A government lawyer ran into a wall of skepticism in the U.S. Supreme Court on Tuesday as he argued for a longer period of time in which to seek civil monetary penalties for securities fraud.
The justices heard arguments in Gabelli v. Securities and Exchange Commission, a case arising out of a government enforcement action related to its market timing investigations. The issue before the justices was when the government’s claim “first accrued” for the purpose of seeking any civil fine, penalty or forfeiture.
The federal statute of limitations for government penalty actions states that enforcement actions must be filed “within five years from the date when the claim first accrued.” Although Gabelli involved securities fraud, the Court’s interpretation of the federal statute will affect many other agencies that are authorized to bring penalty actions and operate under the federal statute of limitations.
During Tuesday’s arguments, Assistant to the Solicitor General Jeffrey Wall argued that the federal statute of limitations incorporated the so-called discovery rule for fraud actions. Under that rule, a claim does not accrue—and the limitations period does not begin to run—until a plaintiff, here the government, discovers or should have discovered the fraud.
His opponent, Lewis Liman of Cleary Gottlieb Steen & Hamilton, countered that the plain language of the statute was clear. Congress used “accrue” as it was understood at common law, he said, and that was when the claim becomes ripe and the plaintiff has the ability to sue.
In the Gabelli case, the distinction is important. The SEC charges that Marc Gabelli, portfolio manager of the mutual fund Gabelli Global Growth, and Bruce Alpert, the chief operating officer for the fund’s adviser, Gabelli Funds LLC, misled the fund’s board and other investors by secretly allowing one investor, Headstart Advisers, to engage in market timing. Headstart increased its market timing capacity from $7 million to $20 million in exchange for a $1 million investment in a Gabelli-managed hedge fund, according to the SEC.
The secret activity ran from 1999 until 2002. The SEC filed its complaint in April 2008, alleging that it first discovered the fraudulent scheme in late 2003. The U.S. Court of Appeals for the Second Circuit, reversing the district court, held that the discovery rule applied and the civil penalties claim was not time-barred.
In pressing his argument that the Second Circuit was correct, Wall faced intense questioning across the bench.
“This is not an SEC statute, this is not a securities statute,” said Justice Stephen Breyer. “It is a statute that applies to all government actions, which is a huge category across the board, and it’s about 200 years old. And until 2004, I haven’t found a single case in which the government ever tried to assert the discovery rule where what they were seeking was a civil penalty, not to try to make themselves whole where they are a victim.”
Breyer asked Wall for “one case” before 2004 in which the government tried or succeeded in applying the discovery rule under the general statute of limitations statute for civil penalties. Wall, calling it a “problem of fairly recent vintage,” could not name a case.
And Breyer rejoined, “No, it is not a problem of fairly recent vintage. I’d say for 200 years there is no case. The only case, as far as I have been able discover, which is why I am asking, is that what created the problem of recent vintage is that the Seventh Circuit, I guess, or a couple of other circuits decided that this discovery rule did apply to an effort by the government to assert a civil penalty. Before that, there was no problem. It was clear the government couldn’t do it.”
What is extraordinary, said Justice Antonin Scalia, is “that the government has never asserted this, except in the 19th century, when it was rebuffed and repudiated its position.”
Chief Justice John Roberts Jr. said it seemed almost impossible for somebody to prove that the government should have known about some fraud, as the discovery rule requires. “And which part of the government?” he asked. “I mean, it’s a big, big government, and particular agencies—well, you say, ‘The Defense Contractor Board should have known,’ but does that mean that the U.S. attorney’s office or the defense counsel’s office should have known?
“It’s certainly not a lot of repose if the idea is, ‘Well, I’ve got to establish that this particular government agency should have known about this.’”
Justice Ruth Bader Ginsburg called the five-year statute of limitations a “generous” period and asked why the SEC waited from 2003 to 2008 to file suit when the fraud was discovered in 2003. Wall replied that there was “a lot of back and forth” between parties, document exchanges, and hopes for settlement.
Gabelli’s counsel, Liman, told the Court that Congress had provided a “clear and easily administered” time limit on the government’s power to punish—five years.
“The position that the SEC is taking now is a novel position that to our knowledge has not been taken by other regulators and hasn’t been taken by the SEC until quite recently,” he said. “This statute’s been on the books for quite a long time, and it’s notable that agencies have not urged that interpretation.”
Marcia Coyle can be contacted at firstname.lastname@example.org.