oversight

Limited Review - REO Division Operations

Published by the Department of Housing and Urban Development, Office of Inspector General on 2000-02-10.

Below is a raw (and likely hideous) rendition of the original report. (PDF)

                                                                U.S. Department of Housing and Urban Development
                                                                              Office of Inspector General
                                                                                                Pacific/Hawaii District
                                                                                  450 Golden Gate Avenue, Box 36003
                                                                                 San Francisco, California 94102-3448




                                                                                           Audit Memorandum
                                                                                             00-SF-123-0801

February 10, 2000


MEMORANDUM FOR:                   Lily A. Lee, Director, Santa Ana Homeownership Center, 9JHH


FROM:                             Glenn S. Warner, District Inspector General for Audit, 9AGA

SUBJECT:                          Limited Review - REO Division Operations


                                             INTRODUCTION

We conducted a limited review to evaluate the internal control procedures in place for disposing
of HUD-acquired single family properties at: (1) the former HUD Los Angeles (LAAO) Real
Estate Owned (REO) Division during the time that a scheme involving the sale of REO properties
at well below the appraised value was perpetrated by a HUD housing specialist; (2) the Santa Ana
Homeownership Center (HOC) REO Division and, (3) the Management & Marketing (M & M)
contractor, Golden Feather. The purpose of the review was to determine the adequacy of the
internal control procedures at LAAO that allowed the scheme to occur and whether adequate
internal control procedures are in place at the Santa Ana HOC and Golden Feather to minimize the
likelihood that the scheme could reoccur.

                                                 SUMMARY

A Housing Specialist, at the GS 12 level, was able to arbitrarily mark down the selling price of
HUD owned properties because there was insufficient supervision. While HUD regulations
require price reductions to be justified and signed off by the Chief Property Officer, that
requirement was not being followed. Over our seven month test period, the Housing Specialist
ignored appraisals and lowered the selling price for 471 properties. The reductions for the 33
ranged from 38% to 91%. The selling price for these properties totaled $1,034,750, or
$3,007,062 lower than the appraisal. HUD’s nationwide goal is to sell properties at 98% of
appraised value. Based on this 98% goal, these arbitrary reductions by this one Housing
Specialist cost the insurance fund almost $3 million for the 33 cases reviewed.


1
 We only included 33 cases in our calculation because appraisal reports for the other 14 cases were missing.
Had the 14 additional cases been included, the estimated cost to the insurance fund would have been higher.
Audit Memorandum                                    Limited Review - REO Division Operations


In addition, we believe that the CPO did not provide adequate supervisory oversight of the housing
specialists to ensure that they disposed of REO properties in accordance with program
requirements. We evaluated the internal control procedures at Golden Feather and found that those
procedures are adequate to minimize the possibility that the scheme could reoccur. However, to
sufficiently minimize the risk, we believe, that improvements are needed in the Santa Ana HOC’s
monitoring of Golden Feather in order to ensure compliance with the established procedures and
to best safeguard HUD’s interests.


                                       BACKGROUND

The Federal Housing Administration’s (FHA) Single Family Mortgage Insurance Program helps
low and moderate income families purchase homes by reducing downpayments and lender fees.
FHA insures the loans on the homes. HUD acquires single family properties (one-to-four family
residential units) as a result of foreclosure of FHA-insured mortgages or special acquisitions.
Following foreclosure, mortgage lenders have the right to deed the properties to the Secretary of
HUD in exchange for the mortgage insurance benefits.

HUD disposes of acquired properties through its Property Disposition Program, administered by
the Office of Single Family Housing REO Division. Its mission is to reduce the property inventory
in a manner that expands homeownership opportunities, strengthens neighborhoods and
communities, and ensures a maximum return to the mortgage insurance funds.

In February 1993, HUD initiated a reinvention effort to streamline operations and reduce costs.
HUD began reducing program staff and consolidating its mortgage insurance processing, claims,
and property disposition activities from the field offices into four Homeownership Centers (HOC),
located in Santa Ana, California; Denver, Colorado; Atlanta, Georgia; and Philadelphia,
Pennsylvania. The Santa Ana HOC opened in February 1998; however, it did not fully assume the
responsibility for REO operations until August 1998.

Effective March 29, 1999, HUD contracted out for the management and marketing of properties
which are owned by, or in the custody of, HUD. These M & M contractors assumed full
responsibility for the management and marketing functions. Golden Feather was awarded the
contract for properties in Southern California. HUD’s primary role is to monitor the M & M
contractor’s compliance with its contract.

In December 1999 federal prosecutors in Los Angeles, California, filed criminal charges against a
HUD housing specialist and a real estate company owner to whom she allegedly sold HUD REO
properties at well below their appraised values. In exchange, the Housing Specialist accepted
about $80,000 in bribes and an automobile from the real estate company owner. These sales took
place between September 1997 and March 1998 before the REO workload was assumed by the
HOC. Both the Housing Specialist and the real estate company owner have agreed to plead guilty
to bribery and income tax reporting violations.




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Audit Memorandum                                    Limited Review - REO Division Operations



                                         OBJECTIVE

The objective of our review was to evaluate the internal control procedures in place for disposing
of REO properties:

1. At the former LAAO REO Division during the time that the HUD housing specialist
   perpetrated the scheme, and to determine the extent to which these procedures were being
   followed, which allowed the scheme to occur; and

2. At the Santa Ana HOC REO Division and the M & M contractor, Golden Feather, to determine
   whether adequate procedures are in place to minimize the likelihood that the scheme could
   reoccur.

                               SCOPE AND METHODOLOGY

To accomplish our objective, we performed the following:

ü Reviewed pertinent laws, regulations, HUD Handbooks, HUD M & M contractor monitoring
  guidelines, M & M contractor procedure manuals, and other directives related to REO
  operations;

ü With regard to the former Los Angeles Area Office (LAAO) REO Division, we:

       •   Interviewed the former REO Chief Property Officer to obtain an understanding of the
           established procedures and internal controls in place for disposing of REO properties;

       •   Reviewed a sample of case files for REO properties processed by the REO Division to
           verify whether staff complied with established procedures; and

       •   Reviewed case files for REO properties that were involved with the HUD housing
           specialist’s scheme to identify the areas where the breakdown in the internal controls
           had occurred.

ü At the Santa Ana HOC REO Division, we:

       •   Interviewed the REO Director, the two branch chiefs, and other selected staff to obtain
           an understanding of the established procedures in place for disposing of REO
           properties through the use of M & M contractors and monitoring the M & M
           contractor’s compliance with its contract; and

       •   Reviewed the assessment reports and supporting documentation to evaluate the
           adequacy of the HOC’s monitoring of the M & M contractor.




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Audit Memorandum                                    Limited Review - REO Division Operations


ü At Golden Feather, we:

       •   Interviewed the Vice President, and Contract Manager to obtain an understanding of the
           procedures and internal controls in place for disposing of REO properties; and

       •   Reviewed a sample of cases to verify whether staff followed the established
           procedures.

We performed the audit field work between January 11 - 21, 2000. The scope of our review
generally covered January 1997 through December 1999.


                                 WORKLOAD STATISTICS

During calendar years 1997, 1998, and 1999, REO property sales closed for Los Angeles were as
follows:

                           Los Angeles REO Properties - Closed Sales
                     Period/Office        Closed Sales       Monthly Average
              Los Angeles Area Office:
              Jan. - Dec. 1997                     4,238                   353
              Jan. - Dec. 1998                     4,344                   362
              Jan. - March 1999                    1,516                   505
              TOTAL                              10,098                    374
              Golden Feather:
              Apr. - Dec. 1999                   12,188                  1,354

                                      REVIEW RESULTS

We found that the HUD Housing Specialist was able to perpetrate the scheme involving the sale of
REO properties at well below the appraised values because the LAAO had deviated from the
internal control procedures established in the pertinent HUD handbook requiring the CPO to
approve all sales contracts and price reductions. In addition, we believe that the CPO may not
have performed adequate supervisory oversight of the housing specialists to ensure that they
disposed of REO properties in accordance with program requirements. We evaluated the internal
control procedures at Golden Feather, and found that those procedures are adequate to minimize
the possibility that the scheme could reoccur. However, to sufficiently minimize the risk that the
scheme could reoccur, we believe, that improvements are needed in the Santa Ana HOC’s
monitoring of Golden Feather in order to ensure compliance with the established procedures and
to best safeguard HUD’s interests.


Review of the former LAAO REO Procedures and Practices.

We found that the HUD housing specialist was able to perpetrate the scheme involving the sale of
REO properties at well below the appraised values because the LAAO had deviated from the


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Audit Memorandum                                      Limited Review - REO Division Operations


internal control procedures established in the pertinent HUD handbook requiring the Chief
Property Officer (CPO) to approve all sales contracts and price reductions. In addition, we
believe that the CPO may not have performed adequate supervisory oversight of the housing
specialists to ensure that they disposed of REO properties in accordance with program
requirements.

HUD Handbook 4310.5, Property Disposition Handbook - One to Four Family Properties, REV-
2, provides program policy and processing requirements for HUD’s Single Family Property
Disposition Program (SFPD). In Chapter 1 of the Handbook, it stresses the importance of internal
control procedures as an integral part of SFPD processing. The Handbook further states that the
SFPD internal control structure in the Handbook is established to provide reasonable assurance
that appropriate financial management and programmatic objectives are achieved, which includes:
(1) maximizing the return on SFPD activities to the FHA fund; (2) safeguarding of single family
properties; (3) maintaining accurate and complete accounting records; and (4) preventing and
detecting fraud, waste, or mismanagement by SFPD staff, contractors, or other related parties. The
exhibit at the end of the chapter provides a matrix of responsibilities for the SFPD. In the exhibit it
states that the Chief Property Officer (CPO), with the assistance of the Director of Housing
Management or Field Office Manager, is responsible for ensuring appropriate segregation of
duties, as required by internal control objectives throughout the handbook. Among other
responsibilities, the CPO is responsible for approving sales contracts, and also for approving all
reductions in price and/or terms of the disposition program.

We reviewed 47 REO property case files identified by the Federal Bureau of Investigation (FBI)
as cases which were involved in the HUD housing specialist’s scheme, to determine where there
was a deviation in the internal control procedures that allowed the scheme to occur. Our review
of the documentation in the case files disclosed generally two different schemes that occurred
between September 1997 and March 1998. In the first scheme, a particular real estate broker
would submit overly high bids on behalf of his clients to be assured that they would be the highest
bidders. The corresponding sales contracts were approved by either the CPO or the housing
specialist. Later, however, the real estate broker’s clients canceled their bids for various reasons.
Instead of re-listing the properties to solicit new bids, as required, the real estate broker submitted
new sales contracts, in the name of one of his entities, Family Home Information Center, with
significantly reduced purchase prices, which were then approved by the housing specialist. In the
second scheme, which also involved properties in which the initial purchasers had canceled their
bids, the housing specialist approved sales contracts, at significantly reduced purchase prices, in
the name of a particular individual, instead of re-listing the properties. Therefore, because the
housing specialist was authorized to approve the sales contracts, the improper sales went
undetected by the CPO.

We interviewed the former CPO to determine the reasons why the housing specialists were
allowed to approve the sales contracts, which was contrary to the Handbook. According to the
former CPO, the housing specialists were already authorized to approve sales contracts when he
became the CPO in April 1996. The CPO said that he did not question the practice because he
was not aware of the Handbook requirement and assumed that the authorization could be delegated
to the housing specialists because the practice was already in place when he became the CPO.
However, the former CPO said that even if he had been aware of the requirement, he would have



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Audit Memorandum                                     Limited Review - REO Division Operations


continued the practice because of the high volume of REO properties in LAAO’s inventory. The
former CPO said that it was a local office policy to approve all sales contracts within 24 hours to
expedite the sales processing. Thus, the former CPO said that it would have created a bottleneck
had he been the only person that could approve the sales contracts. During 1998, the CPO’s
supervisor verbally changed the policy, and required the CPO to be the primary person approving
the sales contracts; however, housing specialists were also still authorized to approve sales
contracts.

In addition, we believe that a contributing cause was that the former CPO may not have performed
adequate supervisory oversight of the housing specialists to ensure that they disposed of REO
properties in accordance with program requirements. According to the former CPO, the housing
specialists generally controlled the entire process and that he did not review individual property
case files unless there was a specific problem. The former CPO said LAAO’s goal was to reduce
its inventory, so his focus was to review properties that were not selling. In our opinion, the CPO
may have been able to detect the improper sales if he had periodically reviewed sales price
comparison reports from SAMS, which would have disclosed the significant differences between
the list prices and sales prices.

Review of Golden Feather Procedures and Practices.

We also reviewed Golden Feather’s procedures and practices for disposing of REO properties to
determine whether adequate internal control procedures are in place to minimize the possibility
that the scheme could reoccur. Based on our interviews with officials, review of procedures
manuals and review of a sample of cases, we concluded that the procedures were sufficient to
minimize the likelihood that the scheme could reoccur. Specifically, we found that Golden Feather
had segmented its operations into functional areas, based on the different phases of the property
sales process. For example, the Contracts Department was responsible for properties that were
ready to list for sale, through the acceptance of the sales contract. Within the Contract Department,
the work duties were further segregated to separate the bid listing, bid receipt, bid review, sales
contract review, and sales contract approvals. Thus, contrary to the situation at the former LAAO
REO Division, the work was segregated and control procedures were in place to detect errors or
improper practices.

Review of Santa Ana HOC Monitoring Procedures and Practices.

We also reviewed the Santa Ana HOC REO Division’s procedures and practices for monitoring
Golden Feather. Based on our interviews with officials and staff, review of monitoring
procedures and review of issued assessment reports, we believe that improvements are needed in
the Santa Ana HOC REO Division’s monitoring of Golden Feather in order to ensure compliance
with the established procedures and to best safeguard HUD’s interests. Our review disclosed that
there is no assurance that the REO Division is monitoring the assessed areas identified in the
monitoring guidelines and it is unclear what types of reviews are performed each month. The REO
Division was unable to provide us with documentation supporting what file reviews were
performed, what verifications were made of Single Family Acquired Asset Management System
(SAMS) data, or what complaints were investigated and resolved. The responsible REO Branch
Chief, generally agreed that they do not review all areas in the monitoring procedures each month



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Audit Memorandum                                           Limited Review - REO Division Operations


because of time constraints. Instead, each month, specific areas of concern are targeted for
review. We believe that HUD’s monitoring of Golden Feather is an integral control procedure for
assuring compliance with program requirements. Specifically, we believe that conducting file
reviews and verifying SAMS data are important monitoring functions that would detect the
reoccurrence of the HUD housing specialist’s scheme.


                                    AUDITEE COMMENTS

At the exit conference, Santa Ana HOC officials generally agreed with the results of our review.
The HOC Director agreed that the monitoring procedures needed improvements and said that the
procedures have been evolving over time because the HOC and M&M contracting are new.


                                    RECOMMENDATIONS

We recommend that you:

1. Evaluate the propriety of the former CPO’s failure to follow prescribed Handbook procedures
   for approving REO sales and inadequate supervisory oversight of the housing specialists,

2. Based on the results of your evaluation recommended in 1 above, take appropriate
   administrative action, and

3. Develop and implement changes to the REO Division monitoring procedures to better
   document the:

       •   specific review areas planned for each assessment period, how the reviews will be
           accomplished, the staff assigned to conduct the reviews; and justification for any
           changes,

       •   results of the reviews performed (either positive or negative); and

       •   resolution of any deficiencies identified during the monitoring.


                                          *    *       *     *

Within 60 days, please furnish us with a status report on the recommendations stating (1) the
corrective action taken, (2) the proposed corrective action and the date to be completed, or (3)
why action is not needed. Also, please furnish us copies of any correspondence or directives
related to this review.

Should you have any questions, please contact Ruben Velasco, Assistant District Inspector General
for Audit at (213) 894-8016.



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Audit Memorandum                                          Limited Review - REO Division Operations


                                                                                                   Appendix
                                            DISTRIBUTION

Secretary’s Representative, California State Office, 9AS (2)
Area Coordinator, Los Angeles Office, 9HS
Director, Santa Ana Homeownership Center, 9JHH (2)
Deputy Secretary, SD (Rm. 10100)
Chief of Staff, S (Rm. 10000)
Special Assistant to the Deputy Secretary for Project Management, SD, Room 10100
Acting Assistant Secretary for Administration, S (Rm. 10110)
Assistant Secretary for Congressional & Intergovernmental Relations, J Rm. 10120
Senior Advisor to the Secretary, Office of Public Affairs, S, Room 10132
Deputy Assistant Secretary of Administrative Services/Director of Executive Secretariat, AX, Room 10139
Director of Scheduling and Advances, AL, Room 10158
Deputy Chief of Staff, S, Room 10226
Deputy Chief of Staff of Operations, S, Room 10226
Deputy Chief of Staff for Programs and Policy, S, Room 10226
Director, Office of Special Actions, AK, Room 10226
Deputy Assistant Secretary for Public Affairs, W, Room 10222
Special Assistant for Inter-Faith Community Outreach, S, Room 10222
Executive Officer for Administrative Operations and Management, S, Room 10220
Counselor to the Secretary, S, Room 10234
Senior Advisor to the Secretary for Pine Ridge Project, W, Room 10216
General Counsel, C, Room 10214
Director, Office of Federal Housing Enterprise Oversight, O, 9 th Floor Mailroom
Assistant Secretary for Housing/Federal Housing Commissioner, H, Room 9100
Office of Policy Development and Research, R, Room 8100
Assistant Secretary for Community Planning and Development, D, Room 7100
Government National Mortgage Association, T, Room 6100
Assistant Secretary for Fair Housing and Equal Opportunity, E, Room 5100
Chief Procurement Officer, N, Room 5184
Assistant Secretary for Public and Indian Housing, P, Room 4100
Chief Information Officer, Q, Room 3152
Director, Office of Departmental Equal Employment Opportunity, U, Room 5128
Director, Office of Departmental Operations and Coordination, I, Room 2124
Chief Financial Officer, F, Room 2202
Director, Enforcement Center, V, 200 Portals Building
Director, Real Estate Assessment Center, X, 1280 Maryland Avenue, SW, Suite 800
Director, Office of Multifamily Assistance Restructuring, Y, 4000 Portals Building
Assistant Deputy Secretary for Field Policy and Management, SDF, Room 7108 (2)
Deputy Chief Financial Officer for Finance, FF Room 2202 (2)
Director, Office of Budget, FO (Room 3270)
Audit Liaison Officer, Helen M. Stackhouse, HF, Room 9116 (2)
Office of the Comptroller, Texas State Office, 6AF (Attn: Bettye Adams) (2)
Departmental Audit Liaison Officer, FM, Room 2206 (2)
Acquisitions Librarian, Library, AS, Room 8141
Deputy Staff Director, Counsel, Subcommittee on Criminal Justice, Drug Policy & Human Resources,
         B 373 Rayburn House Office Bldg., Washington, DC 20515
The Honorable Fred Thompson, Chairman, Committee on Governmental Affairs,
         340 Dirksen Senate Office Building, United States Senate, Washington, DC 20510
The Honorable Joseph Lieberman, Ranking Member, Committee on Governmental Affairs,
         706 Hart Senate Office Bldg, United States Senate, Washington, DC 20510
The Honorable Dan Burton, Chairman, Committee on Government Reform, 2185 Rayburn Bldg,



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Audit Memorandum                                         Limited Review - REO Division Operations

         House of Representatives, Washington, DC 20515
Henry A. Waxman, Ranking Member, Committee on Government Reform, 2204 Rayburn Bldg.,
         House of Representatives, Washington, DC, 20515
Ms. Cindy Fogleman, Subcommittee on Oversight and Investigations, Room 212,
         O’Neil House Office Building, Washington, DC 20515
Director, Housing and Community Development Issue Area, U.S. GAO,
         441 G Street, NW, Room 2474, Washington, DC 20548 Attn: Judy England-Joseph
Department of Veterans Affairs, Office of Inspector General (52A), 810 Vermont Avenue, NW,
         Washington, DC 20410
Steve Redburn, Chief, Housing Branch Office of Management & Budget, 725 17th Street, NW,
         Room 9226 New Executive Office Building, Washington, DC 20503




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