Supreme Court Rules That Exclusive Jurisdiction Under The Exchange Act Follows The “Arises Under” Standard For General Federal Question Jurisdiction
On May 16, 2016, the United States Supreme Court unanimously affirmed the United States Court of Appeals for the Third Circuit, holding that Section 27 of the U.S. Securities Exchange Act of 1934 (the “Exchange Act”) confers exclusive federal jurisdiction over the suits that “arise under” the Exchange Act pursuant to the general federal question statute, 28 U.S.C. § 1331. Merrill Lynch Pierce Fenner & Smith Inc. v. Manning, 14-1132 (May 16, 2016). Thus, the Court held that Section 27’s jurisdictional test matches the one formulated by the Court for Section 1331. Plaintiffs had commenced the suit in New Jersey state court, asserting state-law claims based on allegations that several financial institutions had impermissibly engaged in “naked short sales,” which had devalued stock of Escala Group, Inc., a company in which Manning and the other plaintiffs held stock.
Plaintiffs commenced the suit in New Jersey state court, asserting state-law claims based on allegations that several financial institutions had impermissibly engaged in “naked short sales,” which had devalued stock of Escala Group, Inc., a company in which Manning and the other plaintiffs held stock. Plaintiffs did not assert any claims under federal securities laws, but their complaint referred explicitly to Regulation SHO, which it suggested was violated by the alleged conduct. Defendants subsequently removed the action to federal court, asserting both general federal question jurisdiction under 28 U.S.C. § 1331 and jurisdiction under Section 27 of the Exchange Act. The present case arises from Plaintiff’s motion to remand the action back to state court. Although the district court denied the motion to remand, the Third Circuit reversed and ordered that the case be remanded, holding that neither Section 1331 nor Section 27 conferred federal jurisdiction over the action.
Section 27 of the Exchange Act grants federal courts exclusive jurisdiction over “all suits in equity and actions at law brought to enforce any liability or duty created by [the Exchange Act] or the rules or regulations thereunder.” In opposing remand, defendants argued that federal jurisdiction was proper based on a plain reading of Section 27 when a complaint explicitly or implicitly asserts that a defendant has breached a duty under the Exchange Act – even if the complaint asserts only state-law claims. Conversely, Plaintiff contended that a suit is “brought to enforce” Exchange Act’s duties only if the claims asserted are created by the Exchange Act (irrespective of the duties on which those claims hinge).
In unanimously affirming the Third Circuit’s order, the Supreme Court found that Section 27 of the Exchange Act confers exclusive federal jurisdiction over suits that “arise under” the Act pursuant to the general federal question statute, 28 U.S.C. § 1331. Thus, the Court held that Section 27’s jurisdictional test follows the standard for Section 1331, whereby federal jurisdiction over a state-law claim is proper so long as the state-law claim “‘necessarily raise[s] a stated federal issue, actually disputed and substantial, which a federal forum may entertain without disturbing any congressionally approved balance’ of federal and state power.” This covers, of course, causes of action created by federal law, but can also reach claims that originate in state law. In reaching this outcome, the Court noted that the Third Circuit’s interpretation was consistent with a natural reading of the statute’s text, as well as with the Court’s own decisions. In addition, the Court concluded that its construction would best serve the twin goals of respecting the important role of state courts and providing administrable standards, and would prevent plaintiffs from avoiding federal jurisdiction through artful pleading simply by omitting any references to federal securities law in their complaints