Supreme Court Limits SEC Administrative Proceedings

On June 27, 2024, the Supreme Court issued its decision in SEC v. Jarkesy,¹ holding that the Seventh Amendment right to a jury trial applies to enforcement actions seeking civil penalties for alleged violations of the antifraud provisions of the securities laws. As explained in Chief Justice Roberts' majority opinion, because civil penalties are designed to punish and deter, they are “legal in nature” and, thus, covered by the Seventh Amendment; further, because the alleged fraud violations resemble traditional legal claims, the “public rights” exception to the Seventh Amendment does not apply, entitling defendants to a jury trial. As a result, the Securities and Exchange Commission (SEC or Commission) may no longer rely on its administrative forum to seek civil penalties for alleged violations of at least some of the securities laws.

There are several noteworthy aspects of the decision:

First, the SEC has long prepared for this day and, as a result, the decision is unlikely to have immediate impact on its enforcement program. In particular, the SEC has avoided administrative proceedings for most contested actions since 2016, when the first decisions challenging their constitutionality were issued, and has instead elected to pursue such actions in district court.² As a result, it is unlikely that Jarkesy will materially impact the SEC's ongoing enforcement actions or the trajectory of its active investigations.

Second, the Court left unresolved the question of whether other types of SEC actions—specifically those that do not seek civil penalties—are also subject to the Seventh Amendment. The Court's opinion suggests that the “public rights” exemption should be narrowly construed and limited to matters that were not subject to suit at common law, such as the “collection of revenue,” “immigration,” the imposition of tariffs, the “administration of public lands,” and the “granting of public benefits.”³ However, because the Court did not expressly address how the Seventh Amendment applies to enforcement actions that do not seek civil penalties, it left open the possibility that the Seventh Amendment would allow administrative proceedings in at least some SEC enforcement actions.

Third, even if the Seventh Amendment challenges can be addressed, there remain significant questions about the constitutionality of administrative proceedings. The Court did not address the Fifth Circuit's finding that the SEC's use of administrative law judges (ALJs), who are insulated from removal by “two levels” of for-cause protections, violated the separation of powers doctrine.⁴

Thus, even if the Seventh Amendment allows administrative proceedings in some actions, the proceedings would still potentially be constitutionally suspect. While the Commission can avoid this issue for most actions by simply proceeding in district court, it will face difficult questions when deciding how to handle matters, such as suspensions of attorneys or accountants under SEC Rule 102(e), that can only be brought administratively. For these actions, the Commission will need to decide whether to use an ALJ and risk a constitutional challenge, or to directly hear the matter (either by a single commissioner or the entire Commission), which would present numerous practical challenges.

Finally, the Jarkesy decision represents another loss for the SEC in federal court,⁵ at a time when it is facing an increasing number of high-profile challenges to its rulemaking and enforcement authority.⁶ These decisions suggest that courts are becoming increasingly willing to curtail agency actions that they view as excessive, and that the SEC's aggressive rulemaking agenda will face continued headwinds in the coming years. These high-profile losses may also make market participants more willing to litigate.

Footnotes

1. 2024 WL 3187811 (June 26, 2024).

2. Lucia v. SEC, 585 U.S. 237 (2018) (holding SEC administrative law judges are inferior officers subject to the Appointments Clause and their method of appointment violated the separation of powers doctrine); Bandimere v. SEC, 844 F.3d 1168 (10th Cir. 2016) (same). The SEC has continued to pursue contested administrative proceedings in limited areas, including cases seeking to revoke the registration of an issuer's securities under Exchange Act Section 12(j) and seeking to impose securities industry bars on persons subject to criminal convictions or SEC civil injunctions.

3. Jarkesy, 2024 WL 3187811 at *15-17.

4. Id. at 6.

5. E.g., Nat'l Ass'n of Manufacturers v. SEC, No. 22-51069 (5th Cir. 2024) (vacating proxy advisor rule); Nat'l Ass'n of Private Fund Mgrs. v. SEC, No. 23-60471 (5th Cir. 2024) (vacating private fund adviser rule); Grayscale Investments, LLC v. SEC, No. 22-1142 (D.C. Cir. Aug. 29, 2023) (vacating denial of Grayscale Bitcoin exchange traded product); Inst. Shareholder Services Inc. v. SEC, No. 19-cv-3275 (D.D.C. Feb. 23, 2024) (vacating proxy advisor rule).

6. Nat. Res. Def. Council, Inc. v. SEC, No. 24-707 (2d Cir. filed Mar. 12, 2024) (challenge to validity of climate change disclosure rules); Liberty Energy Inc. v. SEC, No. 24-60109 (5th Cir. filed Mar. 6, 2024) (same); Louisiana v. SEC, No. 24-60109 (5th Cir. filed Mar. 7, 2024) (same); Tex. All. of Energy Producers v. SEC, No. 24-60109 (5th Cir. filed Mar. 11, 2024) (same); Chamber of Commerce of U.S. of Am. v. SEC, No. 24-60109 (5th Cir. filed Mar. 14, 2024) (same); Ohio Bureau of Workers' Comp. v. SEC, No. 24-3220 (6th Cir. filed Mar. 13, 2024) (same); Iowa v. SEC, No. 24-1522 (8th Cir. filed Mar. 12, 2024) (same); West Virginia v. SEC, No. 24-10679 (11th Cir. filed Mar. 6, 2024) (same); Sierra Club v. SEC, No. 24-1067 (D.C. Cir. filed Mar. 13, 2024) (same); Coinbase Inc. v. SEC, No. 23-3202 (3d Cir. filed Dec. 15, 2023) (petition for rulemaking regarding digital assets); Consensys Software Inc. v. Gensler, No. 4:24cv369 (N.D. Tex. April 24, 2024) (challenging authority of SEC over Ethereum network); Crypto Freedom Alliance of Texas v. SEC, No. 4:24cv361 (N.D. Tex. filed April 23, 2024) (challenge to validity of dealer rule); Beba LLC v. SEC, No. 6:24cv153 (W.D. Tex. filed March 24, 2024) (seeking declaratory relief that certain digital assets are not securities); Nat'l Ass'n of Private Fund Mgrs. v. SEC, No 4:24-cv-00250 (N.D. Tex. filed March 18, 2024) (challenge to validity of dealer rule); Lejilex v. SEC, No. 4:24cv168 (N.D. Tex. filed Feb. 21, 2024) (seeking declaratory relief that secondary sales of digital assets are not securities and that proposed platform will not act as a securities exchange, broker-dealer or clearing agency).

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