Home Court Advantage? The SEC and Administrative Fairness – Note by Kenneth Oshita

From Volume 90, Number 4 (May 2017)

Under the Dodd-Frank Act of 2010, the Securities and Exchange Commission (SEC) was given expanded authority to bring enforcement actions against “any person” allegedly in violation of federal Securities and Exchange laws, with unhindered discretion as to whether these actions must be initiated before its own administrative law judges (ALJs) or in federal district courts. Since then, pursuant to its enhanced prosecutorial power, the SEC has increased its number of administrative proceedings—cases it has brought “in house”—sparking considerable controversy over the SEC’s perceived “home court advantage” and stirring up a series of constitutional challenges to its adjudicatory system. So far, only a few such challenges have garnered any success, while all others have been dismissed by federal district and appellate courts for lack of jurisdiction. Despite the attention the SEC has received, the Supreme Court has yet to address the issue, and Congress similarly has been slow to react. A federal bill addressing the matter, entitled the “Due Process Restoration Act,” has been proposed, but the bill is still in its infancy and has yet to pass the House of Representatives, much less reach the Senate.

This Note argues that the problem here is not the potential unconstitutionality of the SEC’s adjudicatory system, as the controversy so far suggests. Rather, the problem is uniquely sub-constitutional in that it pierces into issues of fairness that constitutional arguments seem able only to approximate. The constitutional claims brought against the SEC’s “home court advantage” cover a diverse and wide array of doctrines: non-delegation, the Seventh Amendment right to a jury, equal protection, substantive and procedural due process, and the appointment and removal of officers. Each of these arguments attempts to dismantle the SEC’s adjudicatory system by attacking the legitimacy of the SEC’s administration itself. Though these arguments seem to resonate with the outcries of injustice that have permeated the industry, they do not actually challenge the aspects of the SEC’s adjudicatory system that have upset plaintiffs—the perception that SEC ALJs are biased or that the SEC’s administrative proceedings are “rigged” and unfair. Instead, the arguments are both diverse and generalized, suggesting that the problem at hand is in some ways inarticulable; plaintiffs, it would seem, are hard-pressed to find a clear and precise constitutional critique. Importantly, upon closer examination, these constitutional challenges are not only inaccurate but also meritless. Thus, despite popular opinion, the supposedly broken SEC system is likely constitutional.

The main thrust of this Note, therefore, is to look beyond the constitutionality of the SEC’s adjudicatory system and to reframe the discussion by directing our attention toward the real issue: fairness. At the heart of the controversy over the SEC’s adjudicatory system is the perception that the agency’s ALJs are biased in favor of the SEC and that the administrative process provides fewer procedural safeguards to defendants than federal civil actions. These criticisms assume a preference for federal courts but with limited explanations as to why federal courts (judges and procedures alike) are more fair than administrative ones.

Such criticisms are not new. They echo much of the controversy that has surrounded administrative agencies since their inception. Administrative agencies have historically been seen as dangers to democracy, as being susceptible to tyranny by the majority and arbitrary government because of their mixture of prosecutorial, legislative, and judicial functions. Consequently, the administrative state that we know and expect today can be seen as a response to that fear: agencies evolved around the belief that they should abide by the “rule of law” and conform to “social rationality.” To this end, as manifested in the Administrative Procedure Act of 1940, agencies now have formally separated functions between “prosecutor and judge”; they are, importantly, subject to judicial review; and their processes are required to “approximate[] the structure, procedures, and logic of the judiciary.” The fairness, thus, that the public demands of the SEC today is an entirely expected and logical reaction when framed against this historical backdrop.

By contrast, Professor David Zaring, one of the few scholars to have written about the SEC’s constitutional conundrum, sees the current issue as a conflict of perspective, as a clashing of “worldviews” between the adjudicatory justice offered by the SEC’s administrative proceedings and the adjudicatory justice offered by federal district courts. In particular, Zaring observes that the controversy is essentially created out of a desire for equity: on the one hand, “routinized and procedurally minded” ALJs that are interested in “bureaucratic regularity” do not and cannot exercise equitable relief for the parties brought before them, while on the other hand, duly confirmed federal district judges are necessarily interested in equity and do just that. Though Zaring succinctly highlights the equity-oriented, functional differences between administrative and federal judges in relation to the current controversy, he does not elaborate on the deeper sense of unfairness triggered by these differences, nor does he evaluate how fairness should be approached, considered, and ultimately understood in this context. Zaring’s insightful but abbreviated analysis reflects a shortcoming in the wider discourse surrounding the SEC controversy: namely, that there has been a clear underdevelopment of the implicated issue of fairness and its measure.

This Note posits that the fairness issue underlying this dispute, in its simplest form, is rooted in the polarity between an individual view of fairness and a collective view of fairness—that is, how fairness is viewed by the person targeted by the SEC in an administrative proceeding and how fairness is viewed by Congress and the SEC. The individual disagrees with the government over the “fair” level of adjudicator partiality (whether for an ALJ or federal judge), and the individual disagrees with the government over the “fair” level of procedural safeguards in adjudicatory proceedings (whether in an administrative forum or Article III forum). These disagreements then manifest in constitutional rhetoric, capturing ideas of fairness that roughly translate into a balancing of individual rights and due process with administrative efficiency and consistency. In reality, the conversation quickly turns from an intuitive concern about fairness to an elaborate fight over the legitimacy of the SEC and its statutory mandates.

This constitutionally oriented and highly legal battle, however, does not address the fairness that is at the issue’s core. Even due process arguments are fundamentally misguided. Professor D. J. Galligan observes that “due process, as developed by the Supreme Court, does not mean a general duty to treat [a] person fairly; it means only that decisions about certain, protected interests be in accordance with the law.” Thus, constitutional arguments, like those here, are bound to the law at hand and can therefore only address fairness if fairness is embedded in the law itself. While it is true to some extent that fairness is implicitly considered in constitutional doctrines, it is not generally or practically true in this instance. As will be discussed, the constitutional arguments thinly address our fairness concerns, and fairness must now be deliberately considered.

Part I of this Note begins by summarizing the laws that motivate and govern the current SEC controversy. Part I next explains the SEC’s adjudicatory and enforcement systems and reviews the various reactions, in the media and otherwise, that have given shape to the public outrage with the SEC. Part II then evaluates the constitutional arguments that have been raised against the SEC and ultimately rejects them, supporting the conclusion that the SEC’s adjudicatory system is likely constitutional despite the many allegations that it is unfair. Part III addresses this conundrum—how an otherwise constitutional system can be seen or felt as unfair—providing a framework for understanding fairness in relation to the judicial and procedural biases at the heart of this controversy. Finally, the Note concludes with parting thoughts.



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