Helping Clients Defend Against SEC Actions
What Kinds of Punishment Can the SEC Impose on Securities Law Violators?
The SEC has, over time, been given additional tools to punish or deter violations of the securities laws it enforces. From its founding in 1934 until 1970, the SEC used the injunction (with ancillary equitable relief) as its primary remedy against violators of federal securities law.
In 1970, the U.S. Court of Appeals for the Second Circuit determined that “equitable relief” included the remedy of disgorgement and in SEC v. Texas Gulf Sulphur enabled the SEC to obtain disgorgement of a violator’s ill-gotten gains. (446 F.2d 1301 (2d Cir. 1970), cert. denied, 404 U.S. 1005 (1971)). This power, which the SEC exercised thereafter and which has been recently confirmed in Liu v. SEC (No. 18-501 (U.S. June 22, 2020)), essentially doubled the SEC’s inventory of judicial remedies.
The SEC’s inventory of punitive remedies began to grow as statutory amendments were enacted to address misconduct uncovered by the SEC in a number of high-profile investigations. The Insider Trading Sanctions Act of 1984 amended the Exchange Act and authorized the SEC to obtain money penalties for insider trading. Several years later, the Insider Trading and Securities Fraud Enforcement Act of 1988 amended the Exchange Act again, increasing monetary penalty amounts and authorizing the SEC to obtain penalties against an insider trader’s firm and their supervisors. Two years later, the Securities Enforcement Remedies and Penny Stock Reform Act of 1990 completed the money penalty authorization process by giving the SEC authority to obtain penalties against any defendant found to have violated any provision of the federal securities laws (other than those covered by the earlier insider-trading statutes).
Thereafter, the SEC had power—which it often used—to impose effectively two types of monetary penalties: disgorgement, based in equity, and civil money penalties, based on statute. During this same period, no limitations period applied to the disgorgement remedy and the SEC had no legal obligation to return the “disgorged” funds back to the source, the original investors.
Current Statutory List of Remedies
The SEC’s authority to seek certain remedies if it believes there have been securities law violations is found in the Exchange Act, 15 U.S.C. § 78u(d) (other subsections of this section provide the SEC with investigative authority, subpoena powers, and certain other investigation-related powers and authority). Pursuant to the Exchange Act, if it decides to bring an action, the SEC may seek:
• Injunctions against any person (individual or company) restraining them from violating the federal securities laws and regulations, against any member or associated person from violating the rules of a national securities exchange or registered securities association, against any participant from violating the rules of registered clearing agency, against any registered public accounting firm or associated person from violating the rules of the Public Company Accounting Oversight Board (PCAOB), or against any person from violating the rules of the Municipal Securities Rulemaking Board;
• A bar against any person who has committed securities fraud from serving as an officer or director of a public company;
• Monetary penalties for violations of the securities laws and regulations of up to $100,000 for an individual or up to $500,000 for a company per occurrence;
• Equitable relief (generally, disgorgement—see the discussion below);
• Writs of mandamus to comply with rules; and
• Certain other relief in particular situations.
Evolution of Financial Remedies Over Time
Since 1970, the SEC has obtained monetary orders against defendants under the equitable disgorgement remedy. In 2017, the Supreme Court decided Kokesh v. SEC, 137 S. Ct. 1635 (2017), in which the Court decided that disgorgement constituted a penalty for the purpose of the statute of limitations, but declined to decide whether the SEC had statutory authority to seek disgorgement. The unanimous Court noted that an SEC disgorgement action “bears all the hallmarks of a penalty: it is imposed as a consequence of violating a public law and it is intended to deter, not to compensate.” Kokesh, at 1644. The Kokesh Court noted that the SEC did not normally seek to restore disgorged funds to investors that had been harmed by the underlying conduct, instead sending collected funds to the U.S. Treasury. In fact, since 1990, the SEC has been using disgorgement in tandem with the civil monetary penalties that Congress authorized the SEC, which also go to the Treasury. From 2011 to 2020, total SEC disgorgements increased sixty percent. Although the SEC gained the authority to seek monetary penalties through statutory changes in the securities laws enacted in 1990, it continued to seek equitable relief in the form of injunctions and to extract disgorgements for amounts not refunded to the victims of securities violations. Cumulative disgorgement amounts often dwarf penalty amounts: in 2015, the SEC extracted $3 billion in disgorgement payments, compared to $1.2 billion in monetary penalties.
Not until Liu v SEC (decided in June 2020) has the SEC been compelled to refund ill-gotten gains to the original contributor-victims. The Liu decision resolved the Kokesh issue, namely whether disgorgement is necessarily a penalty and thus not available as equitable relief. As long as the award does not exceed net profits and is refunded to the victims, it is equitable relief and not a penalty. The Supreme Court expressly noted that the Kokesh decision “has no bearing on the SEC’s ability to conform future requests for a defendant’s profits to the limits outlined in common-law cases awarding a wrongdoer’s net gains.” The Liu decision envisioned a case where the government might retain funds when “it is infeasible to distribute the collected funds to investors,” but it is unclear what set of facts would meet this test in light of the Court’s directives.