SEC DISGORGEMENT POWER: U.S. Supreme Court Limits SEC Power to Disgorge fraudulently obtained profits, What is next?

A California couple, Charles Liu and Xin Wang raised money from 50 foreign investors on the understanding they would be able to obtain U.S. visas under the EB-5 visa program, wealthy foreigners can access in exchange for investing at least $500,000 in certain job-creating U.S. projects.

The SEC had ordered the couple to disgorge almost $27 million, the amount they raised from foreign investors for a cancer treatment center that was never built.

The decision came in an appeal by the couple of a 2016 SEC civil action brought against them in federal court.

US Supreme Court placed limits on the Securities and Exchange Commission’s practice of forcing defendants to surrender profits obtained through fraud as part of its enforcement of investor-protection laws.

The court asserted the SEC’s power to seek disgorgement, a part of its civil enforcement action aimed targeting funds acquired in fraudulent schemes to the defrauded investors.

The 8-1 ruling limited the scope of sought funds via disgorgement to no more than the net profits of the conduct at issue. The court also decided that disgorgement generally must go to investors.

“These works on equity jurisprudence reveal two principles. First, equity practice long authorized courts to strip wrongdoers of their ill-gotten gains, with scholars and courts using various labels for the remedy. Second, to avoid transforming an equitable remedy into a punitive sanction, courts restricted the remedy to an individual wrongdoer’s net profits to be awarded for victims.” LIU v. SEC 591 U. S. (2020)

Courts may not enter disgorgement awards that exceed the gains “made upon any business or investment, when both the receipts and payments are taken into the account.”

“Accordingly, courts must deduct legitimate expenses before ordering disgorgement under §78u(d)(5). A rule to the contrary that “make[s] no allowance for the cost and expense of conducting [a] business” would be “inconsistent with the ordinary principles and practice of courts of chancery.” LIU v. SEC 591 U. S. (2020)

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