Facing Discipline Under SEC Rule 102(e): What Professionals Need to Know

The Securities and Exchange Commission (SEC) has the authority under Rule 102(e) of its Rules of Practice to pursue disciplinary action against attorneys, accountants, and other professionals who participate in, ignore, or facilitate violations of the federal securities laws and regulations[1]. While Rule 102(e) applies to any “person” who engages in improper conduct, in practice it tends to target securities professionals like lawyers and accountants who advise public companies on compliance and disclosure requirements[2].

Disciplinary proceedings under Rule 102(e) can result in severe sanctions, including being barred from practicing before the SEC. As the SEC has ramped up Rule 102(e) actions in recent years, it’s essential for professionals to understand the scope of the Rule, the disciplinary process, and strategies for responding to avoid career-ending consequences[1].

Understanding the Scope and Intent of SEC Rule 102(e)

Rule 102(e) gives the SEC broad authority to discipline professionals who engage in misconduct related to its enforcement jurisdiction. However, the Rule was not meant to cover every instance of professional error or misjudgment[3].

Conduct Subject to Discipline Under SEC Rule 102(e)

Rule 102(e) gives the SEC the authority to pursue disciplinary action against attorneys, accountants, and other professionals who[1]:

• Provide false or misleading information in SEC filings, reports, schedules, or other documents
• Unreasonably fail to comply with auditing standards and rules
• Fail to properly supervise subordinates who violate securities laws and regulations
• Repeatedly engage in unreasonable conduct that indicates a lack of competence
• Willfully aid, assist, or participate in violations of securities laws

While Rule 102(e) applies to any “person” who violates the Rule’s requirements, in practice disciplinary actions under the Rule tend to target attorneys, accountants, and other securities professionals.

Notably, the Rule defines “improper professional conduct” within the accounting profession, but does not otherwise specify the types of acts and omissions that can give rise to disciplinary action.

With respect to accountants, “improper professional conduct” includes[1]:

• Intentional or knowing conduct, including reckless conduct, that results in a violation of applicable professional standards
• A single instance of highly unreasonable conduct in circumstances where heightened scrutiny is warranted
• Repeated instances of unreasonable conduct, each resulting in a violation of applicable professional standards, that indicate a lack of competence to practice before the Commission

The SEC’s Disciplinary Authority Under Rule 102(e)

Given the breadth and general nature of the conduct subject to censure under Rule 102(e), and given the courts’ general deference to the SEC’s authority, the Rule presents a significant – and potentially career-threatening – risk for professionals who advise and represent companies in matters involving the SEC[1].

In addition to suspensions and bars, the SEC can issue formal reprimands and require professionals to undergo remedial training. The SEC has imposed multi-year suspensions even for first-time offenders.

Additionally, as discussed in greater detail below, the Sarbanes-Oxley Act of 2002 contains language that mirrors portions of Rule 102(e), and professionals targeted under Rule 102(e) can potentially face civil or criminal enforcement action as well[4].

When a Professional is Considered to Be “Practicing Before” the Commission

Another key aspect of SEC Rule 102(e) is its application to professionals “practicing before” the Commission. This term is defined in Rule 102(f), which provides that, “practicing before the Commission shall include, but shall not be limited to[1]:

• Transacting any business with the Commission
• Representing an issuer in an SEC administrative proceeding or investigation
• Providing advice in respect of the federal securities laws regarding any document that the professional knows will be filed with or submitted to the SEC

Court decisions analyzing SEC rulings under Rule 102(e) have provided some clarity with regard to the scope of Rule 102(f). Here, too, the courts have largely sided with the SEC in allowing the Commission to impose discipline for a broad range of activities—including activities that have not involved direct interaction or direct filing with the agency.

For example, acts determined to involve “the preparation of any statement, opinion or other paper . . . filed with the Commission” have included[1]:

• Drafting portions of SEC filings even if someone else signed or submitted them
• Editing drafts of SEC filings
• Discussing or reading drafts of SEC filings
• Possessing final drafts of SEC filings

This, of course, is in addition to direct interaction with the SEC and the filing of 10-Ks, 10-Qs and other corporate disclosure documents. As a result, while Rule 102(e) on its face applies to all types of professionals, in practice most disciplinary proceedings under the Rule involve attorneys and accountants who prepare and provide advice regarding companies’ public filings.

Preparing for a Hearing on Disciplinary Action Under Rule 102(e)

Prior to imposing discipline under Rule 102(e), the SEC is required to conduct an evidentiary hearing according to the Commission’s administrative procedures[5]. While professionals facing discipline under Rule 102(e) have the ability to request a continuance if they need additional time to prepare, the courts have held that the Commission, “enjoys broad discretion in deciding when to grant a continuance;” and, as a practical matter, the SEC disfavors delaying hearings in Rule 102(e) matters[1].

The SEC’s Rules of Practice Govern Hearings Under Rule 102(e)

Hearings under Rule 102(e) take place before an administrative law judge (ALJ); and, although these proceedings follow a trial format, neither the federal rules of evidence nor the federal rules of procedure apply[3].

Hearsay is generally admissible (i.e. in the form of sworn testimony secured from witnesses during the SEC’s investigation); and, when there is any question as to whether evidence is admissible, it will generally be admitted.

Challenging SEC Disciplinary Action Under Rule 102(e)

If a hearing under Rule 102(e) results in disciplinary action, the professional’s first recourse is to file an appeal—with the SEC. The SEC reviews ALJs’ decisions de novo, meaning that it reviews the entire factual record and the parties’ arguments rather than solely examining the hearing record for procedural deficiencies[1].

After conducting its review, the SEC can affirm or modify the ALJ’s decision, it can reverse the ALJ’s decision, or it can remand the case for further proceedings.

Professionals who appeal an adverse ruling by an SEC ALJ face substantial obstacles to obtaining a reversal or a reduction in sanctions. Between 2010 and 2015, the SEC affirmed ALJ decisions in full in 95% of appeals. And, in the 5% of cases where the SEC did modify or reverse an ALJ’s decision, it overwhelmingly ruled against professionals and increased sanctions[6].

If the SEC upholds disciplinary sanctions on appeal, the professional can then appeal to a federal appeals court. The appeals courts can overturn SEC rulings under Rule 102(e) in exceedingly rare cases where the Commission has clearly abused its discretion or imposed sanctions that are “unwarranted in law [or] without justification in fact[1].”

However, the appeals courts generally defer to the SEC’s findings of fact and interpretations of securities laws and regulations. As a result, appeals challenging Rule 102(e) sanctions on substantive grounds are seldom successful[1].

Common Defenses in Rule 102(e) Disciplinary Proceedings

Despite the SEC’s extensive authority under Rule 102(e), professionals facing charges of improper conduct do have defenses available that can mitigate sanctions or avoid a suspension entirely.

Challenging the SEC’s Jurisdiction

One defense strategy is challenging the SEC’s jurisdiction and arguing that the professional’s conduct does not meet Rule 102(e)’s definition of “practicing before the commission.”

As discussed above, the SEC takes an expansive view of this definition, so jurisdictional arguments tend to be uphill battles. However, they can occasionally succeed, especially if the professional had extremely limited involvement with a client’s securities filings and disclosures.

Asserting Reasonable Reliance on Competent Advice

Another common defense in Rule 102(e) proceedings is to claim reasonable reliance on advice from other competent professionals.

For example, an attorney accused of facilitating a client’s securities violation could potentially defend on grounds that he or she reasonably relied on erroneous advice from the client’s accountant regarding financial statement disclosures. While not guaranteed to defeat charges, this defense can sometimes convince the SEC to reduce sanctions, especially if the evidence clearly shows the professional made good faith efforts to comply with the law.

Accepting Responsibility and Cooperating with the SEC

Perhaps the most effective defense strategy for professionals facing Rule 102(e) charges is to accept responsibility for mistakes, demonstrate remorse and commit to improvements.

The SEC frequently cites accepting responsibility as a mitigating factor warranting reduced sanctions. Moreover, cooperating with the SEC’s investigation and proactively implementing remedial measures can convince the Commission that barring the professional is unnecessary to protect investors and safeguard the integrity of its processes.

While disciplinary proceedings under Rule 102(e) present significant risks for securities attorneys, accountants and other professionals, understanding the Rule’s scope, preparing for the SEC’s hearing procedures, and raising appropriate defenses can help mitigate sanctions and avoid a bar from practicing before the Commission.

References

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