SEC Prevails on Question of Penalty Amount

SEC Prevails on Question of Penalty Amount

 The D.C. Circuit Court of Appeals upheld the imposition of a penalty by the SEC which is over 100 times the amount of the disgorgement. The ruling was made in a case involving a registered representative charged with failure to supervise in a Commission administrative proceeding. Collins, v. SEC, No. 12-1241 (D.C. Cir., Nov. 26, 2013) [an enhanced version of this opinion is available to lexis.com subscribers].

Matthew Collins was employed at broker-dealer Prime Capital Services. His responsibilities included supervising registered representative Eric Brown who sold financial products. Mr. Collins was expected to review and approve Mr. Brown’s transactions. He was also charge with completing a monthly report regarding Mr. Brown’s activities.

Difficulties with Mr. Brown surfaced in August 2003. The Florida Department of Financial Services filed an administrative complaint against Mr. Brown claiming that he had guaranteed certain customers a 6% to 8% return on variable annuities. When Mr. Brown failed to respond, the agency revoked his insurance license. Mr. Brown lied to his supervisor about the proceeding claiming it related to other matters in a different state. Mr. Collins did not investigate. Mr. Brown continued to market variable annuities.

Mr. Brown appealed the ruling in Florida. During the pendency of that appeal the state reinstated his license on the proviso that he not market annuities to individuals over the age of 65. Mr. Collins ignored the limitation and tried to conceal his activities. Eventually an Administrative Law Judge concluded he had engaged in such conduct. Later the SEC found that the instruments had been marketed to five elderly customers during the period Mr. Brown’s license was restricted. An internal review by Prime Capital characterized Mr. Collins’ conduct as constituting a “complete lack of supervision . . . “

An SEC administrative proceeding was brought which named, among other, Mr. Brown as a Respondent. After a hearing before an ALJ, the Commission affirmed a finding of failure to supervise. The agency treated each of the five sales as a separate and distinct act or omission and imposed five penalties aggregating $310,000, rather than the single penalty of $130,000 recommended by the ALJ.

The D.C. Circuit affirmed. Mr. Collins focused his appeal primarily on the question of whether the penalty met the public interest factor of the statutory test. In advancing his argument he made two key concessions. First, Mr. Collins agreed that for a second tier penalty the offense must involve, as here, fraud, deceit, manipulation or deliberate or reckless disregard of a regulatory requirement. Second, he agreed that each transaction could be considered a separate act or omission for calculating the penalty.

In arguing that the public interest factor of the statutory test for imposing a penalty had not been met, Mr. Collins focused on the question of proportionality rather than the six factors cited in the statute. To support this contention he cited a series of district court cases showing that there is typically a close approximation between the amount of the disgorgement and the penalty imposed, although he conceded in one brief that other factors might be considered.

The Court conceded that the cases cited did in fact reflect the kind of relationship relied on by Mr. Collins. That, however, is not dispositive. There are other factors. First, the $2,915 paid as disgorgement understates Mr. Collin’s obligation. That sum excused over $2,000 in commissions because of the $25,000 Mr. Collins contributed to a NASD settlement in a customer proceeding. Second, disgorgement “obviously doesn’t fully capture the ‘harm’ side of the proportionality test. . .” Third, the statute suggests that the Commission look “beyond harm to victims or gains enjoyed by perpetrators. It lists harm to other persons.” Thus the relation between the amount of disgorgement and the penalty is “informative . . . but hardly decisive.” Considering these factors, the Court concluded that it could not find an abuse of discretion by the SEC.

 For more commentary on developing securities issues, visit SEC Actions, a blog by Thomas Gorman.

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