adequate due diligence in connection with their investments.