SEC v. Jarkesy: In-House Adjudicators are Out and the Jury is In

Why do environmental professionals need to know about a recent securities case? Read on for details. In response to the Wall Street Crash of 1929, Congress passed the Securities Act of 1933, the Securities Exchange Act of 1934, and the Investment Advisers Act of 1940 to combat securities fraud and increase market transparency. The Securities and Exchange Commission (SEC) is the agency that delegated enforcement of these acts, which until 2010, had to occur in a court of law. In 2010, Congress passed the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act) which allowed the SEC to impose penalties through in-house proceedings. These in-house proceedings look similar to those of other agencies, and typically take place in front of an Administrative Law Judge (ALJ) who is employed by the agency but swears to remain impartial. Sound familiar? This framework is much like the Environmental Protection Agency’s (EPA) ALJ and Environmental Appeals Board (EAB) paradigm.

Not long after the passing of the Dodd-Frank Act, the SEC charged George Jarkesy, Jr. and his firm, Patriot28, for alleged violations of the anti-fraud provisions in the security laws listed above. The matter was adjudicated in-house and concluded with a penalty of $300,000. Jarkesy petitioned for judicial review and the Fifth Circuit vacated the order on the grounds that adjudicating the matter in-house violated the defendant’s Seventh Amendment right to a jury trial.

The Supreme Court was presented with the following question: When the SEC seeks civil penalties against a defendant for securities fraud, does the Seventh Amendment entitle the defendant to a jury trial? The Court held that yes, it does. The Court attempted to narrowly tailor their reasoning for agreeing with the Fifth Circuit. The reason? The Seventh Amendment guarantees that suits at common law require a right to trial by jury. This right can be traced back to the Founding Fathers’ frustration with cases being decided by the English Monarch. However, there is an exception to the Seventh Amendment—cases concerning “public rights.” The Constitution promises a fair trial in a fair tribunal. Notably, in-house proceedings before the SEC resulted in about 90% of cases in favor of the SEC, compared to 69% in court.

The public rights exception includes matters such as the collection of revenue, aspects of customs law, immigration law, the administration of public lands, and the granting of public benefits. Many cases have tried to decipher what is considered a public right. One factor that falls in favor of the exception is whether Congress created new statutory obligations, imposed civil penalties for their violation, and then committed that obligation to an administrative agency. In the alternative, other cases suggest that when a suit is in the nature of an action at common law, then it is presumptively a private right, and thus the right to a trial by one’s peers is preserved. So, what does this mean for EPA administrative enforcement actions?

Well, the majority and concurring opinions dive heavily into analyses of common law fraud (private action) and the anti-fraud provisions of the security laws (public rights action). The legal system created by the security laws differs from an equitable system created by common law. The laws factor in culpability, deterrence, and recidivism to punish the defendant rather than the common law that aims to restore damages to the victim. An example is that the SEC is not obligated to return any money to victims, but rather is delegated authority from Congress to implement and enforce laws that govern a system of anti-fraud. Before 2010, they were using the courts rather than in-house proceedings to execute their authority.

The dissent cites several cases ranging from the Department of Agriculture to the Department of Housing and Urban Development as examples of an agency being delegated the ability to conclude matters in-house through the public rights exception. In 1977, Atlas Roofing v. OSHA ruled that the agency could impose civil penalties without adjudicating claims before an Article III jury. The majority distinguishes this case due to the common-law soil from which the federal-securities laws grow. The OSHA regulations that were at issue in Atlas Roofing are separate from the common law origin of the constitution.

Many environmental statutes authorizing ALJ- or EAB-like enforcement proceedings and originally falling into the public rights exception now may be reconsidered for constitutionality concerns, including the Clean Water Act; the Clean Air Act; the Comprehensive Environmental Response, Compensation, and Liability Act; and the Emergency Planning and Community Right-to-Know Act. There still remains a strong incentive for industries to settle administrative disputes as juries can be unpredictable and the judicial process can take years. Additionally, agencies like the EPA have statutory caps on penalties; if a company wants their day in court, they may be facing the Department of Justice along with a higher cap on penalties.

As it remains to be seen how far this decision will be applied throughout government agencies, environmental professionals would be wise to stay tuned to the developments and to EPA’s statements and actions post SEC v. Jarkesy. With this opinion and others from SCOTUS this session, the Court’s work to dismantle federal agency authorities and to redirect more decision making to the federal courts is robust. Other recent opinions in Loper, Corner Post, and Ohio clearly express the Court’s preference to diminish federal agency power and expand judicial review of administrative activities. This presents environmental professionals with new and growing uncertainties for the implementation of existing statutes, new rulemaking processes, and now enforcement actions. So far, EPA has not commented on the effect of the opinion on its administrative enforcement activities.