Supreme Court claws back SEC’s enforcement powers

The Supreme Court clawed back the Securities and Exchange Commission’s (SEC) powers Thursday by invalidating the agency’s internal system used to seek civil fraud penalties. 

The 6-3 decision along ideological lines rules unconstitutional the SEC’s in-house administrative courts, a key tool it has leveraged in enforcing securities laws. The Biden administration has warned such an outcome would threaten agencies across the federal government that use similar setups.

Chief Justice John Roberts, writing for the majority, said forcing defendants to go through the SEC’s in-house system rather than a federal district court violates their Seventh Amendment right to a jury trial. 

"A defendant facing a fraud suit has the right to be tried by a jury of his peers before a neutral adjudicator," Roberts wrote. "Rather than recognize that right, the dissent would permit Congress to concentrate the roles of prosecutor, judge, and jury in the hands of the Executive Branch. That is the very opposite of the separation of powers that the Constitution demands."

Roberts was joined by the court's five other conservatives, with the three liberals in dissent. Justice Sonia Sotomayor read her dissent aloud from the bench, a rarity used to underscore sharp disagreements in a case. It marked the second time this term a justice read a dissent from the bench.

"Today’s ruling is part of a disconcerting trend: When it comes to the separation of powers, this Court tells the American public and its coordinate branches that it knows best," Sotomayor wrote.

The decision marks a significant victory for conservative and business interests that have sought to demolish the setup as part of a broader attack on the “administrative state.” 

Although the case, SEC v. Jarkesy, has received less attention than some of those other cases implicating the scope of executive branch powers on the Supreme Court’s docket this term, legal experts have described the impacts of the SEC case as potentially wide-ranging.  

The decision is poised to force a shift in how the SEC protects investors against fraud and possibly create spillover effects for other agencies including the Federal Trade Commission, the IRS, the Environmental Protection Agency and the National Labor Relations Board (NLRB). 

Corporate giants have been taking aim at the constitutionality of administrative law judges on the NLRB, the federal agency in charge of enforcing U.S. labor laws. Facing NLRB complaints from alleging illegal harassment and firings of unionizing employees, Amazon, Starbucks, SpaceX and Trader Joe’s have each challenged the constitutionality of the New Deal-era agency in recent months.

Elon Musk’s SpaceX cited SEC v. Jarkesy in a January complaint against the NLRB that argued the agency’s structure is unconstitutional because it improperly protects its members and administrative law judges from removal.

The SEC has recorded higher success rates when it seeks civil penalties before its in-house administrative law judges rather than through the normal federal court system. 

The case that led to the high court began after the SEC launched in-house enforcement proceedings in 2013 against George Jarkesy, a conservative radio host who managed approximately $24 million in assets across two hedge funds with his investment advisory firm, Patriot28 LLC.

An administrative law judge found Jarkesy violated securities laws by making false claims about who was auditing the funds to investors, misrepresenting the funds’ investment strategy and overvaluing the funds to increase management fees.

Jarkesy appealed, and the 5th U.S. Circuit Court of Appeals ruled in favor of him by invalidating the SEC’s scheme on three different constitutional grounds.

The Supreme Court affirmed the lower decision on the first ground: that Jarkesy was entitled to a jury trial.

But the justices did not address the lower panel's other two findings that the SEC's system was additionally unconstitutional because it improperly delegated legislative power and created impermissible removal protections for administrative law judges.

In a statement, Jarkesy called the decision a "great day for the Constitution."

"It has been a long and arduous path, and I am extremely grateful that the Supreme Court has vindicated my innocence, but the ramifications of this case are so much bigger than one person," Jarkesy said.

"If this could happen to me, it could happen to any citizen of this country and after a decade of gross misconduct and blatantly unconstitutional political attacks from the SEC and their in-house court, today the United States Supreme Court ruled that the Constitution still matters."

Updated at 11:05 a.m. ET