It is not every day someone says they want to be sued in federal court. But, in fact, Mr. Rajat Gupta, a former board member at Goldman Sachs and Procter & Gamble, is doing just that. Mr. Gupta sued the Securities and Exchange Commission claiming that the SEC cannot pursue their current administrative case against him because such a case would need to be brought in federal court. (It is alleged that Mr. Gupta fed Raj Rajaratnam inside information about both Goldman Sachs and Procter & Gamble which was used by the Galleon hedge fund investment advisors.) Recently, the SEC delayed Mr. Gupta’s administrative case for at least 6 months. Not only is this bizarre case legally fascinating but it places the potency of a section of the monumental finance-reforming Dodd-Frank Act under siege.
Gupta seeks a federal injunction to prevent the SEC insider trading allegations from being heard before an administrative law judge. The SEC Division of Enforcement seeks administrative sanctions, civil monetary penalties, a cease-and-desist order, disgorgement of ill-gotten gains, and other civil remedies. In the past, such remedies for insider trading were “available only in federal court cases unless the defendant was a broker or investment adviser.” Section 929P of the Dodd-Frank Act, however, allows for unregistered persons to be eligible for civil penalties in administrative cease and desist proceedings. Gupta’s suit is based on the fact that the SEC is applying this provision retroactively. The Dodd-Frank Act went into effect on July 22, 2010 and “the only statement in the law on the timing of its effectiveness is that it shall take effect after the date of enactment of this act.”
The legal community is left to try and understand the rationale behind this potential change in enforcement policy. Many speculate that administrative cases give the SEC a “home court advantage.” Administrative judges are generally viewed as more enforcement-friendly; and the use of these Article I judges gives the SEC greater freedom to pursue cases and impose the penalties they most wish to see handed down. There is also limited discovery in administrative cases and no possibility for a putatively more unpredictable jury trial. Finally, with administrative cases there exists “a procedure by which the full [SEC] commission itself reviews any decision in the case before an appeal ever goes before a federal judge.” It seems like the SEC easily stack the deck in its favor if such civil proceedings against any registered or unregistered individuals is allowed to stay within the purview of administrative judges under a new SEC policy.
What chance does Mr. Rajat K. Gupta have of winning his lawsuit against the SEC? According to Peter Henning of the New York Times, “The leading case in this area is Landgraf v. USI Film Products.” In Landgraf v. USI Film Products, the Supreme Court stated that “the presumption against retroactive legislation is deeply rooted in our jurisprudence, and embodies a legal doctrine centuries older than our Republic…the ‘principle that the legal effect of conduct should ordinarily be assessed under the law that existed when the conduct took place has timeless and universal appeal.’” They went on to state that there is the general presumption against “retroactive application of laws unless Congress clearly wants the new rule applied to earlier cases.” The Dodd-Frank Act has no affirmative language saying that this new rule should be applied retroactively which could favor Mr. Gupta. However, the Supreme Court went on to state that “the court must ask whether the new provision attaches new legal consequences to events completed before its enactment.” If it does, then the Gupta suit could be dismissed. It is important to note however that many of the cases distinguished from the Landgraf v. USI Film Products decision hinge on the fact that the legislature was not clear about intending to apply the statute retroactively to past behavior and actions. Since Dodd-Frank does not explicate that the provision in 929 is retroactive, Mr. Gupta stands a decent chance of winning his suit. Additionally, the SEC already has the ability to file a lawsuit against unregistered persons in federal court. The differentiation between administrative court and federal court may not be sufficient to qualify 929 of the Dodd-Frank Act for retroactive application.
It will be interesting to see what the decision of the court will be but in the event that Mr. Gupta loses his federal suit, insider trading enforcement policies may permanently change. The use of administrative judges for insider trading civil cases may just be a strategic move for certain high-profile individuals.
UPDATE: Over the summer, Mr. Gupta and the SEC dropped their respective suits against each other. On October 26, 2011, Mr. Gupta was arrested and charged with securities fraud. The same day, Mr. Gupta finally got what he wanted; the SEC filed a civil suit against him in federal court.