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The Paycheck Protection Program & COVID-19 Fraud Investigations

White Collar Crime and Internal Investigations Alert Luke Cass, Hector J. Diaz, Tiffany J. Li, Christopher J. Frisina

Business Fraud Investigation With Magnifying Glass In Gloves

On March 27, 2020, Congress passed the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”), which provided over $2 trillion in relief to small businesses and families affected by the COVID-19 pandemic.

The Department of Justice (“DOJ”) and other regulators are taking aggressive measures to safeguard these vital programs during these unprecedented times. Several investigations are underway and have already resulted in criminal charges. This alert addresses current and potential future enforcement areas involving health care, pharmaceuticals, securities, corporate compliance, and price gouging and supply chain issues for coronavirus-related services and products.

Paycheck Protection Program

The Paycheck Protection Program (“PPP”), the centerpiece of the CARES Act, is particularly susceptible to fraud schemes, and the Treasury Department has already announced that businesses receiving more than $2 million in PPP funds would be automatically audited before any loan forgiveness.

The PPP is an amendment to the Small Business Act, and provides small businesses (500 or fewer employees) with forgivable loans to keep workers on the payroll and to cover other qualified business expenses such as interest on mortgages, rent, and utilities, up to $10 million for each eligible business entity. See generally, 15 U.S.C. §§ 632, 636. The amount of the PPP loan depends on the number of employees and average payroll costs for a specified period. At least 75 percent of the loan must be spent on payroll and only businesses that were in operation on February 15, 2020 are eligible.

As part of the PPP loan application process, an authorized representative of the business must affirmatively certify, in substantial good faith, that the current economic uncertainty makes the loan necessary, and provide appropriate documentation—a vulnerability area that wrongdoers may exploit by faking businesses, falsifying forms, and fabricating employees. See generally, PPP Interim Final Rules.

Criminal PPP Cases

The Market Integrity and Major Fraud Unit of the Fraud Section of the Criminal Division of the DOJ and its partner agencies have already begun investigating and prosecuting fraudulent PPP loans nationwide along with other market-based conduct on COVID-related fraud. Below are several examples.

  • On May 5, 2020, the DOJ in Rhode Island brought its first set of criminal charges related to PPP funding against two defendants who allegedly sought more than $438,500 for dozens of employees, some fabricated, at three restaurants, several of which remained closed. Both defendants were charged with conspiracy to commit bank fraud and conspiracy to make false statements to the SBA.
  • Eight days later, the DOJ sought PPP-related charges against a Texas defendant who allegedly made two claims to two different lenders for PPP loans. In the first application, the defendant sought $10 million to support more than 250 employees. In a second application, the defendant sought $3 million in PPP loans to support a similar number of employees. However, the Texas Workforce Commission reported that there were no records of employee wages associated with the defendant or any company associated with him. He was charged with wire fraud, bank fraud, making false statements to a financial institution, and making false statements to the SBA.
  • On the same day, the DOJ also charged a Georgia reality TV personality with bank fraud related to his company’s receipt of PPP funding. The defendant, on behalf of his company, allegedly submitted a loan application seeking a $3,725,500 loan for his 107 employees. The bank ultimately loaned the defendant $2,045,800, which was spent on personal expenses within days.
  • On May 19, 2020, the DOJ charged another Texas defendant with wire fraud, bank fraud, false statements to a financial institution, and false statements to the SBA for allegedly making two fraudulent applications to two different lenders. In his applications, the defendant sought more than $5 million for more than 500 employees. However, the defendant created the list of purported employees by using a random name generator on the internet and submitted forged tax documents with each application.
  • On May 22, 2020, the DOJ charged a Washington defendant with wire and bank fraud for receiving more than $1.5 million in PPP funding from multiple banks by providing lenders with allegedly fraudulent IRS documentation showing federal tax withholdings for various payroll expenses associated with fictitious information technology companies that he created.
  • On the same day, the DOJ in New York also charged a California defendant with allegedly fraudulently seeking more than $1.7 million dollars in PPP funding. The defendant allegedly falsely represented that the funds would be used to support payroll expenses for three film production and distribution companies, but were used for personal expenses.

PPP Loan Forgiveness Deadline Has Lapsed

The criminal cases outlined above demonstrate an aggressive, national approach by DOJ to safeguard PPP funds. And while a safe-harbor period was permitted to return funds—the Treasury Department gave big companies, i.e., those received more than $2 million in PPP loans but did not need the money or had other ways of obtaining capital, an opportunity to return PPP funds by May 14, 2020—that deadline has now passed.

Businesses who have received, or are considering applying for, PPP funds should evaluate and assess the attendant risks. Because despite the ever-evolving nature of the PPP Interim Final Rules, one thing remains unchanged—the onus of compliance is squarely with the borrowers, not the lenders.

Other Potential Investigative Areas

While the DOJ’s latest efforts focus on the protection of PPP funds, its enforcement has not been limited to that single program. Even if businesses did not take out any PPP loans, they could still be subject to various investigations due to the pandemic in the following areas:

Pharmaceuticals and Medical Devices

On May 26, 2020, a licensed New York pharmacist was charged with: (i) violating the Defense Production Act (“DPA”) by allegedly hoarding and price gouging scarce N95 masks; (ii) making two false statements to law enforcement; and (iii) committing healthcare fraud by causing Medicare and Medicaid to be billed for prescriptions based on false representations. The defendant allegedly hoarded over $200,000 worth of N95 masks, and then sold them at inflated rates, charging customers up to 50 percent more than what he had paid to acquire the masks. Similarly, the DOJ in New York charged Arizona and California defendants with an alleged conspiracy to violate the DPA by seeking to resell one million KN95 masks in New York City at a 50 percent markup.

As new drugs are produced and older drugs are designated to treat COVID-19, pharmaceutical manufacturers should also be mindful of the Food and Drug Administration’s (“FDA”) misbranding laws. A drug, food, device, or cosmetic is misbranded if it does not include directions that would allow a layperson to use the item safely for the purpose it was intended. These products can also be misbranded if the labeling is false or misleading, fails to display the required information prominently, or is dangerous to health when used in the dosage, manner, frequency, or duration prescribed, recommended, or suggested on the label.

Health Care

On May 20, 2020, during the American Conference Institute’s (“ACI”) Virtual DOJ, SEC and FBI Town Hall, DOJ representatives stated that health care fraud investigations remained a priority during the pandemic. Several areas were mentioned as being of interest, including free testing being used to get beneficiary information along with false billing or the payment of kickbacks for this type of information.

Securities

In March, the SEC issued a statement warning corporate insiders with access to material, nonpublic information that trading while in possession of such nonpublic information could be deemed insider trading in violation of the antifraud provisions of the federal securities law. The SEC representative reiterated its concern at the ACI’s Virtual Town Hall that the pandemic is a ripe environment for securities violations. Accordingly, companies should be vigilant about corporate insiders’ access to pricing, supply chains, and other material, nonpublic information during the pandemic.

FCPA

Another potential area mentioned during the ACI’s Virtual Town Hall concerned the Foreign Corrupt Practices Act (“FCPA”), which prohibits the payment of bribes to foreign officials to obtain or retain business. 15 U.S.C. §§ 78dd-1, et seq. A DOJ representative stated that bribes paid to reopen or circumvent local curfew laws abroad could give rise to FCPA investigations.

Bankruptcy

Given the current economic conditions, companies are evaluating options to restructure their organizations under Chapter 11 or to liquidate them under Chapter 7. Companies should be aware that their books and records will face increased scrutiny in these proceedings and bankruptcy judges, trustees, and receivers must notify federal prosecutors of potential violations of law.

Takeaways

Here are five key takeaways for navigating these swift regulatory currents:

  • COVID-19 and the influx of liquidity have created ripe conditions for fraud and related investigations. Companies that received PPP funds or those involved in health care, securities, pharmaceuticals, and supply chains may all face increased scrutiny by regulators and renewed investigative vigor by the DOJ.
  • All businesses that received PPP funding should reevaluate whether they met the eligibility requirements to ensure strict compliance with the PPP Interim Final Rules. The penalty for knowingly or willfully making false statements to the SBA in order to obtain a loan in violation of 15 U.S.C. § 645(a) is punishable by a fine of up to $5,000 and/or by imprisonment up to two years.
  • Those companies dealing with personal protective equipment should be mindful of pricing, authenticity, and integrity specification so as to not run afoul of the DPA or FDA misbranding claims. Those in the health care field should also be mindful of the risks associated with free testing.
  • The pandemic is not an excuse for gaps in compliance programs or ineffective internal controls. This is high time to review, improve, and amplify existing programs to detect any irregularities earlier
  • All businesses, regardless of whether they received PPP funds, should be aware of the potential areas of concerns discussed above, as they could still be subject to ancillary investigations due to the DOJ’s nationwide investigative approach to fraud related to the pandemic.

For more information on PPP or COVID-19-related fraud, internal investigations, or compliance programs please contact your Quarles & Brady attorney or

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