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Seventh Circuit Adopts Proximate Cause Standard In Fca Cases, Overrules Causation Precedent

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  • Posted on: Nov 15 2017

It has been some time since this Blog has written about the False Claims Act (“FCA”). In today’s post, this Blog looks at the Seventh Circuit’s recent embrace of the proximate cause standard for claims arising under the FCA.

In United States v. Luce (here), the Seventh Circuit overruled its longstanding precedent for alleging causation in cases arising under the FCA. In doing so, the Seventh Circuit joined its sister circuits in holding that the government and whistleblowers must prove that the false claim was the proximate (i.e., foreseeable), as opposed to the “but-for”, cause of the government’s loss.

Background Facts

Luce arose from allegations that Robert S. Luce (“Luce”), the president and owner of MDR Corporation, a mortgage loan correspondent, submitted false certifications regarding his criminal history in order to participate in the Housing and Urban Development (“HUD”) mortgage insurance program. In particular, the government alleged that following his indictment in an unrelated matter, MDR filed Yearly Verification Reports (“V-form”) certifying that none of MDR’s officers, including Luce, were involved in any criminal proceedings. According to the government, those certifications violated applicable program rules.

As a result of the false certifications, the government claimed that it had incurred substantial damages. For example, in the three years during which the false V-forms were submitted, MDR originated 2,500 loans. Approximately ten percent of those loans were in default, causing the government to pay millions of dollars under the insurance program.

Upon learning of the false certifications, HUD’s Office of the Inspector General initiated an investigation into MDR and Luce. Following the investigation, Luce was debarred from the HUD program.

District Court Proceedings

The government filed an action under the FCA, seeking treble damages and civil penalties for HUD’s net loss on the loans that MDR originated since Luce’s indictment and that subsequently went into default. After both parties moved for summary judgment on liability, the district court entered judgment for the government. The court held that Luce violated the FCA in connection with the V-forms, finding that since Luce signed the forms aware of his criminal indictment, the certification in the forms was knowingly false when made. The district court concluded that “[b]ecause the certification on the V-forms constituted fraud in fulfilling a prerequisite to receiving government funds,” it was material as a matter of law.

Thereafter, the government moved for summary judgment on the issue of damages. In its motion, the government argued that it was entitled to “three times HUD’s net loss on the 237 loans that Luce’s MDR Mortgage Corporation originated between the relevant dates.” Luce opposed the motion on various grounds, including that the government was required to establish “the foreseeability of the damages it claims” and that “[a] reasonable jury could conclude that it was not foreseeable … that he would be responsible for future borrower defaults on 237 loans because of his misrepresentations on the V forms.”

Before the district court ruled on the government’s motion, the Supreme Court decided Universal Health Services, Inc. v. United States ex rel. Escobar, 136 S. Ct. 1989 (2016) (“Escobar”), which addressed the question of materiality in FCA cases. (This Blog wrote about Escobar, here and here.)  As a result, the district court ordered additional briefing on “the Court’s ruling as to liability.” In response, Luce contended that his V-form certifications were not material under Escobar. With regard to the causation issue, Luce argued that the Supreme Court’s instruction in Escobar to apply common-law fraud principles required the application of proximate, rather than but-for, causation.

The district court granted the government’s motion, finding that Luce’s false certifications were material under Escobar’s heightened materiality standard and the “but-for” cause of the government’s losses. In ruling for the government on causation and damages, the district court rejected Luce’s argument that Escobar impliedly overruled Seventh Circuit precedent (i.e., United States v. First National Bank of Cicero) concerning the standard for causation in FCA cases.

The Seventh Circuit’s Ruling

On the issue of materiality, the Seventh Circuit affirmed the district court’s finding that the government satisfied Escobar’s heightened pleading standard. Under Escobar, when a defendant submits a claim for government payment, the defendant must not “merely request payment”; it must “make[ ] specific representations about the goods or services provided.” 136 S. Ct. at 2001. When the submission involves an omission – that is, the defendant’s “failure to disclose noncompliance with material statutory, regulatory, or contractual requirements” – it must rise to the level of “misleading half-truths.” Id.  In Luce, the rules applicable to the insurance program affirmatively prohibit program participation by loan correspondents who have had a principal “indicted for, or … convicted of, an offense” bearing on the loan correspondent’s integrity. The Court noted that the false certifications materially violated these rules. In fact, “they were lies that addressed a foundational part of the Government’s mortgage insurance regime, which was designed to avoid the systemic risk posed by unscrupulous loan originators.” Proof of materiality, said the Court, was further shown by the government’s reaction upon learning the truth about Luce’s background and false certifications – HUD instituted debarment proceedings to end Luce’s participation in the program so that no future payments could be made.

In affirming the district court’s materiality finding, the Court rejected Luce’s arguments that: (1) the government approved insurance on new loans after learning of the false V-forms; (2) the government allowed MDR to continue operating as a loan correspondent for two years when no V-forms were on file; (3) the V-forms were not considered when making the decision to insure any specific loan; and (4) HUD stopped regulating loan correspondents entirely. In this regard, the Court found:

First, the Government’s actions following its discovery of his fraud support, rather than undercut, a finding of materiality. Although new loans were issued, the Government also began debarment proceedings, culminating in actual debarment. There was no prolonged period of acquiescence.

Second, Mr. Luce’s contention that HUD allowed MDR to operate without V-forms for two years is simply not supported by the evidence. Although the V-form for 2006 could not be located, the Government submitted undisputed evidence that, had MDR failed to submit the V-form, HUD would have terminated MDR’s FHA-approval.

Third, Mr. Luce’s argument that the certification was not tied to any particular loan misses the mark; the V-form certification was a threshold eligibility requirement that, by extension, was tied to every loan. That is to say, without the V-form, he could not have originated a single mortgage.

Finally, the contention that HUD stopped regulating loan correspondents in 2010 is simply inaccurate. Rather, the 2010 amendments required that loan correspondents seek a sponsorship relationship with approved mortgagees, who in turn assume responsibility for the loan correspondents. This structural shift in no way suggests that the actions of loan correspondents are not material; if anything, it demonstrates that their actions are of sufficient import that further supervision by an intermediary is required.

Emphasis added; footnotes omitted.

On the issue of causation, which was “at the heart of [the] appeal,” the Court reversed the district court, holding that FCA plaintiffs must prove that the false claim was the proximate cause of the government’s losses.

The Court noted that although the Supreme Court did not specifically address causation in Escobar, it nevertheless instructed the courts to interpret the FCA consistently with common-law fraud principles absent an indication that Congress intended otherwise. At common law, a fraudulent misrepresentation is the legal cause of a monetary loss “only if the loss might reasonably be expected to result from” reliance on the misrepresentation. The Court explained that this analysis “comports with the FCA’s statutory purpose” because it “separates the wheat from the chaff, allowing FCA claims to proceed against parties who can fairly be said to have caused a claim to be presented to the government, while winnowing out those claims with only attenuated links between the defendants’ specific actions and the presentation of the false claim.” (Citation omitted.)  Consequently, the Court overruled its longstanding precedent and joined its sister circuits (including the Third, Fifth, Tenth, and D.C. Circuits), which had adopted proximate causation as the standard for proving causation.

Having ruled on the causation standard to apply, the Court remanded the matter to the district court to decide whether the government could establish that Luce’s false certifications, as opposed to the defaults by mortgagors that would have occurred regardless of the certifications, proximately caused the government’s harm.

Takeaway

In Luce, the Seventh Circuit abandoned its longstanding causation standard for proving damages under the FCA. The decision comes 25 years after the Court adopted its “but-for” standard, which required only a showing that damages would not have occurred if not for the alleged fraudulent conduct. As the Court noted in Luce, it had been the outlier among the circuits that had addressed the question. Now, all circuits addressing the issue agree that the plaintiff must demonstrate a causative link between the defendant’s alleged fraudulent conduct and the requested damages – specifically, that the “conduct was a material element and substantial factor in bringing about the injury” and that “the injury is of the type a reasonable person would see as a likely result of the conduct.” By joining the other circuits on the issue, the Seventh Circuit has shifted the pendulum in favor of defendants, making it more difficult for the government and whistleblowers to survive pre-trial motion practice.

 

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