U.S. Supreme Court

Changing the Game, Again: Supreme Court Could Limit SEC’s Authority to Seek Disgorgement

This week, the Supreme Court heard argument regarding whether the SEC’s actions to disgorge ill-gotten gains are subject to a five-year statute of limitations for “any civil fine, penalty, or forfeiture.”

The appeal stems from an SEC action alleging that between 1995 and 2006, Charles Kokesh, a New Mexico-based investment adviser, misappropriated a staggering $35 million from two investment advisory companies that he owned and controlled, squandering the money of tens of thousands of small investors. While Kokesh moved into a gated mansion and bought himself a personal polo court (complete with a stable of 50 horses), he allegedly concealed his massive ill-gotten earnings by distributing false proxy statements to investors and filing dozens of false reports with the Securities and Exchange Commission.

In 2009, the SEC brought a civil enforcement action against Kokesh in the District of New Mexico alleging violations of the Securities Exchange Act of 1934, the Investment Advisers Act of 1940, and the Investment Company Act of 1940. The jury found violations of all three acts, and the district court ordered Kokesh to disgorge the $35 million he misappropriated (plus interest) and pay a $2.4 million civil monetary penalty for the “egregious” frauds he committed within the prior five years.  While the district court ordered disgorgement of all of Kokesh’s ill-gotten gains since 1995, the civil monetary penalty it imposed was constrained by the five-year statute of limitations found in 28 U.S.C. § 2462, which applies to claims throughout the U.S. Code for “any civil fine, penalty, or forfeiture.”

Kokesh agreed to pay the civil monetary penalty, but challenged the disgorgement order on appeal before the U.S. Court of Appeals for the Tenth Circuit. Although none of the statutes he was found to have violated have statutes of limitations of their own, Kokesh argued that the SEC’s claim for disgorgement was subject to the five-year limitations period codified in Section 2462.  The Tenth Circuit disagreed, and upheld the disgorgement order on the basis that disgorgement is not a “penalty” or “forfeiture,” as those terms are used in Section 2462.  Unlike a penalty, it found that “the disgorgement remedy does not inflict punishment,” but “leaves the wrongdoer in the position he would have occupied had there been no misconduct.”  The Tenth Circuit also held that disgorgement is different from a “forfeiture,” which it held is used in Section 2462 to narrowly refer to an in rem procedure to seize property regardless of whether the property-owner committed any wrongdoing or whether “the value of the property” had any “relation to any loss to others or gain to the owner.”

The U.S. Supreme Court granted certiorari to decide whether SEC civil enforcement actions seeking disgorgement of ill-gotten gains are subject to Section 2462’s five-year statute of limitations. In his petition for certiorari, Kokesh asked the Supreme Court to rein in the SEC’s increasing use of disgorgement following the Supreme Court’s 2013 decision, Gabelli v. SEC, 133 S. Ct. 1216. Gabelli shortened the limitations period available under Section 2462 by setting the accrual date on the date of the alleged violation, rather than the date of discovery.  (For a discussion on Gabelli and the circuit split it resolved, see here and here).

In a brief filed March 27, 2017, the SEC urged the Supreme Court to affirm the Tenth Circuit’s finding that wrongdoers should not get the benefit of Section 2462’s general five-year limitations period because disgorgement is neither a penalty nor a forfeiture.  Kokesh responded that the Tenth Circuit and the SEC’s view of “penalty” and “forfeiture” are artificially narrow, and disgorgement is a penalty and a forfeiture under Section 2462.  Kokesh’s view has support from the Eleventh Circuit, which decided in SEC v. Graham, 823 F.3d 1357 (11th Cir. 2016) that Section 2462 applies when the SEC seeks disgorgement.

The case has attracted considerable attention from industry-insiders. Amici curiae include Mark Cuban, who submitted a brief arguing that Congress never gave the SEC the authority to order “draconian remedies labeled ‘disgorgement’ that are unbounded by statutes of limitations.”  The Chamber of Commerce and American Petroleum Institute filed a joint amici brief,  in which they asked the Supreme Court to consider the effect its opinion will have on the authority of other government agencies, including the Environmental Protection Agency and Consumer Financial Protection Bureau, to order disgorgement for “long-past conduct that may have been acceptable at the time.”

When Kokesh came up for argument on Tuesday, April 18, it was one of the first cases argued before nine justices in over a year.  During oral argument, several of the justices appeared to reject the contentions of both parties regarding whether disgorgement is categorically a penalty or forfeiture.  Justice Kagan agreed with Justice Ginsburg that the better view may be to consider disgorgement a penalty (subject to a five-year statute of limitations) if the government keeps the proceeds, and a compensatory remedy (not subject to a statute of limitations) if the proceeds are distributed to the victims.  A majority or near-majority of the Bench also expressed discomfort at the fact that no statutory authority expressly authorizes courts to order disgorgement in SEC civil enforcement actions, and that the SEC has not promulgated any formal guidance explaining the circumstances under which it seeks disgorgement or its procedures for distributing the proceeds to victims.  Unable to identify any clear authority defining disgorgement as a penalty, forfeiture, or neither, the Court appeared receptive to Kokesh’s argument that SEC civil enforcement actions seeking disgorgement should be constrained by Section 2462.

A decision is expected by late June.

The Ripple Effects of U.S. v. Newman Continue: SEC Lifts Administrative Bar on Downstream Insider Trading Tippee and Tipper Requests that Third Circuit Vacate SEC Settlement

The ripple effects of the Second Circuit’s landmark insider trading decision, United States v. Newman, 773 F.3d 438 (2d Cir. 2014), were felt again last week.  On Tuesday, February 23, 2016, the U.S. Securities and Exchange Commission (“SEC” or the “Commission”) ruled that Former Neuberger Berman Analyst Sandeep “Sandy” Goyal, whom the SEC previously barred from the securities industry after he pled guilty to insider trading, could participate in the industry again. The SEC’s rare decision to lift an administrative bar order resulted from Newman, (previously discussed at length here), which led to Goyal’s criminal conviction being vacated and the civil claims against him being dropped by the SEC.  Newman raised the bar for what prosecutors in tipper/tippee insider trading cases have to show by holding that tipper/tippee liability requires the tipper to receive a “personal benefit” amounting to a quid pro quo or pecuniary benefit in exchange for the tip and the tippee to know of that benefit.  Despite the SEC’s decision to drop the administrative bar against Goyal in light of Newman, as recently as SEC Speaks on February 19-20, 2016, SEC Deputy of Enforcement Stephanie Avakian affirmed that insider trading cases “continue[] to be a priority” for the Commission.   Nonetheless, the ripple effects of Newman continue to call the government’s ability to successfully bring both criminal and civil cases into question.

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