History and Status of False Claims Act/Qui Tam Actions Against For-Profit Schools

December 10, 2009

Recent Developments, Including the Draft Regulations Proposing to Eliminate the Safe Harbors, Could Increase the Number of Lawsuits Brought Against For-Profit Schools

This is our first of what we anticipate to be periodic communications regarding developments or issues relating to fraud investigations or lawsuits involving for-profit providers of post-secondary education.  Unfortunately for the industry, over the past several years there have been a large number of False Claim Act (qui tam) lawsuits brought against for-profit schools.  Because we have substantial experience handling these sorts of lawsuits (and all of the related issues), we thought it would be helpful to share with you our thoughts and analyses regarding issues that we believe are relevant to the industry.  To make these communications as relevant and helpful as possible, we have two requests of you.  First, please let us know if there are any others within or outside your organization whom you believe might be interested in receiving these communications.  Second, please let us know if there are any specific topics that you would like us to address in future communications. 

In this first communication, we will provide an overview of the False Claim Act ("FCA") or qui tam actions that have been brought against schools, including providing a comprehensive list of such lawsuits and their history and status.  In addition, we will share our thoughts with regard to whether these sorts of fraud investigations and lawsuits are likely to increase or decrease in the future. 

Background and History of FCA Actions Against Schools

By our count, there have now been at least 27 qui tam lawsuits filed against educational institutions since the late 1990s.  A list and summary of these cases can be found at the end of this analysis.  Others may have been filed, but remain under seal pending review by the federal government.  The FCA, as many of you know, is the statute by which the government may recover money taken from it by fraud due to "false claims" for payment being submitted to the government.  The FCA also contains a "qui tam" provision, which allows individuals — called "relators" — to sue on the government’s behalf, and keep a portion of any recovery that they obtain.  

Early on, these lawsuits against schools focused on allegations that the schools had violated the so-called "incentive compensation" provision of the Higher Education Act ("HEA"), which prohibits certain forms of compensation to student recruiters and financial aid employees.  Recently, however, the scope of these lawsuits has been expanded to include various allegations, including, for example, allegations of failing to provide a quality education, violations of requirements imposed on schools by state regulators and private accrediting bodies, and even grade inflation. 

The means by which relators have claimed that this conduct resulted in "fraud" and "false claims" has not always been clear.  What has been clear, however, is that the money that relators claim is at issue and was "fraudulently obtained" — and seek as damages — is the many millions of dollars in Title IV federal financial aid provided to students who attend the schools, trebled (a topic for a future communication).  Further, the "hook" that relators generally have tried to use to make out their case of "fraud" has been the Title IV Program Participation Agreement ("PPA"), which all schools must enter into with the Department of Education to become eligible to participate in Title IV programs. 

In the 10-page, form PPA, a school agrees that it "will" comply with hundreds (if not thousands) of various rules and regulations, which include, but are not limited to, "all" Title IV rules and regulations, state and accreditor requirements, the incentive compensation provision, and even the Rehabilitation Act and Americans with Disabilities Act.  Relators have tried to fit a square peg into a round hole and claim that these statements in the PPA mean that any violation of the promises made in that document constitutes "fraud" under the FCA.  In making this argument, relators have relied upon two theories of liability under the FCA:  the so-called "false certification" theory and the "fraud in the inducement" theory.  The viability of relators’ argument is currently the subject of a split of opinion among the Courts of Appeals.

The Fifth Circuit.  Courts in the Fifth Circuit (covering the states of Texas, Louisiana and Mississippi) were the first to encounter these cases.  In a series of actions filed in the late 1990s and early 2000s against various schools (including Computer Learning Center (now defunct), ITT Educational Services, Education America, Lincoln Technical Institute, and Whitman Education), the relators alleged that the schools had violated the incentive compensation provision and that this meant they could be sued for "fraud" under the FCA.  The relators claimed they could proceed under a "false certification" theory (because the schools allegedly falsely "certified" compliance with the incentive compensation provision in the PPA as a condition of receiving Title IV aid) and a "fraud in the inducement" theory (because the schools allegedly "fraudulently induced" the government to enter into the PPA by falsely informing the government that it planned to comply with the incentive compensation provision). 

The courts in the Fifth Circuit flatly rejected these arguments.[1]  These courts found, at the pleading stage on motions to dismiss, that the relators had not alleged a claim for relief and that they could not rely upon either the "false certification" theory or the "fraud in the inducement" theory to establish liability under the FCA.  As for the "false certification" theory, these courts found that there was no "certification" of compliance with the incentive compensation provision made in the PPA and, even if there were, any such certification was not a condition of payment, thereby leading to a "false claim" being paid as a result.  Rather, statements made in the PPA were merely conditions on general participation in the Title IV program.  As the courts properly recognized, there may be thousands of conditions on participation in a government program (like there are in connection with Title IV programs), without all of those conditions being material to the government’s decision to actually pay out funding under the program.  As for the "fraud in the inducement" theory, the courts stated that the theory is "rarely" employed, and should not be employed here because there were no allegations sufficient to demonstrate that the schools had fraudulently entered into the PPAs without any intention of complying with the provisions contained therein.

The Fifth Circuit, in several persuasive, albeit unpublished decisions, affirmed all of these holdings.  The Supreme Court denied certiorari, thereby making these decisions the persuasive law of the Fifth Circuit.

The Seventh and Ninth Circuits.  Unfortunately, the Seventh Circuit (covering the states of Illinois, Indiana, and Wisconsin) encountered the same issues a year later and came to the opposite conclusion.  In a two-page decision issued by a well-respected judge, Judge Easterbrook, the Court of Appeals for the Seventh Circuit found that relators in these cases could proceed with an FCA claim based upon the allegation that the school had violated the incentive compensation provision.[2]  Specifically, the court found that if a relator had adequately alleged a violation of the HEA by a school, and alleged in sufficient (but general) fashion that the school did not intend to comply with the HEA at the time it entered into the PPA, the relator could proceed past the pleading stage — and obtain discovery — on the theory that the school had "fraudulently induced" the government to enter into the PPA. 

Shortly after the Seventh Circuit’s decision, the Ninth Circuit (covering the states of Washington, Oregon, California, Nevada, Arizona, Idaho, Montana, Hawaii, and Alaska) issued a decision of its own, siding with the Seventh Circuit and against the Fifth Circuit.[3]  In that case, just like the ones filed in the Fifth and Seventh Circuits, the relators alleged that the school had committed "fraud" on the government by violating the incentive compensation provision despite its promises not to do so in the PPA.  The Ninth Circuit found that this was sufficient to state a claim for relief under either the "fraud in the inducement" theory or the "false certification" theory.

These decisions by the Seventh and Ninth Circuits — allowing lawsuits against schools to proceed into discovery and potentially trial — resulted in a substantial increase in cases being brought against schools.  In fact, these decision provided relators and their counsel a virtual roadmap for surviving a motion to dismiss and being able to get discovery, which skilled plaintiffs’ lawyers can and do use to impose enormous cost and disruption on schools and exert tremendous pressure on the schools to settle.  While many of these actions have continued to focus on allegations relating to incentive compensation, a number of them have moved beyond that issue to other "promises" made in the PPA and to alleged violations of state regulations or requirements imposed by private accrediting bodies.

There Continue to Be Ways to Seek Dismissal of These Actions

Notwithstanding the decisions by the Seventh and Ninth Circuits, most of the more recent cases brought against schools can and have been dismissed at the pleading stage before discovery is permitted.  In addition to continuing to urge courts to adopt the views of the Fifth Circuit (and reject the views of the Seventh and Ninth Circuits), there are other defenses that schools can assert at the pleading stage to try to defeat these cases.  The most prevalent of these is that the complaint does not actually allege any underlying violation of the law (whether the incentive compensation provision or another law) by the school.  In fact, subsequent to the decision discussed above, the Ninth Circuit recently affirmed a decision to dismiss a qui tam action brought against a school on these grounds.[4]  In that action, the court held that, even if true, the relators’ allegation — that the school terminated recruiters who did not meet enrollment quotas — did not violate the HEA provision, which only prohibits certain forms of compensation and does not prohibit personnel actions.  In other cases, district courts have granted motions to dismiss based on the argument that the conduct alleged by relators was consistent with and permitted by the Department of Education’s "safe-harbor" regulations. 

There are a number of other arguments that can be asserted at the pleading stage or at other times in the case in defense of these actions as well.  For instance, there may be arguments based upon the timing of the PPAs, the statute of limitations, and the jurisdictional requirements set forth in the FCA — specifically the "first to file" bar and the "public disclosure" bar (a topic for a future communication).

Where Do We Go from Here?

Unfortunately, for a number of reasons, we expect to see an increase in the number of qui tam cases filed against educational institutions and it is at least possible that an increasing number of these actions could survive motions to dismiss.  First, as indicated above, the Seventh and Ninth Circuits have essentially given relators and their counsel a roadmap for surviving a motion to dismiss in these circuits and any other circuits that choose to follow them. 

Second, the ability to survive a motion to dismiss, coupled with the draconian remedies that are sought — remedies that would put almost any school out of business — will create tremendous pressure on schools to settle for relatively small amounts that will ensure the survival of the school.  Unfortunately, while such settlement amounts are small compared to the potential exposure, they are likely to be enough to encourage new relators to step forward, and ever hungry plaintiffs’ lawyers to file additional cases.  Although the amounts being reported relating to current settlements may be insufficient to entice top tier qui tam law firms to bring more of these cases — which is very significant — they will likely be sufficient to motivate other plaintiffs’ lawyers who, while not nearly as capable as top tier lawyers, can still file actions that will result in schools having to spend substantial sums of money defending themselves in court, with the Department of Education, with their students, and in the media. 

Third, the recent suggestion by the Department of Education that it intends to eliminate the safe-harbor provisions — which have been a vehicle for arguing and establishing that the conduct alleged by relators did not violate the HEA incentive compensation provision — will, if enacted, likely result in an increase in lawsuits against schools because relators’ counsel will believe that the elimination of the safe harbors will significantly increase the likelihood that their lawsuits will survive a motion to dismiss.  While we may not agree with relators’ counsel on this issue, we do agree — due to the ambiguity of the language of the HEA provision — that elimination of the safe harbors will make this sort of argument more difficult and complicated. 

Fourth, last year, for the first time, the Department of Justice ("DOJ") intervened in one of these cases — it has declined to intervene in every other case on the list below.  Significantly, DOJ did not intervene in the incentive compensation claims but did intervene in the claims relating to alleged violations of state regulatory requirements — which makes little sense because such alleged violations are even further removed from the federal government’s funding decision.  At this point, we do not know if DOJ’s intervention in that one case was an aberration or the potential start of a trend.  Certainly, relators’ counsel will continue to push DOJ to become much more aggressive and involved in these cases.

Finally, the recent amendments to the FCA, which arguably expand its reach, eliminate a number of defenses that were available to defendants.  This has made the FCA even more "relator friendly" and will likely encourage more lawyers to bring more of these types of actions. 

_________________________ 

December 2009

False Claim Act/Qui Tam Cases Involving Schools

Below is a list of the education-related qui tam cases involving incentive compensation and/or the false certification theory of FCA liability of which we are aware:

• U.S. ex rel. Bowman v. Computer Learning Center (S.D. Tex. 1999).  Allegations of improper incentive compensation.  Company forced out of business by huge Department of Education assessment prior to DOJ decision on intervention.
• U.S. ex rel. Graves v. ITT Educational Services, Inc. (S.D. Tex. 1999); 284 F. Supp. 2d 487 (S.D. Tex. 2003), aff’d, 2004 U.S. App. LEXIS 21799 (5th Cir. 2004).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court, dismissal affirmed by Fifth Circuit, cert denied by Supreme Court.
• U.S. ex rel. Bowman v. Education America (S.D. Tex. 2000); 2004 U.S. App. LEXIS 24673 (5th Cir. 2004).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court, dismissal affirmed by Fifth Circuit, cert denied by Supreme Court.
• U.S. ex rel. Gay v. Lincoln Technical Institute (N.D. Tex. 2001); 2003 U.S. Dist. LEXIS 25968 (N.D. Tex. Sept. 3, 2003), aff’d, 2004 U.S. App. LEXIS 21489 (5th Cir. 2004).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court, dismissal affirmed by Fifth Circuit, cert denied by Supreme Court.
• U.S. ex rel. Payne v. Whitman Education Group (S.D. Tex. 2002).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court.
• U.S. ex rel. Mahmoud v. ITT Educational Services, Inc. (C.D. Cal. 2002).  Allegations of grades being inflated for purposes of Cal Grant eligibility.  DOJ declined, case settled with California AG for modest amount.
• U.S. ex rel. Main v. Oakland City University (S.D. Ind. 2003); 426 F.3d 914 (7th Cir. 2005).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court, reversed by Seventh Circuit, cert denied by Supreme Court, case settled for approximately $5 million.
• U.S. ex rel. Hendow v. University of Phoenix (E.D. Cal. 2003); 461 F.3d 1166 (9th Cir. 2006).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court, reversed by Ninth Circuit, cert denied by Supreme Court, settlement discussions ongoing.
• U.S. ex rel. Bott v. U.S. Education Corporation (N.D. Cal. 2004); 262 Fed. Appx. 810, 2008 WL 59364 (9th Cir. 2008).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court, affirmed by Ninth Circuit, cert denied by Supreme Court. 
• U.S. ex rel. O’Connell v. Chapman University (C.D. Cal 2004).  Allegations of noncompliance with requirements imposed by private accrediting body.  DOJ declined, district court denied motion to dismiss (relying on Main) but granted motion for summary judgment, appeal pending.
• U.S. ex rel. Olson v. ITT Educational Services, Inc. (S.D. Ind. 2004).  Allegations of poor quality education, awarding of grades that were not deserved, shoddy facilities and equipment and poor placement opportunities.  DOJ declined, dismissed by district court, not appealed.
• U.S. ex rel. Ortiz v. University of Phoenix (W.D. Tex. 2004).  Allegation of noncompliance with regulatory requirements, improper incentive compensation and undue pressure to enroll and retain students.  DOJ declined, voluntarily dismissed by relator. 
• U.S. ex rel. Jajdelski v. Kaplan Higher Education (D. Nev. 2005).  Allegations of noncompliance with regulatory requirements.  DOJ declined, motion to dismiss pending.
• U.S. ex rel. Ector v. Axia College (D.D.C. 2005).  DOJ declined, voluntarily dismissed by relator.
• U.S. ex rel. Brazell v. Alta Colleges (N.D. Tex. 2005).  Allegations of improper incentive compensation and violations of state regulatory requirements.  DOJ intervened on state regulatory claims.  Case settled for $7 million.
• U.S. ex rel. Gatsiopoulos v. Kaplan Higher Education (W.D. Penn. 2006).  Allegations of improper incentive compensation and noncompliance with regulatory requirements.  DOJ declined, case transferred to Southern District of Florida, motion to dismiss pending.
• U.S. ex rel. Diaz v. Kaplan University (M.D. Fla. 2007).  Allegations of improper incentive compensation and noncompliance with regulatory requirements.  DOJ declined, case transferred to Southern District of Florida, motion to dismiss pending.
• U.S. ex rel. Cruz v. Western Career College (E.D. Cal. 2007).  Allegations of improper incentive compensation.  DOJ declined, voluntarily dismissed by relator.
• U.S. ex rel. Torres v. Kaplan Higher Education (N.D. Ill. 2007).  Allegations of improper incentive compensation.  DOJ declined, case transferred to Southern District of Florida, motion to dismiss pending.
• U.S. ex rel. Shultz v. DeVry, Inc. (N.D. Ill. 2007).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court, settlement discussions ongoing. 
• U.S. ex rel. Leveski v. ITT Educational Services (S.D. Ind. 2007).  Allegations of improper incentive compensation.  DOJ declined, first motion to dismiss granted, second motion to dismiss pending.
• U.S. ex rel. Lee v. Corinthian Colleges (C.D. Cal. 2007).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court.
• U.S. ex rel. Fuhr v. Corinthian Colleges (C.D. Cal. 2007).  Allegations of improper incentive compensation.  DOJ declined, dismissed by district court.
• U.S. ex rel. Backhus v. Corinthian Colleges (M.D. Fla. 2007).  Allegations of improper incentive compensation.  DOJ declined, voluntarily dismissed by relator.
• U.S. ex rel. Irwin v. Grand Canyon University (D. Ariz. 2007); 2009 U.S. Dist. LEXIS 13832 (Feb. 10, D. Ariz. 2009).  Allegations of improper incentive compensation.  DOJ declined, motion to dismiss denied, settlement discussions ongoing.
• U.S. ex rel. Brodale v. Apollo Group (S.D. Cal. 2008).  Allegations of financial aid fraud and improper incentive compensation.  DOJ declined, dismissed by district court.
• U.S. ex rel. Powell v. American Intercontinental University (N.D. Ga. 2008).  Allegations of improper incentive compensation.  DOJ declined, motion to dismiss pending.

Gibson, Dunn & Crutcher lawyers are available to assist in addressing any questions you may have regarding the issues discussed above.  Please contact the Gibson Dunn attorney with whom you work, or any of the following:

Los Angeles
Timothy Hatch (213-229-7368, [email protected])  
James Zelenay (213-229-7449, [email protected])

Orange County
Wayne Smith (949-451-4108, [email protected])
Nick Hanna (949-451-4270, [email protected])
Jared Toffer (949-451-4025, [email protected])

Washington, D.C.
Douglas Cox (202-887-3531, [email protected])

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