FDIC Reverses Position on the Constitutionality of In-House Administrative Law Judges

By Brett W. Johnson, Ryan J. Regula, and Charlene A. Warner

After several Supreme Court decisions and Executive Orders upended many of the norms governing the relationship between governmental agencies and the constitutional branches, a recent decision by the Federal Deposit Insurance Corporation (FDIC) sheds new light on how independent federal agencies may be adapting to the latest status quo, which will have a significant impact on how regulated companies interact with the agencies in the future.

In CBW Bank v. FDIC et al., the FDIC initially took the position that the multiple layers of protection afforded to its in-house Administrative Law Judges (ALJs) satisfy the separation of powers and Article II of the United States Constitution. However, the acting Solicitor General has now informed the United States District Court for the District of Kansas that the federal government has reversed its position and will no longer defend the constitutionality of the removal restrictions. This about-face signals yet another shift in how agencies are responding to attempts to reestablish a balance between political accountability, governmental efficiency, and long-established structural conventions.

CBW Bank’s Challenge Against the FDIC

The FDIC’s recent shift stems from an enforcement action by the FDIC to secure monetary penalties against CBW Bank for failing to maintain an adequate anti-money laundering compliance program under the Banking Secrecy Act. In its Complaint for declaratory and injunctive relief, CBW Bank challenges the structure of FDIC’s administrative proceedings conducted by in-house ALJs under two legal theories.

First, CBW Bank argues that the proceedings violate the Seventh Amendment by allowing the agency to adjudicate legal claims without a jury trial. According to CBW Bank, because civil penalties are considered a legal remedy that historically could only be enforced in courts of law, and because the cause of action carries “common law soil,” the FDIC cannot impose such penalties in administrative proceedings instead of a jury trial in an Article III court.¹

Second, CBW Bank also disputes the constitutionality of the ALJs’ removal protections. Under Article II, the president is vested with the power to remove “subordinate” or “inferior” officers. However, under the FDIC enabling statute, ALJs can only be removed for “good cause established and determined by the Merit Systems Protection Board [MSPB].”² And because the FDIC uses ALJs housed in the Office of Financial Institution Adjudication (OFIA), which is jointly operated by multiple agencies, a majority of members for each agency must also approve before an ALJ can be referred to the MSPB for “for cause” removal proceedings.

In turn, MSPB members and the majority of the FDIC Board can only be removed “for cause” by the president. Thus, according to CBW Bank, the ALJs’ two layers of removal restrictions are unconstitutional because they insulate ALJs from the president’s control and oversight authority and eliminate any semblance of electoral accountability.³

The FDIC Notices its Change in Position

Although FDIC initially defended its ALJ removal restrictions in its litigation against CBW Bank, the FDIC has now filed a notice informing the Court that the Acting Solicitor General agrees that those restrictions are unconstitutional under the separation of powers and Article II.⁴ Further, the FDIC will no longer defend that position in litigation.⁵ However, the FDIC clarified that the Court should nonetheless dismiss CBW Bank’s Complaint because it had failed to establish that the removal protections changed the outcome of the underlying enforcement proceedings.⁶

That same day, CBW Bank filed a response arguing that FDIC cannot maintain that the removal protections violate the constitution, and yet still continue to subject CBW Bank to an unconstitutional administrative proceeding.⁷ On that basis, CBW Bank reiterated its request for preliminary relief.⁸

The Broader Implications

While the outcome of the parties’ dispute remains to be seen, both CBW Bank’s challenge and the FDIC’s subsequent change in position signal a shift in how federal agencies are responding to a broader trend in judicial and executive actions aimed at curtailing delegated agency authorities. For example, last year, in Securities and Exchange Commission v. Jarkesy, the U.S. Supreme Court confirmed that civil penalties are a type of common law remedy that could only be enforced in courts of law, thus requiring a jury trial.⁹ Likewise, in the landmark case Loper Bright Enterprises v. Raimondo, the Supreme Court overturned the long-disputed Chevron doctrine, which eliminated judicial deference to agency interpretations of their own enabling statutes and further reinforced the need for judicial oversight and adherence to the separation of powers.¹⁰

Although it is unclear whether FDIC (and other agencies) will continue to maintain that their penalty authorities satisfy the Seventh Amendment under Jarkesy, the FDIC’s reversal on the removal restrictions signifies that even independent agencies may be proactively reconsidering their combined enforcement and adjudication roles. This is especially true in light of the Trump administration’s recent efforts to further scale back agency operations via Executive Order, which may have been one of the factors motivating the acting Solicitor General’s approach to the CBW Bank litigation.

In this ever-evolving legal landscape, both agencies and regulated parties should continue to stay apprised of any changes in administrative law and how such changes may impact regulatory disputes with agencies. For instance, one of the perceived benefits of agency adjudications includes expedited proceedings with limited discovery. If agencies are now required to address all regulatory issues via the federal court system, enforcement proceedings will likely be delayed. In addition, to the extent that ALJs’ previous proceedings were not challenged in the court system, there could be an opportunity to revisit prior enforcement actions because an ALJ was not authorized to adjudicate a matter. 

As government agencies revamp their administrative proceedings, it is expected that new regulations will be issued, and comment periods will be available. Companies should consider providing comment on any new regulations to express the real-world impacts. Such comments then become a part of the administrative record, which will potentially be reviewed by the courts to determine the legality of the new enforcement and adjudication process.

**Any opinions expressed are those of the authors, and not the firm or their colleagues.