The U.S. Securities and Exchange Commission (SEC) has faced another set-back in its efforts to pursue insider trading cases. On June 8, 2015, a federal judge shocked the SEC by enjoining it from continuing an administrative proceeding in Hill v. SEC, an insider trading case. Sitting in the U.S. District Court in Atlanta, Judge Leigh Martin May found the SEC’s practice of using Administrative Law Judges (ALJ) to litigate claims against nonregistered defendants to be “likely unconstitutional”.
While the specific constitutional issues raised in Hill are not applicable in Canada, the case illustrates a dynamic tension between courts and administrative tribunals. Similar issues may yet play out in Canada as securities regulators opt to pursue serious securities cases, carrying significant penalties, before administrative tribunals rather than in court.
The plaintiff in this case was a self-employed real estate developer who allegedly made close to $750,000 in profits from insider trading. After a two-year investigation, the SEC sought administrative sanctions against him, including a cease-and-desist order, a civil penalty, and disgorgement. Prior to the passage of Dodd-Frank in 2010, the SEC could not seek civil penalties from an unregistered individual through administrative proceedings; rather, it had to be pursued in federal court, where defendants could invoke their U.S. constitutional right to a jury trial.
SEC administrative proceedings vary greatly from federal court actions. Administrative proceedings have relaxed evidentiary and procedural rules. They generally unfold much faster. And most importantly for the purposes of Judge May’s decision, they may be presided over by an ALJ, a delegate of the adjudicative power vested in the Commissioners of the SEC. Like many other administrative bodies, such delegation of authority is permitted by the SEC’s enabling legislation.
The question facing Judge May was whether ALJs are inferior officers or employees of SEC. If the former, Article II of the U.S. Constitution (the Appointments Clause) requires that they be appointed by the President, or if Congress designates, the Judiciary or “Heads of Departments”.
Judge May analyzed the powers exercised by the ALJs of the SEC and found them to be inferior officers. Because of the way the SEC hires ALJs, the Judge found that the appointment “is likely unconstitutional in violation of the Appointments Clause”. On this basis, Judge May granted a preliminary injunction enjoining the SEC administrative proceedings from continuing against the plaintiff.
Implications of the Ruling
For the SEC, the ruling has significant ramifications. As previously discussed, the SEC has faced continuing challenges enforcing its rules against insider trading activity. Following a string of high-profile insider trading trial losses and increasingly onerous evidentiary burdens to make the case in court, the SEC Enforcement Division has begun to pursue a more aggressive agenda against insider-trading cases through administrative proceedings.
No doubt, the ruling will dampen such initiatives. In fact, the SEC felt compelled to release a public letter declaring Judge May’s decision to be “wrongly decided” and erroneous. It is unlikely that this will be the last word.
In Canada, the use of administrative tribunals to try cases involving significant securities matters is prevalent and broadly accepted. However, the role of the Commission as both the driver and enforcer of policy has been criticized and reviewed and has been the subject of judicial consideration. The perception, generally, has been that tribunals can offer more streamlined decision-making and a wider range of remedies than courts typically offer. However, in recent years securities commissions have been given the ability to impose very significant “administrative penalties” and disgorgement orders in the exercise of their public interest jurisdiction. Also, after years of trying to secure criminal convictions in provincial court, securities regulators have achieved success sanctioning insider trading through administrative proceedings. As tribunals increasingly become the most important forum in which serious securities matters are adjudicated, and as their power to impose significant and far-reaching remedies grows, we may see renewed efforts to narrow the jurisdiction of Canadian administrative tribunals for securities regulation.