The Securities and Exchange Commission (“SEC”) is increasingly turning to administrative proceedings rather than the federal courts to prosecute enforcement actions. The practice has not only drawn intense criticism, but also is being challenged in court.
Over the past several decades, Congress has expanded the SEC’s authority to bring enforcement actions through administrative proceedings rather than in court. Most recently, the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”) authorized the agency to obtain monetary penalties against non-regulated entities. Accordingly, the SEC’s use of administrative proceedings is no longer limited to obtaining cease and desist orders, but can also be used by the agency to prosecute a variety of violations.
The more extensive use of administrative proceedings, particularly in insider trading cases, is under growing scrutiny. Critics argue that the forum provides the SEC an unfair advantage, citing the lack of pretrial discovery and defense motions, the admissibility of hearsay evidence, and the short timeline to prepare a defense. As further evidence, they point to the SEC’s near flawless record in administrative proceedings. By comparison, the SEC won only 61 percent of federal court trials, according to the Wall Street Journal.
U.S. District Judge Jed Rakoff is among the most vocal critics of the SEC’s new strategy. In his August 5, 2014 opinion in SEC v. Citigroup Global Markets, Inc., Case No. 11-cv-7387 (S.D.N.Y), he wrote: “Indeed, the Court of Appeals invites the SEC to avoid even the extremely modest review it leaves to the district court by proceeding on a solely administrative basis… One might wonder: from where does the constitutional warrant for such unchecked and unbalanced administrative power derive?”
During a November 5, 2014 speech at the Practising Law Institute’s Annual Institute on Securities Regulation, Judge Rakoff expanded on his commentary. He specifically raised concerns that if the SEC elects to bring precedential cases as administrative proceedings, “the law in such cases would effectively be made, not by neutral federal courts, but by SEC administrative judges.”
Finally, several lawsuits allege that the SEC’s use of administrative proceedings is unconstitutional. For instance, in Stillwell v. Sec. & Exch. Comm’n, Case No. 14-cv-7931 (S.D.N.Y.), an adviser facing an enforcement action alleges that the tenure and removal provisions governing SEC administrative law judges (“ALJs”) violate Article II of the U.S. Constitution.
Citing Free Enterprise Fund v. Pub. Co. Accounting Oversight Bd., 561 U.S. 477 (2010), in which the U.S. Supreme Court held that executive branch officers may not be separated from presidential supervision by more than one layer of tenure protection, the adviser argues that ALJs may only be removed for “good cause” by SEC Commissioners, which are themselves guaranteed tenure absent “inefficiency, neglect of duty, or malfeasance in office.”
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