February 19, 2007

I. INTRODUCTION
Contracting for construction services with the federal government as always entailed a certain level of risk. For example, contractors assume the risk of a fluctuating labor market, nonperforming subcontractors and the monetary impact of excusable but noncompensable delays such as unusually severe weather. Although the extent of these risks can never be accurately forecast, successful contractors have devised numerous means to effectively manage these risks. However, one risk that is often overlooked by contractors is the False Claims Act (FCA).

Unfortunately, violations of the FCA can lead to severe consequences for the offending contractor. Contractors overlook this risk because they fail to appreciate the very broad reach of the FCA and the situations that routinely arise over the course of a construction project where violations can occur. The effective management of the risk presented by the FCA requires contractor management and its key personnel to understand both how the FCA works and the types of conduct that may subject the contractor to FCA liability. This brief primer on the FCA focuses on the construction industry and includes a discussion of FCA basics, the elements of an FCA violation, and a description of the acts and/or omissions of construction contractors that have been found to violate the FCA.

II. FCA BASICS
The FCA identifies seven acts that violate it. The four circumstances most relevant to the construction industry include: knowingly submitting a false or fraudulent claim for payment to the federal government; making a false statement in order to have a claim paid; conspiring to defraud in order to have a claim paid; and making a false record or statement to conceal an obligation to pay money to the federal government. The most common violation of the FCA is the knowing submission of a false or fraudulent claim, the four essential elements of which are: (1) submission of a claim for payment to an agent of the federal government; (2) the claim was false or fraudulent; (3) the contractor knew that the claim was false or fraudulent; and (4) the falsity was material to the government’s decision to pay the claim. These elements will be discussed in more detail in the following section. Probably the most underappreciated violation is the making of a false record or statement to conceal an obligation to pay money to the federal government. Examples in the construction industry would include covering up a deficient item of work that would entitle the government to a credit, or falsifying records to mask unexcusable delays that would entitle the government to liquidated damages.

Contractors that violate the FCA can be severely punished. First, any actual damages suffered by the government will be trebled. Significantly, however, actual damages are not necessary to establish an FCA violation. Accordingly, a contractor can be found liable for violating the FCA even if the false claim was never paid by the government — the violation is in the submission, not the payment, of the false claim. Second, each violation carries a penalty of up to $11,000. Third, and perhaps most importantly, an FCA violation is grounds for suspension or debarment from doing business with the federal government. Finally, violation of the FCA also may serve as a basis for state governments to exclude the contractor from state contracting opportunities. Thus, for contractors that regularly undertake public construction projects, a single FCA violation—even where the government suffered no actual damages—could be the death knell of the company.

FCA claims are brought in one of two ways. First, the federal government, through the Justice Department, can file a civil action against a contractor in a federal court. The government may also pursue an FCA claim against the contractor in the court of federal claims by way of a counterclaim in an action originally initiated by the contractor. In these cases, which are quite a rude awakening for the contractor, the government learns of the alleged violation while conducting discovery relating to the contractor’s Contract Disputes Act claim. It is important to note that the FCA counterclaim is not required to relate to the contractor’s claim; rather, the FCA counterclaim need only relate to the underlying project.

Second, the FCA includes “whistleblower” provisions that permit private parties with knowledge of an alleged FCA violation to file a complaint against a contractor on behalf of the federal government.  The whistle-blower is formally referred to as a qui tam relator, and the FCA provides powerful incentives for relators to come forward with information about potential FCA violations. Specifically, the FCA provides a bounty in the form of an entitlement to a significant percentage of any recovery from the contractor, including the treble damages. Not surprisingly, many qui tam claims originate with a disgruntled current or former employee. Qui tam complaints are filed under seal and must be served on the Justice Department before they are served on the contractor, thereby giving the Justice Department the opportunity to join in and take over the prosecution of the claim. At this point, the Justice Department will investigate the relator’s allegations in order to determine whether or not to join the litigation. The Justice Department frequently will notify the contractor that it is under investigation, and the contractor may have an opportunity to respond to the allegations. The contractor’s goal at this stage is to quietly settle any meritorious claims or, at the very least, to convince the Justice Department not to join the qui tam litigation.

III. ESSENTIAL ELEMENTS OF AN FCA VIOLATION
A. The Submission of a Claim
This element has two distinct components: a claim and a submission, or “presentment,” of the claim. The FCA defines “claim” very broadly: “[A]ny request or demand, whether under a contract or otherwise, for money or property which is made to a contractor, grantee, or other recipient if the United States Government provides any portion of the money or property which is requested or demanded, or if the Government will reimburse the contractor, grantee, or other recipient for any portion of the money or property which is requested or demanded.” This definition has been interpreted to capture any call upon the government fisc.

A false claim that never leaves the contractor’s office is not actionable. To be liable under the FCA, the contractor must physically submit the claim. However, liability attaches not only where the claim is submitted directly to the federal government, but also where the claim is submitted to an intermediary that will be using federal government funds to pay or reimburse the claim and the claim is forwarded by the intermediary to the government. Consequently, subcontractors can be liable for violating the FCA if they submit false claims to the general contractor, which then forwards the claims to the government. Similarly, a contractor can violate the FCA for submitting a false claim to a state government agency on a construction project where the federal government provided some of the funding for the project, and the state agency forwards the claim to the federal government. Significantly, the contractor need not know that the federal government was to be the source of the funding. In a recent case, a federal district court found that a contractor could be liable for submitting false claims to the Coalition Provisional Authority in Iraq where the CPA—ostensibly a coalition of “willing” allied governments — used U.S. funds to pay the claim.

In sum, a contractor may face FCA liability for any false or fraudulent request or demand for payment on any construction project that utilizes federal funding, even if the contractor did not directly submit its claim to the federal government.

B. What Is a “False” Claim?
The FCA does not provide a definition of “false.” Although, in many cases, the falsity of a claim will be unquestionable, in other cases, this element is intensely disputed. It is widely recognized that a claim must be a “lie” in order to be considered false. In the contract setting, the question of falsity frequently turns on the interpretation of the contract’s requirements, to include the terms, conditions, specifications and any statutes or regulations that may apply to the contract. The courts have consistently held that the FCA was not intended to create liability for simple errors in judgment, the misreading of specifications or the misinterpretation of contract requirements.

Every contractor working on a government project has had occasion to disagree with the contracting officer regarding the requirements of the contract. More often than not, this disagreement is based on competing interpretations of the contract’s terms, conditions or specifications, and more often than not, either the parties amicably resolve the dispute or a judge is called upon to determine which party’s interpretation is correct. In the typical case, no one would argue that the contractor’s interpretation constituted a lie. There are, however, those atypical cases where the falsity of a contractor’s claim hinges on the contractor’s interpretation of the contract requirements. More specifically, falsity will be judged based upon the reasonableness of the contractor’s interpretation. Although a bright-line rule has not been established, the consensus view of the courts is that a contractor’s interpretation that is objectively unreasonable can be considered a lie and, consequently, can serve as the basis of an FCA claim. Contractors are not held to an absolute correctness standard; however, a contractor’s interpretation of the requirements of its contract must at least be plausible. For this reason, frivolous claims should never be submitted, even as a negotiation strategy!

C. When Is a False Claim Knowingly Submitted?
The FCA defines “knowing” and “knowingly” as follows:

For purposes of this section, the terms “knowing” and “knowingly” mean that a person, with respect to information —
(1) has actual knowledge of the information;
(2) acts in deliberate ignorance of the truth or falsity of the information; or
(3) acts in reckless disregard of the truth or falsity of the information, and no proof of specific intent to defraud is required.

Significantly, the “knowing” stan- There are, however, those atypical cases where the falsity of a contractor’s claim hinges on the contractor’s interpretation of the contract requirements. Summer 2006 Peckar & Abramson Newsletter www.pecklaw.com 6 12 article dard is met even without proof of a specific intent to defraud the government. On the other hand, the courts have routinely held that gross negligence regarding the truth or falsity of the information is not sufficient to meet the “knowing” standard. Because the FCA penalizes the reckless disregard and the deliberate ignorance of the truth or falsity of information, the FCA places a limited duty to inquire on those submitting claims to the government. Specifically, a contractor is required to make an inquiry regarding the truth or falsity of a claim that is reasonable under the circumstances. Obviously, this is a flexible standard that will be governed by the unique facts of each situation.

The knowledge element often works hand-in-hand with the falsity element in FCA claims relating to the correct interpretation of a contract’s requirements. As indicated above, the falsity element is an objective standard, i.e., whether the contractor’s interpretation was plausible. The issue is slightly different from the perspective of the knowledge element. Courts will examine whether the contractor’s reliance on its contract interpretation was in good faith, because a contractor cannot possess the requisite mental state to satisfy the FCA where its interpretation was developed and relied upon in good faith. Clearly, in contrast to the objective standard utilized to judge the falsity element, consideration of the knowledge element is a far more subjective exercise.

Contractors have a potent defense available to them relating to the knowledge element. Commonly referred to as the “government knowledge defense,” contractors have escaped FCA liability where they have proven that responsible government officials had complete knowledge of the facts that allegedly render a claim false. Courts have held that this government knowledge negates the FCA’s scienter requirement. A component of the proof of the government knowledge defense will frequently be that the government contemporaneously approved of the conduct now alleged to violate the FCA. The mechanics of this defense can be illustrated through a simple example: Where an FCA violation is alleged based on the contractor’s noncompliance with the requirements of its contract, the knowledge element may not be met where the contractor proves that the government shared the contractor’s interpretation during the course of the project. Not surprisingly, the government knowledge defense is most often employed in qui tam litigation, where the relator disagrees with the contractor’s conduct and either is not aware of or simply disregards the government’s knowledge of the contractor’s conduct. In these cases, the qui tam relator may feel that the government is a conspirator in the alleged fraud.

D. How Does Materiality Factor into the Puzzle?
The materiality element is not found in the FCA itself. Instead, courts have imposed this element on the government and qui tam relators. In a nutshell, the false information submitted by the contractor must have had the natural tendency to influence the government’s decision making with respect to the payment of a claim. Accordingly, the government must prove that it relied on the false information or would have relied on the false information in making its decision to pay the claim. False information that is not relied upon by the government or that would not have been relied upon by the government in making its decision to pay a claim is deemed not to be material and therefore cannot serve as the basis of an FCA claim.

IV. FCA VIOLATIONS IN THE REAL WORLD OF CONSTRUCTION CONTRACTING
FCA violations can occur during every stage of a construction project, from bid preparation and submission to project closeout. By no means a comprehensive listing of all potential FCA violations that could occur on a construction project, the following examples are based on actual violations — and vividly illustrate the long arm of the FCA.

Bid and Proposal Preparation
False information or misrepresentations included within the contractor’s bid or proposal can serve as the basis of an FCA claim. Once awarded the contract, each pay application submitted by the contractor may be deemed a false claim. Significantly, the pay applications may otherwise have been perfectly truthful and accurately reflect the sums due for work performed. Nevertheless, the pay application is false because the underlying contract was procured through misrepresentation and/or fraud.

Considering the many certifications and representations that are required, a contractor must exercise extreme caution in preparing its bid or proposal to ensure the accuracy and truthfulness of the information submitted to the government.

Statutory and Regulatory Compliance
Contractors routinely are required to certify their compliance with various statutory and regulatory schemes. For example, contractors are required to certify that they are paying the prevailing wages under the Davis-Bacon Act. Likewise, contractors are required to certify that they have not violated the Anti- Kickback Act, that the materials that they are supplying are in accordance with the Buy American Act, and that they are in compliance with the contract’s DBE requirements. A contractor that submits a materially false certification may subject itself to FCA liability. In this context, the actionable claim arises from the contractor’s monthly pay application. The application is deemed false because the contractor would not be entitled to payment after truthful certification regarding previous certifications concerning violations of the Anti-Kickback Act.

Certifications Embedded in Monthly Pay Applications
The contractor’s monthly pay application contains a host of representations and certifications. For example, FAR Clause 52.232-5(c), “Payments under Fixed-Price Construction Contracts,” requires three extremely important certifications:

(1) The amounts requested are only for performance in accordance with the specifications, terms and conditions of the contract;
(2) All payments due to subcontractors and suppliers from previous payments received under the contract have been made, and timely payments will be made from the proceeds of the payment covered by this certification, in accordance with subcontract agreements and the requirements of Chapter 39 of Title 31, United States Code [the Prompt Payment Act]; and
(3) This request for progress payment does not include any amounts that the prime contractor intends to withhold or retain from a subcontractor or supplier in accordance with the terms and conditions of the subcontract.

The certification in the first quoted paragraph addresses the work performed for which payment is requested. The certification may be considered false under the following circumstances:

> The quantity of work performed is overstated; or
> The quality of the work does not comply with the requirements of the contract. This could include deficient work, material or equipment that is not as described in the specifications, or inspections or tests that were required but that were not performed or were not adequately performed. Misrepresentations with respect to the quality of the work performed are often referred to as “product substitution.”

The certifications in the second two quoted paragraphs address how the contractor has handled the payments previously received from the government on behalf of subcontractors, and how the contractor intends to handle payments currently requested. As its name suggests, the Prompt Payment Act (PPA) requires contractors to promptly pay its subcontractors from monies received from the government on those subcontractors’ behalf. Failure to pay subcontractors in accordance with the PPA — or worse, failure to pay at all — can lead to allegations of FCA noncompliance because the government will only pay the contractor if it certifies on a monthly basis that it has paid its subcontractors and is complying with the PPA. These certifications also address present intentions to withhold monies from subcontractors.

More specifically, if at the time that the contractor executes the certification, it has the intention to retain or withhold the requested monies from its subcontractor, this, too, could be deemed a false certification.

Contract Disputes Act Claims and Requests for Equitable Adjustment
Pursuant to the Contract Disputes Act (CDA), in order to obtain a contracting officer’s final decision on claims in excess of $100,000, the contractor is required to submit a certification that states in part: “I certify that the claim is made in good faith; that the supporting data are accurate and complete to the best of my knowledge and belief; that the amount requested accurately reflects the contract adjustment for which the Contractor believes the Government is liable….” Several agencies, to including the Department of Defense and the General Services Administration, require similar certifications for Requests for Equitable Adjustment in excess of $100,000 as well.

These certifications may be considered false if any aspect of the claim or REA is inaccurate or untrue. It is extremely important that the price adjustment requested be supported by solid and credible data — inflated claims are a frequent target of FCA allegations. In 2005, a construction contractor paid nearly $25 million in damages and penalties for submitting inflated claims. Also, as discussed above, claims and REAs based on implausible contract interpretations may also render a CDA/ REA certification false.

V. CONCLUSION
The FCA is a powerful tool in the government’s anti-fraud arsenal. Further, it appears that the FCA is being utilized more regularly in the construction industry to regulate contractor conduct. A contractor that is unaware of the long arm of the FCA is blinding itself to substantial risks inherent in doing business with the government. To successfully manage these risks, a contractor must educate its management and key personnel regarding the mechanics of the FCA, and then implement a compliance program that is aimed at preventing violations before they occur.