Broker’s Lifetime Ban Twice Called Into Question by D.C. Circuit in Saad v. SEC – Leaving the Standard for Review Uncertain

Securities Law Alert

The D.C. Circuit Court of Appeals recently remanded a case, for the second time, to the Securities and Exchange Commission (“SEC”) to consider whether a broker’s permanent bar from the securities industry was excessive. Saad v. SEC, No. 15-1430, 2017 U.S. App. LEXIS 19970 (D.C. Cir. Oct. 13, 2017). This ruling may represent a new limitation on the ability of the SEC and the Financial Industry Regulatory Authority (“FINRA”) to impose expulsions and suspensions on securities industry personnel by potentially having to justify them as “punitive” rather than “remedial.”

Background

The question in Saad v. SEC was whether a lifetime ban – the “securities industry equivalent of capital punishment,” as the D.C. Circuit noted – was a permissible and appropriate sanction.

John M.E. Saad, a former regional director for Penn Mutual Life Insurance Company’s broker-dealer, has twice appealed to the D.C. Circuit a lifetime ban by FINRA for filing false expense reports seeking reimbursement from his then-employer for non-existent business travel and a fraudulently purchased cell phone.

In 2007, FINRA brought a disciplinary action against Mr. Saad alleging conversion of funds and imposed a bar that permanently forbade him from associating with any FINRA member firm in any capacity. The SEC affirmed the bar, and Mr. Saad petitioned the D.C. Circuit for reconsideration. In 2013, the D.C. Circuit remanded his case in part back to the SEC for further analysis of potentially mitigating factors. The SEC again affirmed the bar, and Mr. Saad once again appealed to the D.C. Circuit.

The (Second) Saad Decision

The D.C. Circuit panel determined that the SEC’s prior decision comprehensively analyzed and properly dismissed Mr. Saad’s arguments related to potential mitigating factors. However, the D.C. Circuit remanded the case for the SEC to determine whether, in light of Kokesh v. SEC, 137 S. Ct. 1635 (June 5, 2017), the sanction imposed on Mr. Saad was excessive. In Kokesh, the U.S. Supreme Court held that disgorgement of profits obtained through unlawful means is punitive, rather than remedial, overturning a line of cases from the D.C. Circuit. More specifically, Kokesh found that disgorgement constitutes a “penalty” under 28 U.S.C. § 2462, which prescribes a five-year statute of limitations for the imposition of any “civil fine, penalty, or forfeiture, pecuniary or otherwise” for violations of public law. The Supreme Court reasoned that disgorgement bears one of the hallmarks of a penalty as disgorged funds are paid to the U.S. Treasury instead of victims.

In his concurring opinion in Saad, Judge Brett Kavanaugh writes that expulsion of a securities broker, like disgorgement, does not provide any compensation to the victims and therefore (under Kokesh) should not be considered “remedial.” The distinction between “remedial” and “punitive” is significant because the D.C. Circuit has previously held that FINRA sanctions – if considered remedial – are not “excessive or oppressive” under 15 U.S.C. § 78s(e)(2), which governs the SEC’s review of FINRA sanctions. Following the Kokesh decision, Judge Kavanaugh writes, “FINRA and the SEC will no longer be able to simply waive the ‘remedial card’ and thereby evade meaningful judicial review of hard sanctions they impose on specific defendants.” Instead, “FINRA and the SEC will have to reasonably explain in each individual case why an expulsion or suspension serves the purposes of punishment and is not excessive or oppressive.”

But Judge Patricia Millet, writing in a separate “dubitante” opinion (used when a judge is doubtful of a proposition but does not dissent), expressed reservations over the applicability of Kokesh in the context of FINRA’s enforcement of its professional standards, as opposed to disgorgement of profits resulting from violations of public law. She cautions against extrapolating the meaning of “penalty” under 28 U.S.C. § 2462 to the determination of whether a sanction is “excessive or oppressive” under 15 U.S.C. § 78s(e)(2) since FINRA sanctions do not surrender anything “to the Government.” Rather, she suggests the SEC can reasonably conclude that such orders are “remedial” if they are designed “to protect the public prospectively” by preventing future misconduct. “Ordering the fox out of the henhouse,” writes Judge Millet, “falls comfortably within the common understanding of the term remedial.”

A Look Ahead

The SEC must now consider whether the “punitive” versus “remedial” distinction in Kokesh applies to the professional standards that FINRA rules impose on broker-dealers. If Kokesh is found to be applicable, FINRA would have to justify expulsions and suspensions as appropriate “punitive” measures, thereby opening them up to greater judicial scrutiny. It also remains to be seen whether Mr. Saad’s case will lead to another round of appeals until the standard is clarified.