[UPDATE: The Supreme Court resolved the Escobar case in a unanimous decision published on June 16, 2015. A link to our discussion of the Court’s opinion is available here.]

In some courts in the United States today, a government contractor or a healthcare provider seeking reimbursement from a federal program can violate the False Claims Act even when its work is satisfactory and its invoices are correct. Under the theory of “implied certification,” a minor instance of non-compliance with one of the thousands of applicable statutes, regulations, and contract provisions can be the basis for a federal investigation, years of litigation, as well as fines, penalties, suspension and debarment, even imprisonment of company personnel.

This week, the Supreme Court heard oral arguments in Universal Health Services, Inc. v. United States ex rel. Escobar, Docket No. 15-7, a case involving the viability of the implied certification theory. Here, we look at the questions posed during oral argument to see if we can infer how the Court might resolve the case.

The Supreme Court agreed to consider two questions posed in Escobar. First, the Court agreed to address the current split in the circuits as to the viability of the implied certification theory. The First Circuit’s decision in United States ex rel. Escobar v. Universal Health Services, Inc., 780 F.3d 504 (1st Cir. 2015), broadly adopts implied certification. The Seventh Circuit’s decision in United States v. Sanford-Brown, Ltd., 788 F.3d 696 (7th Cir. 2015), firmly rejects it.

Second, the Court agreed to consider whether implied certification liability should be limited to non-compliance with requirements that state specifically that they are a “condition of payment.” Courts in the Second and Sixth Circuit have answered that question yes, but those in the First, Fourth, and D.C. Circuits have said no.

Lower court proceedings in Escobar

The underlying case arises from the death of a young patient at a mental health clinic in Lawrence, Massachusetts. Her parents filed a qui tam complaint alleging that the clinic violated the False Claims Act by seeking reimbursement for services from Medicaid while it was out of compliance with applicable regulations. The Government investigated the allegations and declined to intervene.

In a March 2014 decision, the district court granted the clinic’s motion to dismiss the 378-paragraph second amended complaint. In the trial court’s view, the complaint raised “serious questions about the quality of care” provided at the clinic. But it did not adequately allege a False Claims Act violation. The False Claims act is “directed at materially false statements presented to obtain government reimbursement. The Plaintiffs have not, despite three iterations of their complaint, made adequate allegations regarding such statements.”

Except on a single narrow point, the First Circuit Court of Appeals reversed the trial court’s decision. See United States ex rel. Escobar v. Universal Health Services, Inc., 780 F.3d 504 (1st Cir. 2015). The court adopted a simplistic legal standard that might render almost every instance of non-compliance with a statute, regulation, or contract a violation of the False Claims Act. “We ask simply whether the defendant, in submitting a claim for reimbursement, knowingly misrepresented compliance with a material precondition of payment. . . . Preconditions of payment, which may be found in sources such as statutes, regulations, and contracts, need not be ‘expressly designated.’” Id. at 512 (internal citations omitted).

Argument at the Supreme Court

Questions posed by the Justices during the April 19 oral argument suggest that the Court is more likely to attempt to provide a clear standard of proof for implied certification than to reject it altogether. Questions by Justices Breyer, Kennedy, and Kagan suggest that they would likely recognize the concept of liability for an implied certification, but that they would not consider it proper in every case.

Justice Breyer specifically sought out a means of separating regulations that are so central to the contractor’s obligation that a breach of them is fraud from those that are not.

JUSTICE BREYER:  . . . That’s to me what’s at the heart of this. How do you distinguish between those regulations, breach of which are fraudulent when you breach them, and implicit promise not to, from those that not. There are millions of regulations. That’s what all the amici are worried about.

But now, this is my basic question, and it is a question. The obvious kind of distinction that would seem possible is a contract ­based distinction between matters that are material where the whole contract disappears and matters that are sometimes I think called nonmaterial, I’ll get the—I’ll forget the exact word, partial, where even though the condition is violated, you don’t destroy the contract but you might get damages for that. Now, that’s a distinction that every court that deals with contracts is used to applying bread and butter. All right? Normal daily basis. Why not use that same distinction right here? (Tr., at 9-10.)

Like Justice Breyer, Justice Kennedy’s questions emphasized the importance of “materiality” as an element of determining what is false.

JUSTICE KENNEDY:  . . . It—it seems to me we just can’t think about fraud unless we have materiality in some sense. And it could be a very strict standard of materiality. . . .

Otherwise, it seems to me, fraud doesn’t make much sense. (Tr., at 14-15.)

Justice Kagan’s questions suggest that she also recognizes a distinction between material and immaterial contract requirements.

JUSTICE KAGAN: . . . In demanding payment for satisfaction of the contract, you are not making a recommendation that you have satisfied the contract?

MR. ENGLERT: Not that broadly. Not—not every jot and tittle of the contract. And there’s a policy reason why that’s a good rule—

JUSTICE KAGAN:  I’m not into every jot and tittle. I’m into material portions of the contract. That—you know, that the guns shoot, that the boots can be worn, that the food can be eaten—  (Tr., at 17-18.)

Justice Sotomayor did not expressly endorse the material-immaterial framework. But her questions suggest that she is also focused on the impact of false representations as to key contractual requirements.

JUSTICE SOTOMAYOR:  I’m sorry. I’m totally confused. I always thought that when you asked for payment, you’re making a promise: I did what I agreed to do. Pay me, please.

That’s, to me, what’s sort of understood. If I hired you to provide me with doctor services, you ask me for money, I’m assuming you provided me with doctor services. And you know you didn’t. Why isn’t that a fraud?

MR. ENGLERT: Because it’s a contract breach. Breaking a promise is a contract breach. Some contract breaches are fraud, most are—

JUSTICE SOTOMAYOR:  So providing a gun that doesn’t shoot to the Army is simply a contract breach?  (Tr., at 12.)

Chief Justice Roberts showed his skepticism towards the entire False Claims Act regime, which allows relators to pursue False Claims Act recoveries after-the-fact for issues that even the government deems unimportant.

In his exchanges with counsel for the Respondents, Justice Roberts pushed for an acknowledgment that a false claim would arise only when an instance of non-compliance occurs “knowingly.” Respondents’ counsel explained that there would be two elements to this knowledge test—knowledge of the particular regulatory requirement, and knowledge that it was material to the government. (Tr., at 24-27.) But Justice Roberts was concerned that even this standard would “precipitate litigation” involving alleged noncompliance with “thousands of pages of litigation.” (Tr., at 25.)

As to a hypothetical offered by counsel for the relators, Justice Roberts pointed out that reality is often a “little more complicated”—so much so that it would be unfair to allow a relator to pursue a claim based on allegations for which the government has elected not to pursue its available remedies.

CHIEF JUSTICE ROBERTS: I suspect most cases are a little more complicated than that, and that’s where the difficulty comes in when you have hundreds, thousands of pages of regulations. And typically not—probably not the government. They didn’t in this case. They didn’t pick up—the false claim; it was the relator. And the relator comes in and says, well, you didn’t—you violated the provision, not that the college intern is a doctor, but that­–whatever it is. You know, you have to use this particular syringes or drug company, and, in fact, you didn’t. And, therefore, blah, blah, blah.

And I guess that’s where the problem comes in, in that it’s a little more complicated than that. And I just don’t know if I can take your abstract hypothetical and transfer it to the reality of government contract. (Tr., at 30-31.)

We’re pleased to see that the Justices seem to recognize the complexity of the environment in which government contractors, grantees, and health care providers operate. We hope that they also recognize that all of these complex and overlapping statutory, regulatory, and contractual requirements carry with them a collection of independent enforcement mechanisms. A contractor that misses an important contractual requirement, for example, is subject to withholding of payment or default termination. Those remedies are contractual in nature, and they are part of a risk allocation scheme that makes sense.

Implied certification threatens to turn the established allocation of risk on its head, by turning every minor non-conformance into a fraud, every insignificant jot and tittle into the basis for a federal investigation and years of litigation in federal court. The litigation costs and the potential negative consequences of such a case mean that many are forced to settle cases arising from even the most unmeritorious allegations. Good companies leave the business, and the government ultimately pays higher prices for everything. We hope that the Supreme Court’s decision in Escobar helps bring some sanity to the problem.


Further reading—

Universal Health v. Escobar: the new standard of proof for implied certification liability under the False Claims Act (June 20, 2015)

KBR v. US ex rel. Carter—a plain-meaning approach to the Wartime Suspension of Limitations Act and the False Claims Act first-to-file bar (June 26, 2015)

How a 14-year-old case escaped the False Claims Act’s 6-year statute of limitations (Dec. 8, 2014)

False Claims Act exposure for contract disputes after U.S. v. Kellogg Brown & Root (Aug. 15, 2011)