On January 12, 2018, the Supreme Court granted a writ of certiorari in Raymond J. Lucia Cos., Inc. v. SEC, No. 17 130,[1] a case raising a key constitutional issue relating to the manner in which the U.S. Securities and Exchange Commission’s (SEC or Commission) appoints its administrative law judges (ALJs).  The Court will decide “[w]hether administrative law judges of the [SEC] are Officers of the United States within the meaning of the Appointments Clause.”  The answer to this question matters because if SEC ALJs are “officers,” then they should have been appointed by the Commission itself instead of hired through traditional government channels—and the Commission only exercised its ALJ appointment authority in late-2017.  Although the question is limited to SEC ALJs, any decision could also impact ALJs at other agencies government-wide.

At this point, both the petitioner and the Solicitor General (SG) actually agree that ALJs are officers.  In its response to the cert petition raising this issue in Lucia, the SG, in an about-face, had abandoned the SEC’s long-held defense of the manner in which it appoints its ALJs.  Up until now, in an attempt to fend off an asserted constitutional defect in their AJL’s method of appointment, the SEC has argued (with SG approval) that ALJs are “mere employees” of the SEC, and not “officers.”  The day after the SG dropped this position—and with no warning in its briefing—the Commission took the step to appoint the current ALJs.[2]

In view of the SG’s change in position and Commission’s appointment of its ALJs, the Court could have punted on this issue.  However, it did not, which suggests that it will likely next appoint an amicus to argue the position that the SG has abandoned—that ALJs are “mere employees” of the SEC.  In any event, it is worth pausing to consider what got us here and what this state of uncertainty means from a practical standpoint for securities industry participants.

Background of the Constitutional Controversy

Dodd-Frank, enacted in 2010, expanded the SEC’s ability, with few exceptions, to bring its cases—and to seek the full panoply of relief the SEC typically seeks—in an administrative proceeding before an ALJ.[3]  This reflected a significant change, as before Dodd-Frank the SEC generally only brought actions against individuals and entities working in the securities industry, such as registered broker-dealers and their associated persons.  All other actions were brought in federal district court.  The SEC quickly began taking advantage of its new authority, filing significantly more cases in the administrative forum—including actions that it could not have pre-Dodd-Frank—viewed by many to be more friendly to the SEC’s litigators than federal court.  Seizing on this perceived home-field advantage, commentators, media, and members of the defense bar began questioning the fundamental fairness of these administrative proceedings.  Notably, they argued, many basic features of federal civil practice—such as extensive discovery and, in many circumstances, a right to jury trial—were absent from ALJ proceedings.[4]

It did not take long for the defendants in these proceedings (known as respondents) to turn these criticisms into constitutional challenges.  Although multiple respondents have now raised the validity of ALJs in federal courts and administrative proceedings with varying success, these challenges crystallized into the somewhat esoteric question of whether ALJs were originally properly appointed by the SEC under the Constitution’s Appointment Clause.  The touchstone of this inquiry is whether ALJs are mere SEC “employees” (not requiring appointment by the Commission itself) or whether they are “officers” (requiring Commission appointment).  In time, a circuit split emerged on this issue.

In Bandimere v. SEC,[5] the Tenth Circuit held that, similar to the judges of the Tax Court which were deemed officers in Freytag v. Commissioner, ALJs performed significant and important functions.[6]  As such, ALJs are “officers” under the Constitution’s Appointments Clause, and must therefore be appointed by the “President, Courts of Law, or Heads of Departments.”  Because the Chief ALJ selects the other ALJs, as opposed to the Commission, their appointment does not comply with this requirement.

The D.C. Circuit went the other way in Raymond J. Lucia Cos., Inc. v. SEC,[7] the case currently before the Supreme Court.  It read Freytag differently, focusing on the fact that ALJs do not have authority to issue binding final decisions, as the Commission has to issue a finality order first.  As such, ALJs were considered to be mere employees rather than officers, and thus not subject to the Appointments Clause.  The full D.C. Court of Appeals re-heard the case en banc and divided on the issue equally, vacating the judgment but preserving the opinion.[8]

Cert Petition and ALJ Ratifications

Following Bandimere, the SG and the SEC filed a short cert petition planting a flag that they wanted the Supreme Court to review the issue.  But simultaneously, they argued that Lucia was a better vehicle to decide the constitutional question.[9]  In a detail in the cert petition that, at the time, went largely unnoticed, the SG did not take a position on whether ALJs were employees or officers, but said it would “address more fully . . . why the Court should review” the issue in Lucia.  In November’s briefing in Lucia,  the Trump Administration SG explained its position and agreed with petitioners that SEC ALJs are officers, making arguments similar to those expressed in the Bandimere decision.

This development should not come as a complete surprise.  During oral argument for the rehearing en banc in Lucia, the SEC strained to identify a bright-line test for what makes one an “officer” which would not include ALJs.  Of course, this line-drawing problem goes the other way too, as the D.C. Circuit panel was wary of an overly-broad definition that would sweep in other executive branch individuals, such as IRS clerks.

The SEC’s recent appointment of its ALJs supposedly places the ALJs on constitutionally firm footing, but likely will not stop past respondents from challenging prior litigated findings of liability before an unconstitutionally-appointed ALJ.  And, as the SG’s response noted in the Lucia cert petition briefing, also raised a separate constitutional separation of powers issue, which the Court does not appear to be willing to address at this time.

Specifically, under the contentious 5-4 decision in Free Enterprise Fund v. Public Co. Accounting Oversight Bd., 561 U.S. 477 (2010), officers cannot be insulated from Presidential control or removal.  Even if ALJs are presumptively an “inferior officer,” this is problematic, because the President cannot directly remove ALJs themselves or easily remove those who can.  This issue was not litigated below in either Lucia or Bandimere, but the SG has urged the Court to address it as well, although the question presented is simply whether ALJs are “officers” within the meaning of the Appointments Clause.  Although it seems unlikely to be addressed in Lucia at this point, it seems this issue eventually needs to be dealt with as pending cases also directly raise this issue.

Practical Impacts of the SG’s Change in Position and the Cert Grant 

The SG’s change in position does not immediately impact ALJ proceedings at the SEC or elsewhere.  First, unlike a Supreme Court decision, this position change is not in-and-of itself constitutionally binding.  The Supreme Court can still disagree, and ultimately conclude that SEC ALJs are in fact “mere employees.”  Second, the SEC and other agencies have already been living with this uncertainty for months now and have adjusted accordingly, including in some cases by appointing their ALJs.[10]  As for proceedings in the SEC’s administrative forum, although pending matters remain from before these challenges, with a few exceptions, the Commission has mainly avoided filing new matters in the administrative forum for nearly a year, opting instead to file contested actions in federal district court.  The exceptions are for cases it must bring in the administrative tribunal, such as matters involving the delisting of a public company’s stock or seeking industry bars.

It is still worth considering some potential impacts of this development on the SEC and other agencies, especially if the Supreme Court agrees with the SG:

Continuation of Litigated Cases Going to Federal Court.  Until and unless the Supreme Court decides that ALJs are “mere employees” the SEC will continue to bring the bulk of its litigated cases in federal courts.  In 2016, the agency created new procedural protections for respondents in administrative proceedings, including the increased use of depositions and longer pre-trial periods.  Respondents, however, are unlikely to be able to test out the efficacy of those new protections given that the SEC seems likely to continue to bring most matters in federal court.[11]  Shying away from the use of the administrative forum could well have the collateral impact of there being fewer litigated enforcement actions overall, as SEC staff will be stretched between continuing to push investigations or deploying personnel to litigate resource-intensive federal cases.  It may also weaken the SEC’s hand somewhat in settlement discussions—at least for a time—because there is no material risk that the SEC will be able to take advantage of the accelerated timeframe and more limited procedural protections offered in administrative proceedings.

More Opportunities to Raise Kokesh-based Challenges to Disgorgement.  A direct consequence of litigating additional cases in federal court is that there will be more opportunities to raise challenges regarding the SEC’s ability to seek the disgorgement remedy.  Earlier this year, the Supreme Court decided in Kokesh v. SEC [12] that disgorgement operates like a penalty for the purposes of a statute of limitations (meaning that the five-year statute of limitations for the imposition of a penalty would apply).  However, during argument, several Justices questioned the SEC’s ability to seek disgorgement—among other so-called equitable remedies—in federal courts.  As a result, since Kokesh, litigants have been raising challenges to the availability of disgorgement such as what the SEC was seeking in Kokesh.  However, unlike in federal courts where the SEC must rely on the court’s inherent equitable powers when seeking disgorgement, the SEC is expressly authorized to seek disgorgement in the administrative forum.[13]   If the ALJs remain on shaky constitutional footing, the SEC will have to seek disgorgement principally in federal court, which may mean more frequent litigation concerning the ramifications of Kokesh (and the increased risk of an unfavorable decision further limiting or eliminating the SEC’s ability to seek it).

Possible Impact on Enforcement Program for Industry Bars and Delisting.  The SEC has certain remedies and even certain charges it can only pursue in the administrative forum.  For example, Section 203(f) of the Investment Advisers Act allows the SEC to bar someone from working in various securities-related industries following, among other things, a federal court criminal conviction or the entry of an injunction.  Additionally, Section 12(j) of the Securities Exchange Act permits the SEC to deregister securities after an administrative proceeding.  These important tools—which make up a significant percentage of all administrative proceedings in any given year—may themselves be subjected to constitutional challenge if the Supreme Court finds constitutional flaws with the ALJ system.  Nor will the SEC have ready use of the administrative forum to litigate failure to supervise claims, which can only be brought before ALJs.[14]

What’s more, even if the SEC’s ratification is deemed proper under the Appointments Clause, the ALJs may, in the view of the currently-constituted Court, be too insulated from removal under Free Enterprise Fund.  The SEC thus may be unable to cure the deficiencies in its administrative forum on its own without congressional help in redrafting the originating statutes.  Such help seems unlikely to be forthcoming in the current environment.

Impact on Historical Cases.  Respondents who were subjected to potentially unconstitutional proceedings (due to the Commission’s failure to appoint the presiding ALJ) may challenge those proceedings, including seeking to undo any relief ordered against them.  Although currently-pending administrative proceedings may be able to leverage any advantageous ruling, disturbing the results of historical proceedings may be more challenging.  There is no clear precedent enabling such challenges—the successful challenge in Free Enterprise Fund did not result in widespread challenges to its prior orders.  And, in the wake of the SG’s about-face, the SEC promptly took the step of appointing all of its ALJs, which it believes—perhaps wishfully—“resolved any concerns”[15] about any potential Appointments Clause infirmity.  To be sure, prior respondents will argue that their proceedings were infected with structural error and therefore must be undone or, at a minimum, they should be entitled to another hearing before a constitutionally-appointed ALJ.  The SEC presumably has been marshalling its arguments to prevent this undoing of years of administrative jurisprudence and it will now get a chance to make them publicly.


The SEC (with full-throated assistance from the DOJ) spent the better part of two years fighting off claims by defendants that its ALJs were improperly appointed and thus that the proceedings were constitutionally defective.  What effect, if any, the SG’s change of position will have on this issue remains to be seen.  But we now know the Supreme Court will decide that question.  The potentially more significant question, however, is the one the SG also attempted to put before the Court concerning the removal of SEC ALJs.  Assuming that the Court does not reach that question, there will remain a state of constitutional uncertainty around the forum, regardless of what is decided in Lucia.  In the meantime, the SEC’s only real recourse for defendants who refuse to settle their cases is to fight them in federal court, thereby opening itself up to more resource-intensive litigations whose remedies are potentially subject to challenge under Kokesh.  And now that the SG has effectively conceded the point, challenges to historical cases are sure to follow, together with continued challenges to the use of the AP forum for certain remedies totally unavailable in federal court.  Stay tuned.

[1] 83 U.S. — (Jan. 12, 2018).

[2] Pending Administrative Proceedings, Securities Act Release No. 10440 (Nov. 30, 2017).

[3] See, e.g., 15 U.S.C. 77h-1, 78u-3, 80a-9(b), 80a-41(a), 80b-3(e), (f ), and (k); 15 U.S.C. 78d, 78o; 15 U.S.C. 78d-1(a).

[4] Jean Eaglesham, “SEC Is Steering More Trials to Judges It Appoints,” Wall St. J. (Oct. 21, 2014), http://www.wsj.com/articles/sec-is-steering-more-trials-to-judges-it-appoints-1413849590.

[5] 844 F.3d 1168 (10th Cir. 2016), reh’g denied, 2017 WL 1717498 (May 3, 2017) (10th Cir. No. 15-9586), petition for cert. pending (No. 17-475).

[6] 501 U.S. 868 (1991)

[7] 832 F.3d 277, 283 (D.C. Cir. 2016).

[8] No. 15-1345, 2017 WL 2727079 (D.C. Cir. June 27, 2017)

[9] Petition for Writ of Certiorari, SEC v. Bandimere, No 17-475 (Sep. 29, 2017).

[10] P130500, Federal Trade Commission Minute: Ratification of Appointment of Administrative Law Judge and Chief Administrative Law Judge (Sept. 11, 2015).

[11]  As we have noted elsewhere, an over-correction away from this forum may not be entirely desirable to would-be defendants because of possible efficiencies, unique procedural benefits and positive recent results achieved by several respondents before ALJs.

[12] 137 S. Ct. 1635 (2017).

[13] 15 U.S.C. § 78u–2(e).

[14] 15 U.S.C. § 78o(b)(4)(E)

[15] SEC, SEC Ratifies Appointment of Administrative Law Judges, (Nov. 30, 2017) available at https://www.sec.gov/news/press-release/2017-215.