Federal Appeals Court Endorses Expansive Damages Theory for False Statements in Federal Grant Case

March 4, 2013
Harter Secrest & Emery LLP

In a recent decision, the federal appeals court with jurisdiction over New York endorsed an expansive theory of damages for government efforts to recover funds disbursed based on false claims or statements. The decision has significant implications for recipients of federal funds, especially recipients of federal grants and subsidies, as well as for potential whistleblowers.

The False Claims Act
State and federal laws impose steep penalties for false claims and false statements relating to spending in government programs. One of the most powerful of these laws is the federal False Claims Act, which netted nearly $5 billion for the federal government in the last scal year. Although the False Claims Act is most often used to recover Medicare and Medicaid funds and money paid to federal contractors, it also applies to funds disbursed through federal grant or subsidy programs. Unlike most state and federal criminal laws, the civil False Claims Act does not require proof of any intent to defraud the government.

The Court’s Decision
The U.S. Court of Appeals for the Second Circuit, which is the highest federal court in New York, Connecticut, and Vermont, other than the U.S. Supreme Court, issued a decision in late 2012 establishing that federal grant recipients may be liable for more than three times the entire amount of grant funds received following a recipient’s’ false statements. The case involved Cornell University Medical College (Cornell). Beginning in 1997, Cornell had received a National Institute of Health (NIH) post-doctoral training grant based on an initial application for a neuropsychology fellowship focused on HIV/AIDS research. Cornell applied for, and received, several renewal grants. In each of its renewal applications, Cornell certified that its program was not materially different than initially described.

The False Claims Act permits whistleblowers to commence actions, under seal, on the government’s behalf and to share in the government’s recovery. In this case, a dropout from Cornell’s fellowship program acted as a whistleblower and claimed that the program deviated from Cornell’s initial description to NIH: some faculty identified as key personnel no longer contributed to the program; several core courses were not regularly offered; and the fellows’ clinical experiences did not involve a majority of HIV/AIDS patients. Based on the whistleblower’s evidence, a jury found Cornell liable for making false statements in its renewal applications.

The issue on appeal was the measure of damages. Although the False Claims Act provides for the trebling of damages, it does not specify how damages should be measured. In federal contractor cases, courts often apply a “benefit of the bargain” test, measuring the difference between the value that the government received and the amount that it paid. In a matter of rst impression before the appellate court, Cornell argued that the same test should apply when the government pays grant funds through programs like NIH’s post-doctoral grant program. In Cornell’s view, a jury should have been able to evaluate the difference between the value of the training promised and the training actually delivered. The Court rejected Cornell’s argument. The Court required Cornell to pay trebled damages based on every dollar of grant funds received in each renewal year in which Cornell made false statements.

The appellate court accordingly affirmed the judgment against Cornell. Although the NIH grant funds at issue amounted to less than $300,000, the judgment against Cornell totaled more than $1.5 million, due to the statutory trebling of the damages amount and the inclusion of mandatory penalties, attorneys’ fees, and costs. Of this amount, the whistleblower ultimately collected more than $1 million.

The Court’s decision raises the stakes for entities that may have made misstatements in the course of obtaining government funds. Likewise, it enhances the leverage of the government and whistleblowers in pursuing and negotiating settlements in such cases. The decision applies most clearly in the context of federal grants and subsidies, like the NIH grant at issue. However, the decision also provides guidance for cases involving false claims or false statements in other contexts.

The decision adopts an expansive damages theory in cases where, in the Court’s terms, the government has “bargained for something qualitatively, but not quanti­fiably, different from what it received.” The Court found that Cornell’s program, in light of its deviation from NIH-approved criteria, ­t within this category. However, the Court’s logic has been applied in cases involving not only federal grant recipients, but also Medicare providers and institutions of higher education. Courts have focused on intangible policies allegedly stymied by defendants’ false claims or statements, such as violations of anti-kickback laws or rules designed to guard against abuses. Damages in such cases, as in the recent decision, may be measured based on the full amount of government funds disbursed following false statements, regardless of whether the funds were put to bene­ficial uses, such as Cornell’s fellowship program.

Significantly, however, the “benefit of the bargain” test still applies in many cases involving government procurement and service contracts. The decision specically addresses this point. The Court explains that, in most False Claims Act cases, damages should continue to be “measured as they would be in a run-of-the-mine breach-of-contract case – using a ‘benefit of the bargain’ calculation in which a determination is made of the difference between the value that the government received and the amount that it paid.” Thus, this traditional measure of damages will continue to be the touchstone for cases involving non-conforming goods or incomplete services.

Likewise, in cases simply involving government overpayments — such as most Medicare and Medicaid False Claims Act cases — damages should still be calculated based on the difference between what the overpayment paid and what it would have paid but for a misrepresentation. The Court’s decision addresses this point, too. It explains that, in cases where “the government [has] paid for a contracted service with a tangible benefit — whether it be medical care, security on mortgages, or subsidized housing,” the government gets “what it [has] bargained for,” but simply pays “too much.” Damages in such cases are based on how much the government overpaid, and the Court’s decision does not change the damages calculation in overbilling disputes.

The Court’s decision is a reminder of the importance of compliance efforts for businesses receiving government funds, the hazards of submitting false statements to the federal government, and the strong financial incentives encouraging whistleblowers to le actions under the False Claims Act. The case is especially pertinent to recipients of federal grants and subsidies. In clarifying the measure of damages in such cases, the decision promises to impose harsh penalties on entities that receive federal funds based on misrepresentations, and a boon to whistleblowers prepared to le suit based on their knowledge of the same. The appellate court’s decision is United States ex rel. Feldman v. Van Gorp, 697 F.3d 78 (2d Cir. 2012).

If you have any questions regarding this LEGALcurrents®, please do not hesitate to contact any member of our Government & Internal Investigations Practice Group at 585.232.6500.