Potentially adding to continued confusion regarding what to make of materiality in Escobar's wake, two more recent cases — one stemming from the Eastern District of Pennsylvania and the other from the Court of Federal Claims — have addressed when FCA claims fail because the government paid the bill with knowledge of the alleged noncompliance with underlying rules or requirements. In both cases, defendants urged the courts to strike down FCA claims by relying on Escobar’s holding that “if the Government pays a particular claim in full despite its actual knowledge that certain requirements were violated, that is very strong evidence that those requirements are not material.” Universal Health Servs., Inc. v. United States, 136 S. Ct. 1989, 2003-04 (2016). The Court of Federal Claims, after a trial, agreed with defendants, while the Eastern District of Pennsylvania, on a motion to dismiss, did not.

E.D. Pa.: Just the Pleadings, Please

In Smith v. Carolina Medical Center, a former clinical director at a mental health care center brought a qui tam action in 2011 alleging fraudulent Medicare and Medicaid billings by various clinics because of the participation of an “excluded person” (Melchor Martinez, convicted of Medicaid fraud in 2000) in the management of the clinics and the subsequent concealment of that fact by the clinics. No. CV-11-2756, 2017 WL 3310694 (E.D. Pa. Aug. 2, 2017). In the wake of the Supreme Court’s decision in Escobar, defendants briefed materiality and argued that, among other things, Martinez’s involvement was immaterial to the government’s decision to pay because the government had knowledge of Martinez’s continued involvement at least from the filing of the qui tam action in 2011, after which the government continued to pay the claims.

Smith rejected defendants’ materiality argument due, in large part, to the fact that they relied on allegations outside the complaint and inferences against the government about its knowledge, which are prohibited at the motion to dismiss phase. The court explained that the complaint “does not show that the government knew of Martinez’s involvement as a result of the qui tam complaint, and therefore this does not outweigh other allegations supporting materiality.” Like many other courts, Smith also relied on the First Circuit’s decision on remand in Escobar that “mere awareness of allegations concerning noncompliance with regulations is different from knowledge of actual noncompliance” and that even in the face of actual knowledge of violations, “such knowledge is not dispositive.” United States ex rel. Escobar v. Universal Health Servs., Inc., 842 F.3d 103, 110-112 (1st Cir. 2016); see also United States ex rel. Brown v. Pfizer, Inc., No. CV 05-6795, 2017 WL 1344365, at *11 (E.D. Pa. Apr. 12, 2017), stay granted, motion to certify appeal granted, No. CV 05-6795, 2017 WL 2691927 (E.D. Pa. June 22, 2017).

Although the court acknowledged D’Agostino v. ev3, Inc., 845 F.3d 1 (1st Cir. 2016), which we wrote about previously, where the First Circuit stated that Medicare and Medicaid’s failure to deny reimbursement after the relator’s complaint was filed “casts serious doubt on the materiality of the false representations,” the court noted that the First Circuit’s decision rested on causation, not materiality. Ultimately, Smith’s narrow decision signaled some hesitancy to kick cases on materiality grounds at the motion to dismiss stage, notwithstanding Escobar’s admonition that courts should be able to apply the rigorous materiality test on the pleadings alone.

Fed. Cl.: After Trial, Materiality Is an Easier Target

In RDA Construction Corp. v. United States the Navy awarded RDA a contract to demolish a wharf and construct new sections of steel sheet pile bulkhead. No. 11-555 C, 2017 WL 318428 (Fed. Cl. July 27, 2017). Eventually, RDA filed an action against the Navy in the Court of Federal Claims based on the contracting officer’s denial of its certified claim for increased costs for the project. The government then brought a FCA counterclaim alleging that RDA violated the FCA because it knowingly submitted twenty invoices to the Navy that contained false representations about the specific work it completed under the contract and the payments it made to subcontractors and suppliers.

Unlike in Smith, there was a fully developed trial record on which RDA could mount its materiality challenge. The Court of Federal Claims denied the government’s counterclaim, ultimately holding that none of the alleged violations were material to the government’s decision to pay in large part because the evidence showed that when it chose to pay RDA, it had full contemporaneous knowledge of RDA’s failure to perform the specific parts of the work at issue. In other instances, the government had not even endeavored to address materiality in its post-trial briefs.

Are Courts Ignoring the Premise of Escobar’s Footnote 6?

At first blush, the two recent opinions appear to take divergent approaches on whether materiality can be demonstrated where the government has knowingly continued to pay a defendant after receiving knowledge that requirements were violated. That divergence, however, seems to be based on the procedural posture and factual development of the respective cases. The Smith Court simply could not find enough facts without going outside the pleadings to negate materiality, whereas the RDA Court had a complete factual record on which to address the issue.

Smith’s reluctance to dismiss on the pleadings appears contrary at least to the spirit of the Supreme Court’s statement in Escobar footnote 6 that it “reject[s] Universal Health’s assertion that materiality is too fact intensive for courts to dismiss False Claims Act cases on a motion to dismiss or at summary judgment. The standard for materiality that we have outlined is a familiar and rigorous one. And False Claims Act plaintiffs must also plead their claims with plausibility and particularity under Federal Rules of Civil Procedure 8 and 9(b) by, for instance, pleading facts to support allegations of materiality.” Unless courts find means to apply the materiality standard rigorously even at the motion to dismiss stage, defendants’ greatest fears will be realized — that meritless cases will push on to expensive discovery and potential settlement based on a bare allegation of materiality. For example, courts should require defendants actually to plead that the government stopped payment or that the government lacked knowledge of the noncompliance, with the specificity required by Rule 9(b), before allowing such cases to proceed. Stay tuned in any event, as the Escobar sausage-making continues.