ALF Argues That SEC In-House Enforcement Proceedings Deprive Defendants of Due Process

In SEC v. Jarkesy, No. 22-859, the Supreme Court has agreed to review a Fifth Circuit opinion holding that Securities and Exchange Commission “in-house” civil administrative enforcement proceedings are unconstitutional on three grounds: (i) they deprive respondents (i.e., defendants) of their Seventh Amendment right to a trial by jury; (ii) Congress unconstitutionally delegated legislative power to the SEC by failing to provide an “intelligible principle” governing the Commission’s unfettered choice of whether to proceed against an enforcement target in-house rather than in a federal district court; and (iii) the statutory for-cause-only removal protection afforded to SEC administrative law judges (ALJs) is unconstitutional.

On behalf of the Atlantic Legal Foundation, I have written and filed an amicus brief arguing that these constitutional defects are significantly exacerbated by the patently deficient procedural due process provided to individuals and/or corporations when the SEC hales them into an in-house administrative enforcement proceeding prosecuted by SEC enforcement staff on their own home turf, conducted under SEC-friendly procedural and evidentiary rules by an SEC-employed ALJ, and if appealed, reviewed and finalized—virtually always in the SEC’s favor—by the SEC Commissioners, who authorized initiation of the enforcement proceeding. Only then is Article III judicial review of the merits of SEC’s enforcement claims available, albeit in a federal court of appeals under a deferential standard of review.

ALF’s brief argues that the harsh penalties that can be imposed on SEC civil enforcement targets for securities law violations—monetary fines, disgorgement of ill-gotten gains, prohibitions against participation in the securities industry and resultant reputational harm—heighten the need for procedural due process.  Compared to the robust due process protections afforded to SEC civil enforcement defendants in district courts, individual and corporate respondents in SEC administrative enforcement proceedings are provided significantly less due process.

For example, the SEC’s internal Rules of Practice, 17 C.F.R. § 201.100 et seq., are sharply slanted in the agency’s favor, both on their face and as applied. The Commission (i.e., the five SEC Commissioners) not only acts as prosecutor when it authorizes initiation of an in-house enforcement action, but also as judge when it reviews an SEC ALJ’s decision and then almost always rules in the SEC’s favor. Neither the Federal Rules of Civil Procedure nor the Federal Rules of Evidence apply to hearings conducted by SEC ALJs. Discovery is curtailed, and respondents are rarely afforded adequate time to prepare a defense.  Unlike the federal rules, hearsay is generally allowed, and there are no specific criteria governing admissibility of expert testimony. After an SEC ALJ issues an “initial decision,” the Commission can take as long as it wishes to review it, and thereby delay the respondent’s statutory right to judicial review of the merits of the SEC’s enforcement claims.

These and other due process deficiencies that infect SEC in-house enforcement proceedings provide additional context to the constitutional defects identified by the Fifth Circuit and support affirmance of that court’s ruling.

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