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Has the SEC Lost Home Court Advantage?

For years, the Securities and Exchange Commission (SEC) has aggressively utilized its own administrative law judges to adjudicate enforcement proceedings, prompting critics to argue that this strategy gives the SEC a decided edge in enforcing and interpreting securities laws. Yesterday, however, the U.S. Supreme Court not only struck down the SEC's prior use of administrative law judges (ALJs), but also left open the possibility of several other challenges that defendants can deploy to reduce the SEC's in-house advantage.

In Lucia v. Securities & Exchange Commission, the Court ruled 7 to 2 that ALJs used by the SEC are "Officers of the United States" under Article II of the U.S. Constitution, resolving a split between the U.S. Courts of Appeals for the 10th and District of Columbia Circuits.

The case arose from allegations that the plaintiff, Raymond Lucia, violated securities laws by using misleading slideshow presentations to deceive prospective clients, which the SEC pursued before one of its five in-house ALJs, rather than in federal court. After a lengthy hearing, an ALJ issued an initial decision finding that Lucia had violated the securities laws, ordering him to pay a $300,000 fine and banning him from the securities industry for life.

Mr. Lucia challenged the validity of an SEC administrative proceeding, arguing that the ALJ in his case was appointed by SEC staff rather than the Commission itself, and, thus, was not properly authorized to preside over the matter. The Court adopted Lucia's view, holding that ALJs perform a number of tasks—conducting trials, managing discovery, writing opinions often adopted as final—qualifying them, under the Constitution as "Officers" who may only be appointed by specific entities, including the SEC.

Despite a broad ruling that SEC staff may not appoint ALJs to adjudicate disputes, Lucia does not overturn all of their prior decisions. Instead, the Court held that only parties who made timely constitutional challenges can request new hearings, which must be overseen by a different ALJ. Last year, the SEC formally ratified the staff appointments of current ALJs in order to limit the impact of a decision like Lucia, but the Court explicitly sidestepped the question of whether that ratification was effective.

The SEC must now decide whether new hearings should be held by the Commission as a whole, by ALJs who have been constitutionally appointed, notwithstanding the ratification, or by ALJs whose appointments were purportedly ratified by the SEC's formal order. The third option is likely to result in further litigation.

Moreover, the Court specifically left open the question of whether the process for removing administrative law judges is constitutionally defective, a point emphasized by Justice Stephen Breyer in his concurring and dissenting opinion. Defendants in ALJ proceedings will now also be able to litigate that issue, which may well bring the question back to the Court in the near future.

Under the Dodd-Frank Wall Street Reform and Consumer Protection Act, the SEC gained greater authority to bring enforcement actions via administrative proceedings. Prior to Dodd-Frank, the SEC could only use administrative procedures to pursue enforcement actions against regulated entities, such as investment advisers and brokerage firms.

In addition, the SEC's remedies were limited to cease-and-desist orders rather than monetary sanctions. After the enactment of Dodd-Frank, the SEC increased its use of these administrative actions where defendants (called respondents) traditionally had no right to document discovery or depositions. Though the SEC has expanded these discovery procedures to some degree, the Lucia ruling may cabin, at least temporarily, the SEC's broad use of in-house judges, and leaves open the ultimate question of how—if at all—the SEC may appoint and remove ALJs.

Copyright © by Ballard Spahr LLPNational Law Review, Volume VIII, Number 173


About this Author

David Axelrod Investigation Lawyer Philadelphia Ballard Spahr

David L. Axelrod is a former Supervisory Trial Counsel at the U.S. Securities and Exchange Commission's (SEC) Philadelphia Regional Office and a former federal prosecutor. At the SEC, he directed all aspects of litigation—leading complex, multi-agency investigations into a range of alleged securities law violations and serving as lead trial counsel in high-profile federal cases. He also led nationwide insider trading training for SEC enforcement staff.

Mr. Axelrod's practice focuses on representing companies and individuals under investigation by government agencies, including the U...

Kahlil Williams, Ballard Spahr Law Firm, Philadelphia, Corporate and Litigation Law Attorney

Kahlil Williams is a litigation associate who represents companies and individuals in complex commercial litigation, government and internal investigations, and regulatory proceedings. He also helps his clients develop policies and procedures to improve their compliance with federal anti-corruption, false claims, and anti-money laundering (AML) statutes. Prior to joining Ballard Spahr, Kahlil worked for a major international firm in New York City.

Prior to law school, Kahlil worked as a Policy Analyst for The Brennan Center for Justice, where he researched and advocated on issues relating to partisan redistricting and gerrymandering, restrictive voter ID laws, campaign finance reform and electoral competition, and the restoration of voting rights to individuals with felony convictions. Prior to the Brennan Center, Kahlil served as a Congressional Black Caucus Foundation Fellow at the NAACP Legal Defense and Educational Fund, Inc., where he assisted the organization's efforts to reauthorize expiring provisions of the Voting Rights Act.