Christopher Myers & Jennifer Short are Partners in
our
Northern Virginia office Since the Emergency Economic Stabilization Act of 2008 was
enacted in October 2008, the federal government has designed a
number of programs to create a market for financial assets whose
value has fallen so significantly that a functioning market no
longer exists. Grouped broadly under the heading of the Troubled
Asset Relief Program (TARP), these programs are part of the efforts
to assist the financial, insurance, real estate and auto
industries, among others. The total combined investment of public
and private funds in nearly a dozen TARP programs is expected to
reach $3 trillion. Because the current financial crisis stemmed in significant part
from mortgage-backed securities and their impact on the real estate
industry, several of the TARP programs involve efforts to
revitalize the real estate industry and to remove toxic real
estate-related assets from the books of financial institutions and
insurance companies. One of these programs is the U.S. Treasury
Department's Public-Private Investment Program (PPIP),
announced in March 2009. Although the market for toxic real estate
assets has thawed little to date, it seems to be only a matter of
time before the federal government manages to successfully entice
– or, if necessary, force – banks, other
financial institutions, and investors to join in PPIP. PPIP's original purpose was to use a combination of TARP
funds, private investors and loans from the Federal Reserve's
Term Asset Lending Facility (TALF), another TARP program, to
purchase troubled legacy real estate loans on banks' books
(legacy loans) and securities backed by loan portfolios (legacy
securities). (For further information on PPIP, see Holland &
Knight's March 26, 2009 Financial Recovery Alert,
"U.S. Treasury Department Releases Details on Public-Private
Partnership Investment Program to Purchase Distressed/Legacy Assets
From Financial Institutions Nationwide.") The legacy loans component of PPIP was postponed indefinitely in
June 2009 because banks simply refused to sell their toxic assets
at prices investors were willing to pay, perhaps due to the
banks' desire to avoid recording losses on the loans. In July 2009, Treasury selected a number of fund managers in
PPIP's legacy securities program to team with the government to
purchase pools of toxic commercial mortgage-backed securities,
residential mortgage-backed securities and other mortgage-related
securities from banks and other financial institutions. How well the legacy securities market will function remains
uncertain. Banks and other major financial institutions may still
be unwilling to sell their assets at a deep discount, which would
also frustrate this goal of the program. Or the program could
evolve, which could expose early participants to having the rules
changed retroactively. Additional concerns include uncertain
requirements related to pricing transparency, profitability and
executive compensation. Numerous potential participants have adopted a wait-and-see
approach. Ultimately, the federal government likely will establish
parameters acceptable to banks, other financial institutions and
investors. Confronted with the carrot and stick of federal policy,
banks and other financial institutions may be persuaded, if not
pressured, to sell legacy securities to investors. No matter how
the program evolves, going into business with the government will
present new challenges for financial institutions. Because Treasury
is committed to making PPIP work, potential participants should
make sure they understand the maze of statutes, regulations and
contract clauses that will govern the program so that they may
design and implement procedures to ensure compliance with the PPIP
program requirements. On May 20, 2009, President Obama signed into law the Fraud
Enforcement and Recovery Act of 2009 (FERA).1 The
statute aims to "improve enforcement" of laws that
prohibit fraud involving the mortgage, financial institutions,
securities, and to facilitate the recovery of federal funds lost to
those frauds. Of particular interest to those considering participating in a
TARP-related program are FERA's provisions that reclassify
mortgage lenders as financial institutions and expand federal
criminal liability for mortgage fraud, securities fraud, and major
fraud against the United States involving TARP funds. Also,
specifically related to TARP, Section 2(d) of FERA amends the law
to prohibit participating in a scheme with the intention of
obtaining money through false or fraudulent representations or
promises made "in any grant, contract, subcontract, subsidy,
loan, guarantee, insurance, or other form of Federal assistance,
including through the Troubled Asset Relief Program, an economic
stimulus, recovery or rescue plan provided by the Government, or
the Government's purchase of any troubled asset as defined in
the Emergency Economic Stabilization Act of
2008."2 In addition, FERA amended the civil False Claims Act (FCA) to
greatly expand that statute's reach. Many financial
institutions and real estate ventures may be unfamiliar with the
FCA, which for decades has been used as the federal
government's principal tool to combat fraud, waste, and abuse
in government programs. Until now, the FCA generally did not apply
to banks and other privately-funded financial institutions; nor did
it apply except in very limited situations to the real estate
industry. With the proliferation of efforts to revive the real
estate and financial sectors, those industries now are exposed to
the potential for FCA liability when they participate in
federally-funded programs, including TARP. Entities that receive or administer federal funding in any form
– whether through formal government contracts,
subcontracts, grants, sub-grants, or through any of the TARP
programs – should be aware of the FCA.3 This
Act, first passed in the wake of the Civil War and substantially
amended in 1986 and again this year, creates liability for the
"knowing" submission of false or fraudulent claims to the
United States government. "Knowing" can include both
actual knowledge and "reckless disregard" or
"deliberate ignorance" of compliance obligations.
Violators can be required to pay treble damages plus civil
penalties of up to $11,000 for each false claim submitted. The FCA also permits private citizens with information about the
submission of false claims to file an FCA lawsuit on behalf of, and
in the name of, the United States. These actions are referred to as
qui tam, or "whistleblower" lawsuits, and the
person who brings them is permitted by statute to share in any
recovery that is obtained for the government. The qui tam
provisions supply unhappy or disgruntled employees, vendors and
others with very profitable means of seeking revenge against a
noncompliant entity. Another potential consequence of violating the
FCA is the possibility of being suspended, debarred, or excluded
from future participation in government funded programs. FERA amends and expands the FCA in various ways that increase
the risk of investigation and civil enforcement actions for
recipients of federal funds, whether through TARP or other
government programs. Among other things, FERA makes the following
changes to the FCA: A complete discussion of FERA, its changes to the FCA and the
anticipated impact on those receiving federal funds can be found in
the
May 26, 2009 Holland & Knight Compliance Services
alert. With FERA and the FCA changes added to its arsenal, the
Department of Justice has vowed to take on mortgage fraud and abuse
when government dollars are at stake. In early June, the Justice
Department instituted an action against Capmark Finance, alleging
Capmark made false statements to obtain federal mortgage insurance
when Capmark acquired a group of nursing homes. The complaint
alleges that the Department of Housing and Urban Development was
forced to pay nearly $26 million dollars when the nursing homes
defaulted on their loans. Under the FCA, as strengthened by FERA,
the government can recover treble damages, in addition to civil
penalties. With such significant amounts of money on the line and
Justice's stated commitment to combat mortgage fraud, the real
estate industry can expect similar lawsuits in the future. Because of the worldwide financial meltdown and the resulting
recession, many companies that previously focused on commercial
business activities have seen those business lines dry up. They
have turned to the large, expansively funded federal recovery and
TARP programs. Federal money is, or will be, flowing into those
programs, but those seeking to get involved in, or expand their
government business need to pay close attention to the extensive
strings that are attached. Many new compliance, tracking and
reporting obligations have been enacted to prevent and detect
improper uses of the federal funds. Significant new criminal, civil
and administrative sanctions are available to the government. As often happens with new government programs enacted to respond
to a crisis, there is haste to get the money out the door, and
controls are sometimes lacking in the early stages of the program.
Later, in hindsight, different federal authorities, often with
pressure from Congress, begin to examine how the funds were spent.
Even companies that have made good faith efforts to do the right
thing and help resolve the crisis often come under investigation
for civil or criminal fraud. Simple, honest mistakes made by
companies trying to do their best to implement an important
government program can be misinterpreted and viewed as fraud by
whistleblowers or federal prosecutors. These risks are increased
further by the numerous states that have enacted their own False
Claims Acts. The most effective way your company can protect against these
risks is to establish internal policies and controls that will
allow you to effectively and fully explain how the government's
funds were secured, accounted for and used. Comprehensive
compliance and ethics programs, including mandatory disclosure of
various forms of wrongdoing, are now required of most government
contractors, and those companies receiving TARP funding should
anticipate similar requirements. Even if your company already has
compliance and ethics programs, you should review your policies to
insure that they incorporate legislative and regulatory changes
affecting your business and its receipt and use of TARP funds. If your company is considering participation in PPIP or any
other federal program, be proactive in setting up systems and
controls to detect and prevent fraud, as well as mistakes that the
government might interpret as fraud. In doing so, your company can
develop a mutually beneficial business relationship with the
government – whereas failing to take compliance and
ethics programs and obligations seriously could cause serious, even
disastrous, problems down the line. Endnotes 1 On May 26, 2009, Holland & Knight
issued a detailed alert on this landmark anti-fraud bill,
http://www.hklaw.com/id24660/publicationid2652/returnid31/contentid54149/""President
Obama Signs Landmark Anti-Fraud Bill Into Law." The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
Michelle T. Hess is an Associate in our
Northern Virginia office
William M. "Will" Pannier is an Associate in our
Los Angeles officeTreasury Department Creating Market for Distressed Assets
Treasury's Public-Private Investment Program
The Legacy Securities Market
FERA: New Fraud Enforcement Statute Will Apply to TARP
Recipients
FERA and the FCA Significantly Increase Risks to TARP Fund
Recipients
Companies Planning to Participate in PPIP Should Be Proactive
Against Possible Fraud and Abuse Allegations
2 FERA § 2(d) (amending 18 U.S.C. §
1031(a), which was previously limited to statements and promises
made in the context of a federal government contract or
subcontract).
3 29 U.S.C. § 3729 et seq.
4 FERA § 4(a)(2).
5 31 U.S.C. § 3733 allows the Department of
Justice to issue "civil investigative demands" for
documents, responses to written interrogatories, oral testimony, or
any combination of these forms of discovery, before commencing an
FCA action.
6 FERA § 4(c).
7 Id. § 4(e).
8 Id. § 4(b).
9 Id. § 4(d).
ARTICLE
26 August 2009
The Risks of TARP Funding for the Real Estate Industry: New Programs Bring Challenges in Compliance With Enforcement Regulations
Since the Emergency Economic Stabilization Act of 2008 was enacted in October 2008, the federal government has designed a number of programs to create a market for financial assets whose value has fallen so significantly that a functioning market no longer exists.