A court in the Southern District of New York (“SDNY” or the “Court”) recently released an important decision applying the Supreme Court’s landmark Escobar ruling to a qui tam action involving percentage fee arrangements for billing agents. Among other claims, the City of New York (“the City”) and its billing agent, Computer Sciences Corporation (“CSC”) allegedly used an illegal incentive-based compensation arrangement for CSC’s services when billing New York Medicaid for services provided to eligible children under New York’s Early Intervention Program (“EIP”). EIP provides “early intervention services” to certain children with development delays using federal funds provided under the Individuals with Disabilities Education Act. EIP allows municipalities like the City to pay providers directly for EIP services and then seek reimbursement from other payors, like third party payors and New York Medicaid.
The United States and the State of New York intervened in the case and argued that the alleged conduct violated federal and state Medicaid regulations, as well as the federal and state False Claims Acts (“FCAs”) under implied false certification and fraudulent inducement theories. On August 10th, the Court ruled on CSC’s Motion to Dismiss and found that, as a legal matter, the alleged conduct, if proven, does violate state and federal regulations but does not satisfy the criteria set forth in Escobar to sustain an implied false certification theory under the FCAs. However, the Court allowed the fraudulent inducement theory for FCA liability to proceed.
1. Federal and State Medicaid Regulations for Billing Agent Compensation Arrangements
In this case, the compensation arrangement between the City and CSC provided that CSC would receive a fixed fee for Medicaid payments collected for EIP services up to a certain level and then an “incentive payment” of 15% of Medicaid payments collected beyond this level. The U.S. and New York State argued that this arrangement violated often-overlooked federal (42 CFR § 447.10) and state (18 NYCCR § 360-7.5(c) and 18 NYCCR § 504.9(a)(1)) regulations that prohibit compensation arrangements for billing agents based on the amount billed or collected from Medicaid. Specifically, 42 CFR § 447.10(f) provides:
Payment may be made to a business agent … that furnishes statements and receives payments in the name of the provider, if the agent's compensation for this service is:
(1) Related to the cost of processing the billing;
(2) Not related on a percentage or other basis to the amount that is billed or collected; and
(3) Not dependent upon the collection of the payment.
New York State regulations similarly prohibit billing agents from receiving compensation that is directly or indirectly tied to the amounts billed and collected from Medicaid.
In its Motion to Dismiss, CSC argued that the federal regulation applies only to the reassignment of provider claims because the regulation is entitled “Prohibition against reassignment of provider claims.” Since the City did not reassign its claims to CSC, the Defendants argued that regulation should not apply to this arrangement. However, the Court noted that the full text of the regulation allows payments to be made “in accordance with paragraphs (e), (f), and (g) of this section,” and paragraph (f) prohibits percentage-based compensation.
In addition, CSC argued that it never actually received the incentive payment and that the regulations relate only to payments actually disbursed. The Court also rejected this argument, saying that CSC’s compensation did relate to the amount billed or collected because the only reason it did not receive the incentive payment is because it did not meet the threshold collection level.
2. FCA Theories
The U.S. and New York State provided two theories of FCA liability for the alleged scheme: (1) fraudulent inducement for Medicaid’s approval of CSC’s enrollment application, and (2) implied false certification for the claims paid by Medicaid. Interestingly, the Court’s application of the Escobar decision led it to deny CSC’s Motion to Dismiss on the first theory but grant it on the second theory.
The Court’s decision applied equally to the claims under both the federal and state FCAs. The Court stated that, although its discussion concentrated on federal case law, its decision applied to the state FCA claims as well because the state law was “closely modeled on the federal FCA” and none of the parties in this case argued that the state FCA should be applied differently.
A. Fraudulent Inducement
The U.S. and New York State alleged that the Defendants fraudulently induced Medicaid to approve CSC’s enrollment application to be a billing agent as a result of CSC’s failure to disclose the incentive-based compensation structure on its enrollment application, in violation of the FCAs. CSC provided several arguments in response, including that the compensation described on its Medicaid enrollment application was in fact true because it never received any incentive payments. The Court, however, called CSC’s statements on its enrollment application a “classic half-truth,” which the Supreme Court determined in Escobar could give rise to FCA liability even if there is no express misrepresentation. Therefore, the Court allowed the fraudulent inducement theory to move forward to the next stage of litigation.
B. Implied False Certification
The U.S. and New York State also alleged that the Defendants were liable under the FCAs on the basis of an implied false certification theory. As we’ve discussed previously on the blog, the Supreme Court in Escobar resolved a circuit split about the implied false certification theory and ruled that the theory can form the basis of a FCA claim if it meets at least two criteria:
[F]irst, the claim does not merely request payment, but also makes specific representations about the goods or services provided; and second, the defendant's failure to disclose noncompliance with material statutory, regulatory, or contractual requirements makes those representations misleading half-truths.
The Court noted that the Second Circuit has yet to address the Escobar decision but the majority of its district courts have viewed the two criteria as “affirmative limitations” on liability under an implied false certification theory. The Court ruled that the Defendants’ compensation arrangement did not make any representations about services provided and therefore dismissed the claim for failing to satisfy the standard established in Escobar.
As we continue to watch how district and appellate courts grapple with the Escobar decision, this case is an interesting example of how the decision might limit FCA liability, and how it might do so even in cases in which the Department of Justice argues that the materiality standard is satisfied. At the same time, this decision might breathe new life into fraudulent inducement and other theories that support FCA liability.