First Civil Settlement For Paycheck Protection Program (PPP) Fraud Portends Future False Claims Act Enforcement

On January 12, 2021, the Eastern District of California U.S. Attorney’s Office announced the first civil settlement involving alleged fraud in the Paycheck Protection Program (PPP).  Since passage of the historic Coronavirus Aid, Relief, and Economic Security (CARES) Act in March 2020—which, among other things, provided $349 billion in PPP funding aimed at small businesses—experts have warned that False Claims Act investigations and prosecutions would almost certainly follow.

The settlement between the government and the internet retail company SlideBelts, Inc. and its president and CEO, offers a first glimpse into the theories and tools civil enforcement authorities will use in these matters. It also demonstrates that some of the confusion surrounding the Small Business Administration’s (SBA) implementation of the PPP will not necessarily stop the government from taking action against borrowers.

PPP Borrowers May Be Liable For “Causing” Lenders To Submit False Claims For Loan Processing Fees

The settlement agreement outlines the government’s two principal legal claims based on the allegation that SlideBelt falsely reported on its PPP loan application that it was not involved in any bankruptcy proceedings.[1]

First, the government invoked the Financial Institutions Reform, Recovery, and Enforcement Act of 1989 (FIRREA), which provides substantial civil penalties for violations of enumerated criminal statutes including wire fraud, bank fraud, and false statements.

Second, the government asserted violations of the civil False Claims Act (FCA), which generally allows the government to recover treble damages and penalties against a person who “knowingly presents, or causes to be presented, a false or fraudulent claim for payment or approval” that is submitted to an agency of the United States.

The government explicitly relied on the “causes to be made or used” language of the FCA, reasoning that SlideBelt’s false representation had caused its PPP lender to submit a false certification to the SBA for its guarantee of SlideBelt’s PPP loan. In addition, the lender submitted a claim and received direct payment from the SBA in the amount of $17,500, representing the lender’s processing fees on its $350,000 PPP loan to SlideBelt.

Between these two theories of liability, the government contended that the defendants were liable for damages and penalties totaling more than $4 million—even though the government’s actual monetary loss was limited to the $17,500 loan processing fee.[2]  The final settlement implicitly acknowledges the disparity between SlideBelt’s potential exposure and the government’s loss: the matter settled for a total payment of just $100,000.[3]

While $17,500 may not seem to be a significant loss for the government, it is worth noting that PPP lenders received a total of between $13 and $20 billion in loan processing fees during the first two rounds of PPP funding.  This gives the government ample incentive under FIRREA and the FCA to recover fees that were the byproduct of “fraud.” Moreover, the December 27, 2020 Coronavirus Response and Relief Supplemental Appropriations Act (Appropriations Act) made an additional $284.5 billion in PPP funds available to eligible small businesses—enough to produce roughly $8.5 billion in lender fees.

The Government Did Not Sympathize With The Borrower’s Attempts To Address Ambiguity In The PPP Eligibility Rules

The SlideBelt case also shows that the government is unlikely to be sympathetic to borrowers who make false statements about their PPP eligibility, even when the eligibility requirements are murky and disputed.

At the time SlideBelt completed its PPP loan application, whether the PPP should extend to otherwise eligible entities involved in bankruptcy proceedings was not clear.  The PPP relied on the SBA’s long-established small business loan program (the 7(a) program) as its “backbone,” and the well-developed regulations around the 7(a) program excludes bankrupt entities from participating. However, the CARES Act created new statutory exceptions to the standard 7(a) eligibility rules for the PPP, and changed the usual terms of a 7(a) loan specifically to allow PPP loans to be forgiven if the funds were used for specific types of spending.[4] The CARES Act did not explicitly address whether a borrower’s bankruptcy would render it ineligible for a PPP loan. The SBA’s initial PPP rulemaking efforts were also silent on this issue.

Against this background, some potential borrowers argued that the PPP is a grant program that cannot discriminate against entities based on their bankrupt status. Borrowers also challenged the SBA’s PPP interim final rule confirming the agency’s view that bankrupt entities are ineligible. Some debtors and courts created practical work-arounds for the issue by allowing debtors to dismiss their bankruptcy cases, apply for a PPP loan, and then re-file a bankruptcy action after the PPP funds were disbursed.

SlideBelt apparently attempted to address this ambiguity in the PPP eligibility rules with its lender and with the bankruptcy court. Indeed, the bankruptcy court allowed the company to dismiss its bankruptcy action so that SlideBelt could retroactively meet the SBA’s stated PPP eligibility requirements.

The government did not accept this end-run around the eligibility rules and instead insisted that SlideBelt return the entirety of its loan proceeds.  Even after the company complied with that demand, the government continued its enforcement efforts, using the lender’s processing fees as the basis for an FCA recovery.

For borrowers that have struggled to understand the sometimes arcane eligibility rules of the SBA’s 7(a) program, and the ambiguities created by the statutory language of the CARES Act in establishing the PPP, the SlideBelt settlement is a cautionary tale. PPP borrowers can take the following lessons from this first foray into FIRREA and FCA liability:

• Be careful in reading and applying the eligibility requirements for PPP loans. The SBA’s 7(a) requirements were designed for particular types of businesses and invoke size, industry, and other government contracting standards and terms that are unfamiliar to many commercial entities.
• Communicate with lenders proactively about any statements or certifications in PPP loan documents that could be construed as false or misleading. This is a circumstance in which one should ask permission, since seeking forgiveness could backfire badly and with the added kick of significant monetary penalties.
• Document your good faith attempts to address the ambiguities in the statutory language, regulatory requirements, agency guidance, or lender documents that might affect your eligibility for the program—as viewed by an SBA auditor, OIG investigator, or DOJ prosecutor. Documentation could include a timeline that demonstrates the information and guidance available at the time you applied or certified eligibility, as well as any relevant instructions issued after you took action.

The PPP has made unprecedented amounts of federal funds available to small businesses contending with the economic uncertainties arising from the worst public health crisis in a century. The intention behind the program was good and necessary, but implementation has been messy and confusing. The clean-up effort is likely to result in more FCA enforcement matters in the months and years to come.

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[1] SlideBelt completed the SBA’s standard 7(a) loan application in early April 2020, at the very start of the first round of PPP funding. The company indicated on the form that SlideBelt was not in bankruptcy, when in fact it had filed for protection under Chapter 11 several months before.

[2] Facing pressure from the SBA, SlideBelt returned its PPP funds to the lender and did not seek forgiveness of its loan as the program allows to borrowers who meet the eligibility and spending criteria.

[3] The settlement amount is also payable over time, indicating that the final figure and terms may be a function of the company’s inability to pay a larger amount.  At the same time,  the government may have recognized the potential excessive fines issue that could arise had it sought the maximum statutory penalties allowed by FIRREA and the FCA.

[4] The bankruptcy exclusion issue was resolved in the Appropriations Act, with Congress clarifying that entities in bankruptcy are not eligible to apply for a PPP loan. Other ambiguities and tensions between the PPP statutory authority and the SBA’s implementing regulations remain, however.