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US Securities and Exchange Commission

Supreme Court Sidesteps Broader Questions on SEC Judge Constitutionality in ‘Pointed’ Jarkesy Ruling

Bill Flook  Editor, Accounting and Compliance Alert

· 5 minute read

Bill Flook  Editor, Accounting and Compliance Alert

· 5 minute read

The Supreme Court on June 27, 2024, issued a closely watched 6-3 ruling in SEC v. Jarkesy, holding that targets of SEC enforcement actions in which the commission seeks monetary penalties have a right to a jury trial.

The ruling sidestepped some broader constitutional questions around the SEC’s use of administrative proceedings raised by the Fifth Circuit, and appears to leave intact the agency’s in-house process for sanctioning accountants and other professionals.

As signaled during oral argument in November 2023, the Supreme Court’s conservative majority focused on whether administrative actions involving potential penalties ran afoul of the Seventh Amendment’s right to a jury trial. Chief Justice John Roberts, writing for the court, concluded that “a defendant facing a fraud suit has the right to be tried by a jury of his peers before a neutral adjudicator.”

The SEC, amid years of constitutional uncertainty surrounding its use of administrative law judges (ALJs), had already shifted its strategy to bringing litigated cases in US district courts.

The ruling could have been far broader.

The Supreme Court in June 2023 agreed to review the Fifth Circuit’s sweeping decision from a year prior vacating a commission judgment against hedge fund manager George Jarkesy and investment adviser Patriot28 LLC.

Fifth Circuit Judge Jennifer Walker Elrod, in an opinion with three key holdings, deemed the commission’s use of ALJs to be unconstitutional, concluding that Jarkesy and Patriot28 had a right to a jury trial under the Seventh Amendment for actions where the SEC seeks monetary penalties; Congress failed to articulate an “intelligible principle” when it delegated the power to the commission to choose whether it brings cases before its own ALJs or in district court; and removal restrictions on ALJs violate Article II of the Constitution, which dictates the president must “take care that the laws be faithfully executed.”

Roberts’ opinion notably skirted the latter two holdings “since the answer to the jury trial question resolves this case.”

“I don’t think the story is done,” Scott Mascianica, a former assistant regional director for enforcement at the SEC Fort Worth Regional Office who is now head of government investigations and regulatory enforcement at Hilgers Graben PLLC, told Thomson Reuters. “We have this pointed ruling on a very specific subset of SEC enforcement cases, namely, fraud cases. But the broader constitutionality questions, at least those raised by the Fifth Circuit on non-delegation and removal protections, they still remain.”

The SEC relies on its administrative process to pursue certain non-monetary sanctions against professionals, which includes suspending accountants from practicing before the commission under Rule 102(e) of its Rules of Practice.

“This opinion does not address those cases,” Mascianica said. “Now, I want to be clear, there’s nothing I read that suggests the proceedings are constitutional in those cases. It’s just that this opinion doesn’t cover those because it doesn’t get to the constitutionality of ALJs.”

Morrison Cohen LLP Partner Richard Hong, former SEC senior trial counsel, wrote by email that the SEC will continue to bring Rule 102(e) actions, as well as industry bars and stop order proceedings.

“But anything that involves a fraud claim seeking penalties is gone. They have to be filed in federal court,” Hong wrote, noting that due to the shift the SEC has already undertaken in recent years “the practical effects on that side will be minimal.”

“But to the extent that the SEC had any hopes of bringing other fraud-type case to litigate in its administrative courts, it will not be able to bring any penalty claim. I don’t think the SEC will expend a lot of resources for non-penalty fraud cases,” he wrote. “Also, to the extent that there are prior cases on appeal where the ALJ decided the penalties and any pending cases (some may have been stayed), the SEC has to figure out whether there are some retroactivity issues to be resolved.”

The Jarkesy ruling comes six years after the Supreme Court ruled in Lucia v. SEC, in which it found that SEC ALJs are “officers of the United States” subject to the Appointments Clause of the Constitution, and therefore must be appointed by the President, judiciary, or agency heads, leading the SEC to ratify the prior appointment of its ALJs and review pending proceedings.

That ruling marked a shift away from the SEC bringing litigated cases administratively.

“If you look at the public docket of our enforcement, the bulk of what we’ve done ever since a case called Lucia, is on litigated matters, take them to the district courts,” SEC Chair Gary Gensler told Thomson Reuters after a June 13 Senate appropriations subcommittee hearing, in response to a question on the imminent Jarkesy. ruling.

Several notable exceptions to the SEC’s post-Lucia shift toward district courts can be found in the in-house enforcement actions against auditors. Three separate administrative cases, against Marcum LLP partners Alan Markowitz and Edward Hackert and former PricewaterhouseCoopers LLP partner Joshua Abrahams, have been paused pending the outcome of Jarkesy. Markowitz and Hackert are also separately challenging the proceedings’ constitutionality in US district court, and those matters have also been stayed until after the Supreme Court ruling.


This article originally appeared in the June 28, 2024, edition of Accounting & Compliance Alert, available on Checkpoint.

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