U.S. Supreme Court Curbs SEC Enforcement Powers

October 30, 2017 by Ruby Keys

For the second time since 2013, the U.S. Supreme Court made a decision that effectively limits the Securities and Exchange Commission's power to bring a lawsuit against financial firms or individuals. In the prior case, Gabelli v. SEC, the court held that "the five-year statute of limitations for the SEC to bring a civil suit seeking penalties for securities fraud against investment advisers begins to tick when the fraud occurs, and not when it is discovered."

Here, in a 9-0 ruling, the Court found the SEC’s “disgorgement” remedy is also subject to the five-year statute of limitations. The SEC uses disgorgement as a way to recover fraudulent gains from financial firms that have violated securities law. Initially, a judge ordered Charles Kokesh to pay $2.4 million in penalties plus $34.9 million in disgorgement of illegal profits after the SEC sued the New Mexico-based investment advisor in 2009.

Justice Sonia Sotomayor writes, “it has become clear that deterrence is not simply an incidental effect of disgorgement. Rather, courts have consistently held that ‘[t]he primary purpose of disgorgement orders is to deter violations of the securities laws by depriving violators of their ill-gotten gains.’ SEC v. Fischbach Corp., 133 F. 3d 170, 175 (CA2 1997).”

The SEC brought an action alleging Kokesh concealed the misappropriation of $34.9 million from four business development companies beginning in 1995. Although this continued into 2009, approximately $29.9 million was gained from actions before 2004 and therefore outside the statute of limitation.

The case was brought before the Court of Appeals for the 10th District Court in Denver; the court agreed that disgorgement is not a penalty and further found that disgorgement is not a forfeiture, thereby concluding that the time bar in §2462 does not apply to SEC disgorgement claims.

An attorney for Kokesh argued that this case did represent a punishment and should fall within the statute.

In writing the opinion of the Court, Justice Sotomayor states, “In its current form, §2462 establishes a 5-year limitations period for ‘an action, suit or proceeding for the enforcement of any civil fine, penalty, or forfeiture.’ This limitations period applies here if SEC disgorgement qualifies as either a fine, penalty, or forfeiture.”

The Court concluded that “disgorgement, as it is applied in SEC enforcement proceedings, operates as a penalty under §2462. We hold that SEC disgorgement constitutes a penalty.

Accordingly, any claim for disgorgement in a SEC enforcement action must be commenced within five years from the date the claim accrued.”

The Supreme Court’s ruling does prevent the SEC from enforcing their remedy but will increase pressure to move their investigations toward a quicker legal resolution.