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Speech by SEC Commissioner:
Statement at Open Meeting to Propose Rules Regarding Disqualification of Felons and Other “Bad Actors” from Rule 506 Offerings


Commissioner Troy A. Paredes

U.S. Securities and Exchange Commission

Washington, D.C.
May 25, 2011

Thank you, Chairman Schapiro.

The recommendation before us is to disqualify felons and other “bad actors” from participating in offerings under Rule 506 of Regulation D. The proposal implements Section 926 of the Dodd-Frank Act.

In the U.S. Supreme Court’s decision in Landgraf,1 Justice Stevens, writing for the majority, explains the interests that underpin the longstanding reluctance of courts to apply the law retroactively: “[T]he presumption against retroactive legislation is deeply rooted in our jurisprudence, and embodies a legal doctrine centuries older than our Republic. Elementary considerations of fairness dictate that individuals should have an opportunity to know what the law is and to conform their conduct accordingly; settled expectations should not be lightly disrupted.”2 “For that reason,” Justice Stevens continues, “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.”3

From this starting point, Landgraf provides the test for determining whether the presumption against retroactivity can be overcome and a law applied to conduct that pre-dates its passage. First, if Congress “has expressly prescribed the statute’s proper [temporal] reach,” then the statute should be applied and enforced in accordance with its explicit terms.4 Second, if Congress has provided no “such express command,” then whether the law has a retroactive effect must be determined.5 A law has a retroactive effect if “it would impair rights a party possessed when he acted, increase a party’s liability for past conduct, or impose new duties with respect to transactions already completed.”6 If the law would have such an effect, then it cannot be applied retroactively “absent clear congressional intent favoring such [retroactivity].”7 Or, as the Supreme Court earlier explained in Bowen, “[C]ongressional enactments and administrative rules will not be construed to have retroactive effect unless their language requires this result.”8

As I read Landgraf and its progeny, I believe that if the rule proposal before us were adopted, it would be impermissibly retroactive insofar as it changes the legal consequences of conduct that occurred before Dodd-Frank was enacted.

First, Section 926 of Dodd-Frank, which mandates that the Commission disqualify bad actors, including felons, from Rule 506 offerings, does not expressly provide for any temporal reach. Accordingly, at this first step in applying Landgraf, the presumption against retroactivity should hold.

Next, then, is to determine whether the Commission’s proposed disqualification rule has a retroactive effect. I conclude that it does. The proposal would prohibit a bad actor who presently is permitted to participate in a Rule 506 offering from being able to do so based on conduct that pre-dates Dodd-Frank. This attachment of “new legal consequences” to pre-Dodd-Frank acts typifies retroactivity.9

The proposal’s retroactive effect is particularly acute for an individual who negotiated a settlement with the SEC before Dodd-Frank was enacted and before this rulemaking to implement the statute began. If the proposal before us ultimately were adopted, the individual would suddenly be disqualified from Rule 506 offerings. Had it been known at the time that the settlement would have this effect, the person might have negotiated a different settlement or even chosen to litigate the allegations against him or her. This sharply represents the due process interests that are sacrificed when “fair notice, reasonable reliance, and settled expectations” are not properly accounted for in the law’s application.10

The final step in Landgraf is to decide whether there is clear congressional intent commanding retroactive application. Section 926 of Dodd-Frank is too ambiguous to permit retroactive effects. The proposing release goes on at some length in attempting to justify the proposal’s application to pre-Dodd-Frank acts, searching for clarity in the legislative text and history to justify its retroactive impact. To my mind, the release’s parsing of language and extrapolations and inferences belie any claim that there is a clear congressional statement that requires setting aside the presumption against retroactivity. It is not enough that one can conjure up a plausible, sensible, or even reasonable construction of the statute that might cut in favor of giving it retroactive effect; an interpretation can be plausible, sensible, and reasonable and still not be clear.

Nor is it enough to justify retroactivity by pointing to legitimate and important policy goals that retroactivity might advance, such as protecting investors from bad actors. As the Landgraf Court admonished, “It will frequently be true . . . that retroactive application of a new statute would vindicate its purpose more fully. That consideration, however, is not sufficient to rebut the presumption against retroactivity.”11 This statement builds on what the Court said in Bowen — namely, that “[e]ven where some substantial justification for retroactive rulemaking is presented, courts should be reluctant to find such authority absent an express statutory grant.”12

I credit the proposing release for recognizing the Landgraf framework that tests a statute’s temporal reach. I do note, however, that even as the release cites three D.C. Circuit cases — none of which involves securities regulation and each of which is otherwise readily distinguishable from the recommendation before us — the release neglects to cite three other cases that are much more relevant. The release makes no mention of Koch v. SEC (in which the Ninth Circuit did not permit the Commission to apply its then-new penny stock bar authority retroactively),13 Sacks v. SEC (in which the Ninth Circuit prohibited retroactive application of a new FINRA rule barring non-attorneys who had been banned from the securities industry from representing a party in a securities arbitration),14 and John W. Lawton15 (in which the SEC’s Chief Administrative Law Judge found that two new associational bars that stem from Dodd-Frank could not be applied to conduct that occurred before the statute’s enactment).

For these reasons, I am unable to support the recommendation and respectfully dissent. I dissent not because I object to the core public policy animating the rule proposal. To the contrary, diligent enforcement of the federal securities laws and meaningful sanctions for illicit conduct underpin the integrity of our securities markets. Rather, I dissent because we must respect fundamental notions of due process in fashioning and enforcing the law, including when it means abiding by limitations on the reach of governmental authority.

Although I am unable to support the recommendation, I still look forward to considering the comments we will receive. I would especially like to draw commenters’ attention to the discussion in the release labeled, “Possible Amendments to Increase Uniformity.” Here, the release indicates the potential of extending the Rule 506 disqualification standards to Rules 504 and 505 of Regulation D, Regulation A, and Regulation E. The recommendation does not formally propose amending these regulations; nor is there is any related cost-benefit analysis or consideration of the impact such rule changes could have on efficiency, competition, and capital formation as one would expect if the SEC were proposing new rules. Nonetheless, commenters should engage the “Possible Amendments” discussion as if it were a rule proposal. Indeed, the release says, “Although we have not proposed rule text to implement these changes, we are considering them and may adopt them as part of this rulemaking.”

Finally, I would like to join my colleagues in thanking the staff for your hard work on this recommendation.

1 Landgraf v. USI Film Prods., 511 U.S. 244 (1994).

2 Id. at 265 (citations omitted).

3 Id. (citation and internal quotations omitted).

4 Id. at 280.

5 Id.

6 Id.

7 Id.

8 Bowen v. Georgetown Univ. Hosp., 488 U.S. 204, 208 (1988) (citations omitted). See also INS v. St. Cyr, 533 U.S. 289, 316-17 (2001) (“[C]ases where this Court has found truly ‘retroactive’ effect adequately authorized by statute have involved statutory language that was so clear that it could sustain only one interpretation.”) (citation omitted); Landgraf, 511 U.S. at 272-73 (“Requiring clear intent assures that Congress itself has affirmatively considered the potential unfairness of retroactive application and determined that it is an acceptable price to pay for the countervailing benefits. Such a requirement allocates to Congress responsibility for fundamental policy judgments concerning the proper temporal reach of statutes, and has the additional virtue of giving legislators a predictable background rule against which to legislate.”).

9 See Landgraf, 511 U.S. at 269-70.

10 See id. at 270 (also referencing the “unfairness of imposing new burdens on persons after the fact”).

11 Id. at 285-86.

12 Bowen, 488 U.S. at 208-09.

13 177 F.3d 784 (9th Cir. 1999).

14 635 F.3d 1121 (9th Cir. 2011).

15 John W. Lawton, Initial Decision No. 419, 2011 WL 1621014 (CALJ Apr. 29, 2011).



Modified: 05/25/2011