By Alan J. Bozer and James E. B. Bobseine  |  The Daily Record  |  Friday, July 20, 2018

Supreme Court Decides SEC ‘Judges’ Were Unconstitutionally Appointed, Leaves Other Questions Unanswered

The U.S. Supreme Court recently ruled that Administrative Law Judges (ALJs) of the U.S. Securities and Exchange Commission (SEC or Commission) are “Officers of the United States” whose appointments must be made in accordance with the Appointments Clause of the U.S. Constitution. The Court’s decision in Lucia v. SEC, 138 S. Ct. 2044 (2018), requires the SEC to try Raymond J. Lucia again in a new administrative proceeding before a constitutionally appointed ALJ, and its reasoning may have significant ramifications for ALJs who adjudicate disputes across federal agencies. The narrowness of the decision — it functions” involved in adversarial administrative proceedings, including taking testimony, conducting trials, ruling on the admissibility of evidence and enforcing compliance with discovery orders.

Furthermore, SEC ALJs issue initial decisions that contain factual findings and legal conclusions, as well as identify appropriate remedies. Lastly, the SEC ALJ’s decision is not automatically subject to review by the Commission, but may become final without action by the Commission, after which it is “deemed the action of the Commission.” In sum, the Court concluded that the ALJ who adjudicated leaves unanswered several questions relating to the legality and constitutionality of administrative proceedings — suggests that the federal agencies should expect further challenges to efforts to enforce federal laws by administrative proceedings.

President Donald J. Trump’s “Executive Order Excepting Administrative Law Judges from the Competitive Service” (the “Executive Order”), issued on July 10, raises similar questions about ALJs’ authority to adjudicate administrative proceedings. The Executive Order refers to “questions” raised by Lucia and seeks to resolve them by placing ALJs in the “excepted service,” which means that leaders of the federal agencies will have greater discretion to define the hiring criteria for ALJs. The Executive Order does not address, however, the status of existing ALJs.

The “extensive powers” of SEC ALJs make them “Officers of the United States”

In a 7-2 majority decision by Justice Elena Kagan, the Court agreed with the arguments of former “Buckets of Money” radio host Lucia, who had been fined $300,000 and banned for life from the investment industry after an SEC ALJ adjudicated his case at an administrative hearing and concluded that Lucia violated the Investment Advisors Act of 1940. Lucia sought to overturn the ALJ’s decision by arguing that the SEC’s practice of using ALJs to adjudicate enforcement proceedings like his was unconstitutional. Under the Appointments Clause, only the President, “Courts of Law,” or “Heads of Departments” can appoint “Officers of the United States.” U.S. CONST. art. II, § 2, cl. 2. The ALJ who adjudicated Lucia’s case, however, had been appointed by mere SEC employees.

The Supreme Court’s majority opinion observed that SEC ALJs have “extensive powers” and are not “part of the broad swath of lesser functionaries in the Government’s workforce” who need not be selected in compliance with Article II. Justice Kagan wrote that SEC ALJs hold a “continuing office” by virtue of their having received a “career appointment.” Moreover, SEC ALJs exercise “significant discretion” while carrying out the “important Lucia’s case was an “Officer” who was not constitutionally appointed, which invalidated the outcome of the SEC’s administrative proceedings against him.

Lucia gets a new hearing before a new ALJ, but other questions are unanswered

For Lucia, the Court’s decision means that his case will be adjudicated again, at a new hearing, before a different ALJ who has been appointed by the Commission “in its capacity as head of a department.” Order, In re: Pending Admin. Proceedings, Sec. Act of 1933 Release No. 10440, at *1 (Nov. 30, 2017) (hereafter, the “Ratification Order”). The Court’s decision leaves several important questions unanswered.

First, it is not clear if the Commission’s recent Ratification Order, which was issued during briefing on Lucia and was clearly meant to address arguments like Lucia’s, sufficiently addresses the Court’s concerns as articulated by Justice Kagan. On November 30, 2017, the Commission — “in its capacity as head of a department” — issued an order clearly intended to immunize the actions of its ALJs from challenge for failure to comply with the Appointments Clause. See Ratification Order, at *1. The Ratification Order first ratified the SEC’s prior appointment of its ALJs and then ordered ALJs who began considering matters prior to such ratification to undertake certain actions to reconsider the matter as a “ratified” ALJ (e.g., reconsidering the factual record and permitting parties to submit additional evidence). Id. at *2. The Court in Lucia, however, specifically ordered that Lucia’s case be heard by an entirely different ALJ; individuals and entities involved in SEC proceedings overseen by ALJs since the Ratification Order may seek to rely upon this aspect of the Lucia decision to suggest that a new “ratified” ALJ must be assigned, and the proceedings recommenced, in order to ensure the proceedings meet the Lucia standard.

Second, the Court’s majority opinion did not address the constitutionality of the “for good cause” removal protections currently afforded to SEC ALJs. As noted in Justice Stephen Breyer’s concurrence, the Administrative Procedure Act (APA) permits ALJs to be removed only “for good cause” found by the Merit Systems Protection Board (the Board), and the President may remove members of the Board only for “inefficiency, neglect of duty, or malfeasance in office.” According to Justice Breyer, these “two levels of protection from removal without cause” are precisely what the Court found to be unconstitutional in Free Enterprise Fund v. Public Company Accounting Oversight Bd., 561 U.S. 477 (2010). Individuals and entities involved in SEC administrative proceedings are likely to challenge the constitutionality of the proceedings using similar arguments to those outlined in Justice Breyer’s concurrence.

Lastly, the Court’s decision also left unresolved the applicability of its logic to the approximately 1,900 ALJs, employed by more than 30 federal agencies, who are charged with adjudicating disputes in administrative proceedings. At oral argument, Lucia’s counsel asserted that only 150 ALJs in 25 agencies decide adversarial proceedings pursuant to APA Sections 556 and 557, which is the category of ALJs challenged by Lucia. The Court’s decision made no reference to this number or these provisions of the APA, however; the Court instead focused on the functions performed by SEC ALJs, which may be interpreted by subjects of other administrative proceedings as an invitation to lodge constitutional challenges based on the “important functions” performed by ALJs across the federal government.

Recent Executive Order increases agency discretion over ALJ hiring

President Trump’s Executive Order observes that the Lucia decision “raise[s] questions about the method of appointing ALJs,” including whether the ALJ hiring process is “compatible with the discretion an agency head must possess under the Appointments Clause in selecting ALJs.” The Executive Order in turn addresses this potential issue by placing ALJs in the “excepted service,” which means that individual agencies will be able to define the hiring criteria for ALJs, and do the hiring. According to the Executive Order, this will “give agencies greater ability and discretion” in the ALJ hiring process and reduce the likelihood of successful legal challenges to ALJs’ authority. The Executive Order does not address, however, the status of existing ALJs or the arguments summarized in Justice Breyer’s concurrence. For these reasons, additional litigation on these issues is likely to arise.

Alan J. Bozer is a partner with Phillips Lytle LLP and is Team Leader of the firm’s White Collar Criminal Defense and Government Investigations Practice. He is active in trying criminal and civil cases, and handles appellate and arbitration work as well. He can be reached at or (716) 504-5700.