Seventh Circuit rejects government's preferred damages approach, affirms corporate knowledge, limits mitigation to claims actually disclosed

by Ben Vernia | March 25th, 2013

In a March 21 decision in U.S. v. Anchor Mortgage Co., the Seventh Circuit Court of Appeals affirmed the Northern District of Illinois’ ruling in favor of the government in a False Claims Act case, but rejected the government’s preferred method of computing damages.

The government brought the case against a mortgage company and its CEO, and the district court ruled following a bench trial that the defendants had lied when applying for federal guarantees on 11 loans: the company, the court found, had submitted false certificates from borrowers attesting that they had received down payments from relatives, and had falsely certified that it had not paid anyone for referring clients to it.

The Seventh Circuit first rejected the defendants’ argument that they lacked knowledge of the certifications’ falsity. The head of one of the company’s branch offices “knew what was going on,” the court reasoned: “Corporations ‘know’ what their employees know, when the employees acquire knowledge within the scope of their employment and are in a position to do something about that knowledge.” Likewise, the court rejected the CEO’s argument that he believed the referral fees to be proper under federal regulations. The CEO conceded, Judge Easterbrook wrote, that the final paperwork for a “controlled business arrangement” under the regulations had not been finalized, and so the district court was not clearly erroneous in concluding that he knew the statements were false.

Turning to damages, the court first rejected the defendants’ argument that they had disclosed the violations and so the court should have imposed only double damages, under 31 USC 3730(a)(2), instead of treble damages, under 31 USC 3730(a)(1). The court noted that the defendants had not disclosed the 11 loans involving fraudulent documents: “Coming clean 29 days after submitting one false claim does not mitigate the penalty for other false claims that had been submitted months earlier.” In addition, the court wrote, the government had given the company credit for coming forward by not seeking penalties on the self-disclosed loans.

The court agreed with the defendants, however, regarding the proper computation of treble damages. The district court had trebled the amounts the U.S. had paid to lenders under the guarantees, and then subtracted the amounts it had received from selling the property. (The court called this the “gross trebling” method.) The defendants urged the court to deduct recovered amounts from the amounts paid out, and then treble the net amount (the “net trebling” method).

Judge Easterbrook noted that the False Claims Act is silent on which method to apply, “[n]either does it signal a departure from the norm” – which he described as net trebling, citing the Clayton Act, and common law contract practice: “Mitigation of damages is almost universal.”

The government argued that gross trebling was required under U.S. v. Bornstein, 423 U.S. 303 (1976). In Bornstein, the government had contracted with Model Engineering for radio kits that were to include tubes meeting military specifications. Model, in turn, bought tubes from United National Labs, which falsely represented that they met mil-spec standards. The government sued United and two of its officers, but Model had paid to the government for breaching its contract. Under a prior version of the FCA, the damages were to be doubled, and the Supreme Court concluded: ““the Government’s actual damages are to be doubled before any subtractions are made for compensatory payments previously received by the Government from any source.”

The Seventh Circuit was not persuaded, however, that Bornstein required gross trebling. First, the court noted, a footnote attached to the sentence just quoted defined damages in a net fashion: “The Government’s actual damages are equal to the difference between the market value of the tubes it received and retained and the market value that the tubes would have had if they had been of the specified quality. C. McCormick, Law of Damages §42, p. 137 (1935).” The court rejected the government’s argument that the footnote was mere dictum: “The footnote uses the common law’s established approach to determining damages; it is not as if some law clerk were off on a lark and the Justices missed the error.”

Noting that most appellate decisions since Bornstein employed a net trebling approach, the Seventh Circuit remanded the case for the district court to do the same.

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