The Hill: DOJ’s proposed third-party settlement payment rule is ripe for abuse

Imagine that the Justice Department has settled a big case against a bank accused of race discrimination in lending. Many people have come forward to claim their portion of the settlement fund, but not as many as the parties initially estimated and significant money remains unclaimed.

What should happen to the leftover money? Should it go back to the bank? Maybe, but that might mean that the bank essentially has gotten off easy. What about paying extra to the people who came forward? Perhaps, but it seems odd that they should benefit financially simply because they were easier for the Department of Justice (DOJ) to find. Until recently, the government avoided these twin problems by depositing leftover settlement funds in the Treasury.

All that changed in 2009, when the Justice Department’s Civil Rights Division adopted a policy of diverting leftover settlement funds to third-party charities. A similar practice long has existed in private litigation, notably in class-action cases, where it is known as “cy pres,” from the French “cy pres comme possible,” meaning “as nearly as possible.” The principle originated in trusts and estates law, where courts construed wills to award unfulfillable bequests to a charity as similar as possible to the decedent’s original choice. But that practice is subject to greater abuse outside the trust context.

Records show that the Civil Rights Division often used third-party settlement payments after 2009, but it was far from the only division within the DOJ that did. For example, the Justice Department and many agencies charged with enforcing the nation’s environmental laws, including the Environmental Protection Agency and Department of the Interior, entered into settlement agreements requiring private parties to fund “Supplemental Environmental Projects,” or SEPs. The use of SEPs often leads to parties being strong-armed into funding organizations that share the current administration’s policy preferences. For example, in 2012, Gibson Guitar Company was required to “donate” half a million dollars to the National Fish and Wildlife Foundation to benefit the environment.

In the private litigation context, cy pres has been controversial in class-action lawsuits. As law professor Samuel Issacharoff told the New York Times, “It gives rise to this unbelievable world that I was shocked to hear about, and I’m not easily shocked in litigation. Charities hire lawyers to go lobby the judge for extra money.”

There is even the occasional private settlement that offers no payments to class members and pays only third-party charities. A pending certiorari petition filed by Theodore Frank — an attorney who has won numerous cases fighting against settlement abuses — has asked the Supreme Court to rule on whether such settlements are permissible under federal laws governing class actions.

Lawyers have been notorious for choosing recipient organizations that, although perhaps worthy, are closer to their hearts than those of the plaintiff class. For example, law schools, notably those attended by a lawyer or judge in the case, often have been third-party settlement beneficiaries.

But when the Department of Justice is the entity doling out leftover settlement funds, additional concerns exist. Diverting government funds to non-governmental third parties violates the Constitution’s Appropriations Clause, the Miscellaneous Receipts Act, and the Anti-Deficiency Act, all of which are designed to ensure Congress controls the purse and that executive branch officials can’t create their own slush funds.

The practice also promotes political cronyism by allowing preferred third parties to receive public funds. DOJ emails produced to Congress revealed that federal officials cautioned colleagues specifically not to allow any settlement funds to support our nonprofit employer, Pacific Legal Foundation — not that we were seeking any — because of our perceived ideological orientation.

Other emails showed that leaders of nonprofits were aggressively lobbying for donations and regularly met with then-Assistant Attorney General Tony West to request third-party settlement payments. One nonprofit leader joked about building a statue of West to which his employees could bow down every day after the DOJ’s $200,000 payment cleared.

What about safeguards to ensure the payment recipients avoid waste, fraud and abuse? Ordinarily, when the federal government grants money to a private organization, financial auditing and reporting rules are in place to ensure that the grant is used as intended. But no such guardrails on taxpayer money exist when the government hands out grants as third-party settlement payments.

Because of these problems and others, the Trump administration issued rules abandoning the use of third-party payments in 2017. But now, the Biden administration has issued a draft rule that would bring them back. The draft rule does contain safeguards that would limit some problems described above, but those modest protections don’t cure the fundamental constitutional and statutory violations.

The Department of Justice should reject this draft rule and revive the older prohibition on third-party settlement payments. Taxpayer money should not be used for this politically motivated cronyism.

This op-ed was originally published at The Hill on August 8, 2022.