Creating Circuit Split, Fifth Circuit Rules District Court May Hear Constitutional Challenge To SEC Enforcement Action

• Published date: 22 December 2021
• Subject Matter: Corporate/Commercial Law, Government, Public Sector, Constitutional & Administrative Law, Securities
• Law Firm: Kramer Levin Naftalis & Frankel LLP
• Author: Mr Alan Friedman, Gary P Naftalis, Eric H. Rosoff and John "Luke" Pizzato

On Dec. 13, 2021, an en banc panel of the Fifth Circuit held that the Securities Exchange Act of 1934 (Exchange Act) does not preclude federal district courts from exercising subject matter jurisdiction over constitutional challenges to the statutory removal protections insulating administrative law judges (ALJs) employed by the Securities and Exchange Commission (SEC). The decision runs counter to conclusions several other circuits reached on the same question, setting up a circuit split for potential resolution of the question by the Supreme Court.

The plaintiff in the case, Michelle Cochran, is an accountant who was first charged by the SEC in 2016 for failing to comply with auditing standards issued by the Public Company Accounting Oversight Board (PCAOB).¹ The SEC initiated enforcement proceedings before an ALJ, but while Ms. Cochran's case was pending, the Supreme Court decided Lucia v. SEC, holding that SEC ALJs are "Officers of the United States" under the Appointments Clause and, as such, must be appointed by the president, a court of law or a head of an administrative department.²In response, the SEC remanded all pending administrative cases ' including Ms. Cochran's ' for new proceedings before constitutionally appointed ALJs.

Upon remand, Ms. Cochran filed suit in federal district court to enjoin the SEC's continued enforcement proceedings against her, arguing that SEC ALJs, even if constitutionally appointed under the Appointments Clause, remain unconstitutionally insulated from removal because existing removal protections stifle the president's exercise of the Removal Power, a constitutional challenge that Lucia did not address.³ The district court dismissed this challenge for lack of subject matter jurisdiction, concluding that Section 78y of the Exchange Act strips federal district courts of such jurisdiction.⁴ A three-judge panel of the Fifth Circuit affirmed in a 2-1 split, and in October 2020, the Fifth Circuit agreed to rehear the case en banc.⁵ On Dec. 13, in a 9-7 decision,⁶ a majority of the full Fifth Circuit reversed the district court's order and remanded her case to the district court to permit Ms. Cochran to litigate her claim that the SEC enforcement proceeding against her is unconstitutional. In so doing, the Fifth Circuit deviates from five other circuits that have come down on the other side of that question.

The Fifth Circuit majority rejected the SEC's argument that Section 78y of the Exchange Act precluded federal district courts...