The U.S. Supreme Court’s 6-3 decision in Securities and Exchange Commission v. Jarkesy, et al. significantly curtails the SEC’s enforcement powers by ruling that the agency’s administrative adjudication of securities fraud cases seeking civil penalties violates the Seventh Amendment right to a jury trial.

This landmark ruling deals a major blow to the SEC’s ability to bring enforcement actions in its in-house administrative forum rather than federal court. It also could be a major blow to other agencies that rely on in-house administrative forums.

The case arises from the SEC’s enforcement action against George Jarkesy and his firm, Patriot28, LLC. The SEC alleged that Jarkesy and Patriot28 engaged in fraudulent activities, including misrepresenting investment strategies, lying about the identity of Patriot28’s auditor and prime broker, and inflating the value of Patriot28’s funds to collect larger management fees. Relying on the authority granted by Dodd-Frank, the SEC opted to adjudicate the matter in-house, leading to, among other sanctions, a $300,000 civil penalty.

The Dodd-Frank Act’s expansion of the SEC’s administrative enforcement powers was a significant change from the agency’s prior practice. Historically, the SEC could impose civil penalties only through federal court actions, where defendants had the right to a jury trial. By allowing the SEC to impose these penalties in-house, without a jury, Congress granted the agency a powerful new tool to police securities fraud.

The Court also stressed that the SEC was seeking civil penalties, a traditional legal remedy akin to punitive damages. The Court explained that civil penalties are designed to punish and deter misconduct, not to compensate victims or restore the status quo, placing them squarely on the legal side of the legal-equitable divide. And because civil penalties were “a type of remedy at common law that could only be enforced in courts of law,” the Court concluded that the SEC’s action implicated the Seventh Amendment jury trial right.

Underscoring that “Congress cannot conjure away the Seventh Amendment by mandating that traditional legal claims be taken to an administrative tribunal,” the Court held fast to the line between private rights requiring a jury trial and genuine public rights subject to agency adjudication.

At the same time, the Court’s opinion leaves open several key questions. The Court did not define the precise contours of which agency enforcement actions will require a jury trial going forward, and the “public rights” doctrine remains murky. The ruling also does not impact the SEC’s ability to pursue other remedies administratively, such as cease-and-desist orders or bars from the securities industry. However, losing the powerful tool of civil penalties in its in-house forum is still a significant blow to the agency.

More broadly, the decision may open the door to further constitutional challenges to agency enforcement proceedings, not just at the SEC. Many agencies beyond the SEC have relied on the public rights doctrine to adjudicate civil penalties without juries, and those procedures could now be ripe for attack under the Seventh Amendment

In the coming weeks, we will be researching and blogging about the extent to which the reasoning of the Jarkesy opinion applies to other federal agencies (CFPB, FTC, FCC, federal banking agencies ) that regulate, supervise and/or enforce federal consumer financial services laws against banks and other consumer financial services providers.  In doing that research, we will also determine whether these other agencies might be vulnerable to using ALJs on the following two other grounds upon which certiorari was granted, but  which the Supreme Coury did not reach — namely:

1. Whether statutory provisions that authorized the SEC to choose to enforce the securities laws through an agency adjudication instead of filing a district court action violate the nondelegation doctrine.

2. Whether Congress violated Article II of the Constitution by granting for-cause removal protection to ALJs in agencies whose heads can only be removed by the President for cause.

In the meantime, we would expect the other agencies to tread very carefully in their use of ALJs.