oversight

Hall Commons Inc. Bridgeport, Connecticut, Did Not Administer its $4.1 Million Section 202 Capital Advance Construction Grant in Accordance With Federal Requirements

Published by the Department of Housing and Urban Development, Office of Inspector General on 2006-06-30.

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

                                                                 Issue Date
                                                                          June 30, 2006
                                                                 Audit Report Number
                                                                        2006-BO-1008




TO:        Suzanne Baran, Director, CT Multifamily Program Center, 1EHMLAT


FROM:      John Dvorak, Regional Inspector General for Audit, 1AGA

SUBJECT: Hall Commons Inc., Bridgeport, Connecticut, Did Not Administer its $4.1
           Million Section 202 Capital Advance Construction Grant in Accordance With
           Federal Requirements

                                   HIGHLIGHTS

What We Audited and Why

             At the request of HUD, we audited Hall Commons Inc.'s administration of its
             Section 202 Supportive Housing for the Elderly capital advance construction
             funds. Our audit objective was to determine whether Hall Commons administered
             the Section 202 funds advanced for construction in accordance with federal
             requirements.


 What We Found
             Hall Commons Inc. did not administer its Section 202 capital advance
             construction funds in accordance with federal requirements. Hall Commons
             failed to maintain adequate and essential financial records to accurately account
             for project financial transactions and safeguard project assets. They also made
             unauthorized disbursements and allowed required insurance policies to lapse due
             to non-payment of premiums. This occurred because Hall Commons did not
             establish adequate internal controls over its cash accounts to safeguard project
             assets, and had inadequate board of directors oversight. As a result, more than $2
             million in capital advances and payments to vendors and contractors were not
             properly recorded, $199,411 in project funds were disbursed in violation of the



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                 governing project agreements, 1 the project was not always covered by builder’s
                 risk or crime insurance, and real estate taxes were delinquent. The serious
                 deficiencies indicate that Hall Commons does not have the capacity needed to
                 successfully develop the project.


What We Recommend

                 We recommend that the Connecticut multifamily program center director
                 pursue applicable sanctions available under the regulatory agreement to protect
                 HUD’s $4,079,100 investment including issuing a notice of default and if the
                 violations are not corrected within 30 days declaring a default, taking possession
                 of the project, foreclosing on the mortgage, or requiring a transfer of physical
                 assets to a HUD approved nonprofit corporation; and require Hall Commons Inc.
                 to support and/or repay the $199,411 in project funds that were disbursed in
                 violation of the governing project agreements.

                 If Hall Commons is allowed to remain the owner, we recommend the Connecticut
                 multifamily program center director require Hall Commons to establish a
                 financial accounting system and maintain current and accurate books and
                 accounts, and a functioning board of directors to provide adequate oversight over
                 project operations.

                 For each recommendation in the body of the report without a management
                 decision, please respond and provide status reports in accordance with HUD
                 Handbook 2000.06, REV-3. Please also furnish us copies of any correspondence
                 or directives issued because of the audit.


Auditee’s Response

                 The complete text of the auditee’s response, along with our evaluation of that
                 response, can be found in appendix B of this report.




1
 The project is governed under a capital advance regulatory agreement and a minimum capital investment
agreement.


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                            TABLE OF CONTENTS

Background and Objectives                                                          4

Results of Audit
      Finding 1: Hall Commons Inc., Did Not Properly Administer its $4.1 Million   6
      Section 202 Capital Advance Construction Grant

Scope and Methodology                                                              11

Internal Controls                                                                  12

Appendixes
   A. Schedule of Questioned Costs and Funds to Be Put to Better Use               13
   B. Auditee Comments and OIG’s Evaluation                                        14
   C. Applicable Regulations and Violations                                        20




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                         BACKGROUND AND OBJECTIVES


The Section 202 Supportive Housing for the Elderly program serves those very lowest income
seniors with few options. According to some estimates, the senior population, those over 65, is
expected to double by the year 2030, from 35 million to 70 million. For the last several years,
Section 202 funding has been stable but higher construction costs for projects have meant fewer
new units each year. These projects provide very low-income elderly with options that allow
them to live independently but in an environment that provides support activities such as
cleaning, cooking, transportation, etc. Given the stakes involved, the long-term viability of such
projects cannot be underestimated.

Under the provisions of Section 202 of the Housing Act of 1959, the Department of Housing and
Urban Development makes and disburses a capital advance pursuant to a mortgage, deed of trust
or security deed to construct an elderly housing project. The mortgage, deed of trust or security
deed is used as security for the capital advance, and would be payable in full in the event of
default by the owner/mortgagor. 2 The capital advance is subject to compliance with a regulatory
agreement, a use agreement, and a firm commitment for capital advance financing agreement.
The regulatory agreement and owner certificate are executed by an owner/mortgagor at the time
a mortgage is executed between the owner/mortgagor and the mortgagee or HUD. The
owner/mortgagor also executes a capital advance agreement at the time the mortgage is executed.
This agreement contains provisions that moneys in the construction account shall be expended
only for the purposes for which capital advance funds were requested and approved. The same
requirements are applicable to any escrow deposit agreements required by HUD.

The regulatory agreement and certificate contain provisions that require: 1) accounts of
mortgaged property operations be kept in accordance with the requirements of the Secretary of
Housing and Urban Development and in such form as to permit a speedy and effective audit; and
2) the mortgaged property, equipment, buildings, plans, offices, apparatus, devices, books,
contracts, records, documents, and other papers relating thereto shall at all times be maintained
in reasonable condition for proper audit and shall be subject to examination and inspection at any
reasonable time by the Secretary or his duly authorized agents. Owners shall keep copies of all
written contracts or other instruments which affect the mortgaged property, all or any of which
may be subject to inspection and examination by the Secretary or his duly authorized agents.
The owner/mortgagor is also to follow HUD Handbook 4370.2 REV-1: Financial Operations
and Accounting Procedures for Insured that requires that books and accounts must be complete
and accurate. The books of original entry must be kept current at all times, and postings must be
made at least monthly to ledger accounts.


2
  Hall Commons Inc. is the owner/mortgagor, who executed a mortgage with HUD, and the mortgage is between
Hall Commons and HUD and no bank is involved with this mortgage. HUD provides the capital advance after it
executes a mortgage instrument securing the advance, which act more like a security deed than the mortgage since
HUD is giving the owner/mortgagor money.3 The financial records provided included (1) a manual type Capital
Advance account checkbook that did not include running balances, (2) an incomplete set of bank statements, and (3)
copies of the front of the checks for some disbursements.


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HUD agreed to make and disburse a $4.1 million capital advance for constructing a 41-unit
Section 202 elderly housing development at 45 George E. Pipkin’s Way, Bridgeport,
Connecticut, known as Hall Commons. The total budget for the Hall Commons project is $5.8
million including HUD’s $4.1 million award of Section 202 funds and the State of Connecticut
Department of Economic and Community Development’s $1.7 million award of HOME funds.
As of March 30, 2006, HUD had provided $2 million of the $4.1 million capital advance for the
project’s development.

Our overall audit objective was to determine whether Hall Commons Inc. administered the funds
advanced for construction in accordance with federal requirements. The specific objectives were
to determine whether Hall Commons (1) maintained complete and accurate project financial
records to accurately account for project financial transactions and safeguarded project assets,
and (2) ensured that project funds were disbursed in compliance with the controlling regulatory
agreements, (3) properly recorded payments to vendors and contractors, and (4) paid project real
estate taxes and insurance premiums when due.




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                                       RESULTS OF AUDIT

Finding 1: Hall Commons Inc., Did Not Properly Administer its $4.1
Million Section 202 Capital Advance Construction Grant

Hall Commons Inc. did not follow federal requirements in the administration of its Section 202
capital advance construction grant funds. Hall Commons failed to follow federal requirements
because it did not (1) maintain complete and accurate project financial records for more than $2
million in HUD capital advances received, (2) properly disburse $199,411 in project funds, (3)
properly record payments to vendors and contractors, and (4) pay real estate taxes or insurance
premiums when due. They also improperly charged HUD for $7,500 in insurance premiums that
was paid for by the State. This occurred because Hall Commons did not establish adequate or
effective internal controls to administer HUD funds and safeguard project assets, or a functioning
board of directors to exercise management oversight over the project’s development. As a result,
the project’s development and HUD’s potential investment of $4.1 million is at risk.


Complete and Accurate Project
Records Were Not Maintained

                   Hall Commons Inc. was required to maintain complete and accurate records and
                   accounts. The books of original entry were to be kept current at all times, and
                   postings made at least monthly to ledger accounts. However, Hall Commons’
                   financial records 3 were incomplete and did not reflect an accurate or current
                   accounting of Hall Commons’ financial transactions. For instance, Hall
                   Commons failed to maintain a general ledger for the project. During the audit,
                   Hall Commons produced a general ledger report showing undated posted general
                   ledger transactions. For example, there were 10 capital advance drawdowns
                   totaling $2 million, but only the first drawdown for $457,000 was shown on the
                   report. Separate general ledger accounts and accurate and complete financial
                   records are necessary to support the cost certification audit required to reach final
                   endorsement.


Unsupported and Unauthorized
Disbursements of $199,411
                   A review of bank records4 for Hall Commons showed that there was $199,411 in
                   disbursements that were in violation of the capital advance regulatory agreement and
                   the minimum capital investment agreement. Federal requirements restrict
                   disbursements from the capital advance account to costs approved by HUD. In
                   addition, withdrawals from the operating deficit escrow account are not allowed
                   without HUD’s knowledge or approval. However, Hall Commons made

4
    The bank records for Hall Commons Inc. included monthly bank statements and canceled checks.


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              withdrawals of $184,584 from the capital advance account and $14,827 from the
              escrow account without HUD approval.

              The $184,584 in unauthorized disbursements from the capital advance account
              included $154,093 in unsupported costs and $30,491 in ineligible costs as follows:
              (1) $154,093 payment to Hall Neighborhood House in March 2005 for “developer
              fees” paid to the Sponsor that was not supported, (2) $15,346 improper payment to
              Hall Neighborhood House in March 2005, (3) $12,270 payment used to establish the
              project’s initial escrow account required under the minimum capital investment
              agreement that was not an approved use of the capital advance funds, and (4) $2,875
              improper payment to a vendor. The $14,827 withdrawal from the operating deficit
              escrow account was also not authorized. These funds were set aside to fund any
              operating deficits during the project’s first 3 years of operations. Hall Commons
              should not have withdrawn these funds for any reason during the development
              phase.


Payments Were Not Recorded
Properly


              The general ledger report provided by Hall Commons was also incomplete. For
              example, there was $500,562 in payments to vendors and contractors that was not
              included in the report. In addition, the showed that construction cost accruals
              were misclassified as contractual other instead of construction in process, and the
              project’s transactions had been recorded in the project sponsor’s (Hall
              Neighborhood House) accounting records. Timely, accurate and complete
              information is necessary for management decision-making. In addition, the lack
              of complete and accurate records will hamper final closing for the project.


Insurance Lapsed and Delinquent
Real Estate Taxes

              In March 2006, Hall Commons was notified that they were seriously delinquent in
              the real estate taxes due to the City of Bridgeport by January 1, 2006. The tax bill
              showed that over $11,000 was unpaid and overdue. The notification stated that
              Hall Commons’ ownership of the property was in jeopardy and that the next
              notification would be a lawsuit requesting that the properly be sold at auction or
              transferred to the City of Bridgeport. Hall Commons’ non-payment of real estate
              taxes put HUD’s investment at risk. On May 1, 2006, HUD advanced funds from
              the capital advance to pay for the property taxes and interest according to the
              security agreement.

              The project’s builder’s risk and crime insurance policies were also canceled for
              non-payment of premiums in March 2006. HUD Officials advised that the


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              builder’s risk policy was reinstated on April 11, 2006, after it was paid using State
              project funds. On May 4, 2006, HUD advised that the crime insurance policy also
              had been reinstated. During the period the insurance was canceled, the project the
              project was not covered for any property damage that may have occurred and
              HUD’s investment was put at risk of loss.



Adequate Board of Directors
Oversight Lacking


              Hall Commons did not establish adequate internal controls over cash accounts.
              There was no segregation of duties or board of director’s oversight over cash
              accounts. One officer only (the treasurer or the president), not two as required,
              signed the checks. In addition, the treasurer worked and held the position of bank
              manager at the bank where the accounts were held. Also, Hall Commons’ bank
              statements were mailed to the treasurer at the bank. The treasurer resigned
              sometime in October or November 2005.

              On April 18, 2006, we were provided access to the original bank statements
              directly from the bank manager and former treasurer. These documents showed
              that no bank account reconciliations were ever performed. In addition, Hall
              Commons requested and HUD approved $7,500 in capital advance funds to pay
              for insurance in May 2005. In August 2005, Hall Commons requested HOME
              funds from the State of Connecticut for the same item and since the funds came
              from the HOME funds, they should not have been requested from the capital
              advance, too. This lack of segregation of duties and poor record keeping are
              significant internal control weaknesses. These weaknesses and a lack of board
              oversight put the long-term viability and HUD’s $4.1 million investment in
              elderly housing at risk.

              The Hall Commons’ project development under Section 202 of the Housing Act
              of 1959 was required to be managed and overseen by a board of directors of at
              least seven directors. Hall Commons had submitted and HUD approved a seven
              member board of directors. However, a complete board of directors was not
              established as represented to HUD. During the audit, we determined that a
              functioning board of directors did not exist. For example, one of the seven-listed
              board members advised that they were not and never were a board member. As
              of April 18, 2006, the board consisted of only one member/officer, the President
              and one pending member. Therefore, Hall Commons could not conduct business
              without the required quorum of four members. Management responsibilities of
              the board included establishing internal controls over the project development to
              ensure 1) project assets were properly safeguarded, 2) funds were only disbursed
              in accordance with regulatory agreement, and 3) project costs billings were
              appropriate. Since Hall Commons Inc. did not have a functioning board these
              responsibilities were not met.


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Conclusion

             Hall Commons Inc. failed to follow federal requirements because it had not
             maintained complete and accurate project financial records for more than $2
             million in HUD capital advances received, properly disbursed $199,411 in project
             funds, properly recorded payments to vendors and contractors, or paid real estate
             taxes or insurance premiums when due. They also improperly charged HUD for
             $7,500 in insurance premiums that was paid for by the State. The actions and
             inactions that were demonstrated by Hall Commons’ management and board of
             directors have put the project’s viability of going forward at risk and will
             ultimately result in a project that won’t be built or will be mismanaged without an
             active board. Additionally, the seriousness of the deficiencies indicates that Hall
             Commons does not have the capacity needed to successfully develop the project.
             HUD should ensure its investment is protected, and pursue available actions
             against the owner and sponsor, and should require repayment of the funds
             disbursed incorrectly or in violation of the governing project agreements. In
             addition, HUD should ensure that a proper board of directors is established and
             adequate internal controls are developed to safeguard funds and assets. Without
             effective internal controls or board oversight, the project’s development and
             HUD’s $4.1 potential investment is at risk.

Recommendations


             We recommend that the Connecticut multifamily program center director

                1A.     Pursue all applicable sanctions available to HUD under the regulatory
                        agreement to ensure that HUD’s $4,079,100 investment is protected,
                        including issuing a notice of default and if the violations are not
                        corrected within 30 days declaring a default under the regulatory
                        agreement and pursuing such actions as taking possession of the
                        project, foreclosing on the mortgage, or requiring a transfer of physical
                        assets to a HUD approved private nonprofit corporation.

                1B.     Pursue all applicable administrative sanctions against Hall
                        Neighborhood House (sponsor), Hall Commons Inc. (owner), and their
                        principals, including, but not limited to debarment.

                1C.     Require Hall Commons to provide adequate support to show the use of
                        the $154,073 classified as development fees was an eligible grant
                        expense.




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1D.    Require Hall Commons Inc. to repay the $30,491 in project funds that
       were disbursed in violation of the capital advance program regulatory
       agreement, and the $14,827 that was disbursed in violation of the
       minimum capital investment agreement, a total of $45,318.

1E.    Require Hall Commons Inc. to repay the project $7,500 for insurance
       premium billings that were reimbursed by both HUD and the state of
       Connecticut.

If Hall Commons Inc. is allowed to remain the owner, we recommend the
Connecticut multifamily program center director require Hall Commons to

1F.    Establish a financial accounting system and maintain current and
       accurate books and accounts, and

1G.    Establish a functioning board of directors to provide adequate
       oversight over project operations.




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                        SCOPE AND METHODOLOGY

To accomplish the objective, we reviewed HUD’s regulations regarding the Section 202 Program,
project regulatory agreements, HUD handbook requirements, and the owner’s certifications. We
interviewed the project Sponsor’s Executive Director, Director of Finance and HUD Multifamily
Housing officials in Hartford, Connecticut. We reviewed bank statements and other financial
records provided by the Sponsor and project development files maintained by HUD. Our audit
fieldwork was conducted onsite at the project Sponsor’s offices in Bridgeport, Connecticut and
HUD’s offices in Hartford, Connecticut from February through May 2006. The audit covered the
period January 1, 2005 through March 31, 2006.

We conducted the audit in accordance with generally accepted government auditing standards.




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                             INTERNAL CONTROLS

Internal control is an integral component of an organization’s management that provides
reasonable assurance that the following objectives are being achieved:

   •   Effectiveness and efficiency of operations,
   •   Reliability of financial reporting, and
   •   Compliance with applicable laws and regulations.

Internal controls relate to management’s plans, methods, and procedures used to meet its
mission, goals, and objectives. Internal controls include the processes and procedures for
planning, organizing, directing, and controlling program operations. They include the systems
for measuring, reporting, and monitoring program performance.


 Relevant Internal Controls
              We determined the following internal controls were relevant to our audit objectives:

              •       Safeguarding of Assets – Policies and procedures that Hall Commons, Inc.,
                      has implemented to ensure that project assets are safeguarded.
              •       Disbursement of Funds – Policies and procedures that Hall Commons, Inc.,
                      has implemented to ensure project funds are disburdened in accordance with
                      program regulations.
              •       Requisitioning of funds – Policies and procedures that Hall Commons, Inc.,
                      has implemented to ensure proper billings for project development cost
                      reimbursements.

              We assessed the relevant controls identified above.

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


 Significant Weaknesses


              Based on our review, all three internal controls assessed had significant weaknesses.
              (See Finding 1)




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                                                                                 Appendix A

               SCHEDULE OF QUESTIONED COSTS
              AND FUNDS TO BE PUT TO BETTER USE

 Recommendation           Ineligible 1/    Unsupported      Unreasonable or      Funds to be put
     number                                         2/       unnecessary 3/       to better use 4/
              1A                                                                      $4,079,100
              1C                                154,073
              1D              $45,318
              1E                                                      $7,500


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
     polices or regulations.
2/   Unsupported costs are those costs charged to a HUD-financed or HUD-insured program
     or activity when we cannot determine eligibility at the time of audit. 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.
3/   Unreasonable/unnecessary costs are those costs not generally recognized as ordinary,
     prudent, relevant, and/or necessary within established practices. Unreasonable costs
     exceed the costs that would be incurred by a prudent person in conducting a competitive
     business.
4/   “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. In this
     instance the total project funds will be put to better use if the project is properly managed
     or transferred to another HUD approved private nonprofit corporation.




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                                           Appendix B

        AUDITEE COMMENTS AND OIG’S EVALUATION


Ref to OIG Evaluation   Auditee Comments




                         14
        AUDITEE COMMENTS AND OIG’S EVALUATION


Ref to OIG Evaluation   Auditee Comments




Comment 1




Comment 2




                         15
        AUDITEE COMMENTS AND OIG’S EVALUATION


Ref to OIG Evaluation   Auditee Comments




Comment 3




                         16
        AUDITEE COMMENTS AND OIG’S EVALUATION


Ref to OIG Evaluation   Auditee Comments




Comment 4




Comment 5




Comment 6




                         17
        AUDITEE COMMENTS AND OIG’S EVALUATION


Ref to OIG Evaluation   Auditee Comments




                         18
                         OIG Evaluation of Auditee Comments

Comment 1   Hall Commons Inc. concurs with our finding that complete and accurate records
            were not maintained and payments were not properly recorded. HUD should
            review the adequacy of the accounting records that Hall has recently established.

Comment 2   The February 2, 2005 invoice for $154,093 from Hall Neighborhood House to
            Hall Commons for consulting and administrative fees was not included in the
            requisition approved by HUD, nor was it provided to us during the course of the
            audit although support was requested several times. In addition, the invoice is
            very general and does not provide a breakout for the costs associated with the
            services provided.

            Since we could not determine what specific items were paid for with the
            developer fee, we could not make a determination whether the items were eligible
            grant expenses. HUD approved the developer fees to Hall Commons Inc. to be
            used for actual and eligible development fee items, which could include
            consulting and some administration expenses. Hall Commons Inc. needs to
            provide a complete detailed breakout of actual expenses paid by Hall
            Neighborhood House on behalf of Hall Commons Inc. to account for how the
            $154,093 was applied, and support that the expenses were allowable and eligible
            grant expenses. We reclassified the costs from ineligible to unsupported to allow
            Hall Commons Inc. the opportunity to submit it to HUD for review/approval.

Comment 3   Documentation provided showed that the funds were used to establish the escrow
            account. However, the use of the capital advance account funds to establish the
            escrow account was not an approved use of the funds. The disbursement is still
            considered ineligible; however, the report language was revised accordingly.

Comment 4   Hall Commons Inc. was responsible to make timely payments for property taxes
            and for insurance. Not paying the project expenses because management failed to
            act and/or HUD or the State did not provide the funds did not change Hall
            Common's responsibility to make timely payments.

Comment 5   The $7,500 in Capital Advance funds was drawdown for insurance expenses that
            the State funds paid in full. Whether or not they were used to pay a vendor or
            remained in the Hall Commons Inc. account is not relevant to the finding. The
            $7,500 needs to be repaid to the project.

Comment 6   Hall Commons Inc. has operated without the required seven member board
            members since inception and has not maintained any board minutes or provided
            any documentation demonstrating adequate oversight.




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Appendix C


        APPLICABLE REGULATIONS AND VIOLATIONS


Regulation                                     Violation
Capital Advance Regulatory Agreement -          Did not maintain adequate books/records
11(d) & 11(e)
Capital Advance Agreement - 4 (d)              Unauthorized disbursements
Capital Advance Agreement – 10 & Property      Failure to maintain insurances
Insurance Requirements - Form HUD 90164)
Mortgage – form HUD-90165-CA - 13              Delinquent Tax Liens
Depository Agreement - Minimum Capital         Unauthorized withdrawal from escrow
Investment
Hall Commons Inc. Articles of Incorporation    Failure to maintain a Board of directors
– Article VIII                                 and manage operations
By-Laws of Hall Commons Inc. 10.02             Checks only signed by one person




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