09 July 2018

District Court Dismisses Original Source’s FCA Claims as Barred by Government’s Pursuit of Penalty in Bankruptcy Proceeding

The government action bar provides that a relator may not bring a False Claims Act (FCA) lawsuit “based upon allegations or transactions which are the subject of a civil suit or an administrative civil money penalty proceeding in which the Government is already a party.”  31 U.S.C. § 3730(e)(3) (emphasis added).  Recently, in Schagrin v. LDR Industries, LLC, No. 14 C 9125, 2018 WL 2332252 (N.D. Ill. May 23, 2018), a district court held that the relators’ lawsuit was barred by the “government action bar” because LDR Industries had already been subject to administrative penalties by U.S. Customs for the same alleged conduct.

Relator Roger Schagrin, an international trade attorney experienced in the steel pipe industry, knew that the federal government imposes customs duties on certain circular welded pipe imported from China to protect domestic companies from unfair competition by foreign companies who sell the same product for less than the normal price, i.e. a practice called “dumping.”  Based on this knowledge, when Schagrin noticed LDR Industries circular welded pipe for sale at an unusually low price at Home Depot, he suspected that the company had evaded customs duties.  Schagrin thereafter reported his suspicion to U.S. Customs.  Following an investigation, U.S. Customs determined that LDR had engaged in misrepresentations to evade customs duties and demanded from LDR $6.7 million (later reduced to $4.85 million) in unpaid duties for 2011 and 2012.  LDR subsequently declared bankruptcy in September 2014.  Approximately two months later, while the bankruptcy proceedings were pending, Relator filed the FCA action, arguing that LDR’s misclassification of its pipe to avoid customs duties violated the FCA’s reverse false claim provision, 31 U.S.C. § 3729(a)(1)(G) (imposing liability for knowingly avoiding obligations to pay money to the government).  In February 2015, U.S. Customs filed a proof of claim in LDR’s bankruptcy proceeding to collect the unpaid duties.  On October 6, 2016, the bankruptcy court approved LDR’s Chapter 11 plan, noting that the settlement between LDR and U.S. Customs constituted a “full and compete satisfaction” of LDR’s obligations.

In seeking to dismiss the FCA action under the government action bar, LDR argued that the Government had already assessed penalties against LDR.  In resolving this issue, the district court considered two questions: (1) whether U.S. Customs merely “billed” LDR for duties, as Relator claimed, or if it pursued administrative penalties as § 3730(e)(3) requires; and (2) whether the Relator’s claims were “based upon allegations or transactions” in an administrative proceeding in which the Government was a party.  The district court resolved both questions in LDR’s favor.

With respect to the first question, the district court rejected Relator’s argument that the U.S. Customs did not pursue an “administrative civil money penalty proceeding” and concluded  that the Government’s bankruptcy proof of claim characterized it as a “penalty pursuant to 19 U.S.C. § 1592.” (Emphasis added).  The court observed that “[t]he few district courts to have addressed what constitutes an ‘administrative civil money penalty proceeding’ for purposes of § 3730(e)(3) agree that whether the government has already imposed a ‘penalty’ against the defendant is key to determining whether § 3730(e)(3) bars a subsequent FCA claim.”  Notably here, the Court relied on the fact that the government’s proof of claim “pursued a penalty amount far greater than the $6.7 million for which LDR was originally ‘billed.’ ”  With respect to the second question, the court concluded that LDR’s alleged misrepresentation—misclassifying pipe to avoid paying customs duties—was a “critical element[]” in both the U.S. Customs penalty proceeding and Relator’s claims.

The district court also rejected the Relator’s argument that the government action bar was only intended to forestall “parasitic” lawsuits, and that his lawsuit was not “parasitic” because he was “the original source of [the] information leading to U.S. Customs instituting the penalty proceeding against LDR[.]”  The court reasoned that while being an original source may preclude the FCA’s “public disclosure bar,” “it is not enough to be an original source in order to have the right to file an FCA claim.”  Rather, the court held, “[t]he government action bar provision also requires that the government has chosen not to pursue that claim in some other forum.”

The Relator has filed a Motion to Alter Judgment or Amend Judgment, citing errors of law and fact. A hearing is scheduled for September 9, 2018.  A copy of the opinion is available here.

Special thanks to summer associate Farrah Vazquez for authoring this post.

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