February 23, 2010
In this communication we discuss the issue of what is the proper measure of damages in the False Claims Act ("FCA") cases that have been brought against for-profit schools for alleged violations of the so-called "incentive compensation" provision of the Higher Education Act ("HEA") or other statutory or regulatory requirements with which schools must comply in order to be eligible to participate in Title IV programs. In light of the fact that, to date, no judge or jury has awarded damages to a single plaintiff or relator in a qui tam case brought against a school (as opposed to obtained a settlement), and no court has ruled on the issue of what is the proper measure of damages, you might ask why should I be concerned about this issue? The reason is simple — it is, in our opinion, this issue, and the "pot of gold" that relators and their counsel believe is at the end of the education rainbow, that entices relators and their counsel to continue to bring these actions (notwithstanding their very poor track record to date) and that forces schools to seriously consider settling qui tam actions that are able to get past a motion to dismiss.
Under the FCA, even in cases in which the Department of Justice declines to intervene, a defendant is potentially liable for "3 times the amount of damages the Government sustains because of the act of that person." In addition, a defendant can be assessed a "civil penalty" of up to $11,000 for every false claim submitted to the Government. 31 U.S.C. § 3729(a). The FCA does not provide a mechanism for calculating the government’s actual damages. Instead, Congress intended courts to fashion the appropriate measure of damages on a case-by-case basis, with an eye toward liberally measuring damages to "effectuate the remedial purposes" of the FCA:
No single rule can be, or should be, stated for the determination of damages under the Act . . . Fraudulent interference with the government’s activities damages the government in numerous ways that vary from case to case. Accordingly, the committee believes that the courts should remain free to fashion measures of damages on a case by case basis. The Committee intends that the courts should be guided only by the principles that the United States’ damages should be liberally measured to effectuate the remedial purposes of the Act, and that the United States should be afforded a full and complete recovery of all its damages.
United States v. Killough, 848 F.2d 1523, 1532 (11th Cir. 1988) (quoting S. Rep. No. 615, 96th Cong., 2d Sess. at 4.). For these reasons, there has been significant variation in the manner in which courts have calculated damages.
Some courts, including the Ninth Circuit, have stated that the general measure of damages in an FCA case is the "amount that [the Government] paid out by reason of the false statements over and above what it would have paid if the claims had been truthful." United States v. Mackby, 339 F.3d 1013, 1018 (9th Cir. 2003) (quoting United States v. Woodbury, 359 F.2d 370, 379 (9th Cir. 1966)). How this rule is applied in a given case, however, is influenced by the nature of the fraud and the type of government transaction affected by it.
Relators’ theory of damages is quite simple. They contend that "but for" the school’s false certification or representation that it would comply with the incentive compensation provision (or whatever other provision is at issue in the lawsuit), the school would not have been able to enter into a Program Participation Agreement and, in turn, be eligible to participate in the full array of Title IV programs. Thus, they contend that the aggregate amount of all Title IV program funds provided to students who choose to attend the school during the time period relevant to the lawsuit (usually at least several years) is the proper measure of damages — trebled. And with regard to civil penalties, relators have contended that a school makes a false claim, and should be assessed an $11,000 civil penalty, every time one of its students applies for Title IV financial aid. Obviously, this produces huge, indeed obscene, numbers — with regard to both damages and civil penalties.
Oftentimes, relators recognize that the Government is not damaged by loans that are re-paid by students and will either modify or present an alternative damages theory that is based on three components: (1) loans on which the student defaults and on which the Government is required to make good on its guarantee; (2) all Pell Grants provided to students who attend the school; and (3) and the amounts the Government subsidizes in connection with guaranteed loans — again, trebled. This produces a lower, but still very large damages number.
The schools’ theory of damages is equally simple. We contend that relators must prove a direct or "causal link" between the alleged false certification or representation and the resulting damages. In other words, relators must prove that the alleged conduct (i.e., a violation of the incentive compensation provision) not only occurred but that it caused the school to enroll students who were not "eligible" or "qualified" to receive federal loans or grants. After all, if an eligible or qualified student uses Title IV program funds to attend the school of his or her choice, the Government has received the benefit of its bargain and is not damaged in any way, even if the school did pay improper incentive compensation to its recruiters. This approach seems consistent with the Ninth Circuit’s decision in the Hendow case and the Seventh Circuit’s decision in the Main case, as the courts there recognized that the Title IV limits on incentive compensation were "meant to curb the risk that recruiters will ‘sign up poorly qualified students who will derive little benefit from the subsidy and may be unable or unwilling to repay federally guaranteed loans’." United States ex rel. v. Univ. of Phoenix, 461 F.3d 1166, 1169 (9th Cir. 2006) (quoting United States ex rel. Main v. Oakland City Univ., 426 F.3d 914, 916 (7th Cir. 2005)).
And with regard to civil penalties, we have contended that the claims are limited to the Program Participation Agreements entered into by the school which contain the allegedly false certification or representation. Thus, in most cases, the number of potential false claims — which would each be subject to an $11,000 civil penalty — would be relatively small.
The bottom line is that the law on this issue, both generally and in particular with regard to education qui tam cases, is not settled and is continuing to evolve. We are not aware of any court, in the context of an education qui tam case, addressing the issues of what would be the appropriate measure of damages or how would civil penalties be determined. The reason for this is that issues relating to damages are usually decided towards the very end of a case — often in the context of jury instructions which are determined towards the very end of trial — and are unlikely to be raised or resolved in pre-trial motions. This uncertainty — both with regard to what standard will be applied and not knowing the answer to that critical question until the end of trial — puts significant pressure on schools to settle qui tam cases that survive motions to dismiss.
In other FCA cases involving issues of program eligibility, loan programs, and false certifications or representations, courts have addressed these issues. Some courts have adopted the more favorable "causal link" approach. See United States ex rel. Harrison v. Westinghouse Savannah River Co., 352 F.3d 908 (4th Cir. 2003); United States v. Miller, 645 F.2d 473 (5th Cir. 1981); United States v. Hibbs, 568 F.2d 347 (3rd Cir. 1977). The approach adopted by these courts places a much higher evidentiary burden on relators. In Hibbs and Miller, for example, the courts recognized that a loan default can result from factors that may be entirely unrelated to any false statements made to obtain the Government’s guarantee of the loan. This approach suggests that the Government is damaged only when federal funds, whether through a loan or a grant, are provided to students who are not eligible for or in a position to benefit from higher education and that relators would have the burden of establishing — potentially on a case-by-case basis — which students are not eligible or could not benefit.
At least two circuits, however, have applied a "but-for" measure of liability, measuring damages based on all monies paid out by the government because of a false statement or certification. See United States v. Rogan, 517 F.3d 449 (7th Cir. 2008); United States v. First National Bank of Cicero, 957 F.2d 1362 (7th Cir. 1992); United States v. Ekelman & Assoc., Inc., 532 F.2d 545 (6th Cir. 1976). In the case of guaranteed loans, for example, the defendant would be potentially liable for all loan funds disbursed, whether or not the student later defaulted. Similarly, with respect to grants, the institution would potentially be liable for all grant funds disbursed, whether or not the funds were used for their intended benefit. The "but-for" approach outlined above would likely place the lowest evidentiary burden on relators. Under the "but-for" approach, all relators would need to show is that had the Government known that the institution was not in compliance with the incentive compensation rules — and never intended to comply — it would not have certified the institution for participation in Title IV programs and would not have the provided any financial aid to students at the school.
While significant uncertainty remains as to what measure of damages a court will apply in a given case, there are several important policy and factual arguments to consider that may help persuade a court that the Government has not suffered damages or that the "causal link" standard is the most appropriate standard to apply:
1. The Department of Education Is Not Damaged by a Violation of the Incentive Compensation Provision. The Department has explained, in an internal policy memorandum, that a violation of the "incentive compensation" provision does not result in any monetary damage to the government. Specifically, the Department has stated, "[t]he Department has in the past measured the damages resulting from a violation [of the statute] as the total amount of student aid provided to each improperly recruited student" but "the preferable approach is to view a violation of the [statute] as not resulting in monetary loss to the Department." October 30, 2002 Memorandum from the Deputy Secretary. The Department went on to state that, "[i]mproper recruiting does not render a recruited student ineligible to receive student aid funds for attendance at the institution on whose behalf the recruiting is conducted."
2. There Is Evidence That the Government Collects More Than 100% of Defaulted Loans. Defaulted loans assigned to the Department are subject to collection efforts that include: (1) offset of federal and/or state income tax refunds, (2) administrative wage garnishment, (3) federal employee salary offset, and (4) legal action by the Department. In light of these collection tools, the Government has set forth in its Federal Credit Supplements, contained in the Federal Government’s annual budgets, an average recovery rate of 106% on defaulted loans over the 12 years from 1998 through 2009. See www.gpoaccess.gov/usbudget/browse.html. According to these calculations, the Federal Government suffers no damages from defaulted loans.
3. The Department Has Set a Low Threshold for Determining Whether a Student Is "Qualified" (i.e. "Eligible") to Receive Title IV Funds. While there is no clear definition of what constitutes a qualified student, there are sound arguments that a student is "qualified" if he or she meets the Government’s minimum eligibility requirements for obtaining Title IV aid. As the Department has stated, the Federal Student Aid ("FSA") team "is passionately committed to making education beyond high school more attainable for all Americans, regardless of socioeconomic status. By championing access to postsecondary education, [FSA] uphold[s] its value as a force for greater inclusion in American society and for the continued vitality of America as a nation." The FSA’s "core mission is to ensure that all eligible individuals benefit from federal financial assistance grants, loans and work-study programs for education beyond high school." http://studentaid.ed.gov/PORTALSWebApp/students/english/aboutus.jsp To meet its goal of providing federal financial aid to all "eligible" students, the Department has established the minimum standards for determining whether a student is qualified to receive federal financial aid. In order to receive aid from the Department’s programs, the student must:
1. demonstrate financial need (except for certain loans);
2. have a high school diploma or a General Education Development (GED) certificate . . . ;
3. be working toward a degree or certificate in an eligible program;
4. be a U.S. citizen or eligible noncitizen;
5. have a valid Social Security Number . . . ;
6. register with the Selective Service if required . . . ;
7. maintain satisfactory academic progress once in school;
8. certify that [they] are not in default on a federal student loan and do not owe money on a federal student grant; and
9. certify that [they] will use federal student aid only for educational purposes.
4. Other Proxies May Be Used to Establish a Student Is Qualified. In addition to meeting the low threshold established by the Department, a student is arguably "qualified" if he or she is a graduate student, has prior transfer credits from another institution, or has successfully completed a certain number of credits at the institution in question. All of these proxies can also show, on a case-by-case basis, that particular students did, in fact, have the ability to benefit from the education and received Title IV funds consistent with the Government’s goal of greater access.
5. Low Cohort Default Rates. If the institution’s cohort default rate is below the requirements imposed by the Department for maintaining eligibility in Title IV programs, see, e.g., 34 C.F.R. 668.187 (institutions lose eligibility if most recent cohort default rate is 40% or greater or last three cohort default rates are 25% or greater), there is a strong argument that the institution is fulfilling the goals of the Title IV programs. Cohort default rates below the threshold and consistent with similar institutions can demonstrate that the institution’s students are qualified, benefiting from their education, and repaying their loans.
6. As the Computer Learning Center Debacle Demonstrated, Requiring Repayment of All Title IV Funds Received Would Lead to Unintended and Undesirable Results. Requiring an institution to pay three times the amount of all Title IV funds received would put most, if not all, institutions out of business. This, in turn, would result in the Government being unable to collect much of the damages awarded in these cases. Moreover, because currently enrolled students could discharge their loan debts, the Government would stand to lose a significant amount of money and significant collateral damage would result. For example, faculty and staff would lose their jobs, students would be unable to finish their education and, for graduates, the value of a degree from the institution would be dramatically diminished. This makes no sense and runs counter to the policies set forth in the Policy Memorandum from the Deputy Secretary.
7. Additional Arguments May Apply Based on the Type of Program Funds at Issue. Certain grant programs such as TEACH, ACG and SMART have program requirements that establish whether a student is "eligible" or "qualified." As such, those types of funds should never be included in a damages calculation based on the enrollment of unqualified students. Similarly, graduate loan programs should never be included, as graduate students are, by definition, "qualified." Finally, if parents are taking out the loans in question (e.g. PLUS loans), there is no tie between the qualifications of the student and a future default on the loan such that these types of funds should be included in any damages analysis.
The uncertainty regarding the appropriate measure of damages in education qui tam cases will continue to be the driving force behind this type of litigation. The potential for a big pay day continues to make these cases appealing to potential relators and relators’ counsel. Similarly, the danger that the Court will rule that the appropriate measure of damages is all Title IV funds disbursed will continue to put significant pressure on schools to settle cases that get past a motion to dismiss.
Gibson Dunn will continue to keep a close eye on developments as they relates to the calculation of damages in FCA cases, particularly in the context of "incentive compensation" qui tam actions.
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:
Wayne W. Smith (949-451-4108, email@example.com)
Joseph P. Busch III (949-451-3898, firstname.lastname@example.org)
Nicola T. Hanna (949-451-4270, email@example.com)
Jared M. Toffer (949-451-4025, firstname.lastname@example.org)
© 2010 Gibson, Dunn & Crutcher LLP
Attorney Advertising: The enclosed materials have been prepared for general informational purposes only and are not intended as legal advice.