Constitutionality of SEC administrative proceedings

In Tilton v. SEC, No. 15-cv-2472 (S.D.N.Y. Jun. 30, 2015), the U.S. District Court for the Southern District of New York threw out a lawsuit filed by Patriarch Partners, LLC, the CEO Lynn Tilton, and affiliated companies (collectively “Plaintiffs”), seeking to halt the SEC’s cease-and-desist proceedings. The suit asserted that the administrative proceeding was unconstitutional. The court found it had no subject matter jurisdiction to halt the proceeding against the Plaintiffs.

On March 30, 2015, the SEC brought an administrative cease-and-desist proceeding alleging that the Plaintiffs violated federal securities laws by “providing false and misleading information, and engaging in a deceptive scheme, practice and course of business, relating to the values they reported for these funds’ assets.” [https://www.sec.gov/litigation/admin/2015/ia-4053.pdf]

The Plaintiffs challenged the SEC proceeding in district court contending that since administrative law judges (ALJs) were not appointed by the SEC Commissioners themselves, they violated the Appointments Clause of the Constitution. In addition the two layers of tenure protection created by “for cause” removal protections applied to ALJs at the SEC also violated the Constitution.

The court found that it lacked subject matter jurisdiction to hear the Plaintiff’s case. As the court reasoned:

  • Congress has created a remedial scheme applicable to claims such as Plaintiffs', pursuant to which the exclusive avenue of review of an ALJ's decisions is through the administrative process, with subsequent judicial review by a federal court of appeals. Plaintiffs are therefore obliged to further litigate their claims in the Commission's administrative forum and seek review, if they so choose, in a circuit court of appeals.

Nonetheless, the court would have the authority to hear a collateral challenge to an administrative proceeding “[1] if ‘a finding of preclusion could foreclose all meaningful judicial review’; [2] if the suit is ‘wholly collateral to a statute’s review provisions’; and [3] if the claims are ‘outside the agency’s expertise.’”

The court examined whether the existing system provided for “meaningful judicial review.” Although the issue could be litigated in an administrative proceeding and eventually appealed to the US Court of Appeals, the court considered whether Plaintiffs lacked meaningful review because the approach, among other things, would require them to litigate “through administrative channels” that they claimed were unconstitutional, would not allow them to “effectively” raise their claims and the ALJ and the Commission would “be ‘inherently conflicted’ in assessing their claims.” 

The court however, rejected the arguments. As the court concluded: 

  • Plaintiffs contend that it is unconstitutional-and unfair-for the Commission to subject them to an enforcement action before the Commission's own Administrative Law Judge. But that question is not for this Court to decide. Congress has carefully delineated the distinct roles of the Commission and the courts in cases such as this. It rests first with the Commission to determine whether to commence an action at all, and if so, whether to do so in federal district court or in its own administrative tribunal. Having chosen the latter, it rests with an ALJ and then the Commission to rule on Plaintiffs' claims. That decision in turn is subject to appeal to a federal court of appeals. In this Court's view, there is no basis to allow Plaintiffs to bypass this congressionally created remedial scheme.

 

Accordingly, the court denied the Plaintiffs’ motion for a preliminary injunction for lack of subject matter jurisdiction.

The case has been appealed. The SEC denied a motion to adjourn pending the outcome of the appeal.[1] The Second Circuit however granted a stay of the administrative proceeding after hearing oral argument Tilton v. S.E.C., No. 15-CV-2472 RA, 2015 WL 4006165, at *1 (S.D.N.Y. June 30, 2015). 

The primary materials for this case may be found on the DU Corporate Governance website

 

[1][https://www.sec.gov/alj/aljorders/2015/ap-3090.pdf]

Jason Haubenreiser