A Reminder Not to Commit DBE Fraud

As has been discussed on this blog, the most common form of fraud involving the Department of Transportation’s disadvantaged business enterprise program, involves a “pass through” entity that performs little or no actual work on the construction project.  Under this common scheme, a general contractor hires a subcontractor that has been certified a DBE and uses the value of the work subcontracted towards the percentage of work it has agreed to perform using DBE firms, however, in reality, the DBE does not perform a “commercially useful function.”  Instead, the work is performed by a non-DBE firm or even the general contractor’s own employees.

Sometimes the fraud is one of willful ignorance of the scheme by the general contractor, who knows the pass through scheme is happening and simply winks, nods, and looks the other way.  Other times the scheme is more blatant and the firm guilty of DBE fraud willfully engages in the pass through scheme, like the one announced yesterday by the U.S. Attorneys Office in North Carolina.  There the U.S. Attorney filed a 29 count indictment against a North Carolina highway construction firm and its executives for taking part in a massive and complex DBE fraud scheme involving a pass through entity.  The case is troubling because of extent of the actions the firm and individuals involved took to try covering up the pass through scheme.

The indictment alleges that Boggs Paving, it’s President, Vice-President, CFO, and Chief Estimator violated federal mail fraud, wire fraud, and money laundering laws, by engaging in a massive scheme to obtain contracts through the North Carolina DOT by using a pass through scheme involving a DBE trucking firm.  (The DBE firm and its principal were also indicted.)

It is not criminal per se to violate the DOT’s DBE program.  What makes the violating the DBE program criminal is that it invariably involves violating federal mail and wire fraud laws.  An individual or corporation commits mail fraud when the U.S. mail is used in furtherance of a fraud scheme.  Likewise, wire fraud occurs when a telephone or the internet (i.e. the wires) are used in a scheme to obtain money from a person or entity through false or fraudulent pretense.  Mail and wire fraud occurs in the context of DBE fraud because mail, telephones, and the internet are used in submitting bids, payment applications, and DBE compliance reports all of which make false statements about the level of participation by DBE firms.  Moreover, because it is the use of the mail and wires that is the violation, firms and individuals can be indicted even though the DBE fraud involved a county or municipal DBE program.  Each mail and wire fraud count carries a maximum sentence of 20 years in federal prison.

Because all the government must show in a mail or wire fraud case is that the mail or wire was used in “furtherance of the scheme,” it is hard to imagine what defense the indicted individuals in this case will have to the government’s claims.  Here, without falsely claiming the level of DBE participation in writing there could be no DBE fraud because the NCDOT would never have paid Boggs for its work.

This case is a reminder that federal authorities are on the lookout for DBE fraud and the consequences for construction firms and their executives violating DBE rules.

Will the Supreme Court’s Fisher Decision Impact the DOT DBE Programs?

(This post is a guest blog post from John Sullivan, Esquire.  John specializes in DBE issues and disparity studies.  His website is www.crosonlegalservices.com and his he can be reached via email at jcharlessullivan@yahoo.com)

During the last week of its just-concluded term, the United States Supreme Court ruled on the constitutionality of racial preferences at the University of Texas. The impact of Fisher v. Texas is not limited to preferences in public education. Fisher poses a serious threat to the USDOT Disadvantaged Business Enterprise program.

Why does Fisher threaten the constitutionality of the DBE program? In Fisher the Supreme Court ruled that any race conscious preferences, like those benefitting DBEs on USDOT contracts, are permissible only if the government has shown that “workable race-neutral alternatives do not suffice.”

Very few state DOTs have invested much effort in evaluating the race neutral parts of their DBE programs. It’s true that USDOT regulations require every state DOT to maximize the race neutral portion of its annual DBE goal. In reality, state DOTs seldom do what Fisher insists on: “serious, good faith consideration of workable race-neutral alternatives.”

For instance: it is often suggested that the largest USDOT projects like interstate construction and tunnel work be unbundled. This would allow smaller firms – both DBEs and non-DBEs – to effectively compete for these otherwise prohibitively large contracts. How often does unbundling happen? Is the effectiveness of doing so ever examined with any care?

There are probably dozens of state DOTs with bonding assistance programs. How often are these programs given “good faith consideration” of their effectiveness? If the programs aren’t evaluated, how can the agency know that workable race neutral alternatives do not exist?

Fisher may impact DBE preferences on construction contract with particular force. Certain industries get hit hardest by the DBE goals: guardrails and fencing, signage, and landscaping are examples. DBEs inevitably gravitate to these fields as subcontractors. That’s understandable; DBEs are more likely to be selected by the prime when a DBE goal has to be met and these are the specialties where goals are most often set.

In those specialties where DBE subs thrive, non-DBE subs struggle. Current court challenges to the constitutionality of state DBE programs reflect this: Geyer Signal v. Minnesota DOT and Midwest Fence v. Illinois DOT.

USDOT regs anticipate this result by prohibiting an over-concentration of DBEs in any specialty. To date, no court has struck down a DBE program due to over-concentration of DBEs.  After Fisher, with its insistence on good faith consideration of race neutral alternatives, that may be changing.

What Happens When You Do Not Follow DBE Rules?

You end up paying $1.15 million to the Justice Department to settle claims that you violated the False Claims Act.  As reported by ENR, Caddell Construction of Montgomery, AL, agreed to pay the Justice Department $1.15 million to settle charges that it violated the False Claims Act by —  you guessed it — committing DBE fraud.  According to the story:

The company agreed to pay $1,150,000 to settle allegations that it violated the False Claims Act by falsely reporting to the Army Corps of Engineers that it hired and mentored a Native American-owned company to work on Fort Bragg and Fort Campbell projects.

As is typical in DBE fraud cases, the Native American firm that Caddell certified as a DBE was merely a “pass through” entity who was performing no commercially useful function.

Perhaps as significant as the fine, is that the charges also led to the indictment of two Caddell Construction executives on federal fraud charges.  This story underscores how serious firms must take participation in government DBE programs.  Fines are bad, jail time is worse.

DBE/MBE Goals Threaten to Make Complete Mess of Project

Here is one I have not seen before, a project that threatens to get derailed because the general contractor proactively included M/WBE goals in its contract.  The story reported in the Baltimore Business Journal  involves M/WBE hiring goals in Whiting-Turner’s contract to build the Horseshoe Casino in Baltimore.  According to the story, Whiting Turner, the project’s general contractor, preemptively set M/WBE participation goals before the Maryland Lottery and Gaming Control Commission, the state agency in charge of the project, set its official M/WBE hiring goals.  Whiting-Turner established a 25% MBE goal and a 2% WBE goal.  However, the Maryland Minority Contractors Association believes that goal is arbitrary and too low and is threaten to bring suit to prevent the project from proceeding until the state sets its official hiring goals for the project.  Interestingly, the Maryland Governors office concedes that state’s MBE regulations apply to the project.

There are several interesting aspects of this story.  First, there is the issue of standing.  As a threshold matter, the MCA must demonstrate that it has a protected right or interest that the Gaming Commission actions has harmed.  However, the MCA has no “right” to have a certain amount of work set aside to its members.  In fact, strict quotas and set aside are invalid.

Second, if Whiting-Turner already has a contract with the Gaming Commission with W/MBE hiring goals that the Commission accepted, the Commission would be in a tough legal position to demand that Whiting -Turner change those goals.  Whiting-Turner would be on sound legal ground to refuse any change to the W/MBE goals in its contract with the Commission.

Finally, the legal theory that the Minority Contractors Association is positing to challenge the goals is interesting.  The MCA claims that the State must establish hiring goals based upon a disparity study and is apparently relying upon the Maryland District Court’s holding in Associated Util. Contractors of Maryland, Inc. v. Mayor & City Council of Baltimore, 83 F. Supp. 2d 613, 622 (D. Md. 2000).  What’s interesting is that case involved the challenge to MBE program by a — largely — non-minority contractor’s association, who claimed that their non-minority members would be injured by the program.  The holding in that case reaffirmed the long standing proposition that in order to survive constitutional muster courts would apply a strict scrutiny analysis to MBE programs and that in order to survive such scrutiny that state proposing the race based program needs to come forward with compelling evidence of discrimination, i.e. a disparity study.

Here, a challenge to Whiting-Turner’s contract based on this theory could very well blow up in the MCA’s face because a disparity study is used to just the constitutionality of the program.  If the Court comes back and requires a disparity study which shows that the goals should be less than what Whiting Turner proposed, it could trigger a lawsuit by non-minority firms while also decreasing the number of minority firms participating on the project.

The MCA may want to rethink their strategy here.

Another Guilty Plea in a DBE Case

If you have not gotten the point by now that you should take DBE regulations serious, you should.  The DOT Inspector General posted these two item on its web page today:

“On September 11, 2012, Michael Paletta, president of Crossboro Construction Contracting, pled guilty in United States District Court, New York, New York, to a mail fraud conspiracy. Between approximately 1994 and March 2011, Mr. Paletta, on behalf of Crossboro (a non-DBE), conspired with MS Construction (a DBE) to perform construction work on various federally-funded bridge projects in Manhattan and other boroughs where MS Construction was the purported DBE subcontractor. MS Construction was paid approximately 5% as its “fee” and relied upon Crossboro for performance of the actual work.”

“On September 5, 2012, Dennis Degrazia, pled guilty in U.S. District Court, Boston, Massachusetts, for his role in a scheme to impede, impair, and obstruct the U.S. Department of Transportation’s Disadvantaged Business Enterprise (DBE) program. In May 2011, David Hebert, Robert Dickerson, and Mr. Degrazia were indicted in conjunction with this scheme.”

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More DBE Fraud News

A story in Oregon’s Daily Journal of Commerce states that the FHWA announced that an investigation revealed that three highway contractors – Bud Construction LLC, Emery and Sons Inc., and Salt and Pepper Construction Co. – “contrived a relationship” to meet DBE program requirements for a $35 million Oregon DOT project completed in February.

According to the report, Bud, Emery, and Salt and Pepper, enter into a classic pass through scheme to whereby the stated MBE contractor performs no “commercial useful function” but rather that function is performed by a non-DBE contractor.

For now, the only sanctions appear to a removal of Salt and Pepper Construction Co.’s DBE status.  But, based on the allegations more severe sanction could follow.  Both Bud Construction, LLC and Emery and Sons, Inc. could be debarred from bidding on federal highway projects and could face heavy civil fines.  Worse yet could be criminal charges brought against the individuals involved with the scheme.

The most damning evidence could come from a statement given by the owner of Bud Construction where he stated:

“I’ve never been paid for that, and I’ve been doing this same thing 20 years for (Salt and Pepper),” he said. “I don’t know the wording; I’ve never seen (DBE) rules or regulations. All I do is coordinate that X amount of trucks are coming that day and I’m on the job site to make sure they are in place … I do it for a friend.”

As discussed before on this blog, the DOT and FHWA rules require DBE “rules and regulations” to appear in every federal highway contract.  Moreover, lack of knowledge of the rules is unlikely to be much of a defense in any criminal action against any of the individuals involved.

Despite all of this, one of the those involved was undeterred boldly boasting:

“Come after me; I don’t care.”

We can only speculate if he will maintain that same bravado when federal prosecutors come knocking on his door.

FAQ’s About DBE Fraud?

I received a number of questions regarding my last post about the growing number of federal prosecutions involving fraud in disadvantage business enterprise (“DBE”) programs.

Do the same rules apply to MBE and WBE contractors?

Yes.  MBE’s and WBE’s are both DBE’s.  MBE stands for minority business enterprise.   WBE stands for women (owned) business enterprise.  Therefore, firms working with MBE’s and WBE’s should report any suspected fraud on part of a MBE or WBE and should take caution when certifying monthly reports involving MBE and WBE firms.

What if I only work on state or local projects?

The last post involved the Department of Transportation’s DBE program.  That program applies only to projects involving federal transportation funding.  As a condition of receiving federal transportation money, state transportation agencies are required to implement DBE program that follows the Department of Transportation’s guidelines.  However, many state and local governments have their own DBE programs.   For example, the City of Philadelphia has its own DBE program for all City owned construction projects.

Even if the DBE program is purely a state or local DBE program, you could still find yourself the subject of the ire of federal prosecutors if you knowingly engage in a scheme to defraud the program.  As mentioned in my last post, violating the DBE program’s requirements is not against the law.  What is against the law are the predicate acts that you engage in while violating the program, such as mail fraud and wire fraud.  Therefore, if you are involved with a DBE fraud scheme on a purely state or local job and the mail, phone, or internet is used as part of that scheme, then you could be prosecuted under federal law.  Mail fraud and wire fraud are so broad that there is no wonder they are known as a prosecutor’s best friend.

Additionally, while many state and local projects are administered by a state or local agency, they often involve federal funds.  With federal funds comes the requirement that recipients follows federal law.  Therefore, you need to check your DBE program’s requirements carefully in order to assure that you know which program you are proceeding under.

What if I am asked to do work for a DBE by the general contractor?

Quite a few folks, who are non-DBE firms, advised me – somewhat disturbingly – that they have often been asked by a project’s general contractor during a project to perform work for a DBE firm rather than the party with whom they originally contracted.  While those that asked me were not entirely sure why they were asked to do so, the assumption is that the DBE could not handle the work for which it contracted.  In that scenario, if the non-DBE acquiesced to the general contractor’s request it could unwittingly find itself caught up in a classic DBE pass through fraud scheme.  In a DBE pass through scheme, the general contractor contracts with a DBE and certifies that a DBE is performing a certain percentage of the work.  However, in reality the work is actually being performed by a non-DBE entity.  If you firm was part of the scheme to conduct DBE fraud, it could be subject to charges of conspiracy.  Therefore, if you suspect you are being asked to contract with a DBE and your firm is going to perform all or a substantial portion of that DBE’s work, you should call an attorney before you proceed.

Of course, I invite additional questions on this topic and will reply to them in a future post.

The Growing Prosecutorial Interest in DBE Fraud

Yesterday, I “attended” an American Bar Association webinar on “Minority Contracting Programs: A Growing Criminal Risk to Corporations.”   The message was clear – federal prosecutions of DBE fraud are on the rise. Indeed, federal prosecution of DBE fraud has occurred in recent years in the following states:  Florida, Illinois, Kansas, Massachusetts, Minnesota, New York, Ohio, Oklahoma, Pennsylvania, and West Virginia.   Moreover, the consequences of running afoul of DBE requirements are dire running the gamut from prison time, multimillion dollar fines, forfeiture of all (not just profits) proceeds from a contract, and debarment or suspension.

Here is a summary of some key points made by the panel:

1.  Personal Liability.  Contractors that engage in DBE fraud can be fined, disbarred, or suspended.  However, individuals within a firm are potentially personal liable for the DBE violation and can be sent to jail.  In fact, one need only look at the Department of Transportation, Office of Inspector General,webpage to see the long list of individuals who were found personally liable for DBE fraud   While violating DBE requirements itself is not a federal crime (yet, may result in administrative suspension or debarment), the acts committed while violating the program’s requirements, such as mail fraud or wire fraud, are.  Under federal mail and wire fraud laws, anyone with knowledge and intent who engages in a scheme to commit mail or wire fraud is potentially liable, not just the contract’s signatory.

2.  Its Not Just the Little Guys.  Think prosecutions are limited to sham or pass through DBE’s or unscrupulous general contractors?  Think again.  Skanska, Schiavone, Bovis Lend Lease, and Perini are a few of the names that have found themselves on the other end of federal DBE investigations resulting in large fines and even jail time for principals engaged in the fraud.

3.  Certified DBE’s Do Not Equal Compliance.   The panel emphasized that the single biggest compliance mistake contractors make is assuming that using certified a DBE equates to compliance.  Simply using certified DBE’s is not enough because virtual every prosecution has involved a certified DBE.  Instead, contractors must make sure they are complying with all of the contracting agency’s DBE program requirements.  In fact, most State and local agency DBE program’s require that a general contractor assume the duty of assuring compliance on its behalf and on behalf of its DBE subcontractors.  For example, here in Pennsylvania, PENNDOT’s DBE program requirements state “[f]ailure by a prime contractor and subcontractors to carry out the DBE requirements constitutes a breach of contract and may result in termination of the contract or action as appropriate.”

4.  If you suspect fraud, report it.  Even if you lack direct knowledge that one of your DBE subcontractors is a fraud, your firm could still wind up in a prosecutor’s cross hairs.  In addition to assuming responsibility for compliance, nearly all DBE programs require prime contractors to submit monthly certifications certifying under oath – and the threat of perjury – that DBE’s performed a portion of the work and/or have been fully paid.  Therefore, contractors need to take the suspicion of DBE fraud by one of their DBE subcontractors very seriously.  In fact, the panel stated that “no decision is more important” than a contractor’s decision to investigate whether its DBE subcontractor is engaging in DBE fraud because  if a contractor decides to look the other way the individuals looking the other way could be personally liable.  Or, at a minimum could find themselves answering serious questions from federal prosecutors.

5.  Low level individuals usually are the issue.  Many of the DBE cases imposing corporate liability on contractors have involved low level individuals (often in the field) within the firm.  In fact, in many cases the executives and principals of the prime contractor were unaware of the fraudulent activity.

6.  The Constitutionality of a DBE program is not a defense.  DBE programs are controversial and often subject to attacks on constitutional grounds.  However, even if a program is found to be constitutionally invalid, convictions for violating the now invalid DBE program will stand.

7.  Understand the Whole Program.  An RFP and contract may not set out the complete details of a State’s or agency’s DBE program. Rather, many contain only a boilerplate reference that the contractor agrees to abide by “all federal, state, and local laws,” which would include applicable DBE requirements.  Prosecutors often cite these provisions as evidence that a contractor or individual had knowledge of the specific requirements of the DBE rules.  Therefore, contractors and their employees must familiarize themselves with the individual requirements of each agency’s DBE program, which vary from agency to agency.

Obviously, the consequences of not maintaining a strong DBE compliance program are severe.  Contractors required to comply with a DBE program should make sure they are aware of the program’s specifics.  Moreover, if contractors suspect fraud they should take immediate action to ascertain whether their suspicion has merit.  Otherwise, your firm could wind up facing “bet the company” litigation or individual employees could be facing jail time.