Illinois Qui Tam Update: Where is the False Claim? Where is the Fraud?

In a much anticipated ruling from the Circuit Court of Cook County, the Honorable Judge Mulroy denied a qui tam defendant’s Motion to Dismiss even where the alleged false claim was disclosed by defendant on the face of its tax return. The unimpressive reason for allowing the case to proceed was that the Judge believes some facts remain to be resolved.

Where is the false claim?

The significance here is that the defendant actually disclosed to the Illinois Department of Revenue (the “Department”), on its filed tax returns, that it was not collecting or remitting tax on shipping and handling charges to its customers. Thus the defendant’s obvious argument that there cannot be a “knowing violation” under the Illinois False Claims Act as the defendant has already informed the State about that which it is being accused of presenting a false claim.

The more recent Stephen B. Diamond (“Diamond”) whistleblower lawsuits, filed under the Illinois False Claims Act (the “Act”), 740 ILCS ?175/1 et seq. have been based on the state tax question of whether shipping and handling charges should be included with the price of the merchandise for purposes of collecting sales and use tax from customers. The latest cases (with more being unsealed as we speak) focus on wineries and related companies. See my former blog post, “April Brings Blows to the Whistleblower?But Will it Continue?”

On June 16, 2015, Judge Mulroy heard oral argument on defendant’s Motion to Dismiss in State of Illinois, ex rel. Stephen B. Diamond v. Constellation Brands US Operations, Inc., 2014 L 7508. In support of its motion, the defendant presented a copy of a monthly sales and use tax return it filed with the Department. On its return, defendant specifically segregated its monthly shipping and handling charges for internet sales of merchandise sold into Illinois. The defendant identified those amounts with the following statement on the return: “Common Carrier Freight Charges Separately Stated.” The effect of separately identifying those amounts on the filed return was a notification to the Department that those charges were not being included in the taxable receipts and that tax was not being collected or remitted on those shipping and handling charges.

Where is the fraud?

The defendant argued that the case should be dismissed, as it could not have intended to defraud the State under these circumstances where it specifically communicated to the State that it was not collecting or remitting the tax. The Relator countered by arguing that defendant’s “government knowledge defense” was insufficient because (i) there was no audit of defendant’s returns and therefore the Department cannot know whether defendant even had an obligation to collect and remit such tax, and (ii) there was no affirmative approval of the returns from the Department. While Judge Mulroy correctly inquired of the Relator how a taxpayer should otherwise notify the State of its filing position, he ultimately ruled that more facts are needed before he can determine whether defendant committed a knowing violation and intended to defraud the State.

This decision is quite disappointing. The argument here is simple: if a taxpayer discloses to the Department that it is not collecting and remitting a tax, regardless of whether or not the Department takes a closer look through audit, there is certainly no false claim by the taxpayer or attempt to defraud the State on that issue.

Where is the false claim? Where is the fraud? The Department may ultimately determine that such tax should have been collected and remitted, but that is not fraud. Rather, at worst a mistaken application of law that could result in a tax assessment. Moreover, that would be a decision for the Department to make?not the Relator.

Can These Qui Tam Cases Be Stopped?

There are numerous current qui tam defendants in the same position, having disclosed similar facts to the Department on their returns. Alas, all is not lost. Judge Mulroy did leave the door open to potentially ruling differently for a defendant who can provide some additional information. But Judge Mulroy continued with his approach of preferring to rule on these qui tam matters only after hearing witnesses’ testimony during trial, rather than by way of a dispositive motion. Sadly, most qui tam defendants make the unappealing business decision to settle by paying extortion dollars, rather than having to proceed all the way to trial. Hopefully the State will step in to help soon or some positive legislation will pass, so this trend will not need to continue.

If you own a business that sells into Illinois, there are steps you can take today to help protect yourself from these whistleblower claims.  Contact your legal representative or the undersigned to discuss further.