For nearly a half-century, when bringing enforcement proceedings for violations of federal securities laws, the U.S. Securities and Exchange Commission has sought “disgorgement”—i.e., a sanction which forces defendants to fork over some or all of their ill-gotten gains—regardless of how long before the initiation of the proceeding the wrongful conduct generating those gains occurred. SEC v. Texas Gulf Sulphur Co., 312 F. Supp. 77, 91 (S.D.N.Y. 1970), aff'd in part and rev'd in part, 446 F.2d 1301 (2d Cir. 1971). But on June 5, in Kokesh v. Securities and Exchange Commission, __ S. Ct. __, No. 16-529 (June 5, 2017), a unanimous U.S. Supreme Court put a stop to the SEC's end-run around the limitations period otherwise applicable to agency enforcement proceedings. Resolving a circuit split, the court held that disgorgement is a “penalty” within the meaning of 28 U.S.C. §2462, and therefore subject to the five-year limitations period set forth therein.

Kokesh closes the limitations loophole that the SEC has stepped through with increasing frequency since 2013, when the Supreme Court held that the SEC, unlike private litigants, cannot utilize the discovery rule to toll the applicable statute of limitations even when the underlying allegations sound in fraud. Gabelli v. SEC, 568 U.S. 442 (2013). The decision is thus the second big blow the court has dealt to the SEC's ability to obtain sizeable money judgments in recent years. And reading between the lines, the decision signals that the court might soon be ready to deliver the knock-out punch and divest the SEC of the authority to seek disgorgement altogether.

'Kokesh' Background

In late 2009, the SEC filed a civil enforcement action against Charles R. Kokesh, alleging that he violated various securities laws by concealing the misappropriation of $34.9 million from four business-development companies between 1995 and 2006. After a five-day trial, the jury found in favor of the government. The SEC then sought a judgment ordering Kokesh to pay a civil money penalty and disgorge the misappropriated funds. Kokesh argued that 28 U.S.C. §2642—which provides that “an action, suit or proceeding for the enforcement of any civil fine, penalty, or forfeiture, pecuniary or otherwise, shall not be entertained unless commenced within five years from the date when the claim first accrued”—precluded the imposition of a penalty or the disgorgement of funds attributable to wrongful conduct that occurred before 2004 (i.e., five years before the SEC initiated the proceeding). As to the civil penalty, the court agreed. As to disgorgement, however, it concluded that §2462 was inapplicable. It therefore ordered Kokesh to pay the full $34.9 million (plus $18.1 million in prejudgment interest) that had been misappropriated between 1995 and 2006, even though only $5 million could be traced to conduct that took place since 2004.

On appeal, the Tenth Circuit affirmed. It reasoned that disgorgement was not punitive, but instead remedial, because it “just leaves the wrongdoer 'in the position he would have occupied had there been no misconduct.'” 834 F.3d 1158, 1164 (10th Cir. 2016) (quoting Restatement (Third) of Restitution and Unjust Enrichment §51 cmt. K (Am. Law. Inst. 2010)). In the court's view, requiring Kokesh to disgorge more than he personally received did not make the remedy punitive, either, since he had chosen where to divert the funds. Turning to whether disgorgement qualifies as “forfeiture,” the court relied on its historical meaning to conclude that the term referred only to the turning over of in rem property. Accordingly, the court held §2462 inapplicable and upheld the disgorgement order for $34.9 million.

Supreme Court Holding

In contrast to all of the courts that had previously addressed the issue,¹ the Supreme Court, in a unanimous opinion penned by Justice Sonia Sotomayor, reversed the Tenth Circuit and held that disgorgement is a “penalty” as used in 28 U.S.C. §2462. According to the court, two principles govern whether a sanction represents a penalty. The first is “whether the wrong sought to be redressed is a wrong to the public, or a wrong to the individual.” The second is whether the sanction is sought “for the purpose of punishment, and to deter others from offending in like manner, rather than to compensate victims.”