BREAKING NEWS: Lucia v. SEC / Supreme Court Finds SEC ALJs Unconstitutional

June 21, 2018

The Raymond J. Lucia Companies Inc. was registered with the Securities and Exchange Commission as an investment adviser from September 2002 through December 2011, and the firm had about 4,700 client accounts with about $300 million in assets under management.when it sold its busienss and accounts to RJL Wealth Management in May 2010, which was also an SEC-registered RIA. Raymond J. Lucia, Sr. owns RJL and hosted the daily, syndicated radio program: The Ray Lucia Show. Lucia was a registered representative, owned the Lucia Financial, LLC brtoker-dealer. In the Matter of Raymond J. Lucia Companies, inc. and Raymond J. Lucia, Sr. Respondents (Order Instituting Administrative and Cease-and-Desist Proceedings; '34 Act Rel. No. 67781; Invest. Adv. Act Rel No. 3456; Invest. Co. Act Rel. No. 30193; Admin. Proc. File No. 3-15006 / September 5, 2012) 

http://brokeandbroker.com/PDF/LuciaSECOIG.pdf

After the SEC initiated its OIP and following hearings, SEC Administrative Law Judge Cameron Elliot issued an Initial Decision, which, under its "Summary":

This Initial Decision finds that Respondent Raymond J. Lucia Companies, Inc. (RJLC), violated Sections 206(1), 206(2), and 206(4) of the Investment Advisers Act of 1940 (Advisers Act) by misrepresenting the validity of purported back-testing in seminars for prospective investors, and that Respondent Raymond J. Lucia, Sr. (Lucia) aided and abetted RJLC's violations of Sections 206(1), 206(2), and 206(4) of the Advisers Act, and bars Lucia from associating with an investment adviser, broker, or dealer, revokes Lucia's and RJLC's investment adviser registrations, imposes a civil penalty of $50,000 on Lucia and $250,000 on RJLC, and orders Lucia and RJLC to cease and desist from further violations of the Advisers Act. 

In the Matter of Raymond J. Lucia Companies, Inc. and Raymond J. Lucia, Sr. Respondents (Initial Decision; Init. Dec. Rel. No 495; Admin. Proc. File No. 3-15006 / July 8, 2013). Also see: In the Matter of Raymond J. Lucia Companies, inc. and Raymond J. Lucia, Sr. Respondents (Initial Decision  On Remand; Init. Dec. Rel. No 540; Admin. Proc. File No. 3-15006 / December 6, 2013).  https://www.sec.gov/alj/aljdec/2013/id540ce.pdf

SEC 2015 Opinion

Following the appeals of both Respondents and the SEC Division of Enforcement, the SEC issued its Opinion. 
In the Matter of Raymond J. Lucia Companies, inc. and Raymond J. Lucia, Sr. Respondents (Opinion; '34 Act Rel. No. 75837; Invest. Adv. Act Rel No. 4190; Invest. Co. Act Rel. No. 31806; Admin. Proc. File No. 3-15006 / September  3, 2015) 
http://brokeandbroker.com/PDF/LuciaSECOpinion.pdf
As stated in the "Syllabus" of the SEC Opinion:

Former registered investment adviser and its owner committed securities fraud by making material misrepresentations to prospective clients about their retirement wealth management strategy. Held, it is in the public interest to bar the owner from associating with an investment adviser, broker, or dealer; revoke respondents' investment adviser registrations; order respondents to cease and desist from further violations of the provisions violated; and order civil penalties of $250,000 against the investment adviser and $50,000 against the owner.

In characterizing the allegations and prior proceedings against Lucia, the SEC Opinion sets forth in its "Introduction" [Ed: footnotes omitted]

Respondents have appealed, and the Division of Enforcement has cross-appealed, an initial decision finding that Raymond J. Lucia Companies, Inc. ("RJLC"), violated Sections 206(1), 206(2), and 206(4) of the Investment Advisers Act of 1940 by misleading prospective clients about its Buckets of Money ("BOM") retirement wealth management strategy, and that Raymond J. Lucia, Sr. ("Lucia" and, with RJLC, "Respondents"), aided and abetted and caused RJLC's violations.1 In particular, the Administrative Law Judge ("ALJ") found that, at seminars Respondents conducted to pitch their BOM strategy to prospective clients, Respondents misrepresented that they had performed two backtests (one from 1966 to 2003 and another from 1973 to 1994) proving that a model portfolio following the BOM strategy during difficult historical market periods would substantially increase in value while also providing annual retirement income. Respondents' statements about the backtests were misleading, the ALJ found, because Respondents did not inform prospective clients that the backtests (i) used assumed inflation and Real Estate Investment Trust ("REIT") rates that did not reflect historical rates, (ii) did not deduct advisory fees, and (iii) did not actually follow the BOM strategy by "rebucketizing" (i.e., reallocating assets between "buckets" of portfolio assets). The ALJ found that Respondents did not inform prospective clients that actual backtests would have shown their model portfolio exhausting its assets before the end of the backtest periods rather than substantially increasing in value. 

For these violations, the ALJ barred Lucia from associating with an investment adviser, broker, or dealer; revoked RJLC's and Lucia's investment adviser registrations; ordered RJLC and Lucia to cease and desist from further violations of the Advisers Act; and imposed civil penalties of $250,000 on RJLC and $50,000 on Lucia. 

The ALJ also found that RJLC did not violate, and Lucia did not aid and abet and cause a violation of, Advisers Act Rule 206(4)-1(a)(5) concerning fraudulent advertisements by investment advisers because he found that Respondents' live slideshow presentation did not qualify as an "advertisement" under that rule. The ALJ further found that RJLC did not violate Advisers Act Section 204 concerning the maintenance of records by investment advisers. 2 The Division cross-appealed only the Rule 206(4)-1(a)(5) findings. 

We find that RJLC violated, and Lucia aided and abetted and caused RJLC's violations of, Advisers Act Sections 206(1), 206(2), and 206(4), and Rule 206(4)-1(a)(5). For these violations, we impose the same sanctions as the ALJ imposed. We base our findings on an independent review of the record, except with respect to those findings not challenged on appeal. 

Finally, we reject Respondents' contention that the administrative hearing was an unconstitutional procedure because the Commission ALJ who presided over this matter was not appointed in accordance with the Appointments Clause of the U.S. Constitution. As we explain below, a Commission ALJ is a "mere employee"-not an "officer"-and thus the appointment of a Commission ALJ is not covered by the Clause.

https://www.sec.gov/litigation/apdocuments/ap-3-15006.xml

2016 DC Circuit Opinion

Raymond J. Lucia Companies, Inc. and Raymond J. Lucia, Petitioners, v. Securities and Exchange Commission, Respondent (Opinion, United States Court of Appeals for the District of Columbia Circuit, August 9, 2016)
http://brokeandbroker.com/PDF/LuciaDCCir.pdf

Finally, petitioners point to nothing in the securities laws that suggests Congress intended that Commission ALJs be appointed as if Officers. They do point to the reference to "officers of the Commission" in 15 U.S.C. § 77u, but there is no indication Congress intended these officers to be synonymous with "Officers of the United States" under the Appointments Clause. Of course, petitioners contend that Congress was constitutionally required to make the Commission ALJs inferior Officers based on the duties they perform. But having failed to demonstrate that Commission ALJs perform such duties as would invoke that requirement, this court could not cast aside a carefully devised scheme established after years of legislative consideration and agency implementation. See 5 U.S.C. §§ 3105, 3313; see also Civil Service Reform Act of 1978, Pub. L. 95-454, 92 Stat. 1111

Page 18 of the DCCir Opinion

Lucia v. Securities and Exchange Commission (Appeal to Supreme Court)

Raymond J. Lucia Companies, Inc. and Raymond J. Lucia, Petitioners, v. Securities and Exchange Commission, Respondent (Opinion, United States Supreme Court,  No. 17-130, 585 U. S. ____ (2018) / Argued April 23, 2018-Decided June 21, 2018) 
http://brokeandbroker.com/PDF/LuciaSCtOpinion.pdf

The Question Presented: https://www.supremecourt.gov/qp/17-00130qp.pdf

Whether administrative law judges of the Securities and Exchange Commission are Officers of the United States within the meaning of the Appointments Clause. 

Read a copy of the written transcript of the April 23, 2018, Oral Argument https://www.supremecourt.gov/oral_arguments/argument_transcripts/2017/17-130_41p3.pdf

Listen to the April 23, 2018, Oral Argument
https://www.supremecourt.gov/oral_arguments/audio/2017/17-130 

Supreme Court Opinion

http://brokeandbroker.com/PDF/LuciaSCtOpinion.pdf

KAGAN, J., delivered the opinion of the Court, in which ROBERTS, C. J., and KENNEDY, THOMAS, ALITO, and GORSUCH, JJ., joined. THOMAS, J., filed a concurring opinion, in which GORSUCH, J., joined. BREYER, J., filed an opinion concurring in the judgment in part and dissenting in part, in which GINSBURG and SOTOMAYOR, JJ., joined as to Part III. SOTOMAYOR, J., filed a dissenting opinion, in which GINSBURG, J., joined.  As set forth in the Court's "Syllabus":

The Securities and Exchange Commission (SEC or Commission) has statutory authority to enforce the nation's securities laws. One way it can do so is by instituting an administrative proceeding against an alleged wrongdoer. Typically, the Commission delegates the task of presiding over such a proceeding to an administrative law judge (ALJ). The SEC currently has five ALJs. Other staff members, rather than the Commission proper, selected them all. An ALJ assigned to hear an SEC enforcement action has the "authority to do all things necessary and appropriate" to ensure a "fair and orderly" adversarial proceeding. 17 CFR §§201.111, 200.14(a). After a hearing ends, the ALJ issues an initial decision. The Commission can review that decision, but if it opts against review, it issues an order that the initial decision has become final. See §201.360(d). The initial decision is then "deemed the action of the Commission." 15 U. S. C. §78d-1(c). 

The SEC charged petitioner Raymond Lucia with violating certain securities laws and assigned ALJ Cameron Elliot to adjudicate the case. Following a hearing, Judge Elliot issued an initial decision concluding that Lucia had violated the law and imposing sanctions. On appeal to the SEC, Lucia argued that the administrative proceeding was invalid because Judge Elliot had not been constitutionally appointed. According to Lucia, SEC ALJs are "Officers of the United States" and thus subject to the Appointments Clause. Under that Clause, only the President, "Courts of Law," or "Heads of Departments" can appoint such "Officers." But none of those actors had made Judge Elliot an ALJ. The SEC and the Court of Appeals for the D. C. Circuit rejected Lucia's argument, holding that SEC ALJs are not "Officers of the United States," but are instead mere employees -- officials with lesser responsibilities who are not subject to the Appointments Clause. 

Held: The Commission's ALJs are "Officers of the United States," subject to the Appointments Clause. Pp. 5-13. 

(a) This Court's decisions in United States v. Germaine, 99 U. S. 508, and Buckley v. Valeo, 424 U. S. 1, set out the basic framework for distinguishing between officers and employees. To qualify as an officer, rather than an employee, an individual must occupy a "continuing" position established by law, Germaine, 99 U. S., at 511, and must "exercis[e] significant authority pursuant to the laws of the United States," Buckley, 424 U. S., at 126. 

In Freytag v. Commissioner, 501 U. S. 868, the Court applied this framework to "special trial judges" (STJs) of the United States Tax Court. STJs could issue the final decision of the Tax Court in "comparatively narrow and minor matters." Id., at 873. In more major matters, they could preside over the hearing but could not issue a final decision. Instead, they were to "prepare proposed findings and an opinion" for a regular Tax Court judge to consider. Ibid. The proceeding challenged in Freytag was a major one. The losing parties argued on appeal that the STJ who presided over their hearing was not constitutionally appointed. 

This Court held that STJs are officers. Citing Germaine, the Freytag Court first found that STJs hold a continuing office established by law. See 501 U. S., at 881. The Court then considered, as Buckley demands, the "significance" of the "authority" STJs wield. 501 U. S., at 881. The Government had argued that STJs are employees in all cases in which they could not enter a final decision. But the Court thought that the Government's focus on finality "ignore[d] the significance of the duties and discretion that [STJs] possess." Ibid. Describing the responsibilities involved in presiding over adversarial hearings, the Court said: STJs "take testimony, conduct trials, rule on the admissibility of evidence, and have the power to enforce compliance with discovery orders." Id., at 881-882. And the Court observed that "[i]n the course of carrying out these important functions," STJs "exercise significant discretion." Id., at 882. 

Freytag's analysis decides this case. The Commission's ALJs, like the Tax Court's STJs, hold a continuing office established by law. SEC ALJs "receive[ ] a career appointment," 5 CFR §930.204(a), to a position created by statute, see 5 U. S. C. §§556-557, 5372, 3105. And they exercise the same "significant discretion" when carrying out the same "important functions" as STJs do. Freytag, 501 U. S., at 882. Both sets of officials have all the authority needed to ensure fair and orderly adversarial hearings-indeed, nearly all the tools of federal trial judges. The Commission's ALJs, like the Tax Court's STJs, "take testimony," "conduct trials," "rule on the admissibility of evidence," and "have the power to enforce compliance with discovery orders." Id., at 881-882. So point for point from Freytag's list, SEC ALJs have equivalent duties and powers as STJs in conducting adversarial inquiries. 

Moreover, at the close of those proceedings, SEC ALJs issue decisions much like that in Freytag. STJs prepare proposed findings and an opinion adjudicating charges and assessing tax liabilities. Similarly, the Commission's ALJs issue initial decisions containing factual findings, legal conclusions, and appropriate remedies. And what happens next reveals that the ALJ can play the more autonomous role. In a major Tax Court case, a regular Tax Court judge must always review an STJ's opinion, and that opinion comes to nothing unless the regular judge adopts it. By contrast, the SEC can decide against reviewing an ALJ's decision, and when it does so the ALJ's decision itself "becomes final" and is "deemed the action of the Commission." 17 CFR §201.360(d)(2); 15 U. S. C. §78d-1(c). Pp. 5-11. 

(b) Judge Elliot heard and decided Lucia's case without a constitutional appointment. "[O]ne who makes a timely challenge to the constitutional validity of the appointment of an officer who adjudicates his case" is entitled to relief. Ryder v. United States, 515 U. S. 177, 182. Lucia made just such a timely challenge. And the "appropriate" remedy for an adjudication tainted with an appointments violation is a new "hearing before a properly appointed" official. Id., at 183, 188. In this case, that official cannot be Judge Elliot, even if he has by now received a constitutional appointment. Having already both heard Lucia's case and issued an initial decision on the merits, he cannot be expected to consider the matter as though he had not adjudicated it before. To cure the constitutional error, another ALJ (or the Commission itself) must hold the new hearing. Pp. 12-13. 

868 F. 3d 1021, reversed and remanded. 

In Sotomayor's Dissent (Ginsburg joining), the Justice notes in part that:

To provide guidance to Congress and the Executive Branch, I would hold that one requisite component of "significant authority" is the ability to make final, binding decisions on behalf of the Government. Accordingly, a person who merely advises and provides recommendations to an officer would not herself qualify as an officer. 

. . .

Nevertheless, I would hold that Commission ALJs are not officers because they lack final decisionmaking authority. As the Commission explained below, the Commission retains "'plenary authority over the course of [its] administrative proceedings and the rulings of [its] law judges.'" In re Raymond J. Lucia Companies, Inc. & Raymond J. Lucia, Sr., SEC Release No. 75837 (Sept. 3, 2015). Commission ALJs can issue only "initial" decisions. 5 U. S. C. §557(b). The Commission can review any initial decision upon petition or on its own initiative. 15 U. S. C. §78d- 1(b). The Commission's review of an ALJ's initial decision is de novo. 5 U. S. C. §557(c). It can "make any findings or conclusions that in its judgment are proper and on the basis of the record." 17 CFR §201.411(a) (2017). The Commission is also in no way confined by the record initially developed by an ALJ. The Commission can accept evidence itself or refer a matter to an ALJ to take additional evidence that the Commission deems relevant or necessary. See ibid.; §201.452. In recent years, the Commission has accepted review in every case in which it was sought. See R. Jackson, Fact and Fiction: The SEC's Oversight of Administrative Law Judges (Mar. 9, 2018), http://clsbluesky.law.columbia.edu/2018/03/09/fact-and-fictionthe-secs-oversight-of-administrative-law-judges/ (as last visited June 19, 2018). Even where the Commission does not review an ALJ's initial decision, as in cases in which no party petitions for review and the Commission does not act sua sponte, the initial decision still only becomes final when the Commission enters a finality order. 17 CFR. §201.360(d)(2). And by operation of law, every action taken by an ALJ "shall, for all purposes, . . . be deemed the action of the Commission." 15 U. S. C. §78d-1(c) (emphasis added). In other words, Commission ALJs do not exercise significant authority because they do not, and cannot, enter final, binding decisions against the Government or third parties.