Supreme Court Limits the Scope of Administrative Proceedings, Curbs the Adjudicatory Powers of Federal Agencies

The Quick Takeaway:

The Supreme Court in SEC v. Jarkesy has significantly narrowed the types of enforcement cases that federal agencies can pursue using their in-house proceedings. As a practical matter, this may not be a big issue for the SEC, which has been shifting to federal courts as its preferred forum for years and already has a lot of experience litigating there. However, this decision will have a large impact on other federal agencies that either lack the statutory authority to initiate actions in federal courts or just are not well-positioned to do so. As three Justices emphasized in dissent, Jarkesy calls into question more than 200 statutes authorizing dozens of agencies to impose civil penalties in internal proceedings similar to the SEC’s authority directly at issue. The Fifth Circuit’s Jarkesy decision further signals that more changes to administrative procedures may be coming through future decisions applying the non-delegation doctrine and declaring for-cause removal protections unconstitutional—questions that the Supreme Court declined to consider in this opinion.

The Decision:

On June 27, 2024, the Supreme Court issued a ruling in Securities and Exchange Commission v. Jarkesy, U.S. No. 22-859 (2024). In a 6-3 decision, split along ideological lines, the Court stripped the Securities and Exchange Commission (“SEC”) of its authority to initiate adjudicatory proceedings when it seeks to enforce civil penalties (i.e., a monetary fine) for securities fraud. Writing for the majority, Chief Justice Roberts held that a jury trial is required under the Seventh Amendment in securities fraud cases brought by the SEC. Justice Gorsuch wrote a concurring opinion noting that beyond violating the Seventh Amendment, the SEC’s use of administrative proceedings to impose civil penalties also violates the Due Process Clause of the Fifth Amendment and Article III of the Constitution. In dissent, Justice Sotomayor emphasized the potential scope of the decision, writing that the majority’s ruling called into question more than 200 statutes authorizing dozens of agencies to impose civil penalties for statutory violations.

Background:

The case arose out of an SEC civil enforcement action against George Jarkesy Jr., an investment adviser to private funds. The SEC accused Jarkesy of misleading investors by misrepresenting investment strategies, lying about the funds’ auditor and prime broker, and inflating the funds’ value so that he would earn higher management fees. The SEC chose to bring its case against Jarkesy using its in-house adjudicative process rather than filing an action in federal district court. In 2014, the SEC administrative law judge (“ALJ”) found Jarkesy liable and ordered him to pay $300,000 in fines and to disgorge nearly $700,000 of ill-gotten profits. Jarkesy appealed to the Commission, which upheld the ALJ’s decision in 2020. Jarkesy then sought judicial review in the U.S. Court of Appeals for the Fifth Circuit.

In 2022, the Fifth Circuit vacated the SEC’s decision on three independent constitutional grounds. The Supreme Court granted certiorari on all three issues: 1) whether the SEC’s ability to initiate and adjudicate administrative proceedings seeking civil penalties violates the Seventh Amendment; 2) whether the SEC’s ability to choose whether to proceed with fraud claims via administrative proceedings or to bring an enforcement action in district court violates the non-delegation doctrine; and 3) whether Congress violated Article II by granting SEC ALJ’s for-cause removal protection, when SEC Commissioners also enjoy for-cause removal protection.

The Supreme Court heard arguments on November 29, 2023. During the two-hour oral argument, the Justices focused exclusively on the first issue: whether the Seventh Amendment bars the SEC from imposing monetary penalties in administrative proceedings without affording defendants a trial by jury.

The Opinion of the Court:

As previewed by the November oral argument, the Supreme Court limited its decision to one issue—finding that the SEC may not bring a fraud case through an administrative proceeding. Instead, such an action must be decided in an Article III federal court with the defendant being provided the right to a jury trial. The Court reasoned that the SEC’s enforcement action against Jarkesy bore a “close relationship” to a suit for fraud at common law, even while acknowledging some differences between federal securities fraud and common law fraud. The two actions were sufficiently similar that the Seventh Amendment’s jury trial protections applied. As a result, the SEC can no longer seek civil penalties for violations of the federal securities laws’ anti-fraud provisions in internal adjudicatory proceedings overseen by ALJs. In the process of analyzing this issue, the Court rejected the SEC’s argument that the enforcement proceeding fell within the “public rights” exception to mandatory Article III jurisdiction. It held that the fact that the government was pursuing the enforcement action did not matter and suggested that the public rights exception might be very limited to the types of disputes that can only arise between the government and a private party, such as immigration, taxes or public benefits.

Practical Implications for Administrative Proceedings:

Jarkesy is not likely to have a great impact on the SEC itself, because the SEC was already moving toward utilizing federal courts. In part, this was a response to prior constitutional challenges against the SEC’s administrative proceedings. When it comes to fraud especially, the SEC was already much more likely to bring such cases in federal court than through an administrative proceeding. Consequently, Jarkesy is not likely to lead to a fundamental change in the SEC’s own enforcement approach.

Other agencies might not be so fortunate. As highlighted by Justice Sotomayor’s dissent, the implications of the Court’s ruling may be quite broad, with there being more than 200 statutes authorizing dozens of agencies to impose civil penalties through administrative proceedings. Some agencies are better positioned because—like the SEC—they can and already do bring cases either in administrative proceedings or in federal district court. However, as Justice Sotomayor notes, other agencies can pursue civil penalties only in their in-house administrative proceedings. These agencies may be severely limited in using their enforcement powers unless they get new statutory authority from Congress. Further, Justice Gorsuch’s concurrence emphasizes that the rights of defendants in agency proceedings are also protected by the Due Process Clause and Article III of the Constitution. Thus, even where the Seventh Amendment’s protections are not directly at stake—such as when the proceeding involves a statutory claim that is not rooted in common law, or the action is for injunctive relief—analogous Article III limitations may apply.

Notwithstanding these implications, the decision is not as sweeping as it could have been, as the Court declined to address the non-delegation or for-cause removal issues. In the Fifth Circuit, though, those two rulings appear to remain good law. The Courts’ full decision can be found here. Litigation & enforcement partner and former SEC Senior Counsel Jeremiah Williams also discussed the Court’s ruling in the Financial Times and Bloomberg Law. We will closely follow how administrative agencies respond to this decision moving forward.