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How A Law From The Civil War Fights Modern-Day Fraud

Oct 1, 2014
Originally published on October 1, 2014 5:14 pm

A law passed to protect the Union army in the Civil War is one of the key tools federal officials have used to collect tens of billion in corporate fines this year.

During the Civil War, the army relied heavily on private contractors for necessities like uniforms, shoes, and gunpowder. Those contractors often cut corners.

"Soldiers complained about shoddy uniforms that would dissolve in rain," said Mark Greenbaum, an attorney who studies the Civil War era. "They would get horses that were withered, that were weak and in some cases blind." Some contractors mixed sawdust with gunpowder.

The government was broke and didn't have enough inspectors to ferret out the fraud. So Congress came up with a clever plan. It would provide an incentive for employees to turn in their own companies. The government agreed to give whistleblowers half of any fine it collected based on their accusations.

After the Civil War, the law was weakened and mostly forgotten until the 1980s, when stories about military spending — $400 hammers and a $600 toilet seats — started to surface.

The False Claims Act got whistleblowers in the defense industry to come forward. And it worked well at drug companies and health care firms.

Elin Baklid-Kunz worked for Halifax Health, a big hospital in Daytona Beach, Fla., for more than 20 years.

A few years ago, she found out Halifax Health was billing patients for services they hadn't gotten and submitting those claims to Medicare. The fraud added up to hundreds of millions of dollars a year.

She tried to report it to her bosses. They shut her down. So she went to a lawyer. "The False Claims Act seemed to be the only tool I had to report this to the government," Baklid-Kunz says.

During the five years it to make the case, Baklid-Kunz kept working at Halifax Health. It was hard. She says no one at the company would speak to her. When she and one of her coworkers got lunch, they met far from the office. But still they were spotted.

"She was literally told that if she cared about her job, she had to stay away from me," says Baklid-Kunz. "When it started impacting my friends, it was very difficult."

Halifax Health settled with the government in March 2014 for $85 million. Baklid-Kunz got around $20 million. But she says one thing that still bothers her: Her bosses were never punished.

When lawmakers designed the the False Claims Act during the Civil War, companies were much smaller. Fines could bankrupt you. But now, in the age of large public corporations, shareholders often pay the fine. And no one is held personally responsible.

So while the government is able to win money from the law, it may not be doing much to reduce fraud.

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Transcript

RACHEL MARTIN, HOST:

From NPR News, this is ALL THINGS CONSIDERED. I'm Robert Siegel.

MARTIN: And I'm Rachel Martin. The U.S. government is having a record year collecting big fines from companies. There have been tens of billions of dollars in corporate settlements. Part of the success is thanks to aggressive use of a 150-year-old law.

Stacey Vanek Smith of our Planet Money team explains.

STACEY VANEK SMITH, BYLINE: The government's secret weapon against corporate fraud was developed during the Civil War. It was 1863, the country was torn in half and the Union army was desperate for supplies.

Mark Greenbaum is an attorney who studies the era.

MARK GREENBAUM: They didn't have uniforms. They didn't have shoes. All of these industries sprouted up on the fly. They had to rely a lot on contractors to supply the war machine.

SMITH: Private contractors - and wherever there are lucrative government contracts, there are people who see them as an easy way to get rich; there's fraud.

GREENBAUM: Soldiers complained about shoddy uniforms that would dissolve in rain, gunpowder in cannons and in guns wouldn't fire and a lot of it was mixed with sawdust. They would get horses that were withered, that were weak and even in some cases, blind.

SMITH: Soldiers started writing letters home about the shoddy equipment. Mothers and wives complained to Congress, but there wasn't a lot the government could do. It was broke and didn't have enough inspectors to ferret out the fraud. So Congress came up with a clever plan - it would provide an incentive for employees to turn in their own companies; it would pay them money.

GREENBAUM: If you're a citizen and you report fraud that's being conducted by a contractor - say, against the government - and the government takes up the case and wins it and wins an award, you get a piece of that award.

SMITH: It was called the False Claims Act and it was lucrative. The government agreed to split any fine it got 50-50 with the whistleblower. They had big hopes this would finally keep blind horses from being sold to the government. But, then the Civil War ended.

The law was weakened, mostly forgotten, until about a hundred years later, when the issue of fraud came up again. This time it was the 1980s, the Reagan administration. Stories started to surface about military spending - $400 hammers and most famously, a $600 toilet seat.

Patrick Burns is with the group Taxpayers Against Fraud.

PATRICK BURNS: The idea was that we needed to get a handle on fraud and that one way to do that might be with a False Claims Act.

SMITH: Congress dusted off the law and started to offer the award again. It worked so well in the defense industry, the government started using it to go after drug companies and health care corporations. The money helped usher in the golden age of the whistleblower.

ELIN BAKLID-KUNZ: My name is Elin Baklid-Kunz and I worked for Halifax Health for almost 21 years.

SMITH: Halifax Health is a big hospital in Daytona Beach. Baklid-Kunz found out it was billing patients for services they hadn't gotten and submitting those claims to Medicare. The fraud was big; hundreds of millions of dollars a year. She tried reporting it to her bosses, they shut her down. So she went to a lawyer and he told her about this old law.

BAKLID-KUNZ: The False Claims Act seemed to be the only tool I had to report this to the government.

SMITH: Now, just reporting fraud doesn't get you the money. You have to prove it. And the case took a long time - five years. And that whole time, Baklid-Kunz was working at Halifax health.

SMITH: What was that like? That sounds...

BAKLID-KUNZ: Lonely.

SMITH: Baklid-Kunz says no one at the company would speak to her. When she and one of her coworkers got lunch they met up really far away from the office, but they were spotted anyway.

BAKLID-KUNZ: And she was literally told that if she cared about her job, she had to stay away from me. When it started impacting my friends, it was very difficult.

SMITH: Halifax Health settled with the government in March for $85 million. Baklid-Kunz got around $20 million of that. But she says one thing still bothers her - her bosses didn't pay the price.

BAKLID-KUNZ: They've gotten promotions. They're still there. There's been no punishment on them and I just didn't think that would happen.

SMITH: This is the big downside of the False Claims Act - it's a civil law, not a criminal law. Companies that get caught have to pay money but the people involved won't go to jail.

Patrick Burns, with Taxpayers Against Fraud, wonders if it really teaches companies a lesson.

BURNS: The problem is, if all you're doing is hitting publicly traded companies financially, you probably haven't hit them where it hurts.

SMITH: When lawmakers designed the False Claims Act during the Civil War, they thought a big fine with stop fraud. In those days, companies were much smaller and fines could bankrupt you. But now in the age of corporations, a big fine is paid by the shareholders. Often, no one is held personally responsible. So while the government is pulling in a bunch of money from this law - $5 billion this year alone - no one claims that it's reducing fraud, just helping offset it a little.

Stacey Vanek Smith, NPR News. Transcript provided by NPR, Copyright NPR.