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Florida District Court Permits the SEC to Pay Disgorgement to the US Treasury Where Victims of the Fraud Could not be Identified

Recently, in SEC v. Spartan Securities Group, Ltd, et al.1, a Florida federal court held that the Securities and Exchange Commission (“SEC”) could seek disgorgement and direct funds to the Treasury because the defrauded victims could not be identified.2

This is an interesting case because in the recent Supreme Court case of Liu v. SEC, 140 S. Ct. 1936 (2020) 3, the Supreme Court held that the SEC could seek disgorgementunder 15 U.S.C. § 78u(d)(5), but placed restrictions on its power to obtain equitable relief – namely that the award did not exceed the wrongdoer’s net profits and was “awarded for victims.”5 In reaching this conclusion, the Court framed the question as whether disgorgement is a remedy “typically available in equity.” But the Supreme Court in Liu declined to address what happens when it is impossible to identify victims.  Could payment of disgorged funds to the Treasury comply with the requirements of the securities remedies statute?6

This question was important because some cases do not lend themselves to victim compensation.  For instance, it is sometimes difficult if not impossible to identify the victims of insider trading.  Assuming the victims are the parties on the opposite sides of the transactions, they may be unidentifiable, especially if the insider trading involves options transactions.  Did this mean that disgorgement will be unavailable in insider-trading actions?  Or that inability to identify victims will be a valid reason to pay disgorgement funds to the Treasury? These open questions may have been clarified.

Post Liu, Congress amended the securities remedies statute7 as part of the National Defense Authorization Act of 2021 (“NDAA”). The NDAA added subsection 78u(d)(7) to the securities remedies statute, which unlike subsection 78u(d)(5) does not explicitly require that disgorgement be “for the benefit of investors.”The SEC argued that the NDAA amendments gave courts “greater flexibility to determine where collected disgorged funds may be distributed.”

The Court ultimately held that it may order disgorgement and direct the disgorged funds to the Treasury under 15 U.S.C. § 78u(d)(7). Alternatively, the Court held that even if it was still required to balance the equities under Liu, the equities here weigh in favor of disgorgement to the Treasury, rather than allowing a wrongdoer to retain the money.10

The SEC argued that two equitable principles should apply. First, the foundational principle that a wrongdoer should not benefit from his wrongdoing, and thus between the Treasury and the wrongdoer, the money should go to the Treasury.11 Second, the SEC argued that the court should apply the legal doctrine of cy pres, arguing that the award should go to the nearest possible alternative when defrauded investors cannot be identified.12 The Defendants counterargued that disgorgement in this case would act as a penalty, and that the doctrine of unclean hands barred repayment of these funds. In siding with the SEC, the Court noted several district court cases that allowed disgorgement awards to be made to the Treasury post-Liu.13 In balancing the equities, the Court concluded that “[b]etween the money staying with [the wrongdoer], a key player in a scheme to put dubious equities on the market, or a fund at the Treasury, it is more equitable to order disgorgement.”14

Undoubtedly the SEC will rely on this case moving forward.  But the ruling is not binding on other district courts. Whether other courts will follow this ruling remains to be seen.


FOOTNOTES

SEC v. Spartan Securities Group, Ltd., et al., Case. No. 819-cv-00488-VMC-CPT (M.D. Fla., filed Feb. 20, 2019).

2 A copy of the Court’s Order can be located here.

3 See our previous blog post, Supreme Court Affirms SEC’s Authority to Obtain Disgorgement, But Recognizes Limits on Such Relief, located here, for more information.

4 In general, disgorgement is the return of ill-gotten gains, and is a common remedy sought by the SEC.

5 140 S. Ct. 1936, at 1940.

6 Id. at 1948-49.

7 15 U.S.C. § 78u(d).

8 Compare 15 U.S.C. 78u(d)(7) with 78u(d)(3) and 78u(d)(5).

9 Order, p. 23.

10 Order, p. 23.

11 Id. at 23.

12 Id. at 23.

13 Id. p. 24

14 Id. p. 25.

© 2023 Winstead PC.National Law Review, Volume XII, Number 257
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About this Author

Toby M. Galloway Securities Litigation & Enforcement Attorney Winstead Law Firm Fort Worth Texas
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Toby Galloway is Co-Chair of Winstead's Securities Litigation & Enforcement Practice Group. He also practices in the areas of white-collar defense, governmental & internal investigations, and business litigation. Before developing his private practice, he served as an attorney with the United States Securities and Exchange Commission, in roles of increasing responsibility, for more than 11 years.

During his last four years at the SEC, Toby was the chief trial counsel for the Commission’s Fort Worth Regional Office. In this capacity, he...

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Jamie Lacy Associate Winstead Securities Litigation & Enforcement Business Litigation Governmental & Internal Investigations White-Collar Defense
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Jamie Lacy is an associate in Winstead’s Securities Litigation & Enforcement, White-Collar Defense, and Business Litigation Practice Groups.  Jamie represents public and private companies, hedge funds, private equity funds, asset managers, broker-dealers, registered investment advisers, officers and directors, registered persons, and other institutions in government investigations, securities law enforcement and litigation, and FINRA arbitrations.  In addition, she counsels clients in regulatory and enforcement matters before the SEC, FINRA, Texas State Securities Board and other state...

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