By Sarah N. Lynch
WASHINGTON (Reuters) - The U.S. Supreme Court, in a case with wide consequences for the policing of Wall Street, indicated on Tuesday it may diminish the Securities and Exchange Commission's ability to get back ill-gotten profits reaped through defendants' misconduct.
In a case involving New Mexico-based investment adviser Charles Kokesh, the justices raised concerns about whether the SEC should be able to order defendants to fork over illegal profits that date back more than five years, as the agency argued it should be able to do.
The court's conservative wing peppered the government during a one-hour argument with questions about the SEC's recovery remedy known as "disgorgement," how it is applied and whether it is actually a type of punishment that should be time-barred.
Some of the liberal justices also questioned whether the SEC has the legal authority to force disgorgement of profits dating back more than five years.
U.S. law applies a five-year statute of limitations to penalties, forfeitures and other punitive remedies sought in civil enforcement matters, a time bar that the Supreme Court upheld unanimously in its 2013 ruling in a case called Gabelli v. SEC. But the SEC argued that the statute of limitations did not apply to disgorgement.
"We kind of have a special obligation to be concerned about how far back the government can go when it's something that Congress did not address because it did not specify the remedy," Chief Justice John Roberts said.
Fellow conservative Neil Gorsuch, hearing arguments for a second day after being sworn in as a justice last week, was even more blunt, complaining there was no actual statute governing disgorgement and whether or not the money is paid out to victims or kept by the government.
"We're just making it up," Gorsuch said.
"There are almost 50 years of precedents on how this should work," U.S. Justice Department lawyer Elaine Goldenberg, arguing the SEC's case, started to reply.
"Not in this court," Gorsuch interrupted.
'MISAPPROPRIATING INVESTORS' MONEY'
Kokesh was sued by the SEC in 2009 for misappropriating investors' money. He was later ordered to pay $2.4 million in penalties plus $34.9 million in disgorgement of ill-gotten profits.
The penalties covered conduct within the five-year statute of limitations, but the disgorgement covered conduct that largely occurred outside that time frame.
Kokesh appealed to the Supreme Court after losing at the Denver-based 10th U.S. Circuit Court of Appeals. Kokesh's attorney argued that a disgorgement in the case constituted a punitive "forfeiture" that is time-barred.
The Justice Department argued that disgorgement is equitable relief that is not considered a punishment, but merely restores the defendant to the same position he was in prior to when the misconduct occurred.
A loss for the SEC could impact negotiations in its current pipeline of investigations. Defendants that already disgorged profits dating back more than five years could potentially seek to have their cases re-opened.
Liberal justices did pose some tough questions to Adam Unikowsky, the lawyer representing Kokesh.
"The SEC has been asking for this kind of relief now for, what, over 30 years?" Justice Ruth Bader Ginsburg said.
But the liberal justices also seemed to struggle at times with how the court should define disgorgement, and they questioned just how much of it goes to victims, as opposed to the government's coffers.
"The way the SEC has used it, is that it's trying to do a lot of things. It's trying to compensate. It's trying to deter. It's trying, to some extent, to punish misconduct," Justice Elena Kagan said.
"If you accept Mr. Unikowsky's standard, that suggests that he has the better of the arguments," Kagan added.
Attorneys who practice before the SEC who reviewed a transcript of Tuesday's arguments said they believe the court is likely to rule against the agency.
"The court’s questions indicate that it is not persuaded by the SEC’s position," said Michael Dell, who filed a friend-of-the-court brief in favor of a statute of limitations on behalf of the Securities Industry and Financial Markets Association, the Wall Street trade group.
Stephen Crimmins, a former SEC attorney who is not involved in the case, agreed. "This would represent a substantial change from the way the lower courts have viewed disgorgement claims for many years," he said.
A ruling is due by the end of June.
(Reporting by Sarah N. Lynch; Editing by Will Dunham)