Member Article

The U.S. Court of Appeals for the Fifth Circuit held in a 2-1 opinion that Congress’ delegation of legislative power to the Securities and Exchange Commission (the SEC) is unconstitutional because it fails to “provide an intelligible principle by which the SEC would exercise the delegated power.”

The Fifth Circuit has called into question the legitimacy of the majority of the SEC’s enforcement operation, which occurs in front of administrative law judges (ALJs). They have thrown a wrench into a machine that has survived challenge thus far. It had been a well-settled principle of constitutional law that there was a distinction between private rights and public rights, with enforcement of the former requiring a Seventh Amendment jury trial and the latter not so requiring. But, it is uncertain where we go from here.

The Details
After establishing two hedge funds, George Jarkesy Jr. engaged Patriot28 LLC as an investment adviser. Jarkesy and Patriot28 allegedly misrepresented certain investment parameters and safeguards and overvalued assets in order to inflate the fees they charged. In response, the SEC began an in-house enforcement proceeding.

Jarkesy and Patriot28 argued that Congress unconstitutionally delegated its power when it allowed the SEC to pick whether to pursue enforcement cases in federal courts or internally. The SEC disagreed, arguing that choosing where to bring an enforcement action was merely “prosecutorial discretion.”

The Fifth Circuit rejected the SEC’s argument, holding that the Seventh Amendment of the U.S. Constitution guarantees Jarkesy and Patriot28 a jury trial because the SEC’s “enforcement action is akin to traditional actions at law to which the jury-trial right attaches,” and “Congress, or an agency acting pursuant to Congressional authorization, cannot assign the adjudication of such claims to an agency, because such claims do not concern public rights alone.”

This ruling follows on the heels of the U.S. Supreme Court granting certiorari in another Fifth Circuit, Cochran v. SEC, 20 F.4th 194 (5th Cir. 2021), which also addressed challenges to the SEC’s ALJ structure. Given that the Court will be reviewing Cochran, is it more or less likely the SEC and Department of Justice will appeal the Jarkesy ruling? While there is some uncertainty as to how this all gets resolved, in the meantime, at least in the Fifth Circuit – Texas, Louisiana and Mississippi – this should limit the ability of SEC ALJs to adjudicate enforcement actions adjudicating solely “public rights.”

In the meantime, Dinsmore lawyers are evaluating the impact and are available to counsel clients in matters relating to SEC or other administrative actions.