Targets Challenge Constitutionality of SEC’s In-House Court
It used to be rare for the SEC to bring enforcement actions against unregulated entities or individuals in its in-house administrative court rather than in federal court. But as a result of the Dodd-Frank Act (and possibly due to the SEC’s recent string of high profile court losses, the SEC is now bringing many more administrative proceedings against individuals against whom it would previously have filed suit in federal court. The constitutionality of these proceedings remains in question and several targets of these SEC administrative proceedings have filed federal suits challenging the constitutionality of these in-house proceedings.
The SEC has essentially unfettered discretion to bring a case in either federal court or in-house and does not have to explain its decision in any particular case. Because the SEC may bring only civil cases, when those cases are filed in federal court defendants may engage in extensive discovery and request trial by jury. In contrast, an administrative case allows much less discovery and is decided by the SEC’s own administrative judge, not a jury, making in-house cases attractive to the SEC.
The constitutional challenges brought by the SEC’s recent in-house targets assert two general theories: First, administrative proceedings violate the defendants’ Seventh Amendment and due process rights because there’s no jury and the evidentiary rules favor the SEC. Second, the entire administrative law judge system violates the separation-of-powers doctrine under the U.S. Supreme Court’s 2010 decision in Free Enterprise Fund v. Public Company Accounting Oversight Board, 561 U.S. 477 (2010). Free Enterprise Fund held that the dual for-cause removal protections afforded members of the Public Company Accounting Oversight Board violated the Constitution’s requirement of the separation of powers, because the board members could not be held accountable by the president. See id. at 492.
But the SEC’s in-house defendants face a preliminary hurdle to their constitutional challenges that has caused several to stumble already: the question whether federal district courts have jurisdiction to hear cases challenging the constitutionality of the SEC’s administrative process. Several federal courts have already ruled that a defendant must raise his or her constitutional challenges to the SEC’s own administrative law judge, appeal any adverse decision to the Commission, and then appeal any adverse decision by the Commission to a federal court of appeals. See Bebo v. SEC, 2015 WL 905349 (E.D. Wisc. Mar. 3, 2015) (noting Bebo’s claims “are compelling and meritorious,” but the district court was the improper venue for those claims); Chau v. SEC, 2014 WL 6984236 (S.D.N.Y. Dec. 11, 2014); Jarkesy v. SEC, 48 F. Supp. 3d 32 (D.D.C. 2014).
Thus, it appears that we will have to wait for a defendant’s case to work its way through the administrative process to learn the fate of the SEC’s in-house court. But when that time comes, and if a court decides the SEC’s administrative law judges have too much protection from removal, the SEC’s push for more in-house cases could topple the entire administrative court system.