According to the SEC, Taro Pharmaceuticals Industries executive, Zvi Rosenthal, 62, tipped off his sons about at least 13 confidential company announcements, including FDA drug approvals and earnings results.
As a result of the information, Mr Rosenthal's sons, Amir and Ayal, are alleged to have used the information between 2001 and November 2005 to inform trades that netted them and their friends and relatives around $3.7 million.
The lawsuit has been filed by the SEC in the US District Court of the Southern District of New York against Mr Rosenthal, three of his sons, the family-run hedge fund, a former Ernst & Young accountant and other relatives and friends.
Mr Rosenthal, former Taro vice president of materials management and logistics, his sons, Amir, 28, a corporate lawyer in New York, and Ayal, 26, a former accountant with PricewaterhouseCoopers, are each facing up to five years in prison and fines of up to $250,000.
Bruce Karpati, assistant regional director with the SEC, said: "This was insider trading at its worst - this scheme involved serial and rampant insider trading by a family, its hedge fund, and friends and relatives, many of whom were professionals, lawyers and accountants, who had every reason to know better."
Troubled drug company Taro, based in Israel, has not been charged with any illegal activity and has co-operated fully with the SEC investigation.