oversight

D.B. Frye and Associates, Management Agent Activities, Norfolk, Virginia

Published by the Department of Housing and Urban Development, Office of Inspector General on 2002-03-26.

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

                                                        U.S. Department of Housing and Urban Development
                                                                           Wanamaker Building, Suite 1005
                                                                                     100 Penn Square East
                                                                              Philadelphia, PA 19107-3380

                                                                          District Inspector General for Audit




March 26, 2002
                                                                                        Audit Memorandum
                                                                                         No. 2002-PH-1802


MEMORANDUM FOR:                  Charlie Famuliner, Director, Multi-family Program
                                 Center, 3FHMLP



FROM:                            Daniel G. Temme, District Inspector General for Audit,
                                 Mid-Atlantic, 3AGA

SUBJECT:                         D.B. Frye and Associates
                                 Management Agent Activities
                                 Norfolk, Virginia

We completed a limited review of project operations and management agent activities of D.B. Frye
and Associates, an owner and identity-of-interest management agent. The review was initiated in
conjunction with an investigation conducted by the Office of Inspector General for Investigations,
Mid-Atlantic of alleged financial mismanagement at the Stuart Gardens I and II projects. The
criminal investigation showed employees at both Stuart Gardens projects circumvented financial
and procurement controls and embezzled over $891,000 in fraudulent construction, renovation, and
rent receipt schemes over several years.

We reviewed the Owner/Agent’s operations at four multi-family projects (Stuart Gardens I and II,
Hilltop North, and Southgate Court) within the jurisdiction of the Virginia State HUD Office to
determine whether the Owner/Agent operated the projects in accordance with Regulatory and
Management Agreements and in compliance with HUD requirements.

We found the Owner/Agent did not maintain adequate accountability over project financial
operations in accordance with its regulatory and management agreements with HUD. In total, the
Owner/Agent could not provide adequate documentation to support $1.1 of the $6.65 million
expenditures we reviewed for the four projects. Details of our review can be found under the
“Results Of Our Review” section of this memorandum.




       Visit the Office of Inspector General’s World Wide Web site at http://www.hud.gov/oig/oigindex.html
                                                                 BACKGROUND

D.B. Frye and Associates (the Agent), an identity-of-interest company, is owned by its sole
stockholder, D.B. Frye, Jr. As a principal in several limited partnerships, D.B. Frye, Jr. also owned
the projects that the Agent Company managed. D.B. Frye, Jr. (the Owner) and the Agent
owned/managed nine HUD insured and/or Section 8 assisted projects located in Virginia, Georgia,
and North and South Carolina. D.B. Frye, Jr. also owned/managed an additional 12 conventionally
financed, non-subsidized projects. The HUD financed/assisted projects are described as follows:

                                                                                        HUD                  Total           Section 8           Project
       Project Name                                 Location                           Insured               Units             Units             Status*
  Stuart Gardens I                             Newport News, VA                          No                     252             250                NT
  Stuart Gardens II                            Newport News, VA                          No                     239             239                NT
  Southgate Court                              Richmond, VA                              Yes                    112             112                PT
  Hilltop North                                Richmond, VA                              Yes                    159               0                 T
  Victory Gardens                              Savannah, GA                              Yes                    192             192                NT
  Forest Grove                                 Greensboro, NC                            Yes                    278               0                NT
  Sterling Oaks                                Norfolk, VA                               Yes                    160               0                NT
  Sumter Villas                                Sumter, SC                                Yes                    112             112                NT
  Hilton Head Gardens                          Hilton Head, SC                           Yes                    112             112                PT
  Totals                                                                                                      1,616           1,017
  * Project financial and physical status as established in HUD’s Real Estate Management System (NT = Not troubled; PT = Potentially troubled; T = Troubled)


Our review focused on operations at the Stuart Gardens I and II, Southgate Court, and Hilltop
North projects. The Owner/Agent currently manages Stuart Gardens I and II. Although HUD did
not insure these projects, they receive Section 8 assistance that is administered by the Virginia
Housing Development Authority (VHDA). Hilltop North, a fully insured HUD project, and
Southgate Court, a co-insured HUD project, receive Section 8 assistance that is administered by the
Richmond Redevelopment Housing Authority (RRHA). The Owner/Agent managed Hilltop North
and Southgate Court until August 1999, transferring management duties to Artcraft Management,
Inc. (Artcraft) at that time. Southgate Court was eventually sold to Artcraft in 2001. Artcraft
currently manages Hilltop North and Southgate Apartments.

Identity-of-interest parties are those that share an ownership interest. Although HUD guidelines
allow management agents to conduct business with identity-of-interest companies, special care is
required to ensure costs are competitive and reasonable. The Owner/Agent has an identity-of-
interest relationship with several companies. During the audit period, six of these companies
(Tidewater Grounds Division, Frye Properties–Grounds, Frye Properties–Construction, Richmond
Investment Properties, Hilltop North Associates, and Freemason Builders) conducted business with
the projects or were issued payments from project funds at the four projects we reviewed. D.B.
Frye, Jr. had principal limited partnership and ownership interests in these six companies.




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                                           CRITERIA

The Regulatory Agreement between Stuart Gardens I and II and VHDA provides that mortgagors
shall not, without the prior written approval of the Authority, assign, transfer, dispose of, or
encumber any personal property of the development, including rents, or pay out any funds of the
development, except for reasonable operating expenses and necessary repairs.

The Housing Management Agreements between the Agent and the Owner for Stuart Gardens I and
II states the Owner and Agent shall comply with all applicable provisions of HUD handbooks,
regardless of whether specific reference is made thereto in any particular provisions of this
Agreement. In addition, the Agreements state that all bookkeeping, clerical, and other
management and overhead expenses of the Agent’s home office (including, but not limited to,
costs of office supplies and equipment, data processing services, postage, transportation for
managerial personnel, and telephone services) will be borne by the Agent out of its own funds and
will not be treated as a Project expense.

The Regulatory Agreements between Hilltop North and Southgate Court and HUD mandates that
owner will:

       ·    Assure that all project expenses are reasonable in amount and necessary to the
            operation of the project.

       ·   Comply with the HUD Secretary’s administrative requirements regarding payment and
           reasonableness of management fees and allocation of management costs between the
           management fee and the project account.

       ·   Not obligate the project to pay for costs other than those reasonable and necessary to the
           operation and maintenance of the project.

       ·   Purchase goods and services from identity-of-interest individuals or companies only if
           the charges levied by those individuals or companies are not in excess of the costs that
           would be incurred in making arms-length purchases on the open market…

       ·   Obtain contracts, materials, supplies and service on terms most advantageous to the
           project and at costs not in excess of amounts normally paid…

       ·   Solicit oral or written cost estimates as necessary to assure compliance with the
           provisions of this paragraph and document the reasons for selecting other than the
           lowest estimate. Maintain copies of such documentation available for inspection.

HUD handbook 4370.2 Rev-1, Financial Operations and Accounting Procedures for Insured
Projects provides that all disbursements from the regular operating account (including checks, wire
transfers and computer generated documents) must be supported by approved invoices/bills or
other supporting documentation.




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                          OBJECTIVES, SCOPE AND METHODOLOGY

The primary objective of our review was to determine whether the Owner/Agent complied with
HUD regulations and requirements pertaining to the use of project funds. To accomplish our
objective we:

    ·   Interviewed HUD Multi-family, Owner/Agent, VHDA, RRHA, and project staff; and,

    ·   Reviewed payments and other relevant financial transactions and information from project
        operating accounts.

We reviewed all project expenditures for four projects (Stuart Gardens I and II, Southgate Court,
and Hilltop North) in Virginia for the period January 1, 1998 through December 31, 20001.
Altogether, these project expenditures totaled $6.65 million. The review was conducted at various
times from March 2001 to September 2001. The review was conducted in accordance with
generally accepted government auditing standards.

                                      RESULTS OF OUR REVIEW

We found the Owner/Agent did not maintain adequate accountability over project financial
operations in accordance with its regulatory and management agreements with HUD. The
Owner/Agent used project funds to pay various expenditures that were not adequately supported as
necessary and reasonable. Altogether, $1.1 of the $6.65 million expenditures for the four projects
we reviewed lacked adequate documentation to support those expenditures See (see Attachment
                                                                                  Attachment B).B
Specifically, unsubstantiated expenditures were associated with:

          ·       Services provided by identity-of-interest companies and employees
          ·       Management fees
          ·       Miscellaneous goods and services
          ·       Owner/Agent overhead costs
          ·       Accounting and payroll expenses
          ·       Computer fees
          ·       Payments to the Owner/Agent

This occurred because of the Owner/Agent’s apparent disregard for adhering to HUD requirements
related to the use of project funds. As a result, we have no assurance that these project
expenditures were necessary and reasonable for project operations, and significant risk may be
associated with the financial aspects of these projects, as well as others under management of the
owner/agent throughout the Southern United States, in protecting HUD’s


1
 We reviewed payments processed during the period January 1, 1998 to December 31, 2000 at the Stuart Gardens I
and II projects. Because of the change in management agent companies in August 1999, we reviewed payments
processed from January 1, 1998 to August 31, 1999 at the Hilltop North and Southgate projects.

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financial interests and the tenants’ interest. Further, since several of the projects have been
identified as troubled and partially troubled in HUD’s Real Estate Management System, HUD
should increase its monitoring efforts over all the Owner/Agent’s projects to ensure HUD and the
tenants’ interests are adequately protected. Unsupported expenditures by category and project are
summarized as follows:


           Unsupported Cost              Stuart      Stuart           Hilltop   Southgate
              Category                  Gardens     Gardens II        North       Court       Totals
                                            I
    Payments to identity-of-       a:      64            47              37         16          164
    interest firms and employees   b:   $257,030      $149,454        $34,783    $28,993     $470,260
    Management fees                a:       4            0               18         17           39
                                   b:    29,342                      $90,846    $101,240     $221,428
    Miscellaneous payments for     a:      29           16               68         36          149
    goods and services             b:   $17,558       $26,826        $104,600    $43,024     $192,008
    Agent overhead costs           a:      55           28               24         19          126
                                   b:   $50,245       $26,847        $35,779      $6,802     $119,673
    Accounting and payroll         a:       0            0               1          10          11
    expenses                       b:                                  $9,540    $45,774     $55,314
    Leased computer equipment      a:      35            28              15         13          91
                                   b:    $8,645        $6,664         $2,850      $1,875     $20,034
    Payments to the                a:       0            0               0           5           5
    Owner/Agent                    b:                                            $19,955      $19,955
    Totals                         a:     187           119            163         116          585
                                   b:   $362,820     $ 209,791       $278,398   $ 247,663   $1,098,672


                                   a: = number of payments; b: = dollar value

A detailed discussion of each unsupported cost category is provided in the following paragraphs:

       Payments to Identity-of-Interest Companies and Project Employees

       The Owner/Agent made at least 164 unsupported payments totaling $470,260 during the
       audit period for groundskeeping, repairs and maintenance, rent, computer services, and
       undeterminable reasons to identity-of-interest companies owned by the Owner/Agent and to
       project employees. Because contracts, invoices, and bids were either not available or
       insufficiently detailed, we could not determine if the costs were reasonable and necessary to
       project operations.




                                                       5
·   Tidewater Grounds Division and Frye Properties–Grounds, companies owned by
    the Owner/Agent, were paid 105 payments totaling $293,457 for groundskeeping
    services. Groundskeeping payments are detailed by project as follows:

                         Project           Payments        Amount
                   Stuart Gardens I           37           $130,077
                   Stuart Gardens II          34            124,304
                   Hilltop North              19             22,583
                   Southgate Court            15             16,493
                   Totals                    105           $293,457

    Although a contract was awarded in 1999, 2000, and 2001 for the Stuart Gardens I
    and II projects, the reasonableness of the costs could not be validated since other
    vendors generally were not solicited. We evaluated the cost of the contract over a
    three-year period and determined not only was the reasonableness of the initial
    award questionable, significant cost increases may have been unreasonable. For
    example, in 1999 the contract was awarded for $85,000. In 2001, the same
    contract was awarded for $135,000, a 59 percent increase. Responsible project
    employees could not provide contracts and bids for the groundskeeping services
    performed at the Hilltop and Southgate projects. Additionally, employees could
    not provide most supporting invoices for groundskeeping payments made to both
    identity-of-interest companies. When provided, invoices where not sufficiently
    detailed to properly support the payment.

·   Frye Properties – Construction and Freemason Builders, companies owned in part
    by the Owner/Agent, were paid eight payments totaling $72,836 for repair and
    maintenance services at the Stuart Gardens I project. Contracts were not available
    and invoices did not contain sufficient details to fully identify the nature and extent
    of the services provided. Bids showing other vendors had been solicited were not
    available.

·   The maintenance supervisor for Stuart Gardens I and II was issued 30 payments
    from project accounts totaling $78,400 for plaster ceiling repairs. Contracts and
    invoices detailing the specific work requirements were generally not available, and
    when provided, did not contain sufficient information to fully support the costs as a
    reasonable project expense. In addition, documentation showing that other vendors
    were solicited was not available.

·   The Agent used the Hilltop North project account to pay themselves (project
    ownership entity owned by the Owner/Agent) 18 payments totaling $12,200. The
    funds were used to pay monthly rent for a vacant unit used as project office space.
    According to HUD multi-family asset management personnel, charging the

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       project rent for office space is a highly questionable practice and cannot be
       considered a normal project operating expense.

   ·   A Stuart Gardens I and II employee received two payments totaling $868 for
       computer support services. Details surrounding the nature and extent of the services
       provided were not available.

   ·   The Agent used Southgate Court project funds to pay one $12,500 payment to
       Richmond Investment Properties, Inc., the project’s ownership entity. The company
       was owned in part by the Owner/Agent. We could not substantiate the basis for this
       expense since responsible personnel could not provide an invoice or supporting
       documentation detailing the circumstances surrounding the expense.

Because these costs were paid to identity-of-interest companies and project employees,
extra controls are needed to ensure transactions are at arms length and reasonably priced.
To do otherwise could unduly enrich ownership principals and project employees, and
subject the project to adverse financial risk.

Management Fees

Management agent fee payment provisions are established in the Housing Management
Agreement and generally are computed as either a fixed-fee or a percentage of rent receipts.
As such, management agent fees would not vary significantly from month to month.
However, supporting documentation for 39 unusual management agent fee payments
totaling $221,428 processed at the Hilltop North and Southgate Court projects was not
available to show how the payments were computed. Our review of the projects’
disbursement records showed that payments were made out-of-cycle and accruals were
frequently used in an apparent attempt to reconcile the management fee due to the
Owner/Agent. While our review showed the Agent did not receive management fees in
excess of entitlements, invoices and computational details were not available to support the
basis for the questioned management fees.

Miscellaneous Vendor Payments

The Owner/Agent made 149 unsupported payments totaling $192,008 to a variety of
vendors for miscellaneous goods and services at all four projects reviewed. Because
invoices were either not available or insufficiently detailed to identify the expense, we
could not determine, in most cases, what was purchased. Purchases we could identify
included things such as major appliances, plumbing and routine maintenance supplies, and
repair and maintenance services.

Management Agent Overhead Costs

The Owner/Agent could not adequately support 126 payments for overhead expenses
valued at $119,673 paid in part by all four projects reviewed. Costs included those

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associated with copy machines, faxing, postal fees, computer technical support, bank
charges, credit fees, and other miscellaneous allocated Management Agent expenses. The
Owner/Agent and project employees could not provide sufficient documentation to show
the specific nature of these costs. These Management Agent expenses could not be
adequately supported as necessary project costs. HUD guidelines prohibit project funds
from being used to pay Management Agent overhead costs and Management Agreements
specifically state that these expenses are to be borne by the Management Agent out of its
own funds.

Accounting and Payroll Expenses

According to the Management Agreements for Southgate Courts and Hilltop North, the
Management Agent is authorized to charge the project $420 and $596, respectively, for
monthly accounting fees or $5,040 and $7,152 annually. However, during 1998 and 1999,
the Owner/Agent charged the Southgate Court project $15,540 in out-of-cycle billings.
Southgate paid the $420 monthly accounting fee in May and June 1998, January, February,
April, June, and August 1999 for a total of $2,940. The Owner/Agent also processed and
collected two additional payments totally $12,600 for accrued accounting fees. One
payment totaling $9,540 was made for accrued accounting fees at Hilltop North by the
Owner/Agent during 1998. Management Agent personnel could not explain the basis for
the payments and could not provide supporting documentation identifying the nature and
relevant periods of the accrued accounting fee. Also, our review of Southgate Court’s
financial records showed that the Owner/Agent processed one payment amounting to
$30,234 for unsupported payroll expenses. Documentation was not available to identify the
basis for the expense amount.

Leased Computer Equipment

The Owner/Agent made 91 unsupported payments totaling $20,034 from all four project
operating accounts to pay fees associated with leased computer equipment. The
Owner/Agent generally made these payments in association with the monthly management
fee, combining the computer equipment fee with his management fee payment on one
check. However, we could not determine the types and quantities of leased computer
equipment since the Owner/Agent and Project employees could not provide lease
agreements or other documentation to support the payments. Additionally, relevant project
Management Certifications did not authorize the Owner/Agent to pay himself a leased
computer equipment fee. Because our on-site inspections did not disclose any significant
computer equipment in project offices, it is likely that these fees are allocated expenses
from Owner/Agent and other identity-of-interest companies.

Unsupported Payments Made to the Owner/Agent

The Owner/Agent used Southgate Court project funds to make payments to the
Management Agent operating account without adequately documenting the basis for the



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       transactions and supporting the payments as necessary for project operations. We identified
       five of these payments valued at $19,955. Details are as follows:

           ·   The Owner/Agent used Southgate project funds to process one $18,000 check made
               payable to the Owner/Agent. We were told the transaction was used to reimburse
               Agent funds that were advanced to the project. However, an invoice or supporting
               document describing the details of the advance were not available.

           ·   The Southgate project account was used to make four payments totaling $1,955 to
               transfer project funds to the Owner/Agent’s account. We could not determine the
               basis for these payments since invoices and supporting documentation were not
               available.

                                              *****

We received a written response from D.B. Frye and Associates and discussed the results of our
review with responsible officials from D.B. Frye and Associates and the Richmond Multi-Family
Program Center on March 6, 2002. The auditee’s full response is included under Attachment
                                                                                 Attachment A.A
Based on responses to the draft report we made appropriate changes to our recommendations.

Auditee Comments

D.B. Frye and Associates officials stated that they believed they had successfully responded to
most of the auditor’s inquiries during the audit. However, they also stated that some aspects of the
documentation were complicated by virtue of the characteristics and situations unique to the
properties reviewed. Therefore, they agreed to provide additional documentation they stated would
support the 585 payments valued at $1,098,672 identified during the audit as unsupported project
costs by April 1, 2002. They stated further that they were confident that this additional
documentation would successfully respond to most, if not all, of the issues in this report.

D.B. Frye officials also stated that clearly stated procedures are in place to ensure payments from
project accounts are made only for expenses to project operations, and that such transactions are
handled in strict accordance with applicable HUD requirements. They stated that these procedures
are outlined in an excerpt from the Frye Properties Operating Handbook. Officials verbally
acknowledged, however, that these procedures were not fully implemented as evidenced by our
audit findings and recent criminal investigations showing that employees circumvented financial
and procurement controls to embezzle over $891,000 over several years. In light of the seriousness
of these matters officials also agreed to emphasize and fully implement the procedures.

Richmond Multi-Family Program Center Comments

Richmond Multi-Family Program Center officials agreed to review the adequacy of the
documentation provided by D.B. Frye and Associates, and to require reimbursement if the costs
remained unsupported. They also agreed to perform the coordination necessary to determine if




                                                 9
 additional monitoring efforts of D.B. Frye and Associates management agent operations were
warranted at projects located outside of the State of Virginia. They further agreed to take any
necessary administrative actions against D.B. Frye and Associates.

OIG Evaluation of Auditee Comments

We consider the agreed to actions responsive to our finding. We are encouraged that D.B. Frye
officials feel confident that they will be able to provide additional documentation to support all of
the 585 payments valued at $1,098,672 identified during the audit as unsupported project costs.
We are also encouraged that D.B. Frye officials acknowledged that procedures contained in their
Operating Handbook were not emphasized or fully implemented. In our opinion this lack of
emphasis is clearly shown by our audit findings and more importantly by recent criminal
investigations showing employees circumvented financial and procurement controls and embezzled
over $891,000 over several years. In this regard, we are confident that D.B. Frye and Associates
will heed our recommendation and emphasize procedures to make sure all payments from project
accounts are fully supported and made only for those expenses necessary for project operations.

Recommendations

We recommend you:

1A.    Require the Owner/Agent to provide appropriate documentation to support the 585
       payments valued at $1,098,672 identified during the audit as unsupported project costs.
       Require the Owner/Agent to use non-project funds to reimburse the relevant project
       account for those costs that cannot be adequately justified.

1B.    Instruct the Owner/Agent to emphasize procedures to make sure all payments from project
       accounts are made only for those expenses necessary to project operations. At a minimum,
       ensure Regional Asset Managers emphasize the need to:

               ·   Ensure costs paid to identity-of-interest companies are fair and reasonable.

               ·   Obtain and document sufficient number of bids from qualifying vendors to
                   ensure goods and services are obtained at costs most advantageous to the
                   projects.

               ·   Support all payments with detailed invoices and sufficient documentary
                   evidence to show the basis for the cost, and the nature and extent of services or
                   items provided.

               ·   Not charge the projects for Management Agent overhead expenses and allocated
                   costs that should be borne by the Management Agent.




                                                 10
1C.   Coordinate with the applicable HUD office to determine if additional monitoring efforts of
      D.B. Frye and Associates management agent operations are warranted at projects located
      outside of the State of Virginia. If suitable, take appropriate administrative actions against
      D.B. Frye and Associates as specified in the relevant Annual Contributions Contract and
      Regulatory Agreement.




                                               11
                        Attachment A

Auditee Comments




                   12
13
     Return to Page 9




14
                                                                           Attachment B

                          Schedule of Questioned Costs

   Recommendation                             Unsupported 1/
      Number

        1A                                     $1,098,672




1/ Unsupported amounts are those whose eligibility or reasonableness cannot be clearly
   determined during the audit since they were not supported by adequate documentation or
   due to other circumstances. Under Federal cost principles, a cost must be adequately
   supported to be eligible.



                                                                Return to Page 4




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                                                                                 Attachment C

Distribution

Director, Multi-family Program Center, Virginia State Office, 3FHMLP
Regional Directors
Secretary’s Representatives
Audit Liaison Officer, 3AFI
Acquisitions Librarian Library, AS (Room 8141)
OIG Key Principal Staff Listing
HUD Key Principal Staff Listing
The Honorable Fred Thompson, Chairman, Committee on Governmental Affairs, 340 Dirksen
       Senate Office Building, US Senate, Washington, DC 20510
The Honorable Joseph Lieberman, Ranking Member, Committee on Governmental Affairs, 706
       Hart Senate Office Building, US Senate, 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, US GAO, 441 G Street, N.W., Room
       2474, Washington, DC 20548, Attn: Stanley Czerwinski
The Honorable Dan Burton, Chairman, Committee on Government Reform, 2185 Rayburn
       Building, House of Representatives, Washington, DC 20515
The Honorable Henry Waxman, Ranking Member, Committee on Government Reform, 2204
       Rayburn Building, House of Representatives, Washington, DC 20515
Ms. Sharon Pinkerton, Deputy Staff Dir, Counsel, Subcommittee on Criminal Justice, Drug Policy
       and Human Resources, B373 Rayburn House Office Building, Wash, DC 20515
Mr. Steve Redburn, Chief, Housing Branch, Office of Management & Budget, 725 17th Street,
       N.W., Room 9226, New Executive Office Building, Washington, DC 20503
Mr. Andrew R. Cochran, Senior Counsel, Committee on Financial Services, U.S. House of
       Representatives, 2129 Rayburn House Office Building, Washington, DC 20515
Mr. Armando Falcon, Director, Office of Federal Housing Enterprise Oversight, 1700 G Street,
       N.W., Room 4011, Washington, DC 20552
Mr. James R. Majors, Chief, Multi-Family Commercial Development, Department of Housing and
       Community Development, 417 East Fayette Street, Suite 1036, Baltimore, MD 21202
D.B. Frye and Associates, 300 W. Freemason Street, Norfolk, Virginia 23510-1208




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