Small Gov. Contractors Slammed by Ethics Rule

A sweeping new ethics rule that takes effect this month marks the beginning of some major compliance headaches for government contractors.

Starting Dec. 12, amendments to the Federal Acquisition Regulation—the body of regulations that spell out the government procurement process—require mandatory disclosure by government contractors of certain violations of federal criminal law, the False Claims Act, and significant overpayments, or risk possible suspension or debarment.

West

“This is the elimination of the ‘fix it and forget’ approach,” says Joseph West, a partner in the law firm Gibson, Dunn & Crutcher.

The rule, which tightens the compliance requirements and imposes mandatory disclosure on government contractors, stems from concerns raised by a 2007 request by the Justice Department and by the passage this year of the Close the Contractor Fraud Loophole Act. Fears were that many government contractors ignored the current regime of voluntary disclosure.

Under the rule, government contractors and sub-contractors with contracts exceeding $5 million and 120 days’ duration will be required to self report violations whenever the contractor has credible evidence of a violation of federal criminal law involving fraud, conflict of interest, bribery, or improper gratuity under Title 18 of the U.S. Code; or evidence of a civil False Claim Act violation, in connection with the award, performance, or closeout of a federal government contract.

Hordell

Michael Hordell, a partner at the law firm Pepper Hamilton, says the measure has “far-reaching and unclear implications.”

One crucial change from the original proposal is a narrowing of the reporting trigger; it went from “reasonable grounds to believe” in the proposal to “credible evidence” of an infraction in the final version. Still, says Eric Leonard, a partner in the law firm Wiley & Rein, “it remains to be seen what exactly credible evidence means.”

For that reason, he advises contractors to document all investigations whether or not they decide the incident requires disclosure, in the event that the contractor could have to defend itself against suspension or debarment. (The mandatory disclosure requirements are in effect for three years from the final payment under each federal government contract.)

Krista Pages, a lawyer with the firm Winston & Strawn, notes that the regulation doesn’t affect government contractors who have commercial contracts as defined in FAR Part 12, government contractors who are small contractors and sub-contractors, or ones who have federal contracts of less than $5 million.

West says contractors will face significant challenges “figuring out what’s truly a violation that needs to be disclosed.” Moreover, he adds, “There’s no guarantee that even if you make the required disclosures that you’ll be treated kindly by the government.”

Leonard

In particular, Leonard says the disclosure of civil False Claims Act violations is “going to be a nightmare” because the law in the False Claims area is constantly in flux. Related pending amendments in the False Claims Correction Act could also expand who can bring a case under the law, he says, which could change the FCA environment tremendously and further complicate corporate compliance.

Further, Hordell says companies that report civil False Claims Act violations could potentially expose themselves to actions by private plaintiffs acting on behalf of the government.

New Ethics Programs

The new rule also requires certain government contractors (except for small businesses and commercial-item contractors) to implement an ethics and compliance program, and to get a system of internal control running within 90 days of winning a contract to ensure those ethical standards are followed. And a pre-existing rule mandating codes of conduct for larger contractors handling larger deals (contracts larger than $5 million and more than four months long) will now be extended to small business and commercial-item contractors, as well as those who perform federal contracts exclusively outside the United States.

For the Raytheons, Boeings, and other giant government contractors, the new rules will not require anything they don’t already do. The compliance burden, Pages says, will mostly fall on those contractors new to the federal purchasing game or those with only a small portion of business in the federal arena.

Pages

“It is my experience that their management questions the need for what I would consider ‘adequate’ compliance programs, auditing specifically directed at government contract compliance, and the establishment of a hotline monitoring program,” she says.

The new mandatory reporting requirement, with the additional threat of suspension or disbarment “ups the ante for these companies to either leave the federal marketplace or put an adequate compliance program in place,” she says. For the larger and more savvy government contractors, Pages says the challenge will be to make sure they self report whenever they have “credible evidence” that a violation as described in the regulation has occurred.

West notes that large contractors can also have tens or hundreds of thousands of employees around the world, all of whom can create mandatory disclosure obligations. For that reason, he says large government contractors will have to devote even more resources to FAR compliance. “For the big boys this will mean more investigations, deeper training, and more reporting,” he says.

NOT FAR AWAY

A summary of the FAR rule follows.

FAC 2005-28 amends the FAR as specified below: Item I—Contractor Business Ethics Compliance Program and Disclosure Requirements (FAR Case 2007-006).

This final rule amends the Federal Acquisition Regulation to

amplify the requirements for a contractor code of business ethics and conduct, an internal control system, and disclosure to the Government of certain violations of criminal law, violations of the civil False Claims Act, or significant overpayments. The rule provides for the suspension or debarment of a contractor for knowing failure by a principal to timely disclose, in writing, to the agency Office of the Inspector General, with a copy to the contracting officer, certain violations of criminal law, violations of the civil False Claims Act, or significant overpayments. The final rule implements “The Close the Contractor Fraud Loophole Act,” Public Law 110-252, Title VI, Chapter 1. The statute defines a covered contract to mean “any contract in an amount greater than $5,000,000 and more than 120 days in duration.” The final rule also provides that the contractor’s Internal Control System shall be established within 90 days after contract award, unless the Contracting Officer establishes a longer time period. The internal control system is not required for small businesses or commercial item contracts.

Source

Federal Acquisition Regulation; Final Rules (Nov. 12, 2008).

Smaller contractors, meanwhile, will “have more work to put in the necessary programs, and they face higher risks of being suspended or debarred,” he says.

Regardless of their size, West says all contractors ought to review their current compliance program to see how it compares with FAR’s new requirements. He expects most companies will need to beef up their internal controls systems in light of the changes.

“Most compliance programs are preventative in nature, but I don’t know that many go down the ‘detect’ route very well, if at all,” he says.

West also suggests contractors consider appointing a single point of contact to provide advice on disclosure obligations, rather than having various managers in different business units make their own decisions about what gets disclosed.

“You want to have somebody vet that information … so there’s consistency in how it gets done,” he says. That person could be outside or in-house counsel, or some other role that reports to a chief compliance officer, who should ultimately be alerted to all possible violations.