oversight

Washington Mutual Bank's Underwriting of Federal Housing Administration-Insured Loans; Downers Grove, IL

Published by the Department of Housing and Urban Development, Office of Inspector General on 2004-11-29.

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

                                                                Issue Date
                                                                     November 29, 2004
                                                               Audit Case Number
                                                                     2005-CH-1002




TO:           John C. Weicher, Assistant Secretary for Housing-Federal Housing
                Commissioner and Chairman of Mortgagee Review Board, H
              Margarita Maisonet, Director of Departmental Enforcement Center, CV


FROM:          Heath Wolfe, Regional Inspector General for Audit, 5AGA

SUBJECT:       Washington Mutual Bank
               Underwriting of Federal Housing Administration-Insured Loans
               Downers Grove, Illinois

                                     INTRODUCTION

We audited Washington Mutual Bank (Washington Mutual), a direct endorsement
mortgagee, because we identified during our audit of A-Pan-American Mortgage Group (A-
Pan-American) (see Office of Inspector General (OIG) Audit Report #2004-CH-1007, issued
on August 9, 2004) that Washington Mutual had a high number of loans with over-insured
Federal Housing Administration (FHA) loan amounts and invalid borrowers’ Social Security
numbers. The audit objectives were to determine whether Washington Mutual (1) exercised
due diligence in resolving or following-up on warnings regarding borrowers’ Social Security
numbers and (2) funded FHA-insured loans without exceeding the Department of Housing
and Urban Development’s (HUD) maximum insurable limits.

The audit determined that Washington Mutual did not identify and follow-up on, or resolve
warnings regarding borrowers’ Social Security numbers during the underwriting process for 4 of
the 22 loans reviewed. We also found that Washington Mutual funded 79 of the 94 loans (84
percent) above HUD’s maximum insurable limits. Our report contains six recommendations to
address the issues identified in this report.

To accomplish our audit objectives, we

   •   Interviewed HUD’s staff and one of Washington Mutual’s underwriters to obtain an
       understanding of the underwriting processes regarding borrowers’ Social Security
       numbers and maximum insurable amounts,



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   •   Verified the Social Security numbers of borrowers for 16 FHA-insured loans
       reviewed with assistance from the Social Security Administration,
   •   Calculated the total maximum allowable insurance amounts for 94 loans (9 purchases
       and 85 refinances) that Washington Mutual underwrote for A-Pan-American from
       October 2000 through September 2003,
   •   Requested the Insurance and Underwriting Branch for HUD’s Atlanta
       Homeownership Center to verify our calculations of the total maximum allowable
       insurance amounts for 15 of the 79 (19 percent) loans with over-insured loan
       amounts,
   •   Analyzed 22 of the 94 loans to determine whether Washington Mutual exercised due
       diligence in identifying and resolving, or following-up on warnings regarding
       borrowers’ Social Security numbers (selection criteria for the 22 sampled loans
       included defaulted loans, loans terminated with claims, and loans whose borrowers
       had invalid Social Security numbers), and
   •   Reviewed and evaluated Washington Mutual’s management controls at its Downers
       Grove, Illinois office over the underwriting process regarding borrowers’ Social
       Security numbers and maximum insurable amounts.

We performed our audit between January and July 2004 while we were also conducting our
audit of A-Pan-American.

We presented our discussion draft audit report to Washington Mutual’s Senior Credit
Administration Officer and HUD’s staff during the audit. We held an exit conference with
Washington Mutual’s Senior Credit Administration Officer, Credit Portfolio Analyst, and Area
Risk Manager on October 13, 2004. Washington Mutual provided written comments to the
draft memorandum report on November 5, 2004 that generally disagreed with the finding, but
described steps Washington Mutual took to strengthen its policies and procedures, and the plans
for enhancing its management controls to ensure strict compliance with HUD’s requirements.
We included paraphrased excerpts of the comments with the finding. We also received on
November 9, 2004 a Compact Disc containing Washington Mutual’s current procedures and
controls for processing and underwriting loans.

The complete text of Washington Mutual’s comments is in appendix B with the exception of the
attachments on the Compact Disc.         We provided HUD’s Director of the Atlanta
Homeownership Center with a complete copy of Washington Mutual’s comments with the
attachments.

In accordance with HUD Handbook 2000.06 REV-3, within 60 days, please provide us for each
recommendation without a management decision, a status report on (1) the corrective action
taken, (2) the proposed corrective action and the date to be completed, or (3) why action is
considered unnecessary. Additional status reports are required at 90 days and 120 days after the
report is issued for any recommendation without a management decision. Also, please furnish
us copies of any correspondence or directives issued because of the review.

If you have any questions, please contact Rose Capalungan, Assistant Regional Inspector
General for Audit, at (312) 353-6236 extension 2679 or me at (312) 353-7832.
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                                         SUMMARY

Washington Mutual did not identify and follow-up on, or resolve warnings on borrowers’ Social
Security numbers during the underwriting process for 4 of the 22 loans reviewed. We reviewed
22 of the 94 (23 percent) FHA-insured loans that Washington Mutual underwrote for A-Pan-
American from October 2000 through September 2003. We also found that Washington Mutual
funded 79 of the 94 (84 percent) loans reviewed above HUD’s maximum insurable limits. As a
result of Washington Mutual’s deficient underwriting process, HUD’s FHA insurance fund
incurred a loss of $62,363 on four loans. Additionally, the insurance fund remains at risk by
more than $393,000 for 32 loans.

                                       BACKGROUND

Section 203(b)(1) of the National Housing Act, as amended, authorizes HUD to provide
mortgage insurance for single-family homes. HUD must formally approve a mortgagee that
originates, purchases, holds, or sells FHA-insured loans. Mortgagees must follow the
statutory and regulatory requirements of the National Housing Act and HUD’s instructions,
guidelines, and regulations when originating insured loans. Mortgagees that do not follow
these requirements are subject to administrative sanctions.

In 1990, Washington Mutual received FHA approval as a supervised mortgagee under
HUD’s Direct Endorsement Program, which authorized Washington Mutual to underwrite
loans without HUD’s prior review and approval. Under such an authorization, HUD relies
upon Washington Mutual’s certification and its underwriters to ensure that the loans comply
with HUD’s instructions, guidelines, and regulations. In 2001, Washington Mutual acquired
Fleet National Bank. Fleet National Bank underwrote 39 of A-Pan-American’s 79 originated
loans with over-insurance amounts. Our review focused on loans that Washington Mutual,
Fleet National Bank, and their branch offices underwrote for A-Pan-American in the State of
Illinois from October 2000 through September 2003.

Washington Mutual is a subsidiary of Washington Mutual, Inc., which incorporated in 1889.
Washington Mutual, Inc. is a publicly held company that provides financial services and
products to consumer and commercial clients. As of June 30, 2004, Washington Mutual and
its subsidiaries had total assets of $278.54 billion. The company operates more than 2,400
offices throughout the United States. A 13-member board of directors governs Washington
Mutual. Washington Mutual’s home office is located at 1201 Third Avenue, Seattle,
Washington and its Downers Grove, Illinois office is located at 3050 Highland Parkway.

                                          FINDING

     Washington Mutual Did Not Identify and Resolve, or Follow-Up on Warnings
                 Regarding Borrowers’ Social Security Numbers

Credit reports for 4 of 22 borrowers contained indicators that their Social Security numbers were
invalid or did not belong to them. Washington Mutual did not exercise due diligence during its
underwriting process to effectively identify and then resolve, or follow-up on warnings of

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irregularities cited in the borrowers’ credit reports. As a result, loans were approved based on
false information causing HUD to assume unnecessary risks.

24 Code of Federal Regulations Part 203.5(c) requires mortgagees to exercise due diligence
when underwriting loans. HUD Handbook 4000.4 REV-1, paragraph 2-4(c)(5), “Single Family
Endorsement Program”, states that mortgagees and their underwriters must maintain the ability
to detect fraud and be aware of the warning signs that may indicate irregularities.

Washington Mutual did not exercise due diligence when it failed to identify and follow-up on,
or resolve warnings regarding Social Security numbers of FHA loan borrowers. Although the
credit reports of four borrowers had Hawk Alert warnings on the borrowers’ Social Security
numbers, Washington Mutual did not identify and take appropriate actions to resolve or follow
up on the warnings. Washington Mutual lacked procedures and controls to ensure that its
underwriters followed HUD’s requirements and/or prudent lending practices regarding warnings
about borrowers’ Social Security numbers. The Hawk Alerts warnings indicated that one
borrower had a Social Security number belonging to a deceased person, two borrowers had
Social Security numbers that were not yet issued by the Social Security Administration, and
another borrower had more than one Social Security number. As a result, loans were approved
based on false information, thus increasing the risk to the insurance fund.

As of June 2004 for the four loans, one ($114,187) was in foreclosure, two ($223,314) were in
default, and HUD had incurred a loss of $43,617 on the remaining loan.

    Washington Mutual Funded Insured Loans Above HUD’s Maximum Insurable
                               Mortgage Limits

Washington Mutual funded 79 of the 94 insured loans we reviewed above HUD’s maximum
insurable mortgage limits. This occurred because Washington Mutual included unallowable
charges as part of the total loan amounts refinanced. As a result, HUD overinsured the loans by
$163,534, which caused an unnecessary risk to the insurance fund. Only the total excess
insurance amounts for 36 of the 79 loans remained in question since the remaining 43 loans
were no longer insured as of June 29, 2004.

Paragraph 1-12 of HUD Handbook 4155.1 REV-4 requires mortgagees to fund FHA streamline
refinanced loans up to HUD’s maximum insurable mortgage limits.

From October 2000 through September 2003, Washington Mutual funded 79 of the 94
streamline-refinanced loans above HUD’s maximum insurable limits. Washington Mutual
funded the 79 loans for a total of $11,679,231. HUD’s maximum insurable limit for the 79
loans totaled $11,515,697; therefore, the 79 loans exceeded HUD’s limit by $163,534.

Washington Mutual over-funded the loans because it included unallowable charges as part of
the total loan amounts refinanced. Such unallowable charges included commitment fees, pay-
off costs, prior month’s mortgage interest, late mortgage payment charges, prior year’s property
taxes, borrowers’ credit card bills, excess cash back, and principal reduction amounts.


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During our audit, we provided schedules showing the over-insured amounts for the 79 loans to
HUD’s Director of the Atlanta Homeownership Center, HUD’s Director of the Atlanta
Homeownership Center’s Quality Assurance Division, and Washington Mutual’s Senior Credit
Administration Officer.

                                   AUDITEE COMMENTS

Excerpts paraphrased from the comments provided by Washington Mutual on our discussion
draft audit memorandum report follow. Appendix B, pages 10 to 13, contains the complete text
of the comments for the finding.

Overall, Washington Mutual takes this finding very seriously. Its senior management
examined the finding, and was actively involved in revising Washington Mutual’s policies
and procedures and implementing the appropriate remedial actions. As a mortgagee that has
enjoyed a positive relationship with HUD, Washington Mutual has always been fully
committed to strict compliance with HUD’s requirements.

Washington Mutual generally disagrees with the finding on the issue regarding borrowers’
Social Security numbers. A-Pan-American was one of Fleet Mortgage’s loan originators that
Washington Mutual acquired in 2001. Due to acquisitions of several institutions,
Washington Mutual ended up managing record volumes and experienced an integration delay
that consequently resulted in its inconsistent adherence to HUD’s guidelines. Of these,
Washington Mutual contends it cannot be fairly held accountable for any shortcomings
regarding loans that were originated by entities and its loan originators that it acquired.

Washington Mutual is in the process of establishing consistent lending practices driven by its
policies, standards, and procedures; and institutionalizing its credit and compliance culture.
This includes communication of specific policies and procedures regarding allowable fees,
and calculations of Upfront Mortgage Insurance Premium refunds and final loan amounts to
ensure strict compliance with HUD’s requirements. Also, Washington Mutual’s newly
established Corporate Risk Oversight Managers are tasked to manage the operations and
personnel to improve loan underwriting processes and controls.

Regarding Washington Mutual’s failure to effectively identify and then resolve, or follow- up
on warnings of irregularities cited in the borrowers’ credit reports, Washington Mutual
emphasizes it was only in 2001 that security credit alerts first began to appear on credit reports.
Thus at that time, Washington Mutual was in the early stages of establishing and redesigning
its process controls, procedures, and standards to address and reconcile borrowers’ credit
report alerts. All four loans having credit report alerts were originated in 2001.

Washington Mutual’s current loan processing procedures require that if an underwriter
cannot resolve issues on borrowers’ Social Security numbers, then the underwriter would
refer the loans to Washington Mutual’s centralized Risk Mitigation Division for thorough
investigation of the issues. The Division subsequently would communicate the results and
recommendations back to the underwriter. Additionally, Washington Mutual contracted with


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AppIntel to provide scoring and fraud alert services to improve detection of invalid Social
Security numbers, potential identity theft, and other types of fraud.

Regarding Washington Mutual’s funding of 79 FHA loans over HUD’s maximum insurable
mortgage limits, Washington Mutual neither confirms nor denies that it over-funded FHA loans
that resulted in an increase risk to the FHA insurance fund. Rather, Washington Mutual’s
current policies would assure strict compliance with HUD/FHA requirements. Also,
Washington Mutual’s Credit Quality Managers oversee and mentor underwriters to ensure
institutionalization of consistent and compliant practices, and proactively promote Washington
Mutual’s credit culture.

                   OIG EVALUATION OF AUDITEE COMMENTS

We recognize Washington Mutual’s enhancement of its underwriting procedures and
controls. Although we concur with Washington Mutual’s overall approach in addressing the
issues and concerns raised in this report, we disagree with Washington Mutual’s claim that it
should not be held accountable for the loans it acquired from Fleet Mortgage in 2001. The
fact that when it acquired Fleet Mortgage, Washington Mutual took over the responsibilities
for the loans that Fleet Mortgage and its loan originators originated. Therefore, Washington
Mutual is accountable for any shortcomings from the loans originated by Fleet Mortgage and
A-Pan-American. Washington Mutual’s Senior Credit Administration Officer confirmed that
Washington Mutual was responsible for 30 of the 36 active, over-insured loans.

Although the security credit alerts began to appear on credit reports in 2001, Washington
Mutual was subject to HUD’s requirements since its approval as a supervised mortgagee in
1990. As a condition of its approval, HUD required Washington Mutual to exercise due
diligence when underwriting FHA loans. If Washington Mutual exercised due diligence during
the underwriting process of the loans, it should have immediately recognized the discrepancies
in the borrowers’ Social Security numbers as they were disclosed on the borrowers’ credit
reports.

We reviewed Washington Mutual’s loan processing and underwriting-related procedures and
controls. The procedures and controls appear adequate to ensure compliance with HUD’s
requirements. Specifically, Washington Mutual’s

    •   April 2004 FHA Applicant Analysis Policy provides procedures for verifying and
        documenting a valid Social Security number of a loan borrower,
    •   July 2004 Suspicious Lending Activity Policy and Procedure Manual, Section 2,
        specifically provides the steps for resolving discrepancies of borrowers’ Social
        Security numbers,
    •   April 2004 Policy Communications called Government Lending Announcement 04-
        018 details how to screen FHA loans for invalid borrowers’ Social Security numbers,
        and
    •   October 2002 Policy Communications called Government Lending Announcement
        02-037 provides guidelines and procedures for FHA streamline loan refinances with

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        appraisal reports, instructs how to calculate maximum loan amounts, and identifies
        which loan costs to be refinanced.

If Washington Mutual implements procedures and controls for the current policies previously
mentioned, then it should help prevent the issues cited in this report from re-occurrence.

                                 RECOMMENDATIONS

We recommend that HUD’s Assistant Secretary for Housing-Federal Housing Commissioner
and Chairman of the Mortgagee Review Board require Washington Mutual to:

A.     Reimburse HUD $43,617 for the actual loss incurred on one terminated loan (Case
       Number 137-1035745) underwritten in which the borrower had more than one Social
       Security number as shown on the borrower’s credit report.

B.     Indemnify HUD $337,501 against future losses from a foreclosed property associated
       with one loan and two defaulted loans in which the borrowers (Case Numbers 137-
       1035739, 137-1163520, and 137-1174619) had invalid Social Security numbers or a
       Social Security number belonging to a deceased person.

C.     Buy down $56,300 for the excessive insurance amounts for the 31 active loans
       ($54,905) and one loan with a claim paid, but HUD had not resold the property ($1,395).

D.     Reimburse HUD $18,746 for the losses incurred on four loans with over-insured loan
       amounts that were already sold by HUD.

E.     Implement procedures and controls to follow HUD’s requirements and/or prudent
       lending practices regarding warnings about borrowers’ Social Security numbers and
       maximum insurable limits.

We also recommend that HUD’s Director of Departmental Enforcement Center:

F.     Seek Civil Monetary Penalties against Washington Mutual for the deficiencies cited in
       this report.

                             MANAGEMENT CONTROLS

Management controls include the plan of organization, methods, and procedures adopted by
management to ensure that its goals are met. Management controls include the processes for
planning, organizing, directing, and controlling program operations. They include the systems
for measuring, reporting, and monitoring program performance.

We determined the following management controls were relevant to our audit objectives:
·    Program Operations - Policies and procedures that management has implemented to
     reasonably ensure that a program meets its objectives.

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·   Validity and Reliability of Data - Policies and procedures that management has
    implemented to reasonably ensure that valid and reliable data are obtained, maintained, and
    fairly disclosed in reports.
·   Compliance with Laws and Regulations - Policies and procedures that management has
    implemented to reasonably ensure that resource use is consistent with laws and regulations.
·   Safeguarding Resources - Policies and procedures that management has implemented to
    reasonably ensure that resources are safeguarded against waste, loss, and misuse.

We assessed all of the relevant controls identified above during our audit of Washington
Mutual’s underwriting of FHA -insured loans.

It is a significant weakness if management controls do not provide reasonable assurance that the
process for planning, organizing, directing, and controlling program operations will meet an
organization’s objectives.

Based upon our review, we believe the following items are significant weaknesses:

•   Program Operations

    Washington Mutual did not identify and follow-up on, or resolve warnings regarding
    borrowers’ Social Security numbers during the underwriting process for 4 of the 22 loans
    reviewed and funded 79 of the 94 (84 percent) loans reviewed above HUD’s maximum
    insurable limits (see Finding).

•   Compliance with Laws and Regulations

    Washington Mutual failed to identify and follow-up on, or resolve warnings regarding
    borrowers’ Social Security numbers during the underwriting process for 4 of the 22 loans
    reviewed (see Finding).

•   Safeguarding Resources

    Washington Mutual did not identify and resolve, or follow-up on warnings regarding
    borrowers’ Social Security numbers during the underwriting process for 4 of the 22 loans
    reviewed and funded 79 of the 94 (84 percent) loans reviewed above HUD’s maximum
    insurable limits. Washington Mutual’s deficient underwriting process caused HUD’s
    insurance fund to incur a loss of $62,363 on four loans. Additionally, the insurance fund
    remains at risk by more than $393,000 for 32 loans (see Finding).




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                                                                                 Appendix A

                       SCHEDULE OF QUESTIONED COSTS


      Recommendation                Type of Questioned Costs
         Number              Ineligible 1/         Unsupported 2/

              A              $43,617
              B                                      $337,501
              C                                        56,300
              D              $18,746
            Totals           $62,363                 $393,801


1/    Ineligible costs are costs charged to a HUD-financed or HUD-insured program or
      activity that the auditor believes are not allowable by law; contract; or Federal, State,
      or local policies or regulations.

2/    Unsupported costs are costs charged to a HUD-financed or HUD-insured program or
      activity, and eligibility cannot be determined at the time of audit. The costs are not
      supported by adequate documentation, or there is a need for a legal or administrative
      determination on the eligibility of the costs. Unsupported costs require a decision by
      HUD program officials. This decision, in addition to obtaining supporting
      documentation, might involve a legal interpretation or clarification of departmental
      policies and procedures.




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                                      Appendix B
       AUDITEE COMMENTS




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