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May 2, 2018

Best Practices: False Claims Act Liability and the need to make a “CLAIM”

by Norman E. Greenspan

We have written previously on the Small Business Administration’s increased use of the federal False Claims Act (“FCA”) against lenders who fail to follow the SBA’s Standard Operating Procedures (“SOPs”) in considering and underwriting loans that have gone into default and for which the lender has subsequently requested the SBA to purchase the guaranteed portion of the loan.  These articles focus on whether the lender “knowingly” makes a claim that is false simply because it has failed to follow the particulars of the SOPs.  Based on press releases from the U.S. Department of Justice following FCA settlements with lenders, the DOJ takes the position that by failing to follow the SOPs, the lender “should have known” that any claim that it makes under the SBA’s loan guaranty program is false.  The focus of these articles was on the theories of what is “knowingly false” that the government has used to pursue FCA claims against lenders.  There is another step to a proper FCA analysis that hasn’t gotten much attention of late:  whether and under what circumstances an SBA lender makes a “claim” that is cognizable under the FCA.

The FCA has been around since the civil war.  Congress wanted to stop the plundering of the Treasury by unscrupulous vendors of worthless goods to the Union Army.  At the same time, it is clear that the FCA was not designed to address every kind of fraud that could be visited on the U.S. Government.  United States v. McNinch, 356 U.S. 595 (1958).  Over the more than 150 years that the FCA has been in existence, it has been modified and amended on numerous occasions.  The focus of each of the various versions of the FCA has been on a false “claim” made for money or property of the United States, and not merely whether a false statement was knowingly made at some step in the process (which likely is a crime separate and apart from whether there is a false claim).  In its present form, a claim under the FCA is defined as “any request or demand, whether under a contract or otherwise, for money or property and whether or not the United States has title to the money or property that … is presented to an officer, employee, or agent of the United States….”  31 U.S. Code § 3729 (b)(2).  “[T]he conception of a claim against the government normally connotes a demand for money or for some transfer of public property.” United States v. Tieger, 234 F.2d 589, 591(3d. Cir. 1956).

Under the SBA loan program, a borrower applies to a lender for a loan that, if granted, will be guaranteed in substantial part by the SBA.  If a borrower makes a false statement in applying for an SBA loan, or the lender fails to follow the SBA’s rules in approving the loan, the  result is the SBA undertaking an obligation to expend funds only if the loan goes into default.  This is not enough for there to be a cognizable claim under the FCA.

Once a loan goes into default, it is then up to the lender to request payment of the guaranteed portion of the loan.  There still needs to be a demand made on the SBA to make payment on the guaranty in order for there to be a “claim” necessary for the proper invocation of the FCA.  See, United States v. McNinch, 356 U.S. 595, 599 (1958); United States v. Tieger, 234 F.2d 589, 591 (3d. Cir. 1956); United States v. Van Oosterhout, 96 F.3d 1491 (D.C. Cir. 1996); United States ex rel. Taylor v. Gabelli, 345 F. Supp. 2d 313 (S.D.N.Y. 2004); United States ex rel. Bibby v. Wells Fargo Bank, N.A., 165 F. Supp. 3d 1340 (N.D.Ga. 2015).

In making a demand on the SBA to honor its guaranty, the lender must “certify to the best of my knowledge and belief that [Lender] has materially complied with the SBA Loan Program Requirements (as defined in 13 CFR 120.10) applicable to this loan.”  Consequently, if a lender fails to properly underwrite the loan, or adhere to the SOPs, but requests the SBA to make good on its guaranty of a loan that has gone into default, the lender is then making a “claim” on the SBA for the payment of money even though its certification of compliance with SBA policies and procedures is false.

The import of this for the SBA lending community is the opportunity that the guaranty purchase process provides for the lender to make sure that the loan was properly underwritten in the first place, before making a “claim” that may have FCA liability.  If for whatever reason a loan was not properly underwritten, or the SOPs were not properly followed in the loan making process, the lender will be incurring FCA liability by making a request that the SBA make payment on its guaranty obligation.  This process provides the lender with a second chance to make things right before incurring FCA liability.

For more information on False Claims Act liability in the SBA loan programs, contact Norman at 215-390-1025 or at greenspan@starfieldsmith.com.