By Jonathan Stempel and Sarah N. Lynch
NEW YORK/WASHINGTON (Reuters) - A federal appeals court on Wednesday handed the U.S. Securities and Exchange Commission a big victory by voiding a judge's pathbreaking decision to reject the regulator's $285 million fraud settlement with Citigroup Inc
The 2nd U.S. Circuit Court of Appeals in New York said U.S. District Judge Jed Rakoff abused his discretion in scuttling the civil accord, saying he failed to give "significant deference" to the SEC and was wrong to require the regulator to show the "truth" of what it alleged.
Rakoff had objected to the SEC's decades-old policy of letting some corporate defendants settle without admitting or denying its charges.
The decision makes it more likely the Citigroup accord will win approval, and lawyers said it may make it easier for the SEC to decide on its own how best to enforce securities laws, as well as win settlements without worrying that judges may reject them because of a lack of proven facts.
Writing for the 2nd Circuit, Circuit Judge Rosemary Pooler said it was "an abuse of discretion to require, as the district court did here, that the SEC establish the 'truth' of the allegations against a settling party as a condition for approving the consent decree.
"The district court's failure to make the proper inquiry constitutes legal error," she added.
Rakoff’s November 2011 rejection of the Citigroup settlement, which concerned a 2007 sale of mortgage-linked securities debt that caused more than $700 million of estimated investor losses, is credited with altering the public debate over SEC settlements that lack admissions of wrongdoing. It prompted other federal judges to scrutinize several similar accords closely.
Last June, citing the need for public accountability, SEC Chair Mary Jo White, a former federal prosecutor, adopted a policy of requiring admissions in certain major cases.
Rakoff must now review the Citigroup settlement again unless he pursues an appeal. One judge on the 2nd Circuit panel, Raymond Lohier, said he would have ordered Rakoff to approve the accord. Circuit Judge Susan Carney was also on the panel.
In an email, Rakoff said: "I don't think it's appropriate to comment."
Andrew Ceresney, chief of the SEC enforcement division, said he was pleased with the decision. He said the SEC will continue to seek admissions of wrongdoing when appropriate, but that settlements lacking them can also serve the public interest by returning money to harmed investors more quickly.
Citigroup Spokeswoman Danielle Romero-Apsilos declined to comment.
The decision is a rebuke to Rakoff, who in two decades on the bench has earned a reputation as a brilliant, iconoclastic judge.
Rakoff has also been a thorn for the SEC, having in 2009 rejected as a slap on the wrist its original accord with Bank of America Corp
Wednesday's decision could affect several other pending cases, and may make it easier for the SEC to win approval of its $602 million insider trading accord with a unit of billionaire Steven A. Cohen's SAC Capital Advisors LP.
U.S. District Judge Victor Marrero in April 2013 conditioned approval of that accord on the outcome of the Citigroup case.
Michael Klausner, a Stanford Law School professor, said upholding Rakoff's ruling could have strained SEC resources by forcing many more trials, even as it raised public awareness of a need to hold Wall Street accountable. The SEC has recently had a mixed trial record in big cases.
"Rakoff has made a point," he said. "But I don't think it is feasible in very many cases in the enforcement regime."
Citigroup's settlement was meant to resolve claims that the bank misled investors in 2007 about a $1 billion collateralized debt obligation, Class V Funding III, and simultaneously bet against the debt as the U.S. housing market began to falter.
Rakoff rejected the accord as neither fair, nor adequate, nor in the public interest, saying the "neither admit nor deny" policy left him no facts on which to judge the settlement.
Pooler, however, said such fact-finding should be left for trials, while "consent decrees are primarily about pragmatism."
The SEC did go to trial against former Citigroup manager Brian Stoker, the only individual sued over the CDO, but a jury in July 2012 found him not liable.
James Cox, a Duke University law professor who signed a court brief urging that Rakoff be upheld, said the 2nd Circuit decision gives the SEC too much leeway to settle cases, while allowing judges like Rakoff some freedom not to be "rubber stamps" for settlements they don't like.
"I don't think it will dampen his resolve at all," Cox said.
The 2nd Circuit adopted a new standard for reviewing settlements with U.S. enforcement agencies that involve injunctive relief.
It said judges must assess whether such accords are fair and reasonable, and whether the public interest "would not be disserved." The court said an SEC settlement of this type must have a "basic legality," must be clear, must resolve the underlying claims and not be tainted by collusion or corruption.
The 2nd Circuit invited Rakoff to ask the SEC and Citigroup, if needed, to provide more evidence that there was no collusion.
Under White, the SEC has extracted several admissions of wrongdoing, including from JPMorgan Chase & Co
In early 2012, under White's predecessor Mary Schapiro, the SEC decided to stop allowing settling defendants to neither admit nor deny its charges when they admit guilt in related U.S. Department of Justice criminal cases.
The case is SEC v. Citigroup Global Markets Inc, 2nd U.S. Circuit Court of Appeals, No. 11-5227.
(Reporting by Joseph Ax, Nate Raymond and Jonathan Stempel in New York and Sarah N. Lynch in Washington, D.C.; Editing by Karey Van Hall, Lisa Von Ahn, Chizu Nomiyama, Noaleen Walder and Dan Grebler)