WASHINGTON -- A law passed by Congress to allow reinstatement of securities fraud suits, including those involving municipal bond deals, that were dismissed as a result of a 1991 Supreme Court decision is unconstitutional, an attorney for securities fraud defendants told the high court yesterday.
The law reverses the roles of Congress and the courts and should be invalidated, said Theodore Olson, an attorney with the Washington office of Gibson, Dunn & Crutcher.
But an attorney representing investors who sued the defendants said Congress has the ability to change the law allowing reinstatement of suits without violating separation of powers, because the law did not seek to decide the cases on their merits.
Also at issue is whether the law, which added the new Section 27A(b) to the Securities Exchange Act of 1934, violates the due process rights of the defendants under the Constitution's Fifth Amendment.
The Supreme Court heard these arguments in a case, Plaut v. Spendthrift Farm, after reaching a deadlock on the same constitutional issues in another case last term.
In the earlier case, First RepublicBank Corp. v. Pacific Mutual Life Insurance Co., Justice Sandra Day O'-Connor did not participate because she owned stock in one of the parties. The court split 4 to 4, resulting in the affirmation -- without setting precedent -- of a ruling by the U.S. Court of Appeals for the Fifth Circuit that Section 27A(b) is constitutional.
In the Plaut case, all nine justices are participating, including the newest member on the bench, Justice Stephen Breyer. Under review is a decision by the U.S. Court of Appeals for the Sixth Circuit that Section 27A(b) is unconstitutional because it violates the separation of powers doctrine and due process rights.
The Sixth Circuit ruled that Congress is barred from exercising power over the final judicial determination of cases, including those dismissed because of timeliness problems.
Congress adopted Section 27A(b) in December 1991, six months after the Supreme Court ruled in Lampf v. Gilbertson that the securities act provides for a uniform federal statute of limitations for filing fraud suits under Section 10(b) of the securities act. The court held that suits can be filed up to one year from the date of discovery or up to three years from the fraud. The decision affected many suits that were filed under longer state statute-of-limitations periods.
On the same day the court issued the Lampf decision, it ruled in James Beam Distilling Co. v. Georgia that new court holdings must be applied to similarly situated litigants in all pending cases.
As a result, the Lampf decision was applied retroactively, and more than $4.5 billion worth of municipal bond and other securities fraud claims filed by investors were thrown out, according to the National Association of Securities and Commercial Law Attorneys.
Members of Congress were outraged, because among the dismissed cases were actions against Charles Keating, Michael Milken, and other figures. Congress stopped short of lengthening the federal statute of limitations, but it agreed to provide in Section 27A(a) that cases pending at the time of the Lampf decision would fall under state statutes of limitations. That aspect of the law is unchallenged.
But Congress also agreed to the directive by Section 27A(b) that courts reopen cases that were dismissed as a result of the Lampf ruling if the cases would have met the state statute of limitations requirements. It is this language that is being challenged in the Plaut case.
The case arose out of a suit filed by investor Ed Plaut and other investors against Spendthrift Farm Inc., a thoroughbred horse farm of the Kentucky bluegrass region, and Spendthrift's stock underwriter, legal counsel, accountants, and other experts involved in a stock offering by the farm. Plaut charged that the prospectus under which he bought the stock was fraudulent.
Because Plaut's case was pending at the time of the Lampf decision, it was dismissed because Plaut had filed it more than three years after the fraud, although the filing complied with Kentucky's statute of limitations.
The high court's decision in the Plaut case could affect the balance of power between Congress and the federal judiciary by spelling out the limits on congressional power to legislate retroactively, according to Howard P. Walthall, a law professor at Samford University's Cumberland School of Law.
Justice David Souter at yesterday's argument raised the question of whether the court must even address the constitutional issues, saying courts may have discretion to make decisions about when to set aside judgments under a federal rule of civil procedure.
Michael Dreeben, assistant to the U.S. solicitor general who argued in support of the investors, said he did not think the question of reopening cases under the federal rule had ever been raised in lower courts.
There is "no clear indication" that the federal rule requires courts to reopen cases, but it would be "an abuse of discretion" for courts not to reopen cases under Section 27A(b), Dreeben said.
Justice Anthony Kennedy said that means the law is a clear "mandate" to courts to reopen cases, and he questioned why court judgments should be overridden by the legislature. Justice Antonin Scalia suggested that "maybe there is no right way to overturn a judicial decision."
Breyer said he is concerned that Congress had a "vendetta" against an identified group of defendants, including Milken and Keating. But Dreeben said Congress' intent was to be fair to investors who were denied a "level playing field."
Olson, who represented the Spendthrift Farm defendants, said, "if you can change the results in Lampf, you can change the results in other decisions having to do with Section 10(b)" securities fraud; if results under securities laws are changed, he said, then decisions involving pension and antiracketeering laws also could be changed. "There is no stopping point. This is an egregious example of legislative power," he said.
But William Allen, an attorney with Gess, Mattingly & Atchison in Lexington, Ky., who represented Plaut, said Congress has the power to change laws, and "Section 27A(b) clearly changed the law" on a substantive basis.