In its decision in United States ex rel. Rostholder v. Omnicare, Inc.—a case where regulatory noncompliance was sufficiently alleged—the Fourth Circuit resisted attempts to “sanction use of the False Claims Act as a sweeping mechanism to promote regulatory compliance.” No. 12-2431, 2014 WL 661351, at *6 (4th Cir. Feb. 21, 2014). Instead, the court made clear that unless compliance with the regulation at issue is a prerequisite to payment by the government, there is no FCA violation. This decision represents another example of courts adhering to the Supreme Court‟s admonition against transforming the FCA into “an all-purpose antifraud statute.” Allison Engine Co. v. United States ex rel. Sanders, 553 U.S. 662, 672 (2008). See, e.g., United States ex rel. Mikes v. Straus, 274 F.3d 687 (2d Cir. 2001); United States ex rel. Wilkins v. United Health Group, Inc., 659 F.3d 295 (3d Cir. 2011); United States ex rel. Steury v. Cardinal Health, Inc., 625 F.3d 262 (5th Cir. 2010); United States ex rel. Chesbrough v. Visiting Physicians Ass’n, 655 F.3d 461 (6th Cir. 2011); United States ex rel. Hobbs v. MedQuest Assocs., 711 F.3d 707 (6th Cir. 2013). See also FraudMail Alert No. 10-11-03, Fifth Circuit Holds “Prerequisite to Payment” is a Fundamental Requirement in Establishing “Falsity” in a False Certification Case (Nov. 3, 2010); FraudMail Alert No. 11-08-31, Sixth Circuit Joins Second and Fifth Circuits in Holding That FCA Claims Based on Implied False Certifications Must Allege and Prove That the Alleged Violation Was a Prerequisite to Payment (Aug. 31, 2011).

Background in Rostholder

The core allegation in Rostholder was that Omnicare, a pharmaceutical services provider to nursing homes, sought reimbursement from Medicare and Medicaid for drugs that were repackaged in violation of certain FDA safety regulations. In particular, the relator claimed that non-penicillin drugs improperly were repackaged in the same facility as penicillin drugs, leading to potential contamination in violation of FDA regulations and rendering the drugs “ineligible for coverage under government [healthcare] programs.” Rostholder, 2014 WL 661351, at *2. Notably, before the relator filed his qui tam complaint, the FDA investigated the claims, issued a warning letter to Omnicare, and cautioned that the drugs at issue were “adulterated.” In response, Omnicare destroyed $19 million worth of drugs but allegedly did not recall any drugs previously distributed or reimburse the government for Medicare and Medicaid payments previously made for allegedly contaminated drugs. Despite the FDA‟s conclusions, the Department of Justice declined to intervene in the qui tam case but did file a Statement of Interest in the trial court supporting the relator‟s broad legal argument for FCA liability.

At the trial court level, Omnicare moved to dismiss the complaint on multiple grounds, including that it failed to state an FCA violation. The district court granted the motion, holding that the complaint failed to allege a false statement or fraudulent conduct and also failed to detail any false claims. After first addressing the jurisdictional public disclosure bar argument raised by Omnicare, the Fourth Circuit affirmed the dismissal, joining other circuits in holding that, if compliance with an FDA regulatory requirement is not a prerequisite to payment under Medicare and Medicaid, there is no FCA violation.

Specifically, the Fourth Circuit ruled that Medicare and Medicaid (1) do not expressly prohibit reimbursement for drugs that were manufactured or packaged in violation of the FDA‟s safety regulations, and (2) do not require compliance with FDA‟s safety regulations as a “precondition to reimbursement.” Rather, the drug merely must have FDA approval in order to be covered by Medicare or Medicaid. Based on this statutory and regulatory framework, the Fourth Circuit ruled that the relator‟s complaint failed to state a false claim or fraudulent course of conduct.

Rejecting Relator’s Argument, Court Finds “Materiality” and “Falsity” Are Two Different Elements of FCA Liability

On appeal, the relator argued that the complaint stated an FCA violation because compliance with the FDA safety regulations was “material” to the government‟s decision to provide Medicare and Medicaid reimbursement. Faced with the same relator argument below and a supporting Statement of Interest filed by the Justice Department, the district court responded:

Relator…appears to argue that any claim for goods or services provided in violation of a statute or regulation represents “fraudulent conduct” within the meaning of Harrison—as long as the violation is material. In other words, the court need not analyze whether “fraudulent conduct” exists separately from the materiality prong of the test… [R]elator does not argue there was an affirmative false statement or false certification; relator does not argue this court should adopt the implied certification theory; and relator does not argue for the theory of fraud by omission, which Harrison appears to suggest may be appropriate under some circumstances. Relator‟s argument instead appears to read the first prong—false statement or fraudulent conduct—out of the Harrison test for FCA liability. Without clearer guidance from the Fourth Circuit, I cannot agree that such an approach is appropriate….

United States ex rel. Rostholder v. Omnicare, Inc., No. CCB-07-1283, 2012 WL 3399789, at *14 (D. Md. 2012) (emphasis added).

On appeal, the Fourth Circuit delivered clear guidance by flatly rejecting relator‟s argument (which had been supported by the Justice Department in the district court) and stating that “materiality” and “falsity” are two distinct elements of an FCA claim and relator did not and could not show a “false statement or fraudulent course of conduct” where compliance with the FDA safety regulations was not required for Medicare and Medicaid reimbursements. Rostholder, 2014 WL 661351, at *5.

The FCA Is Not a “Sweeping Mechanism” for Regulatory Compliance or a Substitute for Regulatory Enforcement

In support of its primary holding, the Fourth Circuit noted that the FCA was not the appropriate enforcement mechanism for mere regulatory violations:

Were we to accept relator's theory of liability based merely on a regulatory violation, we would sanction use of the FCA as a sweeping mechanism to promote regulatory compliance, rather than a set of statutes aimed at protecting the financial resources of the government from the consequences of fraudulent conduct. When an agency has broad powers to enforce its own regulations, as the FDA does in this case, allowing FCA liability based on regulatory non-compliance could “short-circuit the very remedial process the Government has established to address non-compliance with those regulations.”

Rostholder, 2014 WL 661351, at *6 (internal citation omitted).

Even so, the Fourth Circuit did not sanction Omnicare‟s actions and it hinted that the FDA was partially at fault for not fully exercising its enforcement powers to ensure that safety standards were followed. Id. at *7 (“[W]e do not condone Omnicare‟s disregard of FDA safety regulations that apparently occurred in this case…[n]evertheless,…we are confident that the FDA‟s use of its regulatory enforcement powers may be exercised fully to ensure further compliance with applicable safety standards.”). Notably, the Secretary of Health and Human Services had the authority to withdraw approval of improperly packaged drugs, id. at *6, an action which, if taken, would have changed the facts of this case and presumably made any Omnicare reimbursement requests to Medicare or Medicaid (after the withdrawal of approval) false and otherwise actionable under the FCA.

Potential Broader Implications of the Fourth Circuit’s Decision: Reducing the Significance of Both the Post-FERA Materiality Definition and the Implied Certification Theory

In deciding this case, the Fourth Circuit joined the growing chorus of courts that have refused to extend the reach of the FCA to all manner of regulatory violations. And, even though this case involved preFERA conduct, the Fourth Circuit also may have provided some much-needed perspective to the 2009 FERA amendments to the FCA and, in particular, the defining of “material” as “having a natural tendency to influence or be capable of influencing” payment by the government. 31 U.S.C. § 3729(b)(4). See Fraud Enforcement and Recovery Act, Pub. L. No. 111-21 (2009) (“FERA”). See also FraudMail Alert No. 09-05-21, The False Claims Act is Amended for the First Time in More Than Twenty Years as the President Signs the Fraud Enforcement and Recovery Act of 2009 (May 21, 2009). By refusing to conflate the “materiality” and “falsity” elements of the FCA, the Fourth Circuit eases the impact of the low “materiality” threshold that the FERA amendment put in place.

Moreover, the Fourth Circuit‟s ruling is interesting because the court appears to hold that, unless it is clearly stated in a statute or otherwise that compliance with a regulation is a prerequisite to payment, a defendant cannot act with the requisite scienter and cannot submit a “false” claim. See Rostholder, 2014 WL 661351, at *6 (“Because the Medicare and Medicaid statutes do not prohibit reimbursement for drugs packaged in violation of the [FDA safety regulations], Omnicare could not have knowingly submitted a false claim for such drugs.”). Such a holding, which is essentially the current standard in the Second Circuit, if adopted more widely, would greatly undermine “implied certification” cases brought under the FCA. See, e.g., Mikes, 274 F.3d at 702. A footnote within the Fourth Circuit‟s decision alludes to this potential broader implication. Rostholder, 2014 WL 661351, at *5 n.7 (“Because adulterated drugs are subject to reimbursement by Medicare and Medicaid and therefore any claim for payment cannot be „false,‟ we do not separately address relator‟s arguments for FCA liability under „implied certification‟ or „worthless services‟ theories.”).