Issue Date September 16, 2005 Audit Report Number 2005-FW-1016 TO: Brian D. Montgomery Assistant Secretary for Housing – Federal Housing Commissioner, H FROM: Frank E. Baca Regional Inspector General for Audit, 6AGA SUBJECT: Aegis Wholesale Corporation Did Not Follow HUD Requirements When Processing a Federal Housing Administration Loan HIGHLIGHTS What We Audited and Why We reviewed a Federal Housing Administration loan sponsored by Aegis Wholesale Corporation (Aegis) of Houston, Texas. During an audit of a Federal Housing Administration-approved loan correspondent, we identified a loan sponsored by Aegis that was not properly originated according to U.S. Department of Housing and Urban Development (HUD) regulations. Because the sponsor of the loan is ultimately responsible for loan processing deficiencies, we addressed these deficiencies to Aegis to determine whether it complied with HUD requirements. What We Found Aegis did not comply with HUD regulations, procedures, and instructions in the processing of a Federal Housing Administration-insured single-family mortgage. The lender did not adequately support the borrower’s income, the borrower’s creditworthiness or the legitimacy of the appraised value of the property. The lender also charged the borrower $581 in loan discount points without reducing the borrower’s interest rate. As a result, HUD insured a loan that placed the insurance fund at risk for $58,088 and the borrower incurred excessive costs for the loan. What We Recommend We recommend that the Assistant Secretary for Housing – Federal Housing Commissioner take appropriate administrative action against Aegis. This action, at a minimum, should include requiring indemnification for the $58,088 loan and reimbursement of the $581 in unearned fees to the appropriate parties For each recommendation without a management decision, please respond and provide status reports in accordance with HUD Handbook 2000.06, REV-3. Please furnish us copies of any correspondence or directives issued because of the audit. Auditee’s Response On September 7, 2005, Aegis provided its formal written response to our report. Aegis agreed to a principal reduction of $581 for the unearned discount points. It also acknowledged deficiencies with the calculation of the borrower's income and the appraisal, but argued that the borrower was sufficiently qualified and the appraised value adequately supported. The complete text of Aegis’s formal and initial response can be found in Appendix B of this report. We omitted the attachments for conciseness and due to Privacy Act concerns. 2 TABLE OF CONTENTS Background and Objectives 4 Results of Audit Finding: Aegis Wholesale Corporation Did Not Follow HUD Requirements 5 When Processing a Federal Housing Administration Loan Scope and Methodology 7 Appendixes A. Schedule of Questioned Costs and Funds Put to Better Use 8 B. Auditee Comments and OIG Evaluation 9 C. Case Study of Improperly Originated Loan 16 3 BACKGROUND AND OBJECTIVES Aegis Wholesale Corporation (Aegis) is a nonsupervised lender that began originating Federal Housing Administration loans in 1951. During the audit of a loan correspondent, we identified one Federal Housing Administration loan sponsored by Aegis that was not originated according to U.S. Department of Housing and Urban Development (HUD) requirements. To resolve the deficiencies, we performed a review of Aegis’s underwriting of the loan. Our objective was to determine whether Aegis complied with HUD regulations, procedures, and instructions when processing the Federal Housing Administration mortgage that it sponsored for a loan correspondent. 4 RESULTS OF AUDIT Finding: Aegis Wholesale Corporation Did Not Follow HUD Requirements when Processing a Federal Housing Administration Loan Aegis did not comply with HUD regulations, procedures, and instructions in the processing of a Federal Housing Administration-insured single-family mortgage. The lender did not adequately support the borrower’s income, the borrower’s creditworthiness, or the legitimacy of the appraised value of the property. The lender also charged the borrower $581 in loan discount points without reducing the borrower’s interest rate. As a result, HUD insured a loan that placed the insurance fund at risk for $58,088 and the borrower incurred excessive costs for the loan. Aegis Did Not Follow HUD Requirements Aegis overstated the borrower’s income and did not show that it was stable. The lender calculated the borrower’s income based upon the borrower working a 40- hour workweek. However, pay stubs on file showed the borrower often worked less than 40 hours a week. Further, the borrower changed employment six times in the two years prior to his loan application. The borrower did not stay in the same line of work nor did his income increase with every job change. At the time of application, the borrower had only been with his current employer for six months. HUD regulations state that lenders may not use income in evaluating a borrower’s loan that it cannot verify, is not stable, or will not continue. In addition, Aegis did not make certain all derogatory credit was explained and considered in qualifying the borrower. The borrower had multiple late payments on two separate auto loans. HUD regulations state that lenders must determine whether late payments were due to a disregard for financial obligations, mismanagement of financial obligations, or factors beyond the borrower’s control. Further, Aegis did not ensure the appraisal met HUD standards. In determining the appraised value, the appraiser did not analyze the subject sales contract or list price, adjust the comparables for sales concessions, or include any conventional loans for comparables. As a result, Aegis cannot be certain of the accuracy of the appraised value. Finally, Aegis allowed the loan correspondent to charge the borrower $581 in loan discount points, without reducing the borrower’s interest rate. The loan 5 correspondent could not provide documentation to show that the borrower received anything of value for the discount points charged. The Real Estate Procedures Act prohibits giving or accepting any part of a charge for services not performed. The substantial underwriting deficiencies on this loan unnecessarily place the insurance fund at risk. Further, the unearned fees unfairly imposed costs on the borrower without providing a benefit in return. Aegis should indemnify HUD for the $58,088 mortgage and repay the appropriate parties for the $581 in unearned discount points. Recommendation We recommend the Assistant Secretary for Housing-Federal Housing Commissioner and Chairman, Mortgage Review Board: 1A. Take appropriate administrative action against Aegis Wholesale for not complying with HUD requirements. This should include, at a minimum, requiring Aegis to indemnify HUD for case number 491-7971398, which had an original mortgage amount of $58,088. HUD should also require reimbursement of the $581 in unearned fees to the appropriate parties. 6 SCOPE AND METHODOLOGY We reviewed Aegis’s processing of one Federal Housing Administration loan that it sponsored for a Federal Housing Administration-approved loan correspondent. During our audit of that loan correspondent, we reviewed loans closed from July 1, 2002, through June 30, 2004, that defaulted within the first three years of closing. We identified a loan, sponsored by Aegis, which appeared to be improperly underwritten. Because the sponsor of the loan is ultimately responsible for loan processing deficiencies, we addressed the deficiencies to Aegis. To accomplish our objective, we prepare a case narrative of the loan processing deficiencies identified and provided the information to Aegis. We allowed Aegis an opportunity to provide additional information that could affect the initial results of our review of the loans. Aegis provided a written response. We evaluated the response when reaching our conclusions. In conducting our audit, we used computer-processed data contained in HUD’s Neighborhood Watch system. However, we did not rely on the data to accomplish our audit objective. Accordingly, we did not assess the reliability of the data in the system. We did not assess Aegis’s underwriting controls because they were not significant to our objective of reviewing the loan. We performed the work from May through July 2005. The audit was conducted in accordance with generally accepted government auditing standards. 7 APPENDIXES Appendix A SCHEDULE OF QUESTIONED COSTS AND FUNDS PUT TO BETTER USE Recommendation Funds Put to Better Number Ineligible 1/ Use 2/ 1A $581 $58,088 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/ “Funds to be put to better use” are quantifiable savings that are anticipated to occur if an Office of Inspector General (OIG) recommendation is implemented, resulting in reduced expenditures at a later time for the activities in question. This includes costs not incurred, deobligation of funds, withdrawal of interest, reductions in outlays, avoidance of unnecessary expenditures, loans and guarantees not made, and other savings. 8 Appendix B AUDITEE COMMENTS AND OIG'S EVALUATION Ref to OIG Evaluation Auditee Comments Comment 1 Comment 2 Comment 3 Comment 4 9 Comment 5 Comment 1 Comment 6 10 Comment 7 11 Comment 2 Comment 5 12 Comment 4 Comment 6 Comment 7 13 14 OIG Evaluation of Auditee Comments Comment 1 We omitted the attachments for conciseness and due to Privacy Act concerns. We also blocked out information in their response due to Privacy Act concerns. Comment 2 Aegis agreed to a principal reduction of $581 for the unearned discount points. Comment 3 Aegis’ response indicated they confirmed two-plus years of income and computed the average income to be $1,482 based on pay stubs. We computed the borrower’s average pay based on pay stubs to be $1,485. However, Aegis used income of $1,560 to qualify the borrower for the loan. Thus, Aegis’ response supports our calculation of income and contention that the borrower’s income was overstated in the loan file. Comment 4 Aegis did not verify that the borrower's income was stable. In their response, Aegis asserts the borrower is employable and provided a letter explaining his job changes. Yet, the file shows the borrower changed employment six times in the two years before his loan application. The borrower's written explanation for the job changes was that he was looking for a better paying job. However, two of his job changes in 2002 resulted in substantial decreases in income. The borrower's total income for all of 2002 was only $11,610 or $967 a month. Comment 5 Aegis’ response that the borrower had a satisfactory installment payment history on the car loan is not supported by the information in the file. Per payment history reports in the file, the borrower had two auto loans. The borrower paid late fees 11 times on the first account and 12 times on the second account. Comment 6 Aegis agreed the appraisal issues should have been addressed, but disagreed that the issues affected the appraised value of the property. The appraised value could be affected because the appraiser did not adjust the sales prices of the comparable properties for sales concessions. Comment 7 Again, Aegis agreed the appraisal issues should have been addressed, but disagreed that the issues affected the appraised value of the property. In determining the appraised value, the appraiser did not analyze the subject sales contract or list price, adjust the comparables for sales concessions or include any conventional loans for comparables. Accordingly, the accuracy of the appraised value is not supported. 15 Appendix C CASE STUDY OF IMPROPERLY ORIGINATED LOAN Case Number: 491-7971398 Mortgage Amount: $58,088 Gift Amount: $0 Date of Loan Closing: July 28, 2003 Status as of 03/31/2005: Reinstated by the mortgagor who retains ownership Payments before First Default Reported: 1 Summary: Income Overstated or Unsupported Aegis overstated the borrower’s monthly income by $140. Aegis calculated the borrower's income based on a 40-hour workweek. However, based on a review of the six pay stubs on file, the borrower only worked an average of 38 hours a week. The borrower worked some overtime hours; however, HUD Handbook 4155.1, REV-4, CHG-1, Paragraph 2-7(A) does not allowed this income to be counted since the borrower does not have a two-year history of receiving the income. Income Stability Not Verified Aegis did not verify that the borrower’s income was stable or could be expected to continue for at least the first three years of the mortgage. The borrower changed employment six times in the two years before his loan application. The borrower did not stay in the same line of work nor did his income always increase with each job change. After only working for one employer for three months, the borrower took another job, at which his monthly pay dropped approximately $540 per month. For a four-month period, the borrower claimed to have worked for his uncle’s business without receiving compensation. In the verbal verification of employment with the borrower's current employer, the loan correspondent did not obtain a response regarding the probability of continued employment. HUD Handbook 4155.1, REV-4, CHG 1, Section 2 states, "The anticipated amount of income, and likelihood of its continuance, must be established to determine the borrower's capacity to repay the mortgage debt. Income from any source that cannot be verified, is not stable, or will not continue may not be used in calculating the borrower's income ratios." 16 Creditworthiness Not Fully Considered/Inconsistencies Not Resolved Aegis did not ensure all derogatory credit was explained and considered in qualifying the borrower. The credit report shows two closed accounts with an automobile dealership. The credit report showed and the manager of the dealership confirmed that the borrower always made his payments on time. However, payment history reports included in the file show that the borrower paid late fees 11 times on the first account and 12 times on the second account. Aegis did not resolve these inconsistencies. HUD Handbook 4155.1, REV-4, CHG-1, Paragraph 2-3, requires lenders to determine whether late payments were due to a disregard for financial obligations, mismanagement of financial obligations or factors beyond the borrower's control. Appraisal Adjustments for Sales Concessions on Comparables Not Made The appraiser did not adjust the sales prices of the comparable properties for sales concessions. Two of the comparable properties sold with sales concessions. HUD Handbook 4150.2, Paragraph 4-6(B), requires appraisers to report and analyze the sales concessions on comparable properties and adjust their sales prices as necessary in determining the appraised value. Appraisal Did Not Include an Analysis of the Subject Sales Contract or List Price The appraiser did not analyze the subject sales contract or property listing. The sales contract showed the seller agreed to pay $2,800 in borrower closing costs and other expenses. HUD Handbook 4150.2, Paragraph 4.0 requires strict compliance with Uniform Standards of Professional Appraisal Practice (USPAP). USPAP Standards Rule 1-5(a) requires the appraiser to analyze all agreements of sale, options, or listings of the subject property in determining a property's appraised value. Standards Rules 2-2(a)(ix) states that if the information is unobtainable, the appraiser must provide a statement on efforts made to obtain the information. Appraisal Did Not Include Any Conventional Loans for Comparables The appraiser only used comparables financed through the Federal Housing Administration. HUD Handbook 4150.1, REV-1, Paragraph 6-10(B) requires appraisers to obtain at least one conventional loan, if available. The appraiser did not indicate that a conventional comparable was not available. Ineligible Closing Cost Charged to Borrower Aegis allowed the loan correspondent to charge $581 in loan discount points without reducing the borrower's interest rate. Rather than reducing the interest rate, the loan correspondent charged the borrower an above-market interest rate resulting in a yield spread premium of $1,380. The loan correspondent did not provide any documentation to show the borrower received anything of value for the discount points charged. HUD allows lenders who originate FHA-insured loans to charge borrowers a one-percent loan origination fee and eligible closing and prepaid costs; however, additional fees should be for specific services performed beyond the normal loan processing and underwriting. Section 8 of the Real Estate Settlement Procedures Act prohibits giving or accepting any part of a charge for services not performed. Since the loan 17 correspondent charged loan discount points without reducing the interest rate, the discount points were unearned fees in violation of the Real Estate Settlement Procedures Act. 18
Aegis Wholesale Corporation, Houston, Texas
Published by the Department of Housing and Urban Development, Office of Inspector General on 2005-09-16.
Below is a raw (and likely hideous) rendition of the original report. (PDF)