Collateral Challenge to Constitutionality of SEC Administrative Procedure to be Dismissed for Lack of Jurisdiction

On June 17, the Eleventh Circuit decided Hill v. SEC, 825 F.3d 1236 (11th Cir. 2016), vacating the district court’s grant of two motions for preliminary injunctions prohibiting the Securities and Exchange Commission’s (SEC) administrative enforcement proceedings. The Eleventh Circuit consolidated two cases where the plaintiffs had each challenged the SEC administrative procedure on grounds, among others, that the SEC’s appointment of Administrative Law Judges (ALJs) in its administrative enforcement actions violates the Appointments Clause of Article II of the United States Constitution because the ALJs are not appointed by the President, a department head, or a court of law.[1] The SEC objected to the plaintiffs’ suits on the ground that the federal district court lacked subject matter jurisdiction over a collateral challenge to its administrative proceedings. Judge Leigh Martin May of the Northern District of Georgia granted each plaintiff’s motion for a preliminary injunction, finding that their Appointments Clause claims were likely to succeed on the merits, and the SEC appealed, again on jurisdictional grounds. The Eleventh Circuit held that the district court lacked subject matter jurisdiction over the collateral challenge to the administrative procedure authorized by statute and that plaintiffs’ exclusive means of challenging the administrative procedure was through that procedure itself, including an eventual appeal to the appropriate United States Court of Appeals.

In the first case, the SEC initiated an administrative enforcement action against real estate developer Charles Hill for alleged insider trading, seeking a cease and desist order, a civil penalty, and disgorgement. Hill had purchased several thousand shares of stock in Radiant Systems, Inc. in June and early July 2011 and then sold the stock for a profit of approximately $744,000 on July 12, the day after the company announced a merger. Hill filed two motions for summary disposition challenging, respectively, the merits of the claims and the constitutionality of the administrative enforcement action itself. In his constitutional challenges, Hill claimed violations of (1) the removal protections of Article II, (2) the non-delegation doctrine, and (3) the Seventh Amendment right to a jury trial. Although denying both motions, the ALJ concluded that he lacked authority to rule on the constitutionality of the Securities Exchange Act, and thus could not rule on Hill’s second and third constitutional objections. The Eleventh Circuit also noted that the ALJ expressed doubt about his authority to adjudicate the first objection, but he nevertheless rejected it on the merits. After this ruling, Hill filed suit in federal district court in the Northern District of Georgia and later added his claim under the Appointments Clause of Article II through an amended complaint.

In the second case, the SEC threatened to bring an administrative enforcement action against Gray Financial Group, Inc. and two individuals within the firm (collectively “Gray”) if they refused to settle the SEC’s claim that Gray had violated federal securities laws by offering an investment fund not in compliance with a Georgia pension law. Gray filed suit in federal court seeking to enjoin the SEC from initiating an administrative enforcement proceeding, which the SEC did a few months later. Gray initially sought an injunction based on the argument that the SEC’s ALJs violated the removal protections of Article II and then added the Appointments Clause claim through an amended complaint after the SEC initiated its administrative action.

The Eleventh Circuit analyzed the jurisdictional question under the two-part framework of Thunder Basin Coal Co. v. Reich, 510 U.S. 200 (1994). As the Eleventh Circuit court explained, this framework requires the court to first determine whether it is fairly discernible from the text, structure, and purpose of the statute that Congress intended the statute to provide the exclusive means for judicial review. If the court finds that this was the intent of Congress, then it must determine whether the challenge involves the type of claim Congress intended to be reviewed within the statutory scheme. This second part requires the court to consider three factors; (1) whether the claim will receive meaningful judicial review within the statutory scheme, (2) whether the claim is outside the agency’s expertise, and (3) whether the claim is wholly collateral to the statute’s review provisions.

The court first determined that the first part of the analysis was met based on its finding that the section of the Securities Exchange Act at issue, 15 U.S.C. § 78y (“78y”), is materially indistinguishable from the analogous section of the Federal Mine Safety and Health Amendments Act of 1977 (the “Mine Act”). The Supreme Court construed this provision of the Mine Act in Thunder Basin and found it to meet this standard. The Eleventh Circuit, furthermore, found that a more recent Supreme Court case, Elgin v. Department of the Treasury, 132 S. Ct. 2126 (2012), reinforced this holding. The Securities Exchange Act imposes a comprehensive administrative review scheme, and the creation of such a scheme met the “fairly discernible” standard in Elgin. The Eleventh Circuit also distinguished the Supreme Court’s decision in Free Enterprise Fund v. Public Company Accounting Oversight Board, 561 U.S. 477 (2010). Free Enterprise concerned a challenge to the same review scheme of the Securities Exchange Act, arguing that the appointments of members to the Public Company Accounting Oversight Board by the SEC violated the Appointments Clause. The court distinguished Free Enterprise based on the fact that the challenged conduct in Free Enterprise was not an SEC action that would have resulted in a final order, whereas here the administrative proceeding the plaintiffs sought to enjoin necessarily would conclude with a final order.

The court then turned to the second part of the Thunder Basin framework. Under the first factor, the court concluded that plaintiffs’ specific claims would “without doubt” receive meaningful judicial review under the administrative review scheme. The court found that this factor was met because simply “[e]nduring an unwanted administrative process, even at great cost, does not amount to an irreparable injury on its own.” (citing FTC v. Standard Oil Co. of Cal., 449 U.S. 232, 244 (1980)). The court held that it made no difference that plaintiffs’ claim was constitutional and distinguished cases where this factor served as a limitation because it said that in those cases the statutory scheme would impose a “serious prehearing deprivation.” With the SEC administrative enforcement proceeding at issue here, the court found, however, that, even if the administrative proceeding were to result in a deprivation, the plaintiffs could request a stay from either the SEC or the reviewing court during the pendency of their appeal, so there was a mechanism to prevent any deprivation prior to judicial review. The court also found that the plaintiffs did not need to assume additional risk in order to challenge the law because the allegedly unlawful conduct had already occurred before the SEC brought its administrative enforcement action.

The court found that the remaining factors were not pointing strongly in either direction and so the plaintiffs’ claims could not be removed from the statutory scheme. The Eleventh Circuit held that, with regard to the second factor, the agency’s ability to avoid the constitutional question by reaching the merits in the plaintiffs’ favor constituted agency expertise “brought to bear” on the constitutional issues “even if its expertise could offer no added benefit to the resolution of the constitutional claims themselves.” And the court also found that the question of whether the constitutional claim was “wholly collateral” was open to varying interpretations and, in any event, not sufficient to persuade the court that Congress intended claims such as the plaintiffs’ to avoid the statutory scheme.

According to the court, the Hill decision is consistent with decisions in the Second, Seventh, and D.C. Circuits. Tilton v. SEC, ___ F.3d ___, 2016 WL 3084795 (2d Cir. June 1, 2016); Jarkesy v. SEC, 803 F.3d 9 (D.C. Cir. 2015); Bebo v. SEC, 799 F.3d 765 (7th Cir. 2015), cert. denied, 136 S. Ct. 1500 (2016). The Fourth Circuit is also considering a case that raises this jurisdictional issue. See Bennett v. SEC, 2015 WL 9183445 (D. Md. Dec. 17, 2015), appeal docketed, No. 15‑2584 (4th Cir. Dec. 28, 2015).

[1] The court declined to reach another argument that the ALJs also violated the removal protections of Article II and rejected the plaintiffs’ other arguments.

Posted by Danny Wells.

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