Defending a State Securities or Insurance Action Before an Administrative Law Judge
So, how does a producer or a firm get a fair hearing when charges are brought against him/her or it by a state securities or insurance regulator? Based on the process by which state administrative actions are initiated, heard, and reviewed upon appeal, it's an uphill climb, and the incline is very steep.
As is customary in virtually all jurisdictions, following an investigation and a preliminary determination that violations of state law have occurred, the Commissioner of the State Division of Securities or Insurance is empowered to lodge administrative charges against the producer or regulated entity. Included in its arsenal of administrative bullets are a vast array of emergency powers, and the Securities and/or the Insurance Commissioner often has the power to summarily suspend, revoke, refuse to continue or renew, refuse to issue, or impose conditions on the license of an applicant, issue cease and desist orders, or to place the licensed person or entity on probation, pending a hearing on the underlying allegations. The allegations are then prosecuted by the staff of the Securities or Insurance Division or by counsel assigned to the Attorney General's office, under a mix of administrative rules and rules of civil procedure. In the event of an adverse adjudication and the filing of an appeal, the decision is then referred to the Commissioner for review. The Commissioner's final order is generally appealable to a state court.
Invariably, the accused is obliged to defend against the accusations before an Administrative Law Judge, who is a full or part-time state employee. It is no remarkable revelation to report that the adjudication before an ALJ, and particularly the appeal process, are often viewed by defense counsel as innately biased against the accused, and the process tantamount to a star-chambered procedure with a pre-ordained result. Significantly, and as noted by commentators in their discussions relating to this topic, as an employee of a State agency, the ALJ is often on the same payroll as the staff that investigate the cases that come before the ALJ and bring the complaint. These employees are frequently called as witnesses at the agency hearings, so it is not uncommon for the state's witnesses to have established their credibility with the ALJ even before being called to testify. There is a also a perceived tendency in such proceedings for the ALJ to give great deference, and perhaps undue deference, to the expertise of the staff of the Securities or Insurance Division.
While historically on appeal, it has been held that the fact that a state agency may combine investigatory, prosecutorial, and quasi-judicial functions does not by itself violate due process, nevertheless, the employer-employee relationship of the agency and the ALJ is rife for concern for the impartiality of the hearing. Coupled with the fact that the Commissioner of Securities or Insurance is generally designated as the reviewer of the decision of the ALJ, it is no wonder that many believe that the relationship between the ALJ and the prosecuting staff is incestuous, and the outcome virtually predetermined. Notably and regrettably, in many jurisdictions, the ALJs are not "professional" adjudicators. Rather, they are part-timers who may lack the expertise or experience to fully comprehend the nature of the allegations, fairly assess the conduct of the producer, or understand or appreciate the intricacies associated with a particular product or strategy which is condemned by the Division staff. There may also be concern on the part of certain ALJs that if they prove to be mavericks or contentious to the state, the likelihood of their re-appointment to serve as an ALJ may be impacted.
Based on this jaundiced view of events, what is to be done, other than observe the situation and complain about it? First and foremost, counsel should create a record, and make sure that all of the "problems" associated with the hearing are memorialized for later appeal. Assume that your ultimate audience, and perhaps, ultimately, the only truly impartial adjudicator in the proceeding, will be a judge sitting in review of the decisions of the ALJ and Commissioner. Assume further that the ALJ will treat the witnesses who are employed by the Division of Securities or Insurance as experts, even if they are not. To counterbalance this result, retain an expert who has the credentials and qualifications to both evaluate the position taken by the staff, and to cast doubt on that position if it is novel or overly aggressive in its interpretation of existing rules and regulations. Next, aggressively pursue discovery in order to force the state to disclose any exculpatory information that it may harbor but which it may be reluctant to divulge because it is part of the state's "confidential investigatory file." If the state is going to operate in a quasi-prosecutorial role, it is not unfair or unreasonable for the state to be held to the standards of disclosure often imposed on state prosecutorial agencies in the context of criminal proceedings. And last, be aggressive in your defense. The state is accustomed to overwhelming persons who are accused of security and/or insurance law violations in order to obtain a settlement. The staff are not often actually put to the test. A vigorous defense may catch the staff unprepared or convince the staff to be more accommodating than otherwise in formulating a settlement. After all, the state does not wish to bring a highly publicized action which results in either a decision favorable to the accused or a reversal on appeal. It's not good for precedents, and it's not good for careers.
But doesn't that silently pass over the threat of state regulatory retaliation for anyone brave enough, or foolish enough, to take on a state authority with such wide ranging examination and license authority? Couldn't a state hold up registration of agents through CRD or delay qualification of securities or conduct "routine" branch exams of the broker-dealer's in state offices? These can, I imagine have an intimidating effect on the firm. And coudn't that threat extend, at least theoretically, to other states who are encouraged by the originating state to join the crusade?