On June 21, 2018, the U.S. Supreme Court ruled that administrative law judges (ALJs) at the U.S. Securities and Exchange Commission (SEC) had been improperly appointed because they qualified as “Officers of the United States” under the “Appointments Clause” of the U.S. Constitution, who under the Constitution may be appointed only by the President, a court of law, or heads of departments.  Lucia v. SEC, No. 17-130.  Because the SEC’s ALJs had been selected merely by SEC staff, the Court held that they had not been lawfully appointed and therefore lacked constitutional authority to issue sanctions and penalties against the petitioner.

The Case

In Lucia, the SEC had commenced an administrative proceeding against the petitioner Raymond Lucia and his investment company under the Investment Advisors Act for allegedly deceiving prospective clients.  In recent years, such SEC enforcement actions increasingly been brought through such administrative proceedings rather through court actions.  The ALJ assigned to the case issued a decision concluding that Lucia had violated the Investment Advisors Act and imposed sanctions, including civil penalties of $300,000 and a lifetime ban from the investment industry.  Lucia argued that the proceedings were invalid because the ALJ had not been properly appointed under the Appointments Clause and therefore unconstitutionally adjudicated the case.  While both the SEC and the U.S. Court of Appeals in Washington, D.C. rejected Lucia’s argument, the Supreme Court agreed with Lucia and reversed in a 7-2 ruling.

The Court’s ruling viewed SEC ALJs as analogous to special trial judges (STJs) of the United States Tax Court, who in the 1991 Supreme Court case Freytag v. Commissioner were held to be “Officers” subject to the requirements of the “Appointments Clause.”  The Court noted that like the Tax Court’s STJs, the SEC’s ALJs occupy a “continuing position established by law,” have “significant authority” under federal statutes and exercise the same “significant discretion” in carrying out similar “important functions.”  While appointment by the full SEC would satisfy the constitutional requirement for an “Officer” to be appointed by the head of a department, the ALJ in Lucia was selected only by SEC staff members.  Accordingly, his appointment was held unconstitutional.  Two dissenting judges argued that the full SEC’s ability to review ALJ rulings before they became final suggested that the ALJs did not rise to the level of constitutional “Officers,” but the majority disagreed, noting that such review by the full SEC was not mandatory.

The decision against Lucia was thus reversed and remanded.  Any new hearing that against Lucia will now need to be conducted before a properly appointed ALJ.  While the full SEC had attempted to contain this potential problem several months ago by formally ratifying its previously-selected ALJs, the Supreme Court held that Lucia was entitled to have any new hearing conducted by a different ALJ who had not been part of the prior unconstitutional proceeding (although one dissenting judge questioned whether that was truly necessary to properly protect Lucia and satisfy constitutional requirements).

Implications

Beyond the specific case of Lucia, the practical effect of the Court’s decision on SEC administrative enforcement proceedings is likely to be limited, for several reasons:

  • Now that the full SEC has ratified the appointments of the SEC’s existing ALJs, and presumably will proceed similarly with all other ALJs going forward, the decision is not likely to have any effect on new cases filed in the future.
  • The Court specifically noted that Lucia had made a “timely” challenge to the validity of the ALJ’s appointment in his case, and that a prior Supreme Court ruling had established that the constitutional validity of the appointment of an officer who hears a case can be challenged by “one who makes a timely challenge.” Thus, even in cases which are not yet final, unless the party raised this objection in a timely manner and then properly preserved it for judicial review, the party is unlikely to be able to obtain relief from the ALJ’s ruling.
  • Similarly, the decision likewise is unlikely to have any impact on decisions that have become final and are no longer eligible for judicial review.
  • The SEC’s order ratifying the prior appointments of its ALJs also directed the ALJs, upon being formally appointed, to reconsider any open matters they had. However, given the Court’s holding that the remedy for a defective appointment should be a fresh hearing from an ALJ with no prior involvement in the case during any period when the ALJ was not properly appointed, it is unclear if SEC ALJs will now be able to ratify any decisions they made in cases prior to the ratification of their own appointments, or whether the proceedings now must go back to square one with a completely new properly appointed ALJ.