Supreme Court Rules District Courts May Consider Structural Challenges to SEC and FTC Administrative Processes

On Friday, April 14, the United States Supreme Court issued a unanimous decision in Axon Enterprise, Inc. v. Federal Trade Commission, holding that constitutional challenges to the Securities and Exchange Commission (SEC) and Federal Trade Commission (FTC) can be heard in federal district court in the first instance, without the plaintiffs first having to exhaust those arguments through the agencies’ respective administrative enforcement processes. The Court did not address the underlying constitutional challenges, but the long-awaited decision on the jurisdictional question is likely to encourage more constitutional challenges to those and other agencies’ enforcement schemes being raised and heard first in the federal courts.

Background

Accountant Michelle Cochran and policing equipment manufacturer Axon Enterprise, respondents in SEC and FTC enforcement actions, respectively, each challenged before federal district court the constitutionality of the agency proceedings against them. In both situations, the agency delegates the initial adjudication to an Administrative Law Judge (ALJ) with the authority to decide cases like a regular trial judge, as authorized under the Securities Exchange Act (“Exchange Act”) and the FTC Act. The losing party to an ALJ proceeding has the right to appeal the ALJ decision to the Commission, and only after obtaining a decision by the Commission (or having its request for review denied) may it petition for review (if necessary) by a federal court of appeals.

The problem with this system, both plaintiffs alleged, is that ALJs are unconstitutionally protected from removal from office. ALJs are removable “only for good cause as determined by the Merit Systems Protection Board (MSPB)—a separate agency whose members are themselves removable by the President only for cause.” This double “for cause” protection from removal that agency ALJs enjoy under federal law was challenged by Cochran and Axon in their respective federal district court cases as violating the Constitution’s separation-of-powers principles.

Both Cochran’s and Axon’s suits were dismissed in district court for lack of jurisdiction—the premise being that, under Supreme Court precedent, the constitutional arguments had to be exhausted through the agency enforcement process before a federal court of appeals could review the matter (under a deferential standard of review). On appeal from these decisions, the Courts of Appeals for the Fifth and Ninth Circuits diverged. The Ninth Circuit agreed with the lower court that Axon’s claims fell within the FTC Act’s review scheme and must first be exhausted through the administrative proceedings before they could be considered by the federal courts. But the Fifth Circuit, in the SEC case, held en banc that Cochran’s claim was “outside the SEC’s expertise” and would not receive “meaningful judicial review” through the Exchange Act’s statutory review scheme.

The Supreme Court granted certiorari in both cases to resolve the division.

Supreme Court Decision

Justice Kagan wrote the opinion for a unanimous Court addressing one question: whether the agency review schemes under the Exchange Act and the FTC Act displace district court’s federal-question jurisdiction over Axon’s and Cochran’s constitutional claims regarding the structure of the SEC and FTC administrative processes. Answering in the negative, the Court concluded that Axon’s and Cochran’s claims were not “of the type the statutory review schemes reach.”

The Court recognized that “a special statutory review scheme … may preclude district courts from exercising jurisdiction over challenges to federal agency action.” In doing so, Congress may create an alternative review scheme. For example, in the Exchange Act and the FTC Act, Congress specifically provides for “review in a court of appeals following the agency’s own review process,” authorizing the agency to “effectively [fill] in for the district court, with the court of appeals providing judicial review.”

But this statutory review scheme does not preclude every claim involving agency action. In Thunder Basin Coal Co. v. Reich (“Thunder Basin”), the Court articulated three factors to guide decision-making on whether an agency action is “of the type Congress intended to be reviewed within th[e] statutory structure:”^[i] (1) would precluding district court jurisdiction “foreclose all meaningful judicial review” of the claim; (2) is the claim “wholly collateral to [the] statute’s review provisions”; and (3) is the claim “outside the agency’s expertise?”

Elaborating on the Thunder Basin factors, the Court examined three precedents: (1) Thunder Basin itself; (2) Elgin v. Department of Treasury:^[ii] and (3) Free Enterprise Fund v. Public Company Accounting Oversight Board.^[iii]  In the first two, the Court held that Congress had displaced federal district court jurisdiction to hear the respective challenges to agency action, and that the plaintiffs had to first raise their arguments through the agency enforcement process. In the third, the Court decided differently, finding that the plaintiff’s challenge to the structure of the oversight agency was wholly collateral to the statutory review scheme established by Congress. As in Free Enterprise Fund, the Court was persuaded that the respective lawsuits filed by Axon and Cochran involved challenges to an agency’s structure or existence “that an agency is wielding authority unconstitutionally in all or a broad swath of its work.”

First, the Court found that preclusion of district court jurisdiction “could foreclose all meaningful judicial review” in Cochran’s and Axon’s cases. Here, “[t]he harm Axon and Cochran allege is ‘being subjected’ to ‘unconstitutional agency authority’—a ‘proceeding by an unaccountable ALJ.’” It is “a here-and-now injury,” and “[j]udicial review of Axon’s (and Cochran’s) structural constitutional claims would come too late to be meaningful … Axon and Cochran will lose their rights not to undergo the complained-of agency proceedings if they cannot assert those rights until the proceedings are over.”

Second, the Court held that the collateralism factor also favors Axon and Cochran—“they are challenging the Commissions’ power to proceed at all, rather than actions taken in the agency proceedings.” Their claims are therefore “‘collateral’ to any Commission orders or rules from which review might be sought.”

Lastly, the Court found Cochran’s and Axon’s claims “outside the [Commissions’] expertise.” The Court reasoned that “[t]he Commission knows a good deal about competition policy, but nothing special about the separation of powers. For that reason … ‘agency adjudications are generally ill suited to address structural constitutional challenges.’”

Justices Thomas and Gorsuch each authored a concurrence.

Justice Thomas wrote separately because he “ha[d] grave doubts about the constitutional propriety of Congress vesting administrative agencies with primary authority to adjudicate core private rights with only deferential judicial review on the back end.” Justice Thomas expressed his view that “[i]f private rights are at stake, the Constitution likely requires plenary Article III adjudication. Conversely, if privileges or public rights are at stake, Congress likely can foreclose judicial review at will.” Justice Thomas urged the Court to consider in the future whether “[the statutory review] schemes and the appellate review model involved in the current case are constitutional methods for the adjudication of private rights.”

Justice Gorsuch opined that although he agreed with the Court’s conclusion, the Court chose the wrong path. Simply put, Justice Gorsuch thinks Thunder Basin itself is poorly reasoned, and would uphold federal question jurisdiction under 28 U.S.C. § 1331 except where “Congress has actually carved out some exception.” Because neither the Exchange Act nor the FTC Act expressly displace a federal district court’s jurisdiction under § 1331, he would have ruled for Cochran and Axon on that basis.

Takeaways

The Axon decision comes as no surprise to anyone, but its impact has already been felt. For example, on April 24, the Court granted certiorari in Bohon v. FERC and vacated the D.C. Circuit’s decision affirming a district court’s dismissal of a “non-delegation doctrine” challenge to the Federal Energy Regulatory Commission for lack of jurisdiction. The Court instructed the D.C. Circuit to reconsider the question “in light of Axon.”

Even so, the more interesting issues are lurking in the underlying challenges to agency authority, including the authority of ALJs under the respective FTC Act and Exchange Act schemes. Indeed, those challenges do not necessarily (or even likely) end with the SEC and FTC—they portend far broader consequences. ALJs are, after all, creatures of the Administrative Procedure Act (APA).  While they are appointed for service by specific agencies, the position of ALJ is a career position within the Executive Branch and their authority derives from the APA, irrespective of how a particular agency may utilize them under its specific statutory scheme. Whether an agency utilizes its ALJ corps in a manner indistinguishable from how the SEC or FTC use their ALJs, we should expect like challenges given the Supreme Court’s 2018 decision in Lucia v. SEC, that ALJs—when used in the manner as they are by the SEC—are “inferior officers” and thus subject to appointment (and presumably removal) by the President or the agency head.^[iv]

What would it mean if ALJs are not protected from political removal? Or more, what would it mean—for example, to compliance and enforcement, to litigation and settlement strategy, to litigation costs—if the position of ALJ were to be gutted entirely on constitutional grounds unless and until Congress fixes the constitutional defect with new legislation?

For example, the FTC administrative process has been a point of divergence with the DOJ’s process for merger review under the Hart-Scott-Rodino Act.  Whereas the DOJ must proceed with merger challenges in federal court, the FTC’s challenges may be heard by their ALJ, subject to review by the full Commission, then appeal to a federal appellate court.   That can often mean a much longer timeline for mergers challenged by the FTC, and any change to that process would impact the structure and strategy of deals subject to FTC review. 

Likewise, litigated SEC administrative cases have slowed to a trickle in recent years given the other precedent mentioned above.  That’s a good thing when an agency oversteps its authority, and it’s good for litigants who prefer to go to federal court, but it’s less advantageous to litigants who might benefit from streamlined discovery and decision-making.  Commencing future contested litigations exclusively in federal court will restore some of the rights lost to the administrative process, to be sure.  However, the alternative is an already crowded, slower, less efficient, and generally more expensive dispute resolution vehicle that may not work to benefit of those seeking to defend themselves in the most efficient manner possible. 

That reckoning may not be far away. Within the past year, the Fifth Circuit passed judgment on one of the key underlying questions, holding in Jarkesy v. SEC that, among other things, the dual for-cause tenure protections for SEC ALJs violates the President’s power of removal.^[v] The SEC just recently petitioned the Supreme Court for certiorari to review that decision. Crowell will continue to monitor developments in this important area litigated challenges evolve.