One of the features of the Coronavirus Aid, Relief and Economic Security Act (CARES Act) is the Paycheck Protection Program (PPP), which is intended to make governmental funds available in the form forgivable loans so that small businesses can keep employees on their payroll. The CARES Act was passed in a rush and the PPP funds were dispersed in a hurry, so it is hardly a surprise that some problems might emerge. The U.S. Department of Justice has already said that as a result of a preliminary inquiry, the agency has already found possible fraud among the businesses seeking PPP funds. As discussed below, the possibility of further PPP investigative, regulatory, and enforcement actions raises a number of questions.
On March 27, 2020, Congress passed the CARES Act, which included provisions authorizing the Small Business Administration to guarantee a total of $349 billion in forgivable loans to small business. Congress added an additional $310 billion to this program on April 23, 2020.
Because of the amount of money involved and because of the speed with which the program was implemented and with which the funds have been dispersed, commentators have raised the question of whether the aftermath of the program’s implementation will include governmental investigations for fraud and other concerns.
For example, an interesting April 29, 2020 Memo from the Williams Mullen law firm entitled “Paycheck Protection Program: After the Pay Comes the Chase” (here) suggests that “PPP funds will be an area ripe for government investigation.”
In offering this view, the memo references established governmental practices deployed, among other places, with respect to federal healthcare programs, such as Medicaid, in which the government “will employ what is known as a ‘pay then chase’ method of fraud enforcement.” The “pay then chase” approach “accepts on the front end that some improper funds will be paid out, and that fraud will only be identified and punished retroactively.” Under this approach, “the penalties are harsh, in theory deterring wrongdoing from the outset.”
The likelihood of governmental investigation is even further reinforced under the precedent set by the Troubled Asset Relief Program (TARP) in the wake of the global financial crisis. As the law firm memo notes, in the years after TARP was implemented, “there was a wave of civil and criminal enforcement.” Like TARP, the PPP has a number of built-in oversight mechanisms, including the establishment of an independent inspector general with subpoena powers and other investigative authority.
Under the PPP, participating companies are required to submit loan applications under penalty of perjury and are subject to federal fraud statutes. As the law firm memo notes, companies submitting request for funding face potential exposure under federal law, including criminal statutes, such as 18 U.S.C. §1001 (submitting false statements), 18 U.S.C. § 1014 (false statements to the SBA), 15 U.S.C. §645 (SBA fraud), 18 U.S.C. §371 (conspiracy to defraud the United States), and the False Claims Act. Notably, False Claims Act actions may be initiated by the DOJ or by private actors known as relators, in a qui tam lawsuit.
It now appears that the government is already moving forward with investigations into possible PPP misconduct. As discussed in May 5, 2020 memo from the Paul Weiss law firm (here), a senior DOJ official has stated publicly that the DOJ has initiated a preliminary inquiry into possible PPP fraud. The official stated that the DOJ has contacted 15 to 20 of the largest PPP lenders and has already found possible fraud among the businesses seeking relief.
The DOJ’s preliminary inquiry has focused on potential false statements in PPP loan applications. However, as the Paul Weiss law firm memo notes, the DOJ’s inquiry is likely to expand to other aspects of the program including the recipients’ use of the process and statements in connection with the loan forgiveness process. The memo notes that banks and other lenders also may be subject to scrutiny regarding the manner in which they made PPP loans. The PPP program is also likely to attract significant interest from other federal and state enforcement authorities, oversight agencies, regulators, and Congressional committees.
The possibility of these kinds of investigations and governmental actions obviously represent a significant concern for companies participating in the PPP program, particularly since the program requirements have been adjusted seemingly on a daily basis.
Companies caught up on these kinds of investigations and other governmental actions will have many questions and concerns. Among the concerns that are likely to come up are concerns about the possible availability of D&O Insurance coverage for the costs incurred in responding to these kinds of investigations.
The reality is that under many D&O insurance policies, the availability of coverage for costs incurred in connection with many of these types of governmental investigations may be an awkward fit. To be sure, there are policy forms, for example, in the healthcare space, that expressly provide regulatory expense coverage, often on a sub-limited basis, affording protection for costs incurred in connection with certain types of regulatory investigations. But outside the healthcare arena, this type of express regulatory expense coverage is not as common. Of course, whether coverage is available in any particular situation will depend on the precise circumstances involved and all of the relevant policy terms and conditions.
To be sure, many D&O policies these days do provide what is often called “pre-claim inquiry” coverage, to provide protection for individual directors and officers if they are asked to appear for an investigative interview or to produce documents. However, this type of coverage is usually is available just to protect individuals; it typically does not protect the entity itself. Most of the kinds of PPP investigations that are likely to emerge are likely to target (at least as an initial matter) the borrowing entities, rather than the entities’ executives.
Most D&O policies do including criminal prosecutions within the policies’ definition of a Claim for which the policy provides coverage, subject to all of the other terms and conditions. However, this criminal prosecution coverage is usually limited by the qualifying term “after indictment,” and the insurers are likely to take the position that costs incurred during pre-indictment investigation are not covered.
The case for coverage for companies hit with False Claims Act civil lawsuits will likely be stronger, since D&O insurance policies are designed to provide protection from civil lawsuits, subject to all the policy terms and conditions. At a minimum, False Claims Act lawsuit defendants will in many cases have substantial grounds on which to argue that they are at least entitled to defense cost coverage.
Insurers presented by their policyholders with claims based on PPP investigative, regulatory, or enforcement actions likely will contend that any PPP funds that the policyholder is ordered to or agrees to return are not covered by the policy. Insurers making this argument will argue that the returned amounts do not represent covered Loss, since the repayment is restitutionary in nature. The insurers may also seek to rely on the personal profit exclusion precluding coverage for the return of amounts to which the insured was not legally entitled (although these days this exclusion typically is written such that it is not triggered until there has been a final adjudication that the precluded conduct has actually occurred). The insurers also are likely to argue that any fines or penalties imposed do not represented covered Loss under the policy.
Many of the PPP regulatory and enforcement actions may involve allegations of fraud. Almost all D&O insurance policies contain fraud exclusions. However, as mentioned above with respect to the personal profit exclusion, most policies’ fraud exclusions are only triggered upon a final adjudication that the precluded conduct has actually taken place. Mere allegations alone are insufficient to trigger the exclusion. However, a final-non appealable judgment of fraudulent misconduct could preclude coverage.
In short, in the months ahead we could be seeing a great deal of PPP-related investigative, regulatory, and enforcement activity. As companies deal with these various governmental actions, they may also struggle to obtain D&O insurance coverage for their costs in responding. I suspect that in the months ahead we will see coverage battles on these issues emerge.