High Court Rejects SEC Effort to Avoid Limitation Period Again
p>Section 2462 of Title 28 imposes a five year statute of limitations in “an action, suit or proceeding for the enforcement of any civil fine, penalty, or forfeiture . . .” Twice the SEC has told the Supreme Court that the Section does not apply to remedies in its enforcement actions. Twice a unanimous Court has rejected the SEC’s position. The first time was in Gabelli v. SEC, 568 U.S. 442, 454 (2013). There the Court rejected the SEC’s claim the limitation did not apply to civil penalties. The second was in Kokesh v. SEC, No. 16-529, decided June 5, 2017. There the Court rejected the SEC’s claim that the limitation does apply to its requests for disgorgement.
The opinion
Charles Kokesh owned two investment adviser firms that provided advice to business-development companies. In late 2009 the Commission brought a civil injunctive action alleging that over a fourteen year period beginning in 1995 Mr. Kokesh misappropriated almost $35 million through the advisory firms from four clients. False and misleading reports were filed with the agency to conceal the wrongful conduct, according to the complaint.
Following a five day trial a jury returned a verdict in favor of the Commission. The district court then directed that Mr. Kokesh pay disgorgement of $34.9 million, rejecting a claim that the amount was delimited by the five year statute of limitations imposed by Section 2462. The court did, however, apply the limitation period to the Commission’s request for a penalty. Thus a penalty of $2,354,593 was imposed — the amount of money Mr. Kokesh received during the period permitted by the statute. Prejudgment interest was ordered based on the fourteen years of disgorgement tabulated, adding another $18.1 million. The Tenth Circuit affirmed.
Justice Sotomayor, writing for the Court, began with a brief review of SEC remedies. Initially, the only statutory remedy available in agency enforcement actions was an injunction barring future violations of the securities laws. Although the statutes did not authorize monetary remedies, the Commission convinced the court in SEC v. Texas Gulf Sulphur Co., 312 F. Supp. 77, 91 (S.D.N.Y.), aff’d in part and rev’d in part, 446 F. 2d 1301 (2nd Cir. 1971) that
“’the inherent equity power to grant relief ancillary to an injunction’” afforded a basis for ordering disgorgement. The award was generally a form of restitution measured by the defendant’s wrongful gain. The point was to deprive the defendant in an SEC enforcement action of any reward for violating the law and protect the public by providing an effective deterrent to future violations. Congress added to the Commission’s authority in the 1990 Remedies Act which gave the agency the authority to seek monetary civil penalties.
The question in Kokesh was whether the statute of limitations applies to SEC requests for disgorgement. Statutes of limitation are “vital to the welfare of society” the Court noted (internal quotations omitted). Such a limitation apples here if “SEC disgorgement qualifies as either a fine, penalty, or forfeiture.” A “penalty” under the statute is a form of punishment that is pecuniary, imposed by the State for a crime or offence against its laws, according to the Court. Two points are critical in addressing the question of whether a remedy is a penalty. First the issue of whether a sanction is a penalty turns on whether the wrong being redressed is to the public or is private. SEC enforcement actions are brought to remedy a violation of law against the United States, not for an aggrieved individual, the Court found. The SEC conceded this point, admitting that in seeking disgorgement it is acting in the public interest to remedy a harm inflicted on the public at large.
The second point centers on the question of whether the sanction is sought for the purpose of punishment and to deter others. Since Texas Gulf, the courts have repeatedly made it clear that disgorgement is imposed to deter violations of the securities laws by depriving the person of any benefit from the wrongful conduct. This point is bolstered by the fact that awards of disgorgement are not compensatory. To the contrary, they are paid to the district court which has discretion to determine how, and to whom, the money will be distributed. Indeed, awards of disgorgement have been authorized whether the money will be paid to investors or not. “When an individual is made to pay a noncompensatory sanction to the Government as a consequence of a legal violation the payment operates as a penalty,” the Court concluded.
Finally, the Court rejected the SEC’s claim that disgorgement is remedial and thus not subject to the statute of limitations. It is not at all clear that disgorgement as applied in SEC enforcement actions simply returns a defendant to his prior position, the Court stated. There are numerous instances where, for example, in insider trading cases, the defendant may be ordered to disgorge not just the unlawful gains from the trading but the benefit obtained by others. Likewise, in many instance the amount ordered is calculated without regard to the defendant’s expenses that may have reduced the amount of the illegal profits. The denial of such a deduction makes the disgorgement a punitive remedy. Viewed in this context SEC disgorgement “bears all the hallmarks of a penalty” and is subject to the limitation period imposed by Section 2462.
Comment
The Supreme Court’s conclusion that the five year statute of limitations applies to SEC claims for disgorgement represents another significant limitation on its enforcement authority. Kokesh may be more significant that its literal holding however. First, the reasoning of the opinion leaves open the possibility that the five year statute of limitations could be applied to SEC requests for an injunction. That statute of limitations applies, the Court found, where the remedy is for a violation of law against the State and it is sought to deter others. A request for a permanent injunction prohibiting future violations of the law, although based on a statute unlike disgorgement, may be viewed as a penalty within this definition – it is a remedy for a violation of law sought by a federal agency not just to prevent future violations but to deter others. This is particularly true where the action, as here, is years old.
Second, the Court’s ruling calls into question the SEC’s authority to seek disgorgement at any time. During oral argument the Court probed that authority for the remedy, seeking its statutory origin. It found none. Rather, the Court traced the Commission’s claimed authority to decisions such as Texas Gulf, which are bottomed on the notion of inherent authority, an implied remedy. Yet the increasingly conservative Supreme Court does not favor such remedies. That trend may well be the reason for the statement in footnote two of the opinion which makes it clear that the Court is not validating the SEC’s authority to seek disgorgement. That question, however, is for tomorrow. For today Kokesh — Gabelli make it clear that the SEC’s monetary remedies are time limited, not open ended tracing back years as was sought in this case.