Global Policy Forum

Millions Missing from Program for Rebuilding

By Farah Stockman

American contractors swindled hundreds of millions of dollars in Iraqi funds, but so far there is no way for Iraq's government to recoup the money, according to US investigators and civil attorneys tracking fraud claims against contractors. Courts in the United States are beginning to force contractors to repay reconstruction funds stolen from the American government. But legal roadblocks have prevented Iraq from recovering funds that were seized from the Iraqi government by the US-led coalition and then paid to contractors who failed to do the work.

A US law that allows citizens to recover money from dishonest contractors protects only the US government, not foreign governments. In addition, an Iraqi law created by the Coalition Provisional Authority days before it ceded sovereignty to Iraq in June 2004 gives American contractors immunity from prosecution in Iraq. "In effect, it makes Iraq into a 'free-fraud zone,'" said Alan Grayson, a Virginia attorney who is suing the private security firm Custer Battles in a whistle-blower lawsuit filed by former employees. A federal jury last month found the Rhode Island-based company liable for $3 million in fraudulent billings in Iraq.

Even the United Nations panel set up to monitor the use of Iraq's seized assets has no power to prosecute wrongdoers. "The Iraqi people are out of luck, the way it stands right now," said Patrick Burns, spokesman for Taxpayers Against Fraud, a watchdog group that helps US citizens file cases such as the Custer Battles action. Iraqi leaders, paralyzed by political deadlock in forming a new government, have so far made no formal complaint about funds that were paid out to dishonest contractors. But US officials say the need for Iraq to recoup the stolen money has become more urgent as it faces a budget shortfall of billions of dollars.

The problem has become so acute that an interagency working group, which includes officials from the State Department and the Department of Justice, has been set up to try to come up with a mechanism to return the funds, according to two US officials who are involved. The issue dates to the earliest days after the March 2003 invasion, when US officials thought Iraqi money would cover the costs of reconstruction. As the Coalition Provisional Authority took control just after the fall of Saddam Hussein, it seized Iraq's oil revenues, money found in bank accounts and in Hussein's palaces, and the balance from the UN's oil-for-food program.

The coalition ultimately controlled more than $20.7 billion in Iraqi funds. The money was deposited into an account called the Development Fund for Iraq, or DFI, which was set up, in the words of the US administrator at the time, L. Paul Bremer III, "for the benefit of the Iraqi people." The fund represented the first cash reservoir US officials turned to as they worked to rebuild roads, bridges, and clinics. It carried fewer restrictions than the $18.4 billion in US funds appropriated around that time for reconstruction because those funds could only be used in ways designated by Congress.

But the Coalition Provisional Authority lacked basic controls and accounting procedures to keep track of the billions in Iraqi money it was doling out to contractors, according to a series of audits issued in 2005 and 2006 by the Special Inspector General for Iraq Reconstruction, a temporary office set up by Congress to oversee the use of reconstruction funds. One review of the files relating to 198 separate contracts found that 154 contained no evidence that goods or services promised by contractors were ever received, according to an April 2005 audit by the inspector general. In some cases, contractors were paid twice for the same job. In others cases, they were paid for work that was never done.

In June 2004, the Coalition Provisional Authority handed power and control of the DFI back to an Iraqi government. By then, the coalition had spent or disbursed about $14 billion of the Iraqi fund on reconstruction projects and on the administration of the government, according to the audits. Among the contracts paid for out of the Iraqi fund was Halliburton's controversial no-bid contract to restore Iraq's oil infrastructure, worth $2.4 billion. The Pentagon's auditors found $263 million in excessive or unsubstantiated costs for importing gasoline into Iraq, but the Pentagon said in February that it had agreed to pay a Halliburton subsidiary all but $10 million of the contested charges.

The special inspector general's investigations have resulted in the arrests of five suspects on criminal charges and is investigating 60 more cases involving alleged fraud and corruption in Iraq involving both US and DFI funds, according to James Mitchell, a spokesman for the inspector general. In addition, at least seven more cases against contractors have been filed in US civil courts under the federal False Claims Act, according to two private lawyers who have personal knowledge of the suits. The act, which dates to the Civil War, allows citizens to sue on behalf of the government when they suspect fraud in federal contracting. The cases are currently under seal until the Justice Department investigates them to determine whether the government will join the suit.

The cases eventually could help the US Treasury recover hundreds of millions of dollars from corrupt contractors, according to Grayson, the attorney suing Custer Battles, the first such case to reach the courts and become public. But the False Claims Act has not helped Iraq. Last month, a federal judge in Virginia ruled that it only protects the US government from fraud and that the United States suffered no direct economic loss from fraud involving Iraqi funds.

The result is a victory for American taxpayers, but a loss for Baghdad: In the first phase of the fraud claim involving Custer Battles, the jury ruled in March that the company should pay triple damages to the US Treasury for the $3 million it was paid for delivering a fleet of trucks that didn't work and old, spray-painted Iraqi cranes that were passed off as new imports. But the company, which has denied the charges in court and in other statements, does not have to repay any of the $12 million that came from the Development Fund for Iraq on the same contract, according to the judge's ruling.

Grayson said the injustice surrounding wasted Iraqi funds has helped fuel the insurgency. "The DFI was essentially treated as a 'slush fund' for various quasi-military projects, run by US contractors over whom Iraqis had no control," he said. "Like a colonial power, the Bush administration took Iraq's oil money, and wasted it. The Iraqis well know that. That's one reason why they're shooting at US soldiers."

Representative Henry A. Waxman, Democrat of California, has urged the administration to repay Iraq for the money paid to Custer Battles. ''This was Iraqi money, and it should be returned to the Iraqi people," he said in a statement. The Justice Department, which is pursuing criminal cases against contractors, says there is a chance that Iraq eventually could receive some restitution.

In February, Robert J. Stein Jr., a North Carolina man who issued contracts on behalf of the Coalition Provisional Authority, pleaded guilty to conspiring with at least three others to steal more than $2 million from the Iraqi fund. The money, earmarked for refurbishing a police academy and library in the town of Hillah, was spent on expensive cars, machine guns, jewelry; hundreds of thousands of dollars in cash was also smuggled into the United States.

As part of a plea deal, Stein has agreed to pay $3.6 million in restitution, but Bryan Sierra, a spokesman for the Department of Justice, said it is too early to say whether Iraq will receive the money as part of that deal. "It is possible that some of the money could go back to the Development Fund for Iraq," he said. "But that hasn't been determined yet."