Department of Housing and Urban Development, Office of Inspector General | Housing and Urban Development | American Lending Group Did Not Properly Originate 9 Loans and Did Not Have Adequate Quality Control Procedures

American Lending Group Did Not Properly Originate 9 Loans and Did Not Have Adequate Quality Control Procedures

Published by the Department of Housing and Urban Development, Office of Inspector General on 2006-03-15.

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

Issue Date
March 15, 2006
Audit Report Number
2006-KC-1007

TO: Brian D. Montgomery, Assistant Secretary for Housing – Federal Housing
Commissioner, H

//signed//
FROM: Ronald J. Hosking, Regional Inspector General for Audit, 7AGA

SUBJECT: American Lending Group Did Not Properly Originate 9 Loans and Did Not Have
Adequate Quality Control Procedures

HIGHLIGHTS

What We Audited and Why

We audited American Lending Group (American Lending) because it had a high
default rate among active nonsupervised lenders in the St. Louis, Missouri, area.
American Lending’s St. Louis area branch had a default rate of 9.22 percent. Our
audit objectives were to determine whether American Lending properly originated
Federal Housing Administration loans, properly submitted late requests for
endorsement, and implemented adequate quality control procedures.

What We Found

American Lending did not follow U.S. Department of Housing and Urban
Development (HUD) requirements when underwriting 8 of the 17 loans reviewed.
These loans contain material deficiencies that affect the insurability of the loans.
Material deficiencies include unsupported income, excessive ratios, unsupported
gift funds and assets, and questionable credit histories. As a result, HUD insured
8 loans that placed the Federal Housing Administration insurance fund at risk for
$935,318.
American Lending did not follow HUD requirements for late insurance endorsement
when submitting 1 of the 48 loans reviewed. It submitted a Federal Housing
Administration loan for insurance endorsement when the borrowers had delinquent
payments before loan submission. As a result, HUD is insuring a loan that places
the Federal Housing Administration insurance fund at risk for $144,296.

American Lending’s quality control procedures did not comply with HUD
requirements. American Lending did not review all loans that defaulted within the
first six months, perform the required 10 percent review of all Federal Housing
Administration loans during 20 of the 23 months in which it originated such loans,
complete reviews within the required timeframes, or appropriately review its branch
offices. American Lending’s management was unaware of, or misunderstood, the
HUD requirements. These deficiencies prevented American Lending from
adequately identifying problems in its loan origination.

What We Recommend

We recommend that HUD take appropriate administrative action against
American Lending for not following HUD requirements. At a minimum, HUD
should require American Lending to indemnify three loans with material
deficiencies with original mortgage amounts totaling $502,611; to indemnify
HUD for future losses on four properties not yet sold for which HUD paid claims
totaling $364,198; and to reimburse HUD $52,357 for claims paid on one loan
that was sold.

We recommend that HUD take appropriate administrative action against
American Lending for improperly submitting one loan for late endorsement. At a
minimum, HUD should require American Lending to indemnify the loan with an
original mortgage amount of $144,296.

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

We provided the draft report to American Lending on March 3, 2006, and
requested a written response. American Lending provided written comments on
March 9, 2006. American Lending generally agreed that it had problems in its
origination and quality control activities.

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

2
TABLE OF CONTENTS

Background and Objectives 4

Results of Audit
Finding 1: American Lending Did Not Follow HUD Requirements While 5
Underwriting Eight Federal Housing Administration Loans

Finding 2: American Lending Improperly Submitted a Late Request for 8
Endorsement

Finding 3: American Lending’s Quality Control Procedures Did Not Meet HUD 10
Requirements

Scope and Methodology 13

Internal Controls 14

Appendixes
A. Schedule of Questioned Costs and Funds to Be Put to Better Use 15
B. Auditee Comments and OIG’s Evaluation 16
C. Schedule of Underwriting Deficiencies 26
D. Case Summaries of Loan Deficiencies 27
E. Criteria 35

3
BACKGROUND AND OBJECTIVES

American Lending Group (American Lending) is a direct endorsement lender based in St. Peters,
Missouri. It was founded in 1992 and became an approved direct endorsement lender for the
Federal Housing Administration that same year. American Lending has three active branch
offices. It originates loans and underwrites loans originated by loan correspondents.

On June 29, 2004, the U.S. Department of Housing and Urban Development (HUD) terminated
the Federal Housing Administration origination approval agreement for American Lending’s St.
Louis, Missouri, office. HUD is permitted by its regulations to terminate the agreement with any
lender having a default or claim rate for loans endorsed within the preceding 24 months that
exceeds 200 percent of the default rate and claim rate within the geographic area served by a
field office and also exceeds the national default and claim rate. A terminated lender may
reapply after six months if the underlying causes for termination have been remedied.

For loans closed in June 2003 through May 2005, American Lending’s St. Louis area branch had
a default rate of 9.22 percent. The St. Louis area branch originated 206 Federal Housing
Administration single-family loans during this period, and 19 of those loans (9.22 percent)
defaulted within two years of closing. Including properties in other geographic areas, the St.
Louis branch originated 479 loans during this period, 39 of which defaulted within two years of
closing.

Our audit objectives were to determine whether American Lending properly originated Federal
Housing Administration loans, properly submitted late requests for endorsement, and
implemented adequate quality control procedures.

4
RESULTS OF AUDIT

Finding 1: American Lending Did Not Follow HUD Requirements
While Underwriting 8 Federal Housing Administration Loans
American Lending did not comply with HUD requirements while underwriting eight Federal
Housing Administration-insured single-family mortgages. Because American Lending closed the
branch office that originated seven of these loans, we could not determine the cause of the
deficiencies. These deficiencies affected the credit quality of the loans and placed the Federal
Housing Administration insurance fund at an increased risk of borrower default on the eight
improperly underwritten loans with original mortgage amounts totaling $935,318.

HUD Underwriting
Requirements Not Followed

American Lending’s St. Louis office underwrote eight loans that contain
significant underwriting deficiencies. These deficiencies primarily involve the
following:

Unsupported Income/Questionable Employment History (Five Loans)
American Lending did not properly assess income and employment for five
borrowers. The income is either overstated or not adequately supported, or the
borrowers have unexplained gaps in the two-year employment history required by
HUD. HUD requires lenders to evaluate borrowers’ employment history to
establish stability of income. Lenders must accurately assess borrower income to
make informed decisions on income stability and the borrower’s ability to repay
the mortgage.

Excessive Ratios (Five Loans)
American Lending approved five loans for which the borrowers’ front, back, or
loan-to-value ratios exceeded HUD limits. It did not identify adequate
compensating factors for four borrowers whose housing (front) or total debt
(back) ratios exceeded HUD’s limits. It also exceeded the loan-to-value ratio for
one loan in which the relationship of the borrower and coborrower was not
disclosed. HUD limits the maximum mortgage to 75 percent loan-to-value when
there are two or more borrowers but one or more will not occupy the property as a
principal residence.

Assets/Funds to Close (Six Loans)
American Lending did not properly document gifts from nonprofits or borrower
assets for six borrowers. It did not document the transfer of gift funds (funds
needed to close the loan) from nonprofit donor to recipient for five borrowers.

5
There were gift letters in each file, and the gift amount was stated on each
borrower’s underwriting worksheet and settlement statement. However, there
were no documents showing the transfer of funds from the gift donor to the
closing agent. We requested the wire transfers to document receipt of these
funds. American Lending provided some gift transfer documentation for one
borrower, but the documentation only showed the transfer of funds from the
seller, not the transfer of funds from the nonprofit to the title company. In
addition, American Lending did not obtain adequate bank documentation for two
of the six borrowers to provide evidence of funds needed to close the loan.

Questionable Credit History (Three Loans)
American Lending did not adequately assess credit histories for three borrowers.
These borrowers’ credit histories show significant derogatory credit and
collection items within the two years before closing. HUD requires the lender to
analyze whether late payments were a disregard for financial obligations or
factors beyond the control of the borrower. American Lending did not provide
compensating factors for approving these loans. Additionally, it did not obtain a
verification of rent to verify two borrowers’ payment histories of housing
obligations covering the most recent 12-month period and approved the third even
though the borrower’s landlord submitted a negative verification of rent.

A schedule of the deficiencies is presented in appendix C. A detailed description
of the deficiencies for each loan is presented in appendix E.

Cause of Deficiencies

American Lending’s home office allowed its South County branch office, from
which the seven deficient loans were originated, to use its lender number while
not supervising this office according to HUD quality control requirements (see
finding 3). American Lending closed its South County branch as result of non-
compliance discovered during a branch review. Because American Lending’s
South County branch was closed in April 2004, we could not determine the cause
of the deficiencies.

Effect of Improperly
Underwritten Loans
As of December 31, 2005, HUD systems show that HUD has paid claims on five
of the eight materially deficient loans.

Status of deficient loans as of Number Original mortgage Claim paid Loss
December 31, 2005 of loans amount amount amount
Active insurance – in default 3 $502,611
Claim paid – not yet sold 4 $355,913 $364,198
Claim paid - sold 1 $76,794 $81,154 $52,357
Total 8 $935,318 $445,352 $52,357

6
As a result, American Lending originated eight loans containing deficiencies that
have placed the Federal Housing Administration insurance fund at risk for
$935,318 and caused HUD to incur related losses.

Conclusion

Violations of HUD requirements, caused by fraud or serious negligence on the
part of the lender, may require the lender to enter into an indemnification
agreement with HUD. Five of the eight deficient loans have resulted in claims,
and the other three are in a default status but remain actively insured. HUD
should request indemnification for these loans because they contain significant
deficiencies that affect their credit quality and place the Federal Housing
Administration insurance fund at an increased risk of borrower default.

Recommendations

We recommend that the assistant secretary for housing – federal housing
commissioner and chairman, Mortgagee Review Board,

1A. Take appropriate administrative action against American Lending for not
complying with HUD underwriting requirements. This action at a minimum
should include requiring American Lending to indemnify HUD for three
actively insured loans with original mortgage amounts totaling $502,611.

1B. Take appropriate administrative action against American Lending for four
loans for which HUD has already paid a claim totaling $364,198, including
requiring American Lending to indemnify HUD for future losses on the four
properties that have not yet been sold.

1C. Take appropriate administrative action against American Lending for the
loan not properly underwritten whose subject property was conveyed to
HUD and later sold. This action at a minimum should include requiring
American Lending to reimburse HUD $52,357 for actual loss incurred.

7
Finding 2: American Lending Improperly Submitted a Late Request
for Endorsement
American Lending improperly submitted one loan for insurance endorsement when the borrower
had prior delinquent payments. Although late endorsement requests were not a significant problem
for American Lending, the improperly submitted loan with a mortgage amount of $144,296
represents an increased risk to the Federal Housing Administration insurance fund.

Improperly Submitted Loans

We reviewed 48 loans originated by American Lending between June 1, 2003, and May
31, 2005, which were submitted for late endorsement. American Lending improperly
submitted one of these loans for endorsement when the borrowers had delinquent
payments before submission. HUD Handbook 4165.1 has specific requirements for
lenders to follow when submitting a loan for insurance endorsement more than 60 days
after the closing date. Lenders may only submit loans for which the borrowers have
made all payments within the month due. If submitted after the 15th of the month, the
payment for the month in which the case binder was submitted must also be included. If
submitted before the 15th of the month, the current month’s payment need not be present.
If a borrower has made a late payment, the lender may not submit the loan until the
borrower has made six consecutive timely payments. The following table lists the
pertinent details for the improperly submitted loan.

Case number Closing date Submission Endorsement Late payment
date date dates
137-2400008 Aug. 25, 2003 Jan 12, 2004 Jan. 14, 2004 Nov. 2003,
Dec. 2003,
Jan. 2004

Overall, American Lending did not have a significant problem with late requests
for endorsement. As of December 31, 2005, case number 137-2400008 is in
default.

The mortgage, with an amount of $144,296, represents an increased risk to the
Federal Housing Administration insurance fund.

Mortgagee Letter 2005-23 eliminated the requirement that the borrower make six
consecutive payments when due before the loan is eligible for insurance. Under the
new requirements, lenders need to only certify that the most recent payment that
came due was made within that month. The improperly submitted loan violated this
most recent requirement.

8
Recommendation

We recommend that the secretary of housing – federal housing commissioner and
chairman, Mortgage Review Board,

2A. Take appropriate administrative action against American Lending. At a
minimum, this action should include requiring indemnification of the loans with a
mortgage amount of $144,296 that was improperly submitted for late
endorsement.

9
Finding 3: American Lending’s Quality Control Procedures Did Not
Meet HUD Requirements
American Lending’s quality control procedures did not include HUD’s requirements for performing
reviews. American Lending’s management was unaware of the requirements to perform early
payment default and site reviews of its branch offices and misunderstood the requirement regarding
the number of reviews and the timeframes within which they should completed. As a result, it
could not ensure the accuracy, validity, and completeness of its loan originations.

Quality Control Procedures Not
Meeting HUD Requirements

Types of Reviews
American Lending’s written quality control plan did not include all HUD-required
elements specified in HUD Handbook 4060.1. Its written quality control plan did
not include the requirements to review all loans going into default within the first
six months after closing (early payment defaults) and to conduct site reviews of
its branch offices.

Consequently, American Lending did not perform any early payment default
reviews nor did it conduct reviews of its branch offices in the manner required by
HUD. It conducted branch reviews, which prompted the closure of its South
County branch office, but the reviews were not documented. Therefore, we could
not determine whether the reviews covered all 10 requirements listed in HUD
Handbook 4060.1, REV-1, CHG-1 section 6-3 (G).

Number of Reviews and Required Timeframe
Further, American Lending did not conduct all quality control reviews required
during the audit period. HUD Handbook 4060.1 requires lenders to conduct
quality control reviews of 10 percent of all Federal Housing Administration loans
within 90 days of closing and requires reviews either monthly or quarterly,
depending on the number of loans closed each month. American Lending’s
quality control plan instead stated that it would start a review of 10 percent of all
loans within 90 days of the closing month.

During the 23 months that American Lending originated Federal Housing
Administration-insured loans, it conducted quality control reviews of the required
10 percent sample during only three months. Of the 27 quality control reviews
performed during the period, only five were conducted within the 90-day
timeframe. On average, the reviews were completed 41 days late. The following
chart compares the actual number of reviews performed to the number required.

10
10

6
Number of reviews

0
Jun- Jul- Aug- Sep- O ct- N ov- D ec- Jan- Feb- M ar- Apr- M ay- Jun- Jul- Aug- Sep- O ct- Nov- Dec- Jan- Feb- M ar- Apr- M ay-
03 03 03 03 03 03 03 04 04 04 04 04 04 04 04 04 04 04 04 05 05 05 05 05
M onths

Reviews required Reviews perform ed

Management Unaware of
Requirements

American Lending’s management was unaware of the requirement to conduct
quality control reviews of all loans going into default within the first six months
after closing. American Lending misunderstood the requirement for conducting
quality control reviews of 10 percent of all Federal Housing Administration loans
within 90 days of closing. American Lending’s quality control plan stated that
reviews of 10 percent of all loans would begin within 90 days of closing.
American Lending is taking steps to amend its quality control plan accordingly.

Effect of Noncompliance

American Lending’s written quality control procedures lacked HUD-required
elements necessary to conduct proper quality control reviews, and its staff did not
conduct quality control reviews in accordance with HUD requirements. Without
a HUD-compliant quality control plan, American Lending cannot ensure that it is
protecting itself and HUD from unacceptable risk and that it is guarding against
errors, omissions, and fraud.

11
Recommendation

We recommend that the assistant secretary for housing – federal housing
commissioner and chairman, Mortgagee Review Board,

3A. Verify that American Lending follows the new amendments to its quality
control plan.

12
SCOPE AND METHODOLOGY

According to HUD’s Neighborhood Watch system, American Lending’s St. Louis office
processed 479 Federal Housing Administration loans between June 1, 2003, and May 31, 2005.
Of the 479 loans, 49 defaulted within the first two years after the loans closed. We reviewed 17
of the 49 defaulted loans. We excluded

• Twenty-seven streamline refinance loans because the underwriter’s assessment of these
loans is limited,
• Two loans for which HUD’s Quality Assurance Division had recommended
indemnification,
• Two terminated loans that were no longer a threat to HUD’s insurance fund, and
• One loan file that was not available for review.

To accomplish our objectives, we reviewed the Federal Housing Administration underwriting
policies and procedures for HUD and American Lending and interviewed the office management
and staff. We reviewed the HUD and American Lending loan files for 17 loans to determine
whether the loans were properly underwritten. Since we based our findings on the loan files rather
than information in HUD’s systems, we did not assess the reliability of HUD’s systems. We
reviewed the results of prior certified public accountant and HUD reviews.

Additionally, in performing our tests to determine whether American Lending complied with
HUD’s endorsement requirements, we reviewed HUD data and pay histories to identify the
presence of payments made outside the month due and delinquent payments before submission.
Using HUD’s Single Family Data Warehouse system, we identified 48 loans sponsored or
originated by American Lending between June 1, 2003, and May 31, 2005, that were submitted
for late endorsement.

Finally, we reviewed American Lending’s quality control plan to determine whether it contained
all HUD requirements. We examined American Lending’s quality control reviews from June
2003 through May 2005 to determine whether the required quality control reviews were
performed.

We performed audit work from September through December 2005 at American Lending’s home
office located at 22 Richmond Center Court, St. Peters, Missouri. We conducted our audit in
accordance with generally accepted government auditing standards. However, because the South
County office was no longer in business, we were unable to assess its internal controls.

13
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:

• Controls over underwriting of Federal Housing Administration loans.

Because the South County office was no longer in business, we were unable to
assess its internal controls.

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APPENDIXES

Appendix A

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

Recommendation Ineligible 1/ Unsupported 2/ Funds to be put
number to better use 3/
1A $502,611
1B $364,198
1C $52,357
2A $144,296

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/ “Funds to be put to better use” are quantifiable savings that are anticipated to occur if an
Office of Inspector General recommendation is implemented, resulting in reduced
expenditures at a later time for the activities in question. This includes loans and
guarantees not made.

15
Appendix B

AUDITEE COMMENTS AND OIG’S EVALUATION

Ref to OIG Evaluation Auditee Comments

Comment 1

Comment 2

16
Comment 3

Comment 4

17
18
19
20
21
22
23
OIG Evaluation of Auditee Comments

Comment 1 Quality Control
We commend American Lending Group for taking prompt action and closing its
South County branch upon discovering issues of non-compliance when
underwriting Federal Housing Administration loans. We also commend American
Lending for promptly amending their quality control plan to meet HUD
requirements and to improve their Federal Housing Administration loan
origination process.

Comment 2 HUD Reimbursement
The reimbursement amount of case number 292-4446965 is a matter that must be
addressed by HUD. HUD has a method for determining the loss amount of the
properties on which it has paid a claim. American Lending Group should contact
HUD’s Real Estate Owned division to resolve any disagreements they may have
with the loss amount.

Comment 3 Late Endorsement
American Lending Group could not provide evidence that the loan payments for
November and December 2003, and January 2004, for case number 137-2400008
were timely. The documentation provided showed that the payments for these
months were delinquent. Therefore, this loan was not eligible for endorsement.

Comment 4 Underwriting
Case Number 137-2985860 – Without any evidence of proper asset verification,
we are unable to determine that the borrower had the funds necessary to close the
loan, and whether this loan should have been approved.

Case Number 292-4417975 – Without any evidence showing the relationship
between the borrower and co-borrower, we are unable to determine whether the
loan-to-value ratio should have been allowed to exceed 75 percent. Therefore,
HUD will have over-insured the loan.

Case Number 292-4371418 - Without any evidence of the transfer of gift funds,
we cannot determine that the gift funds were properly provided to the borrower
and not provided by a party to the transaction. American Lending’s response
indicates that they discovered the title company did not correctly disburse the
funds.

This loan was originally underwritten using an automated underwriting software
and stating that borrower would receive cash back. The HUD form 92900-A says
that the loan was rated as "refer" by an automated underwriting system, and/or
was manually underwritten by a direct endorsement underwriter. The underwriter
signed the Mortgage Credit Analysis Worksheet indicating that the loan was
manually underwritten, and the settlement statement showed no cash back to the

24
borrower. Therefore, this loan should have met the requirements of a manually
underwritten loan, including verification of rent and acceptable credit.

Case Number 292-4425828 - Without any evidence of the transfer of gift funds,
we cannot determine that the gift funds were properly provided to the borrower
and not provided by a party to the transaction. American Lending’s response
indicates that they discovered the title company did not correctly disburse the
funds. In response to our audit, American Lending Group obtained an
employment verification for four of the eight months that were missing. The loan
was approved without the required 24 months of verified employment.

Case Number 292-4446965 - Without any evidence of the transfer of gift funds,
we cannot determine that the gift funds were properly provided to the borrower
and not provided by a party to the transaction.

Case Number 292-4419136 - Without any evidence of the transfer of gift funds,
we cannot determine that the gift funds were properly provided to the borrower
and not provided by a party to the transaction. In response to our audit, American
Lending Group did obtain a verification of employment.

Case Number 292-4439118 – We did not request repayment of the courier fee
because the amount was not material. In the future, American Lending Group
should ensure that borrowers are not charged unallowable fees.

25
Appendix C

SCHEDULE OF UNDERWRITING DEFICIENCIES

Excessive ratios

Assets/funds to

Questionable
credit history
employment
Income and
Federal Original
Housing insured (1)

close
Administration mortgage Claim paid
case number amount by HUD
292-4417975 $ 76,794 $ 82,143 X
292-4439118 $ 70,887 $ 72,905 X 136/182
292-4371418 $ 163,927 X X
292-4425828 $ 91,563 $ 91,607 X X
292-4358891 $ 176,234 X 24.88/87.07 X
292-4446965 $ 76,794 $ 81,154 X 35.76/39.06 X X
137-2985860 $ 162,450 X
292-4419136 $ 116,669 $ 117,543 X 42.04/53.48 X X

Totals $ 935,318 $ 445,352
We have included the narrative case studies for each of the 8 questioned loans represented in the
chart above in appendix D.

(1) Loans that have defaulted and for which HUD has paid a claim and acquired the property.
As of December 31, 2005, five properties have gone to claim. One of these properties (292-
4446965) has been sold for a loss of $52,357.

26
Appendix D

CASE SUMMARIES OF LOAN DEFICIENCIES

Case number: 292-4417975 Loan purpose: Purchase

Underwriter type: Manual Date of loan closing: September 19, 2003

Insured amount: $76,794 Housing/debt ratio: 19.33/19.33 percent

Status: Claim paid – not sold HUD costs incurred: $82,143

Liabilities
The borrower’s negative monthly rental income of $112 was not factored into his liabilities on
the underwriting worksheet when computing his ratios ($787 mortgage payment on his current
house, minus the rental income of $900 reduced by the 25 percent, which equals $675). This
deficiency is not indemnifiable. The borrower’s ratios were 19.33/19.33 percent; after including
the $112 monthly liabilities, his ratios increase to 19.33/22.59 percent, which remains below the
HUD limits of 29/41 percent. The file does contain the proper documentation for the rental
income.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-7 (M)(2).
HUD Handbook 4155.1, REV-4, CHG-1, section 2-11(A).

Ratios and Compensating Factors
The borrower and coborrower filled out the application, stating that they were single, but both
are married to other people; their relationship was not disclosed in the case binder, and there
could be a nonoccupying borrower, affecting the maximum allowable loan-to-value ratio. The
loan-to-value on this loan was 97.75, whereas it should have been limited to 75 percent unless
the borrowers had a qualifying relationship.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 1-8 (B).

Case number: 292-4439118 Loan purpose: Purchase

Underwriter type: Manual Date of loan closing: October 22, 2003

Insured amount: $70,887 Housing/debt ratio: 29.04/38.80 percent

Status: Claim paid – not sold HUD costs incurred: $72,905

27
Income and Employment History
American Lending failed to properly document income and employment history. The lender
documented only one month of the borrower’s amount of income, and 10 months of
employment. The borrower had held his then current position for one month before closing. The
borrower did not provide an explanation for the period before December 1, 2002.

American Lending later provided pay stubs and tax returns for the borrower that we previously
obtained from the HUD file. The borrower’s application stated that he earned $1,200 per month
($14,400 annually) during 2001 and 2002, but his tax returns showed that he earned considerably
less. In addition, the borrower’s pay stubs did not show the employer’s name or a breakdown of
the pay amount, and the year-to-date amount did not carry forward correctly from pay stub to
pay stub. American Lending provided no explanation for these discrepancies. The borrower’s
average income for the prior two years is a better indicator of the borrower’s income stream than
one month of the borrower’s new employment for which the pay stubs are questionable. The
new documentation provided does not satisfy HUD’s requirements.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-6.

Ratios
The front and back ratios of 29.04 and 38.80 percent were derived from unsupported/unstable
monthly income of $2,100. When calculated using the average income amount, the front and
back ratios rise to 136 and 183 percent.

Office of Inspector General (OIG) Calculations:
25 months income = $5,971 (2001 tax return) + $1,920 (2002 tax return) + $3,325 (year-to-date
on current pay stub, even though year-to-date does not carry forward correctly from pay stub to
pay stub - manually computed, it would be $2,242) = $11,216.
Average monthly income = $11,216/25 = $449.
Front ratio = 610/449 = 136%.
Back ratio = 819/449 = 182%.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-12 (B).
HUD Handbook 4155.1, REV-4, CHG-1, section 2-13.

Borrower Charges
The borrower was charged a $25 courier fee, which is not allowed for purchase loans.

HUD Requirements
The Homeownership Reference Guide, chapter 2, section 15, “Closing Cost Guidance.”

Case number: 292-4371418 Loan purpose: Purchase

Underwriter type: Manual Date of loan closing: June 12, 2003

28
Insured amount: $163,927 Housing/debt ratio: 23.29/41.93 percent

Status: Active – In Default HUD costs incurred: 0

Assets/Funds to Close
According to the documentation in the file, the borrower was approved to receive a sum of
$4,995 in gift funds through Better Family Life. The file did not contain evidence of the transfer
of the gift funds. American Lending provided gift transfer documentation, but during our review
of the documentation, it appeared that the nonprofit did not wire the gift funds, but instead the
borrowers gift and the sellers donation were netted, and then the difference (the administration
fee) was provided to the nonprofit by the title company. The nonprofit should provide the funds
to the borrower, and the seller then donates funds to the nonprofit to benefit future borrowers.
The process used to pass the funds to the borrower is questionable.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-10 (C).

Credit History
The coborrower had an outstanding judgment of $365 on the credit report, and the lender
provided no evidence of settlement. In addition, the borrowers had four accounts that were past
due in the last two years before closing. One of the accounts was more than 90 days delinquent
on two occasions. The remaining three accounts were delinquent 30 days or more on four
occasions and 60 days or more on one occasion. The coborrower had a medical account that was
90 days late on 10 occasions. Also, the underwriter did not obtain a verification of rent form for
the coborrower. The coborrower's driver’s license, which was to expire the year following
closing, had the address of the home being purchased, but this address did not appear on any of
the coborrower’s other documents; the underwriter should have followed up on this discrepancy.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-3.
HUD Handbook 4155.1, REV-4, CHG-1, section 2-3 (A).

Case number: 292-4425828 Loan purpose: Purchase

Underwriter type: Manual Date of loan closing: September 10, 2003

Insured amount: $91,563 Housing/debt ratio: 21.17/33.49 percent

Status: Claim paid – not sold HUD costs incurred: $91,607

Income and Employment History
The lender did not document two-years of employment history for the borrower. The
documentation provided by the lender documents only 16 months of the borrower’s employment

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history and does not provide an explanation for the remaining eight months that were not
documented. In response to our audit, the lender verified 4 additional months of employment by
telephone, but was unsuccessful in further verification because the second employer listed on the
application was out of business

HUD Requirements
HUD Handbook 4155.1, REV-5, CHG-1, section 2-6.

Assets/Funds to Close
According to the documentation in the file, the borrower was approved to receive a sum of
$2,790 in gift funds through a nonprofit organization (Better Family Life). The file contained no
evidence of the transfer of the gift funds.

HUD Requirements
HUD Handbook 4155.1, REV-5, CHG-1, section 2-10 (C).

Case number: 292-4358891 Loan purpose: Purchase

Underwriter type: Automated Date of loan closing: June 20, 2003

Insured amount: $176,234 Housing/debt ratio: 16.33/49.99 percent

Status: Active – In Default HUD costs incurred: 0

Income and Employment History
The loan prospector certificate and underwriting worksheet stated joint monthly income of
$7,545. The total amount of income cannot be used because the income was not calculated
according to HUD regulations. The borrower and coborrower earned a combined income of
$54,292 and $49,676 in 2001 and 2002, respectively. The self-employed borrower and
coborrower provided profit and loss statements from 2003 as documentation of their current
income. HUD does not allow income verified by tax returns from previous years when an
income stream increases considerably from the previous year to the current one. The borrowers
estimated a joint income of $90,540 on an annual basis, which is far above the $49,676 they
earned in 2002. Using the income verified by two years’ tax returns, the monthly income is
computed as follows:

54,292+49,676 = 103,968 = $4,332 per month
24 months 24

The income computed is $3,213 short of the claimed monthly income of $7,545. The borrower
would not have obtained the loan if the computed income had been used.

30
Additionally, the underwriter failed to obtain a verification of employment; therefore, the
application employment information could not be verified.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-9 (A).
HUD Handbook 4155.1, REV-4, CHG-1, section 2-9 (C).
HUD Handbook 4155.1, REV-4, CHG-1, section 3-1 (E).

Ratios and Compensating Factors
The front and back ratios of 16.33 and 49.99 percent, respectively, were derived from incorrect
monthly income of $7,545. When calculated using the corrected income amount, the front and
back ratio are 28.44 and 87.07 percent, respectively. The back ratio of 87.07 percent violates
HUD’s limit of 41 percent. The underwriter did not present any compensating factors for this
loan.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-12 (B).
HUD Handbook 4155.1, REV-4, CHG-1, section 2-13.

Assets/Funds to Close
The underwriter failed to include a verification of deposit form and the borrower’s most recent
bank statements. According to the loan prospector document checklist, a bank statement
showing the previous month’s balance or two months’ statements for each account was provided
by the borrower, but these documents were not found in the file. American Lending later
provided the borrower’s bank statements for the two months before closing.

The loan prospector documentation stated the loan was submitted with $1,000 of depository
accounts. The lender should have verified that the borrower had at least a balance of $1,000 at
the time closing. The borrower’s bank statement two months before closing has an ending
balance of $1,436; the borrower’s bank statement one month before closing has an ending
balance of $635. Although American Lending provided the borrower’s bank statements, the
borrower did not have the amount upon which loan prospector based its approval.

According to the gift funds letter, underwriting worksheet, and the settlement statement, the
borrower was approved to receive a sum of $5,370 in gift funds through a nonprofit organization
(Better Family Life). The file contained no evidence of the transfer of the gift funds.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-10 (B).
HUD Handbook 4155.1, REV-4, CHG-1, section 2-10 (C).
HUD Handbook 4155.1, REV-4, CHG-1, section 3-1 (F).

Case number: 292-4446965 Loan purpose: Purchase

Underwriter type: Manual Date of loan closing: November 13, 2003

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Insured amount: $76,794 Housing/debt ratio: 29.69/32.43 percent

Status: Claim paid - sold HUD costs incurred: $81,154

Assets/Funds To Close
According to the gift funds letter, the settlement statement, and the underwriting worksheet, the
borrower was approved to receive a sum of $2,340 in gift funds through a nonprofit organization
(Better Family Life). The loan file contained no evidence of the transfer of the gift funds from
the donor to the borrower.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-10 (C).

Income and Employment History
The borrower’s income was overstated. According to the documentation submitted, the
borrower claimed a monthly income of $2,080. Based on the pay stubs submitted for 2003, the
borrower earned $1,857 monthly as of October 31, 2003 ($18,570 year-to-date/10 months).
Based upon the Internal Revenue Service W-2 form submitted for 2002, the borrower earned
$1,402 monthly ($5,607/four months). The monthly income for the period was $1,727 when the
income is averaged over a 14-month period ($18,570 + $5,607/14 = $1,727; September 2002-
October 2003).

Also, the borrower provided documentation of 14 months of employment. HUD requires the
documentation of two full years of employment with an explanation for any gaps during the two-
year period. No explanation was provided for the remaining 10 months.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-6.
HUD Handbook 4155.1, REV-4, CHG-1, section 2-7.

Credit History
The borrower displayed a negative payment history in regard to housing obligations. According
to the verification of rent form in the file, the landlord did not know whether rent was paid for
October 2003, and the borrower was $115 in arrears for her November 2003 rent. Additionally,
the borrower had limited credit and was delinquent two months after opening a new account.
The lender did not offer any compensating factors for approving the mortgage.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-3.
HUD Handbook 4155.1, REV-4, CHG-1, section 2-3 (A).

Ratios and Compensating Factors
The front and back ratios in the file were calculated based upon the overstated income of $2,080
per month. When the front and back ratios are calculated using the actual monthly income of

32
$1,727, the front and back ratios rise from 29.69 and 32.43 percent, respectively, to 35.76 and
39.06 percent, thereby exceeding the HUD limit for the front ratio of 29 percent. The lender did
not offer any compensating factors for approving the mortgage.

OIG Calculations:
$617.54 total mortgage payment/$1,727 = 35.76 percent; $674.54 total fixed payment/$1,727 =
39.06 percent.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-12.
HUD Handbook 4155.1, REV-4, CHG-1, section 2-13.

Case number: 137-2985860 Loan purpose: Purchase

Underwriter type: Manual Date of loan closing: July 19, 2004

Insured amount: $162,450 Housing/debt ratio: 36.20/36.20 percent

Status: Active – In Default HUD costs incurred: 0

Assets/Funds to Close
The loan file did not contain documentation required for proper verification of deposit. The file
contained bank statements for periods covering February 14, 2004, through March 18, 2004, and
October 21, 2003, through November 14, 2003, and October 16, 2003, through November 10,
2003, for a second account. The file also contained verifications of deposit for May 2004 and
June 2004. The borrower closed on the loan on July 19, 2004. The most recent bank statement
provided by the borrower was more than 120 days before the closing date. Although the
verification of deposit showed that the ending balance was just enough to close, the average
balance was $3,000 lower. Without current statements, the underwriter could not check for large
unexplained deposits.

HUD Requirements
HUD Handbook 4155.1, REV-5, CHG-1, section 2-10 (B).
HUD Handbook 4155.1, REV-5, CHG-1, section 3-1.
HUD Handbook 4155.1, REV-5, CHG-1, section 3-1(F).

Case number: 292-4419136 Loan purpose: Purchase

Underwriter type: Manual Date of loan closing: September 15, 2003

Insured amount: $116,669 Housing/debt ratio: 34.37/43.72 percent

Status: Claim paid – not sold HUD costs incurred: $117,543

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Income/Employment History
The loan file did not contain a verification of employment form, indicating that the borrower’s
employment history was verified. The file did contain the borrower’s check stubs for a 30-day
period, as well as Internal Revenue Service W-2 forms for the two previous years, but no
telephone verification of employment was found in file. In response to our audit, American
Lending obtained a telephone verification of employment. The file also did not contain
documentation to support the $500 in monthly alimony/child support income claimed on the
borrower’s application.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-7(F).
HUD Handbook 4155.1, REV-4, CHG-1, section 3-1(E).

Ratios and Compensating Factors
The front and back ratios are 34.37 and 43.72 percent, respectively, which exceed the limits set
by HUD. The lender did not offer any compensating factors for approving the mortgage with
ratios exceeding HUD’s limits. When we subtract the unsupported alimony/child support
income, the borrower’s front and back ratios rise to 42.04 and 53.48 percent, respectively.

OIG Calculations:
Front ratio = $941 total mortgage payment/$2,238 = 42.04 percent; back ratio = $1196.96 total
fixed payments/$2,238 = 53.48 percent.

Criteria
HUD Handbook 4155.1, REV-4, CHG-1, section 2-12.
HUD Handbook 4155.1, REV-4, CHG-1, section 2-13.

Assets/Funds to Close
According to the gift funds letter, the settlement statement, and the underwriting worksheet, the
borrower was approved to receive a sum of $3,555 in gift funds through a nonprofit organization
(Better Family Life). The loan file contained no evidence of the transfer of the gift funds from
the donor to the borrower.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, Section 2-10 (C).

Credit History
The file did not contain a verification of rent form to verify the borrower’s payment history of
housing obligations covering the most recent 12-month period. Also, the borrower had a poor
credit history, evidenced by a 36-month delinquency on a Famous Barr account. This
delinquency increased the credit risk posed by the borrower.

HUD Requirements
HUD Handbook 4155.1, REV-4, CHG-1, section 2-3.
HUD Handbook 4155.1, REV-4, CHG-1, section 2-3 (A).
HUD Handbook 4155.1, REV-4, CHG-1, section 2-3 (C).

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Appendix E

CRITERIA

HUD Handbook 4000.2, REV-2, Section 2-19
Repair requirements outstanding on the conditional commitment must be satisfied before the
mortgage is submitted for endorsement. If adverse weather conditions prevent completion of the
repairs, the loan may be submitted for insurance if a repair escrow is established and the lender
provides a mortgagee’s assurance of completion.

HUD Handbook 4004.4, REV-1, CHG-2, Section 2-4 (C)
Underwriters determine the overall acceptability of the loan for HUD insurance and are required
to perform underwriting decisions with due diligence in a prudent manner. Underwriters must
review all credit analyses performed by fee and staff personnel to ensure reasonable conclusions,
sound reports, and compliance with HUD requirements. Underwriters must have an awareness
of warning signs that may indicate irregularities and the ability to detect fraud.

HUD Handbook 4004.4, REV-1, CHG-2, Section 2-13
Loan correspondents may take the initial application, assign an appraiser, obtain credit reports,
order verifications, and close the loan after it has been underwritten. A direct endorsement-
approved sponsor must perform the underwriting function. Loan correspondents cannot perform
any underwriting function including mortgage credit examination.

HUD Handbook 4155.1, REV-4, CHG-1, Section 1-8 (B)
Certain types of loan transactions affect the amount of financing available and the calculation of
the maximum mortgage. These include identity-of-interest transactions, properties with
nonoccupying coborrowers, three- and four-unit properties, properties for which the house is
being constructed by the borrower on his or her own land or as a general contractor and land
contract transactions. Unless otherwise stated, the mortgage calculation procedures described
previously also apply, including the limits applied to the appraised value excluding closing costs.

(B) Nonoccupying Coborrowers.
When there are two or more borrowers, but one or more will not occupy the property as a
principal residence, the maximum mortgage is limited to 75 percent loan-to-value. However,
maximum financing is available for borrowers related by blood (parent-child, siblings, aunts-
uncles/nieces-nephews, etc.) or for unrelated individuals that can document evidence of a family
type, longstanding and substantial relationship not arising out of the loan transaction. The
occupying borrower must sign the security instrument and mortgage note.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-3
Past credit performance serves as the most useful guide in determining the attitude toward credit
obligations that will govern the borrower’s future actions. A period of financial difficulty in the
past does not necessarily make the risk unacceptable if a good payment record has been
maintained since. When delinquent accounts are revealed, the lender must determine whether
the late payments were due to a disregard for or an inability to manage financial obligations or to

35
factors beyond the control of the borrower. Major indications of derogatory credit, including
judgments and collections, and any other recent credit problems require sufficient written
explanation from the borrower. The borrower’s explanation must make sense and be consistent
with other credit information in the file.

For borrowers who do not use traditional credit or have not yet established a credit history,
lenders must develop a credit history using alternate documentation. Alternate credit
documentation includes utility payment records, rental payments, automobile insurance
payments, and other means of direct access from the credit provider.

The basic hierarchy of credit evaluation is the manner of payments made on previous housing
expense, including utilities, followed by the payment of installment debts, then revolving
accounts. Generally, an individual with no late housing or installment debt payments should be
considered as having an acceptable credit history.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-3 (A)
Lenders must determine the borrower’s payment history of housing obligations either directly
from the landlord, through the credit report, or using canceled checks covering the most recent
12-month period.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-3 (B)
Lenders must obtain an explanation from the borrower for all recent inquiries shown on the
credit report.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-6
Lenders must verify the borrower’s employment for the most recent two full years. To analyze
the probability of continued employment, lenders must examine the borrower’s past employment
record, qualifications for the position, previous training and education, and the employer’s
confirmation of continued employment. A borrower who changes jobs frequently within the
same line of work but continues to advance in income or benefits should be considered
favorably. Income stability takes precedence over job stability.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-7
Lenders must analyze the income of each borrower to determine whether it can reasonably be
expected to continue through at least the first three years of the mortgage loan.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-7 (A)
Overtime income may be included in the qualifying ratios if the borrower has received such
income for approximately two years and there are reasonable prospects of its continuance.
Lenders are required to develop an earnings trend and must provide a sound rationalization when
including overtime income that has continually declined.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-7(F)
Alimony, child support, or maintenance income: Income in this category may be considered as
effective if such payments are likely to be consistently received for the first three years of the
mortgage. The borrower must provide a copy of the final divorce decree, legal separation

36
agreement, or voluntary payment agreement, as well as evidence that payments have been
received during the last 12 months. Acceptable evidence of payment regularity includes
canceled checks, deposit slips, tax returns, and court records. Periods less than 12 months may
be acceptable, provided the buyer’s ability and willingness to make timely payments is
adequately documented by the lender.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-7 (M)(2)
Rent received for properties owned by the borrower may be acceptable, subject to proper
documentation. A separate schedule of real estate is not required provided all properties are
shown on the application. The rental income may be considered as effective income if shown on
the borrower’s tax returns. Otherwise, the income may only be considered as a compensating
factor and must be adequately documented by the lender. The following is required to verify
rental income:

Current leases: If a property was acquired since the last income tax filing and is not shown on
Schedule E, a current, signed lease or other rental agreement must be provided. The gross rental
amount must be reduced for vacancies and maintenance by 25 percent (or the percentage
developed by the Federal Housing Administration office having jurisdiction where the property
is located) before subtracting principal, interest, taxes, insurance, and any homeowners’
association dues, etc., and applying the remainder to income (or recurring debts, if negative).

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-9 (A)(2)
Income from borrowers self-employed for less than one year may not be considered as effective
income.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-9 (B)
Self-employment income must be documented using the year-to-date balance sheet and profit-
and-loss statement. The borrower must provide signed and dated individual tax returns for the
most recent two years, including all applicable schedules.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-9 (C)
The lender must establish the borrower’s earnings trend over the previous two years but may
average the income over three years if all three years’ tax returns are provided. If the borrower
provides quarterly tax returns, the analysis can include income through the period covered by the
tax filings. If the borrower is not subject to quarterly tax filings or does not file quarterly returns
(Internal Revenue Service form IRS 1040 ES), the income shown on the profit and loss statement
may be included in the analysis, provided the income stream based on the profit and loss
statement is consistent with the previous years’ earnings. If the profit and loss statements
submitted for the current year show an income stream considerably greater than what is
supported by the previous years’ tax returns, the analysis of income must be predicated solely on
the income verified through the tax returns.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-10
Lenders must verify all funds for the borrower’s investment in the property. The borrower’s
investment in the property is the difference between the amount of the insured mortgage,

37
excluding any up-front mortgage insurance premium, and the total cost to acquire the property,
including prepaid expenses.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-10 (A)
Lenders must verify the amount and source of funds for earnest money deposits which appear
excessive based on the borrower’s history of accumulated savings or exceed 2 percent of the
sales price. To document the amount of funds, lenders may use a copy of the borrower’s
canceled check or a certification from the deposit holder acknowledging receipt of funds. To
document the source of funds, lenders may use a verification of deposit or bank statement
showing that the average balance was sufficient to have included the earnest money deposit.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-10 (B)
Lenders must document depository accounts (savings and checking) using a verification of
deposit along with the most recent bank statement. If there is a large increase in an account, the
lender must obtain an explanation and evidence the source of funds for the deposits.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-10 (C)
Lenders must document the transfer of gift funds from the donor to the borrower. Acceptable
documentation includes a donor’s withdrawal slip or cancelled check, along with the borrower’s
deposit slip or bank statement showing the deposit. If the funds are not deposited to the
borrower’s account before closing, the lender must obtain verification that the settlement agent
received the gift from the donor.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-11 (A)
The borrower’s liabilities include all installment loans, revolving charge accounts, real estate
loans, alimony, child support, and all other continuing obligations. In computing the debt-to-
income ratios, the lender must include the monthly housing expense and all other additional
recurring charges including payments on installment accounts, child support or separate
maintenance payments, revolving accounts and alimony, etc., extending 10 months or more.
Debts lasting less than 10 months must be counted if the amount of the debt affects the
borrower’s ability to make the mortgage payment during the months immediately after loan
closing; this is especially true if the borrower will have limited or no cash assets after loan
closing.

HUD Handbook 4155.1, REV-4, CHG-1, Section 2-12
Ratios are used to determine whether the borrower can reasonably be expected to meet the
expenses involved in homeownership and otherwise provide for the family. HUD requires
underwriters to compute ratios of the borrower’s mortgage payment expense to effective income
and total fixed payment to effective income. The borrower’s total mortgage payment includes
principal and interest and escrow deposits for real estate taxes, hazard insurance premiums,
homeowners’ association dues, and mortgage insurance premiums. The borrower’s total fixed
payment is comprised of the borrower’s total mortgage payment and all recurring charges. The
borrower’s ratios are considered acceptable if the total mortgage payment and total fixed
payment do not exceed 29 and 41 percent of gross monthly income, respectively. Ratios
exceeding these benchmarks may be considered acceptable if significant compensating factors
are presented.

38
HUD Handbook 4155.1, REV-4, CHG-1, Section 2-13
The following compensating factors may be used in justifying approval of mortgage loans with
ratios exceeding the 29 and 41 percent benchmarks. Underwriters must state the compensating
factors used to support loan approval on the “remarks” section of the underwriting worksheet.
• The borrower has successfully demonstrated the ability to pay housing expenses equal to
or greater than the proposed monthly housing expense for the new mortgage.
• The borrower makes a large downpayment toward the purchase of the property.
• The borrower has demonstrated a conservative attitude toward the use of credit and an
ability to accumulate savings.
• Previous credit history shows that the borrower has the ability to devote a greater portion
of income to housing expenses.
• The borrower receives compensation or income not reflected in effective income but
directly affecting the ability to pay the mortgage, including food stamps and similar
public benefits.
• There is only a minimal increase in the borrower’s housing expense.
• The borrower has substantial cash reserves after closing.
• The borrower has substantial nontaxable income (if no adjustment was made previously
in the ratio computations).
• The borrower has potential for increased earnings, as indicated by job training or
education in the borrower’s profession.
• The home is being purchased as the result of relocation of the primary wage earner, and
the secondary wage earner has an established history of employment and is expected to
return to work.

HUD Handbook 4155.1, REV-4, CHG-1, Section 3-1
The loan package submitted for insurance endorsement is expected to contain sufficient
documentation to support the lender’s decision to approve the mortgage loan. When standard
documentation does not provide enough information to support the approval decision, the lender
must provide additional explanatory statements, consistent with other information in the
application, to clarify or supplement the documentation submitted by the borrower. Verification
forms must pass directly between lender and provider without being handled by any third party.

HUD Handbook 4155.1, REV-4, CHG-1, Section 3-1(E)
Lenders are required to obtain a verification of employment and the most recent pay stub to
document borrower income. If the lender does not obtain a verification, it must obtain pay stubs
covering the most recent 30-day period along with original copies of the previous two years’
Internal Revenue Service W-2 forms. The pay stub(s) must show the borrower’s name, Social
Security number, and year-to-date earnings. Any copies of the W-2 form not submitted with the
borrower’s income tax returns are considered “original” W-2s. (These original documents may
be photocopied and returned to the borrower.) The lender also must verify by telephone all
current employers. The loan file must include a certification from the lender that original
documents were examined and the name, title, and telephone number of the person with whom
employment was verified.

HUD Handbook 4155.1, REV-4, CHG-1, Section 3-1 (F)

39
As an alternative to obtaining a verification of deposit, the lender may choose to obtain from the
borrower original bank statement(s) covering the most recent three-month period. Provided the
bank statement shows the previous month’s balance, this requirement is met by obtaining the two
most recent consecutive statements. Verification of deposit and the most recent bank statements
are to be provided. “Most recent” means at the time the initial loan application is made.
Provided the document is not more than 120 days old when the loan closes (180 days old on new
construction), it does not have to be updated.

HUD Handbook 4155.1, REV-5, CHG-1, Section 2-10 (C)
An outright gift of the cash investment is acceptable if the donor is the borrower’s relative, the
borrower’s employer or labor union, a charitable organization, a governmental agency or public
entity that has a program to provide homeownership assistance to low- and moderate-income
families or first-time homebuyers, or a close friend with a clearly defined and documented
interest in the borrower. The gift donor may not be a person or entity with an interest in the sale
of the property, such as the seller, real estate agent or broker, builder, or any entity associated
with them. Gifts from these sources are considered inducements to purchase and must be
subtracted from the sales price. No repayment of the gift may be expected or implied.

The lender must document the gift funds by obtaining a gift letter, signed by the donor and
borrower, that specifies the dollar amount of the gift; states that no repayment is required; shows
the donor’s name, address, and telephone number; and states the nature of the donor’s
relationship to the borrower. In addition, the lender must document the transfer of funds from
the donor to the borrower.

Mortgage lenders are responsible for assuring that the gift to the homebuyer from the charitable
organization meets the appropriate Federal Housing Administration requirements and the transfer
of funds is properly documented.

Homeownership Reference Guide, Chapter 2, Section 15, “Closing Cost Guidance”
Any lock-in or commitment agreement for which a fee is charged must be in writing and must
guarantee the rate and/or discount points for a period of not less than 15 days before the
anticipated closing date. Lock-in fees may be paid by the borrower but not financed in the
mortgage or part of the 3 percent minimum cash investment.

A courier fee may be charged only on refinances and only for delivery of the mortgage payoff to
the lien holder and for closing documents to the settlement agent. The borrower must agree in
writing to pay for the courier service, and the request must be made before loan closing.

HUD Mortgagee Letter 00-28
Assets such as 401(k)s, IRAs (individual retirement account), and thrift savings plans may be
included in the underwriting analysis up to 60 percent of value unless the borrower provides
credible evidence that a higher percentage may be withdrawn after subtracting taxes and
penalties.

Fannie Mae’s Desktop Underwriter User’s Guide for FHA Loans, Chapter 2
The lender is accountable for compliance with all Federal Housing Administration guidelines, as
well as for any eligibility requirements, credit capacity, and documentation requirements not

40
covered in the user’s guide. The data entered into the automated system must be true, accurate,
and complete.

Fannie Mae’s Desktop Underwriter User’s Guide for FHA Loans, Chapter 4
The lender must comply with all messages and conditions listed on the automated underwriting
findings report. Additionally, the lender must review the credit report to confirm that the data
evaluated by the system were accurate.