Supreme Court Upholds False Claims Act Implied Certification Theory

In an important decision for False Claims Act whistleblowers, the Supreme Court upheld the liability theory of implied certification in its recent opinion, Universal Health Services, Inc. v. United States ex rel. Escobar. No. 15-7, 579 U.S. (June 16, 2016).

While the Supreme Court’s ruling that implied certification can be a viable theory validates numerous lower court decisions, it overturned the Seventh Circuit Court of Appeals, which had previously refused to acknowledge the implied certification theory or only applied it in a limited fashion. Id. at 7, citing United States v. Sanford-Brown, Ltd., 788 F.3d 696, 711–12 (2015), Mikes v. Straus, 274 F.3d 687, 700 (2d Cir. 2011).

A. Background of the Escobar Case.

A seventeen year old girl died of a seizure after she was diagnosed with bipolar disorder and prescribed with medication by personnel at a mental health clinic. These personnel largely lacked regulatory-required qualifications needed to provide mental health counseling and prescribe medication. Id. at 4–5.

Staff members at the clinic also misrepresented their qualifications and licensing status to obtain National Provider Identification numbers, which the clinic used when submitting claims for payment to Medicaid. These claims also corresponded to therapy services, which again, the clinic staff were largely not qualified to provide under applicable regulations. Id. at 5.

After the decedent’s family complained to several state agencies, the clinic and two of its employees entered into a remedial plan. Id. The decedent’s family also filed a False Claims Act suit on behalf of the United States, seeking to recover for the taxpayers funds paid by Medicare that clinic staff were unqualified to provide. Id. at 5–6.

The District Court dismissed the case, holding that the applicable regulations were not explicit conditions of payment. Id. at 6. The First Circuit reversed, holding that these requirements were material conditions of payment. Id. at 6–7.

B. Implied Certification Is A Basis of False Claims Act Liability.

In an important victory for both whistleblowers and American taxpayers, the Supreme Court settled a long-standing Circuit split by holding that a regulatory, statutory, or contractual requirement need not be an explicit condition of payment to satisfy the False Claims Act’s materiality requirement. While the Court reserved ruling on the scope of the implied certification theory (id. at 9), it held that implied certification can be a basis for False Claims Act liability (id. at 8).

Half-truths and misrepresentations by omission do give rise to liability under the implied certification theory. Id. at 8–9. As the Court explained, when “a defendant makes representations in submitting a claim but omits its violations of statutory, regulatory, or contractual requirements, those omissions can be a basis for liability if they render the defendant’s representations misleading with respect to the good or services provided.” Id. at 8, see also id. at 11.

In this case, the claims for payment included codes and National Provider Numbers that were “clearly misleading in context” and so, the Court held, the claims were misrepresentations. Id. at 10–11.

The Court rejected the defendant’s argument that only violation of a term labeled as a “condition of payment” can be a material misrepresentation in violation of the False Claims Act. Id. at 11–12. The Court explained that “[a] statement that misleadingly omits critical facts is a misrepresentation irrespective of whether the other party has expressly signaled the importance of the qualifying information.” Id. at 12.

C. Knowledge Of Materiality Can Be Proven Subjectively or Objectively.

The Court also rejected the defendant’s argument that a defendant cannot be liable under the False Claims act unless it has actual knowledge of the materiality of the legal requirement that the defendant violated. Id. at 12–13. The Court provided some examples illustrating how the False Claims Act’s knowledge standard can be satisfied with either subjective evidence or under an objective standard, even when the Government does not label the requirement a condition of payment:

A defendant can have “actual knowledge” that a condition is material without the Government expressly calling it a condition of payment. If the Government failed to specify that guns it orders must actually shoot, but the defendant knows that the Government routinely rescinds contracts if the guns do not shoot, the defendant has “actual knowledge.” Likewise, because a reasonable person would realize the imperative of a functioning firearm, a defendant’s failure to appreciate the materiality of that condition would amount to “deliberate ignorance” or “reckless disregard” of the “truth or falsity of the information” even if the Government did not spell this out.

Id. at 12–13. The defendant’s argument was further flawed because the Government could just arbitrarily label compliance with every legal requirement a condition of payment. Id. at 13.

While the Court does not clarify whether this new knowledge of materiality analysis applies outside of implied certification cases, it will almost always be automatically satisfied in express certification cases.  In express certification cases, plaintiffs can easily establish that objectively, defendants should have known that their express certifications were material under the False Claims Act’s natural tendency test for materiality.

D. Materiality Is Satisfied by Meeting the Natural Tendency Test.

Using examples, the Court explained that while materiality is not limited to minor or insubstantial violations, it still includes violations that could be both actually material or that just have a natural tendency to influence, or are capable of influencing, a payment decision:

See United States ex rel. Marcus v. Hess, 317 U. S. 537, 543 (1943) (contractors’ misrepresentation that they satisfied a non-collusive bidding requirement for federal program contracts violated the False Claims Act because “[t]he government’s money would never have been placed in the joint fund for payment to respondents had its agents known the bids were collusive”); see also [Junius Constr. Co. v. Cohen, 257 N.Y. 393, 400, 178 N. E. 672, 674 (1931)] (an undisclosed fact was material because “[n]o one can say with reason that the plaintiff would have signed this contract if informed of the likelihood” of the undisclosed fact).

Id. at 16. The natural tendency test, which is the widely used test for materiality, “focuses on the potential effect of the false statement when it is made, not on the actual effect of the false statement when it is discovered.” United States ex rel. A+ Homecare, Inc. v. Medshares Mgmt. Grp., Inc., 400 F.3d 428, 445 (6th Cir. 2005) (citation omitted). Thus, by quoting Junius—which held that an omission was material even when it wasn’t proven as an actual fact—the Court reaffirms that the natural tendency test remains the False Claim Act’s minimum standard for materiality. Universal Health Services, Inc., at 16; 31 U.S.C. § 3729(b)(4).

The Court provided some illustrations as to how materiality can or cannot be satisfied. Materiality can be shown by the fact that the provision violated was a condition of payment (though likely given its concern that the Government can label every term a condition of payment, the Court noted that this is not an automatically dispositive factor) or by showing that the defendant knew that the Government refuses to pay similar claims. Id., at 16. On the other hand, if the Government normally pays such claims even when the Government has “actual knowledge” that the claims were violated, that is very strong evidence that the claims are not material. Id.

E. Escobar’s Effects Are Not So Dire To Whistleblowers As Defense Counsel Claim.

Several defense firms have issued publications proclaiming Escobar as a win for defendants, making light of the Court’s ruling on implied certification. These defense firms fail to appreciate how carefully most lawyers who represent whistleblowers screen cases. Given the uncertainty of court-acceptance of the implied certification theory, many such cases simply have not been brought in past years. The Supreme Court’s decision will result in the filing of cases that would have never been brought before Escobar.

These defense firms also believe that Escobar has changed False Claims Act’s materiality standard, which is also simply not the case. Cautious False Claims Act attorneys will begin pleading materiality in more detail now (id. at 16 n.6). But the Court did not, and could not change the False Claims Act’s textually-supplied natural tendency test for materiality. For many cases, materiality can be easily pled and proven by pointing to Government reports addressing similar schemes, existing case law, the fact that the Government itself has intervened in a similar case or filed a similar case of its own, the fact that a regulation is labeled a condition of payment, or with an objective argument pointing out a common-sense reason that the relevant requirement is material.

Nor will the Court’s language regarding continued Government payment of claims after the Government has “actual knowledge” of the violation bar many cases. In most cases the Government normally does not stop payment just because a defendant has been sued under the False Claims Act. In all but the most egregious cases the Government allows the case to be played out in court. The Government’s reasons include a desire not to put a defendant who has yet to be found liable in Court out of business, a desire not to lose the value of what it has already paid for, and a desire to avoid harming innocent patients. Moreover, many contracts are sole source supplied, meaning the product cannot be obtained anywhere else and there could be long lead times required to qualify and obtain an alternative supplier. See United States ex rel. Harrison v. Westinghouse Savannah River Co., 352 F.3d 908, 916–17 (4th Cir. 2003) (rejecting argument that continued Government payment negates materiality). In fact, at oral argument in Escobar, the Government explained that one reason it declines to intervene in cases is that it is unsure that the case can be proven. Transcript of Oral Argument at 48–49, United States ex rel. Universal Health Sys. v. United States ex rel. Escobar (April 19, 2016) (No. 15-7) (argument of Deputy Solicitor General Malcolm Stewart) (reasons the Government does not intervene include that “because we’re skeptical of the merits of a case. But even in those situations, it could be that we agree with the relator’s theory and simply don’t know whether the facts could be proved.”).

Importantly, this “actual knowledge” that the Supreme Court says Government must have for continued payment of the claims to constitute “very strong evidence” that the violation is not material is a higher knowledge standard than the reckless disregard standard that is sufficient to hold a defendant liable for presenting false claims. Compare Universal Health Services, Inc. at 16 with 31 U.S.C. § 3729(b)(1).

In non-intervened cases, when a defendant has yet to be found to be even recklessly disregarding the presentation of false claims, it is difficult to imagine how the Government can be charged with actual knowledge of the presentation of false claims.

Thus, the fact that the Government continues payment after a case is filed and litigation proceeds will not typically be enough to prove that the Government has the “actual knowledge” of a False Claims Act violation that the Supreme Court says would needed to make a strong argument to defeat materiality.

If the Courts apply Escobar properly, this decision should be a net win for False Claims Act whistleblowers and the lawyers who represent them, as it resolves the uncertainly that previously surrounded an entire set of potential false claims.

F. Mistakes and Poorly Reasoned Dicta in Escobar.

The Escobar opinion contains several statements that reflect a lack of background knowledge about the False Claims Act and the Supreme Court’s own prior rulings. Some of these statements are dicta and should not be generally adopted.

1. The False Claims Act is neither criminal nor generally punitive.

The Supreme Court states that as enacted, the False Claims Act contained criminal liability, including incarceration. But the Court fails to mention that those criminal provisions were later separately codified. U.S. Rev. Stat. tit. 36, §§ 3490–3494 (1875) (civil FCA); U.S. Rev. Stat. tit. 70, § 5438 (1875) (criminal FCA). This is important because while criminal False Claims Act violations may still result in incarceration (18 U.S.C. §§ 287, 1001), Congress designed the civil False Claims Act at issue in Escobar to be “civil and remedial in nature and are brought to recover compensatory damages.” S. Rep. No. 99-345, at 31 (1986), reprinted in 1986 U.S.C.C.A.N. 5266, 5296.

Then in discussing amendments to the False Claims Act, quoting Vermont Agency of Natural Resources v. United States ex rel. Stevens, 529 U.S. 765, 784 (2000), the Court states that “Congress also has increased the Act’s civil penalties so that liability is ‘essentially punitive in nature.’” Escobar, at 3.

The Court failed to acknowledge or even mention that after Vermont Agency, on three subsequent occasions, the Supreme Court as a whole—and the author of the “essentially punitive” statement in Vermont Agency in particular—retreated from this statement and reaffirmed the long-settled understanding of the civil False Claims Act as remedial. Cook County, Ill. v. United States ex rel. Chandler, 538 U.S. 119, 131 (2003); Graham County Soil & Water Conservation Dist. v. United States ex rel. Wilson, 545 U.S. 409, 411-12 (2005); Rockwell Int’l v. United States ex rel. Stone, 549 U.S. 457, 463 (2007).

This issue of whether the False Claims Act is remedial or punitive was the central issue in Cook County. Giving the Supreme Court credit that it would not be so arbitrary as to strike down a governing precedent with no explanation or briefing, we can only conclude that the Court’s statement in Escobar that the False Claim Act is essentially punitive was a poorly-researched mistake.

2. The Court’s decision that materiality applies to 31 U.S.C. § 3729(a)(1)(A) ignores the Court’s own principles of statutory interpretation.

While not an issue that will affect most False Claims Act cases, the Court’s holding that materiality applies to 31 U.S.C. § 3729(a)(1)(A) violates its own long-settled rules of statutory interpretation. See Escobar, at 14.

Prior to 2009, the False Claims Act contained no explicit materiality requirement. Nevertheless, most courts adopted a materiality requirement despite Supreme Court precedent eschewing such addition. See James B. Helmer, Jr. & Julie Webster Popham, Materiality and the False Claims Act, 71 U.CIN.L.REV. 839 (2003).

When Congress amended the False Claims Act in 2009, it added an explicit materiality requirement to 31 U.S.C. § 3729(a)(1)(B), but not to (a)(1)(A). Under principles of statutory interpretation espoused by the Supreme Court itself, the addition of an explicit materiality requirement to (a)(1)(B) but not to (a)(1)(A) should have been sufficient to confirm that Congress intended that materiality not be a requirement of an (a)(1)(A) false claim. Allison Engine Co. v. United States ex rel. Sanders, 553 U.S. 662, 671 (2008) (“When Congress includes particular language in one section of a statute but omits it in another section of the same Act, it is generally presumed that Congress acts intentionally and purposely in the disparate inclusion or exclusion.”) (internal quotation marks omitted) (quoting Barnhart v. Sigmon Coal Co., 534 U.S. 438, 452 (2002)).

While it does not explicitly admit that this is a flaw in its reasoning, the Supreme Court attempts to sidestep the issue by stating that since the Act “punish[es] defendants who submit ‘false or fraudulent’ claims” (Escobar, at 8), by use of the term “fraudulent” Congress incorporated all elements of common-law fraud when there are “no textual indicia to the contrary” (id. at 8 n.2).

Since materiality is an element of common law fraud, the Court reasoned that whether the False Claims Act’s own definition of materiality applied or the common law materiality requirement applied, the same natural tendency test applies to the materiality requirement that the Court engrafted onto 31 U.S.C. § 3729(a)(1)(A). Id. at 14.

But Congress did not enact the “Fraud” Claims Act or adopt all of the elements of common law fraud. Instead, the False Claims Act is a statutory cause of action containing elements not found at common law fraud. Indeed, the Supreme Court has itself recognized that the False Claims Act is not a general purpose fraud statute. See United States v. McNinch, 356 U.S. 595, 599 (1958) (“the False Claims Act was not designed to reach every kind of fraud practiced on the Government”).

Thus, the Court’s reasoning that materiality requirement applies to (a)(1)(A) rests on a faulty basis—that nothing in the False Claims Act indicates that materiality should not apply to (a)(1)(A)—when, as we have just discussed, the 2009 amendments should have been sufficient to make it clear that materiality does not apply to (a)(1)(A) false claims.

Since the Court was well-aware of Allison Engine, even citing it in this section of the opinion (Escobar, at 15), it seems as if the Court inexplicably failed to examine text and history of the very statute it was interpreting. While defense counsel may attempt to argue that other common law elements of fraud should be engrafted onto the False Claims Act, as a prior Supreme Court opinion cited in Escobar points out, “the common law requirements of ‘justifiable reliance’ and ‘damages,’ . . . plainly have no place in the federal fraud statutes.” Neder v. United States, 527 U.S. 1, 24–25 (1999) (citation omitted). Reliance and damages elements are inconsistent with the mail fraud statute, the Supreme Court also found, since the mail fraud statute prohibits schemes to defraud. Id. at 25. Like the mail fraud statute at issue in Neder, the False Claims Act also prohibits schemes and attempts to defraud the government. Therefore, reliance and damages are not elements of the False Claims Act. In addition, as a textual matter, the False Claims Act is written so that liability is not conditioned on damages. See 31 U.S.C. § 3729(a)(1) (making persons liable for, inter alia, presenting false claims, not presenting false claims that cause damages).

While we did not represent any of the parties in this case, our firm has a long history of advocating cases under the implied certification liability theory. For more information, or to discuss a potential case with us, please contact us.