On Wednesday, May 18th, the United States Court of Appeals for the Fifth Circuit (the “5th Circuit” or the “Court”) put its dentistry skills on display by removing the teeth of the in-house adjudication process utilized by the United States Securities and Exchange Commission (the “Commission”) with respect to the Commission’s administrative enforcement actions.

In the case, George R. Jarkesy, Jr.; Patriot28, L.L.C. versus Securities and Exchange Commission, the petitioners (Jarkesy, et al) were alleged to have committed fraud under the Securities Act of 1933, the Securities Exchange Act of 1934 and the Investment Advisers Act of 1940. Based on the allegations, the Commission brought an enforcement action against the petitioners. After the Commission’s administrative law judge (“ALJ”) concluded, and the Commission affirmed on appeal, that the petitioners had committed securities fraud, the petitioners were ordered to pay a civil penalty of $300,000, the Commission ordered petitioner Patriot28, LLC to disgorge nearly $685,000 in ill-gotten gains, and Jarkesy was barred from various securities industry activities.

After the Commission’s affirmation, the petitioners filed a petition for review in the 5th Circuit. By a 2-1 vote, the Court vacated the Commission’s decision and ruled that the in-house adjudication process relied on by the Commission to hear and resolve enforcement actions violated petitioners’ right to a jury trial. The Court further held that Congress had improperly delegated legislative authority to the Commission in failing to provide an “intelligible principle by which the [Commission] would exercise the delegated power” (Jarkesy, et al. v. Commission), and that the statutory removal restrictions on the Commission ALJs violated the Take Care clause of Article II of the Constitution.

This case deals a significant blow to the Commission, and quite possibly to the other administrative agencies of the U.S. Federal Government, which have long relied on their own internal adjudicatory apparatuses to enforce their respective rules and regulations.

With this ruling, the Biden Administration finds itself in a difficult position. It can choose to either let the 5th Circuit have the final say on this matter, with the best-case scenario seeming to be a circuit court-split down the road, or it can choose to appeal this case to the Supreme Court for a final ruling. However, Door Number 2 leads to a Supreme Court comprised of a majority that has not historically looked favorably upon U.S. federal regulatory agencies. Should the Biden Administration roll the dice and seek to overturn the 5th Circuit on appeal, the Roberts court may issue a ruling that potentially devastates the prospect of future Executive Branch enforcement procedures. 

If you are interested in reading more, you can find reporting here, and read the opinion here.