The suit the Justice Department is joining was filed in 2010 by former teammate Floyd Landis, who was stripped of his 2006 Tour de France title for doping.
Settlement discussions had been under way between the Justice Department and Armstrong's lawyers. A person familiar with the negotiations says the two sides are tens of millions of dollars apart on how much Armstrong should pay to settle the case. The person spoke on condition of anonymity because the source was not authorized to speak on the record about the private talks.
An Armstrong lawyer, Robert Luskin, said negotiations with the government failed because "we disagree about whether the postal service was damaged."
"The postal service's own studies show that the service benefited tremendously from its sponsorship - benefits totaling more than $100 million," said Luskin.
Luskin said, "Lance and his representatives worked constructively over these last weeks with federal lawyers to resolve this case fairly."
The Landis lawsuit was filed under seal, but it will be unsealed with the Justice Department decision to join or, in essence, take over the case.
Armstrong was the subject of a two-year federal grand jury investigation that the Justice Department dropped a year ago without an indictment.
Throughout his career, Armstrong always denied drug use, but he confessed to having done so in an interview last month.
In October, the U.S. Anti-Doping Agency released a report that included affidavits from 11 of Armstrong's former teammates. These affidavits detailed how the teammates were supplied with EPO - a banned energy-boosting hormone that stimulates red blood cell production - by Armstrong and saw him inject, and how they were pressured to dope and bullied by Armstrong and Johan Bruyneel, the team manager. The cycling world's governing body then stripped Armstrong of the seven Tour de France titles he won from 1999 to 2005.
Last month, the head of USADA lobbied Attorney General Eric Holder for the Justice Department to join the lawsuit against Armstrong. USADA chief executive Travis Tygart has called the doping by Armstrong and the postal service teams a "massive economic fraud."
Under the False Claims Act, citizens can act as whistle-blowers and sue to recover money they believe was obtained through fraud against the federal government. These suits remain under seal until the Justice Department decides whether it thinks there is enough merit in the case to take it over. The private whistleblower receives a percentage of any money ultimately recovered.
Armstrong and USADA officials talked on and off over a couple of months about the terms under which the cyclist might sit down for a long interview to tell all he knows about doping in cycling, but Armstrong said he would not cooperate.
A person familiar with discussions between Armstrong and USADA, who spoke on condition of anonymity because the discussions were private, said among the topics was how much protection USADA could provide Armstrong in the whistle-blower case and against possible criminal action. The cyclist and his attorneys ultimately were not satisfied with USADA's offer, the person said.
In commenting Wednesday on Armstrong's refusal to talk, Tygart said that, "over the last few weeks he has led us to believe that he wanted to come in and assist USADA but was worried of potential criminal and civil liability if he did so."
If the Justice Department ends up taking the whistle-blower case all the way to trial, a key issue is likely to be whether the U.S. Postal Service - the Armstrong team's sponsor - suffered financial harm from the drug scandal.
The government must prove not only that the postal service was defrauded, but that it was damaged in some way.
Studies conducted for the postal service point to huge financial benefits from the sponsorship.
The government could argue that all of the recent controversy tarnishes the whole sponsorship and has damaged the postal service.
But the USPS sponsorship ended long ago and relatively few people reading stories about the current controversy are associating Armstrong with the post office. Armstrong's last sponsor for his final two Tours de France was Radio Shack, in 2009 and 2010.
The studies for the postal service state that the agency reaped at least $139 million in worldwide brand exposure in four years - $35 million to $40 million for sponsoring the Armstrong team in 2001; $38 million to $42 million in 2002; $31 million in 2003; and $34.6 million in 2004.
Despite those numbers, Armstrong is fighting an uphill battle.
The government has a potentially strong weapon on its side: An argument could be made that until recent months there was an active, ongoing conspiracy to cover up Armstrong's alleged fraud. If the case ever goes to trial, that argument could persuade a judge to allow in a huge amount of evidence on Armstrong's use of performance-enhancing drugs dating back to the 1990s - evidence that would be barred from the government's court case as too old if there were no extended conspiracy.