BACKGROUND
Laws prohibiting the submission of false or fraudulent claims to the federal government have been on the books since the Civil War. Designed to protect the public from fraud and overreaching by private sector contractors, these are the laws behind the notorious prosecutions against contractors charged with selling the government $200 hammers and $600 toilet seats. California has its own civil and criminal penalties for sanctioning false claims. The civil law, known as the False Claim Act, prohibits any person doing business with the state or a political subdivision of the state from making false or fraudulent claims or statements in support of a claim. The definition of a "claim" is very broad, encompassing any demand for money, property, or services made to a state or local public entity, or to any private contractor where the funds sought were provided by the State. If a contractor knowingly makes a claim that is false, the contractor may be liable to the public agency for damages equal to three times the amount of loss suffered by the agency as a result of the fraud, plus a civil penalty of up to $10,000 for each false claim submitted. In addition, the contractor could be suspended or debarred from doing further business with the public entity involved, and could face disciplinary action by the Contractor's State License Board.
The California False Claims Act was enacted in 1987, but lay relatively dormant until the early 1990's, when public entities, frustrated by what they viewed as a barrage of unjustified and unmeritorious claims, began to employ the False Claims Act as a defensive measure. Increasingly, it is not uncommon for a contractor's claim for extra compensation to be met with a counter-claim filed by the public entity, alleging not simply that the contractor's claim was without merit, but that it was "false" in violation of the False Claims Act. Since the False Claims Act imposes liability on any "person" responsible for the submission of the claim, the false claim accusation may rest not only against the contractor, but against individual officers or employees who participated in the presentation of the claim. Further, unlike a malicious prosecution action, where the defendant must wait for a favorable outcome prior to filing, False Claims Act counter-claims are typically filed in the contractor's action asserting the primary claim. This puts the contractor and its employees on the defensive, and forces them to spend resources justifying the claim and their honesty.
THE PRIVILEGE DEFENSE
California law also provides that statements made in the course of or anticipation of litigation are blessed with an immunity or privilege, so that the person making the statements can speak freely without fear of civil liability. Civil Code § 47(b). Since most construction claims are asserted either in anticipation of or in the course of litigation, contractors have attempted to defend against false claims actions by asserting the privilege defense.
Claims to public entities typically follow a course through three discrete procedural stages. Public contracts usually require that the contractor provide written notice of the claim, with supporting backup documentation, so that the claim may be addressed at the job level. Following the contract claims submission process, if no resolution is achieved, the contractor may have to comply with the provisions of the California Tort Claims Act (Government Code Section 810 et. seq.) and submit a formal claim to the governing agency as a precondition to filing litigation. Finally, if the Tort Claims Act process does not spawn a favorable settlement, litigation or arbitration may ensue. During each of these steps, the contractor may make claims or statements that the public agency believes are in violation of the False Claims Act. Contractors have argued that claims and statements made during the contract claims submission process are in anticipation of litigation, and therefore privileged by Civil Code § 847(b). Likewise, claims made in the litigation itself, including statements made in discovery, were also arguably covered by the privilege.
RECENT DEVELOPMENTS IN THE LAW A July 1996 Court of Appeals decision, Stacy & Witbeck, Inc. v. City and County of San Francisco, 47 Cal. App. 4th 1, 54 Cal. Rptr. 2d 530 (1996) held that the litigation privilege does not apply to protect statements made in the contract claim submission process. In that case, Stacy & Witbeck was a contractor to the City of San Francisco on a Muni project. Stacy & Witbeck was encouraged by the City engineering staff to submit documentation in support of its claims, in anticipation of settlement discussions. Stacy & Witbeck submitted the documentation, the claims were denied, and the contractor filed litigation. The City contended that the claims submitted were false, and filed a cross-complaint against the contractor alleging violation of the False Claims Act and seeking treble damages and other penalties. Stacy & Witbeck sought dismissal of the cross-complaint on the grounds that the claims submission process was undertaken in anticipation of litigation, and was therefore privileged. The Court of Appeal disagreed, holding that, while one purpose of the contract claims submission was anticipation of litigation, the litigation privilege did not apply because there was an independent purpose, i.e. Stacy & Witbeck's compliance with the contract requirements. The effect of this case was to strip the contractor from immunity for False Claim liability for statements and claims made in the course of a contractual claims submission procedure.
Effective January 1, 1997, the California Legislature has gone even further. In a piece of legislation that drew little scrutiny until its passage, Assembly Bill 2678 (Figueroa) amended the False Claims Act to provide that the litigation privilege does not apply to any claim subject to the False Claims Act. (Government Code Section 12654(e)). In other words, not only are claims and statements made during the contract claim review process not privileged, but claims and statements made in litigation or arbitration are also not privileged. Under this new law, a contractor arguably can be subject to false claim liability for statements made in pleadings, pre-trial discovery, and trial testimony.
Contractor groups fear that this amendment to the False Claim Act increases the potential for abuse, as public entities could use the Act to "beat down" contractors with legitimate claims. Even if the contractor ultimately proves the validity of the claim, the costs of defending the false claim accusation can be substantial. The Associated General Contractors of California is supporting remedial legislation, SB 778 (Haynes). But for now the amended law remains in effect.