Court Casts Constitutional Cloud Over SEC Judges

George Jaresky is a hedge fund manager and conservative radio talk show host. In 2011, the Securities and Exchange Commission began an investigation into two of Jaresky’s hedge funds and ultimately concluded he had committed fraud in violation of federal securities laws.

Specifically, Jaresky was charged with raising money, $24 million in total, by lying about the auditor and prime broker of his funds, what the funds were invested in and how much had actually been invested, thereby inflating his fees. Although Jaresky represented to investors that he was solely responsible for investment decisions, the SEC alleged that the broker (who was also charged) made investment decisions and directed fund assets into a company in which the broker’s firm was heavily invested.

The Dodd-Frank Wall Street Reform and Consumer Protection Act affords the SEC the option in enforcement cases to proceed in a federal district court or in the agency itself in an action in which one of its own Administrative Law Judges would hear the matter.[1] The SEC opted to have an ALJ hear Jaresky’s case.

The Administrative Law Judge assigned by the SEC sustained the agency’s charges and recommended Jaresky pay a $300,000 civil penalty, disgorge $685,000 of his gains and be barred from the securities industry. The SEC adopted the recommendation.

On an appeal of the SEC decision, the United States Court of Appeals for the Fifth Circuit found that the SEC’s action against Jaresky was unconstitutional in three separate ways: (1) Jaresky was deprived of his constitutional right to a jury trial in violation of the Seventh Amendment; (2) statutory restrictions on the removal from office of ALJs employed by the SEC violate Article II of the Constitution; and (3) Congress had unconstitutionally delegated legislative power to the SEC by failing to specify an intelligible principle on the basis of which it was to exercise the delegated authority to decide whether to proceed in a court or administratively. [2]

The Court’s conclusions as to the first and second grounds seem inconsistent with applicable United States Supreme Court precedent and may be reversed. The third reason for denying the SEC the authority to subject Jaresky to an agency hearing raises more interesting issues and has broader implications. Here’s why.

Article I, Section 1 of the United States Constitution provides that: “All Legislative Powers herein granted shall be vested in a Congress of the United States, which shall consist of a Senate and House of Representatives.” In other words, Congress alone makes the laws. The role that administrative agencies like the SEC play in the governmental process is circumscribed by the “non-delegation doctrine,” a principle of administrative law commanding that Congress not delegate its legislative powers to other entities.

The doctrine originated in a 1928 Supreme Court opinion, J.W. Hampton v. United States, [3] by Chief Justice William Howard Taft, in which the Court held, that, when Congress authorizes an administrative agency to regulate, it must provide an “intelligible principle” to guide the agency’s discretion. However, courts have viewed the standard as permissive, enabling Congress to afford the agencies broad latitude. In nearly a century since the Hampton decision, the Supreme Court has on only two occasions, both in the 1930’s, failed to find an intelligible principle. But that proved to be the high water mark of judicial constraints on congressional delegation of authority to administrative agencies. The Court has not found that any law ran afoul of the non-delegation doctrine since 1935.

For example, the courts have held time and again that Congress does not delegate its authority to legislate when it merely directs that an agency’s rules be in the “public interest.” Even without that minimal explicit guidance, an intelligible principle has been found in the general purposes and context of statutes. There is a reason for this: The Supreme Court has “almost never felt qualified to second-guess Congress regarding the permissible degree of policy judgment that can be left to those executing or applying the law.” [4]

But was the SEC’s decision to proceed administratively in Jaresky’s case really a legislative act? After all, it is widely accepted that prosecutors, who are, like the SEC, in the executive branch of government, have discretion to prosecute under one statute and not another, or not to prosecute at all. The SEC itself has the authority to proceed in individual cases either by promulgating a general rule or by litigation targeting a single individual. [5]

Jaresky is aggrieved by the SEC’s choice of forum and undoubtedly thinks—and many would certainly agree—that he would have gotten a fairer hearing from a federal jury than he got from an ALJ he views as a captive of the SEC. And he has a pretty large personal stake in the matter. After all, the SEC’s order would cost him almost $1 million and ban him from the securities industry. But that’s not the basis for his challenge to the SEC’s authority.

The Court of Appeals may also have been interested in something more than just righting a wrong in one case. In ruling in Jaresky’s favor, the court discussed in broad terms the question of the accountability of administrative agencies and cited with approval a 2019 dissenting opinion in a Supreme Court case, Gundyv. United States, [6] by Justice Neil Gorsuch, who was joined by two other members of the Supreme Court.

In Gundy, the Court considered a federal criminal statute[7] which required registration of persons convicted of sex offenses after passage of the law, but left to the United States Attorney General the decision on how those convicted prior to passage should be treated. The Attorney General ruled they too should be registered. Consistent with intelligible principle jurisprudence, the Supreme Court examined statutory language and context and found no unconstitutional defect in the congressional delegation of authority.

Justice Gorsuch, largely ignoring the context the majority found so compelling, believed that Congress had gone too far by leaving to the Attorney General’s discretion the decision about whether a class of sex offenders should be required to register or else be subject to criminal penalties. Congress had, in the Justice’s view, in effect “hand[ed] off to the nation’s chief prosecutor the power to write his own criminal code.” For Justice Gorsuch it was time to reconsider the non-delegation doctrine and, although he did not say so explicitly, curb the power of administrative agencies.

He has a point. The decision whether a particular class of sex offenders needs to be registered appears to be the kind of policy choice Congress customarily makes. Yet five Justices believed the grant of authority to the Attorney General satisfied existing standards. However, one of the five, Justice Samuel Alito, while recognizing those standards, suggested they might be overbroad and that he would be amenable to reconsidering the issue. It remains to be seen whether Jaresky’s case is the appropriate vehicle for that reconsideration.

The Court of Appeals apparently thinks so. It’s likely betting that, with recent personnel changes on the Supreme Court, the non-delegation doctrine will get a makeover, one that is more skeptical of broad grants of power to administrative agencies. The Code of Federal Regulation, which codifies federal rules, is comprised of 50 titles, each representing a broad area subject to regulation, and roughly 100,000 federal rules. The profound change in administrative law many advocate and some judges favor would undoubtedly give rise to countless challenges and the reconsideration of the constitutionality of numerous federal regulations, many of which have been on the books for decades. It would take a while to get sorted.

[1] 15 U.S.C. §§78 u(d); u-1 to u-3. [2] Jaresky v. SEC, No. 20-61007 (5th Cir. May 18, 2022). [3] 276 U.S. 394 (1928). [4] Mistretta v. United States, 488 U.S. 361, 416 (1989) (Scalia, J., concurring). [5] SEC v. Chenery Corp., 332 U.S. 194, 203 (1947). [6] 139 S.Ct. 2116 (2019) (Gorsuch, J., concurring). [7] Sex Offender Registration and Notification Act, 18 U.S.C.§§ 2250 et seq.