Supreme Court hears arguments on allowing challenges to SEC's in-house judges

The U.S. Supreme Court heard arguments Monday in a case that could allow companies and people facing Securities and Exchange Commission charges to challenge the agency's constitutional authority in U.S. District Court before the SEC settles the matter in-house.

"This case illustrates the crucial importance of this district court jurisdiction for everyday Americans who find themselves before an unconstitutional agency decision maker," said Gregory G. Garre, a partner with Latham & Watkins and a former U.S. solicitor general on Monday before the Supreme Court. Mr. Garre was representing the plaintiff Michelle Cochran, an accountant facing SEC administrative charges of violating federal accounting standards before an SEC administrative law judge, or ALJ. "The SEC acts as prosecutor, judge and, in effect, executioner in its own proceedings. All of which give it an extraordinary home-court advantage."

Mr. Garre argued that the SEC's ALJs are "unconstitutionally insulated from removal by the president" in violation of the president's executive authority under the Constitution.

Ms. Cochran in 2019, in SEC vs. Cochran, challenged the constitutionality of the SEC's ALJ system in the Northern District of Texas. After losing the case she appealed to the Fifth Circuit Court of Appeals in New Orleans and lost once more. She then petitioned the Fifth Circuit for en banc hearing before all judges of the court and the full court in December reversed the initial decision.

The Supreme Court in May said it would review the case, which it also combined with a similar case, Axon Enterprise, Inc. vs. FTC. Oral arguments in both cases were heard Monday.

"This is a series of cases that are a constellation around some fairly basic propositions," Chief Justice John Roberts said during the FTC case oral arguments. "And to have it go over and over and over again, it does make the case about the need for direct resolution of a related claim pretty strong."

Malcolm L. Stewart, U.S. deputy solicitor general, who argued on behalf of both the SEC and FTC Monday, said historical precedent is on the government's side in both cases. "Courts don't intervene in pending agency proceedings dating all the way back to a 1912 opinion written by Chief Justice Edward White," he said during the SEC case arguments. "So to us, the most difficult aspect of this case is whether the barrier to sue should be jurisdictional or non-jurisdictional, but the most salient fact is this is never the kind of thing a person could get immediate review of in court."

Though the court seemed open to siding with the plaintiffs in both cases, Justice Brett Kavanaugh told Mr. Garre that there's a lot of precedent interpreting the existing statues overseeing ALJs. "Kind of starting over on all that would create kind of a tsunami of litigation," Mr. Kavanaugh said. "Maybe that's OK, maybe it's not."

SEC enforcement officials obtained a record $6.4 billion in disgorgements and penalties in fiscal year 2022 and filed more than 700 enforcement actions, Chairman Gary Gensler announced Nov. 2.

In a separate decision two days after the Supreme Court agreed to hear the Cochran case, the Fifth Circuit found that the SEC's ALJ system was unconstitutional as a whole, explained attorneys from Troutman Pepper in a Pensions & Investments industry voice piece. The decision in that case — Jarkesy vs. SEC — found that the SEC's in-house adjudication of securities anti-fraud statutes violated the right to trial by jury, that Congress unconstitutionally delegated to the SEC the power to decide whether securities fraud cases were heard in Article III courts or before an ALJ, and that the removal protections given to SEC ALJs were unconstitutional, the attorneys wrote.

"While the Fifth Circuit's decision in Jarkesy set the stage for a future challenge to the overall ALJ structure before the Supreme Court, even in the short term, a ruling in Cochran allowing immediate challenges in a district court could paralyze the ALJ system going forward," the attorneys wrote.