Justices Set Time Limit for SEC Disgorgement Actions

(CN) – The Supreme Court ruled unanimously Monday that the Securities and Exchange Commission has a five-year limit to make securities fraudsters disgorge ill-gotten gains.

In August 2016, the 10th Circuit upheld a federal judge’s order that Charles Kokesh cough up $34.9 million in misappropriated funds, plus $18 million in interest and a $2.4 million civil penalty.

Investment funds run by Kokesh’s firms lost $85 million between 1995 and 2006, in no small part because Kokesh redirected almost $35 million to pay rent for his firm’s offices as well as salaries and bonuses for himself and other executives.

Kokesh had argued the SEC’s case fell outside the federal statute of limitations for enforcement of the fine and forfeiture, and that he was improperly barred from presenting evidence that he didn’t know anything about the misappropriation.

The 10th Circuit found the disgorgement order was remedial and therefore the federal limitations period did not apply. The appeals court also noted that “evidence of reliance on professionals such as attorneys and accountants is significantly restricted in this circuit” and Kokesh failed to point to any specific potential testimony that would have helped him.

The U.S. Supreme Court agreed to take up Kokesh’s case in January, and it heard oral arguments in April.

Arguing for Kokesh, Jenner Block attorney Adam Unikowsky said that disgorgement is clearly meant to discourage people from committing fraud and is therefore a penalty.

“The question is whether it has some penal component,” Unikowsky argued. “I think the answer is yes, because when one defines the purpose of the disgorgement remedy, it’s to ensure that someone doesn’t benefit from wrongdoing. But when you say that, you are talking about wrongdoing; in other words, the purpose of the remedy is to impose unpleasant legal consequences of wrongdoing.”

But Assistant to the Solicitor General Elaine Goldenberg argued that disgorgement merely sets back the clock to a time before the people caught up in a securities fraud scheme lost their money. It is not meant to punish bad behavior, but rather to make it seem like the bad behavior never happened in the first place.

“Disgorgement is not a punishment because it doesn’t take away anything that anyone was rightfully entitled to in the first place,” Goldenberg said. “It just remedies unjust enrichment and it takes the defendant back into the position the defendant would have been in if the defendant hadn’t engaged in a securities law violation in the first instance.”

On Monday, the Supreme Court sided with Kokesh and unanimously reversed the 10th Circuit’s ruling.

The justices found that SEC disgorgement is a penalty and therefore any disgorgement claim in an SEC action must be within the five-year statute of limitations.

Writing for the high court, Justice Sonia Sotomayor noted that SEC disgorgement is imposed by courts as a consequence for violating laws and for punitive purposes, and is paid to the court, not directly to victims.

“SEC disgorgement thus 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. The 5-year statute of limitations in [28 U. S. C.] §2462 therefore ap­plies when the SEC seeks disgorgement,” Sotomayor wrote.

Supreme Court newcomer Justice Neil Gorsuch joined in the unanimous opinion after having participated in oral arguments in April.

Dixie Johnson, a partner with King & Spalding in Washington, D.C., said in a statement that Monday’s Supreme Court ruling “shatters the SEC’s long-standing view that the disgorgement remedy is equitable, and therefore not subject to any statute of limitations.”

“In part, the ruling focuses on the way the SEC had expanded the disgorgement remedy over time to include gains, rather than simply profits or compensation.  Those who previously paid disgorgement purportedly for ill-gotten gains more than five years after the relevant violation will be reviewing their situations against this case to determine whether the disgorgement award should have been allowed,” Johnson said.

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