The Un-Sprung Bear Trap”: The Resurrection of the FTC’s Penalty Offense Authority As One Possible Solution to the 13(b) Problem

Late last week (Oct. 29), FTC Commissioner Rohit Chopra (D) and his Attorney Advisor Samuel Levine released a paper entitled “The Case for Resurrecting the FTC Act’s Penalty Offense Authority.” In it, Commissioner Chopra and Mr. Levine argue that the Commission should “resurrect one of the key authorities it abandoned in the 1980s: Section 5(m)(1)(B) of the FTC Act, the Penalty Offense Authority.” The principal objective, according to the paper’s authors, is to increase “the agency’s ability to deter and correct wrongdoing,” but the authors also assert that “resurrecting the Penalty Offense Authority would mitigate the ongoing gamesmanship around Section 13(b), showing the marketplace that the FTC has more than one trick up its sleeve, regardless of how the Supreme Court rules.”

The Penalty Offense Authority, which has been rarely used over the years, authorizes the Commission to seek civil penalties against other parties where (1) a final cease and desist order has been entered against a party in an administrative proceeding under Section 5(b) of the FTC Act, (2) there is a Commission determination that a specific practice is unfair or deceptive, as part of that order, and (3) a party with actual knowledge that the practice is unfair or deceptive has engaged in that practice after the order became final. Civil penalties, as the authors acknowledge, are “intended to punish the wrongdoer” and can add up quickly; for example, under certain FTC statutes, there is liability of up to $43,280 per violation. There also is no statute of limitations under the Penalty Offense Authority.

Critics of an expansive use of the Penalty Offense Authority have focused on the lack of due process afforded a party. FTC case decisions are not written like a rule, and facts are contested and often complex. One would expect subsequent defendants to distinguish the underlying case and claim that it did not give them adequate notice that their activity was also unlawful. Even if the Commission is abundantly clear that a respondent is liable under Section 5(b), there may be no clear holding that a particular practice, in a more general sense, is unfair or deceptive.

How do you generalize beyond the facts of a specific case?

The Chopra paper does not see any of this as problematic, arguing that the Penalty Offense Authority “includes strong due process protections for defendants,” specifically, they (1) must have actual knowledge of the FTC’s determination, (2) are entitled to a de novo hearing on issues of fact, and (3) can challenge the Commission’s prior conclusion that the underlying conduct violated Section 5. With regard to actual knowledge, the Commission would issue a “synopsis” of applicable case law, putting parties on notice of the allegedly illegal practices.

The Chopra paper goes on to discuss certain practices that would lend themselves to Penalty Offense Authority, including for-profit college fraud, income misrepresentations, online disinformation, deceptive data harvesting, and illegal targeted marketing.

The discussion regarding MLM pyramid allegations and income representations is illustrative of the authors’ thinking. As an initial matter, the Chopra paper discusses the perceived failure of the Commission’s current efforts to curtail deceptive practices by MLMs:

Determining whether a multilevel marketing operation qualifies as an illegal pyramid scheme requires resource-intensive investigations that can last years. During this time, more victims will suffer, while owners and top distributors can dissipate assets. Furthermore, the structure and size of a multilevel marketing operation can change considerably during this period, which can complicate litigation should the FTC decide to sue. Finally, if the FTC does sue, litigation can drag on for years, as experts battle over whether the structure of the business is illegal. Altogether, it is not clear that the Commission’s current enforcement approach is adequately deterring the most pernicious pyramid schemes, which continue to emerge year after year in spite of decades of FTC warnings.

The Chopra paper then goes on to explain how consumers and the market would benefit if the Commission were to proceed against the industry under its Penalty Offense Authority:

There are numerous final, litigated orders in which the Commission has determined that deceptive practices by multilevel marketing companies are unlawful under Section 5 If these orders were served on major multilevel marketers today, they would be on notice that they face substantial civil penalties for engaging in any of the prohibited conduct. For example, numerous litigated orders condemn the practice of misleading potential recruits about the income they can earn. Serving notice of the Commission’s determination on this issue alone would make clear that false earnings claims constitute a penalty offense. Doing so could offer a number of advantages for the Commission’s enforcement program. First, designating income misrepresentations as a penalty offense has potential to deter one of the most problematic yet ubiquitous features of this industry: false promises of rich profits, which is what lures so many recruits. Second, it would give the Commission additional tools to correct and deter violations: if operators ignore warnings, the Commission could launch a full investigation to determine if an operator is a pyramid, and then seek both equitable relief through Section 13(b), including broad remedial injunctions and civil penalties. Or, it could pursue a narrower approach that targets the income misrepresentations, which may allow it to obtain meaningful relief much more expeditiously than a full-blown pyramid prosecution.

While there is sure to be dissent with many of the conclusions advanced by Commissioner Chopra and Mr. Levine, one things is clear: the FTC is not holding its breath, waiting for a decision by the Supreme Court in FTC v. AMG Mgmt. and FTC v. Credit Bureau Center. Commissioners have testified on the Hill on multiple occasions in recent months and, through correspondence, they have pressed the Senate Commerce and House Energy & Commerce Committees to advance legislation that would expressly confirm the authority that the Commission believes it has possessed for forty years. And now, Commissioner Chopra is looking to dust off the agency’s dormant Penalty Offense Authority. What happens after tomorrow’s election right up until we have a decision from the Supreme Court in AMG Mgmt. and Credit Bureau Center is anyone’s guess.

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