oversight

PlainsCapital McAfee Mortgage, Lubbock, Texas, Did Not Follow HUD Underwriting Requirements and Originated Loans from Unregistered Branch Offices

Published by the Department of Housing and Urban Development, Office of Inspector General on 2006-11-06.

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

                                                                 Issue Date
                                                                         November 6, 2006
                                                                 Audit Report Number
                                                                          2007-KC-1003




TO:        Brian D. Montgomery, Assistant Secretary for Housing - Federal Housing
              Commissioner and Chairman, Mortgagee Review Board, H


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

SUBJECT: PlainsCapital McAfee Mortgage, Lubbock, Texas, Did Not Follow HUD
            Underwriting Requirements and Originated Loans from Unregistered Branch
            Offices


                                   HIGHLIGHTS

 What We Audited and Why

             We audited PlainsCapital McAfee Mortgage (McAfee Mortgage) because its two-
             year default rate for loans with amortization dates between December 2003 and
             November 2005 was 44 percent higher than the U.S. Department of Housing and
             Urban Development’s (HUD) national average for this period. In addition, the
             percentage of current defaults and claims was 88 percent higher than HUD’s
             national average.

             Our objective was to determine whether McAfee Mortgage originated Federal
             Housing Administration single-family loans in accordance with HUD
             requirements, including adequately monitoring its branch offices and originating
             loans from only HUD-approved offices.

 What We Found
             McAfee Mortgage did not follow HUD regulations when underwriting 11 of the
             35 loans reviewed. These loans contained material deficiencies that affected the
             insurability of the loans. As a result, HUD insured 11 loans with original
           mortgage amounts of more than $1 million that placed the Federal Housing
           Administration insurance fund at unnecessary risk.

           In addition, between December 1, 2004, and December 31, 2005, McAfee
           Mortgage submitted 821 loans from unregistered branch offices. In November
           2004, HUD notified McAfee Mortgage that it was violating branch office rules,
           but it continued the practice. By not registering its branch offices, the lender
           circumvented HUD’s oversight controls and placed the Federal Housing
           Administration insurance fund at unnecessary risk for nearly $75 million in loans.

What We Recommend
           We recommend that the assistant secretary for housing - federal housing
           commissioner require McAfee Mortgage to indemnify HUD for the 11 improperly
           underwritten loans, including four active loans with original mortgage amounts
           totaling $290,430, losses of $82,604 incurred on sales of properties related to two
           defaulted loans, and future losses on five defaulted loans for which HUD has paid
           claims of $454,238 but not yet sold the properties.

           We also recommend that HUD take appropriate administrative action against
           McAfee Mortgage for not following HUD’s branch office requirements, including
           imposing civil money penalties for all loans originated from unregistered
           branches from December 1, 2004, to the present.

           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
           McAfee Mortgage generally disagreed with our conclusions. We provided the
           draft report to McAfee Mortgage on August 31, 2006, and requested a response
           by September 27, 2006. The lender provided written comments and additional
           documentation on September 26, 2006. We evaluated the information and revised
           the report as needed. On October 23, 2006, we provided McAfee Mortgage the
           opportunity to respond to the revised report but the lender chose not to provide
           additional comments.

           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: McAfee Mortgage Did Not Follow HUD Underwriting Requirements       5
                    on 11 Federal Housing Administration Loans
        Finding 2: McAfee Mortgage Originated Federal Housing Administration Loans    9
                    from Branch Offices Not Registered with HUD

Scope and Methodology                                                                12

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.   Criteria                                                                     59
   D.   Schedule of Material Deficiencies                                            68
   E.   Case Studies for 11 Questioned Loans                                         69




                                              3
                     BACKGROUND AND OBJECTIVES

PlainsCapital McAfee Mortgage (McAfee Mortgage) began as McAfee Mortgage and
Investment Company in Lubbock, Texas, in April 1949. During our audit period of January
2004 through December 2005, McAfee Mortgage was a bank-owned company specializing in
Federal Housing Administration, U.S. Department of Veterans Affairs, and conventional
mortgage lending. The company performed its loan processing, underwriting, and closing
procedures in house.

In early 2006, McAfee Mortgage’s parent company, PlainsCapital Corporation, merged McAfee
Mortgage with another subsidiary, PrimeLending. McAfee Mortgage’s corporate office in
Lubbock, Texas, was closed May 1, 2006, and PrimeLending of Dallas, Texas, took over its
operations.

McAfee Mortgage became an approved nonsupervised lender for the Federal Housing
Administration on July 11, 1984. The Federal Housing Administration provides mortgage
insurance on loans made by approved lenders. The mortgage insurance protects lenders such as
McAfee Mortgage against losses when homeowners default on their mortgage loan.

The U.S. Department of Housing and Urban Development (HUD) endorsed 3,708 McAfee
Mortgage loans with Federal Housing Administration insurance between December 2003 and
November 2005. Its current default and claim rate for that period was 6.34 percent, or 88 percent
higher than the national average.

Our objective was to determine whether McAfee Mortgage originated Federal Housing
Administration single-family loans in accordance with HUD requirements, including adequately
monitoring its branch offices and originating loans from only HUD-approved offices.




                                               4
                                RESULTS OF AUDIT

Finding 1: McAfee Mortgage Did Not Follow HUD Underwriting
           Requirements on 11 Federal Housing Administration Loans
McAfee Mortgage did not follow HUD requirements when underwriting 11 Federal Housing
Administration loans. Its management did not implement adequate quality control procedures to
ensure the loans it submitted to HUD were qualified for Federal Housing Administration
insurance. As a result, the lender placed the insurance fund at unnecessary risk for more than $1
million in loans and caused HUD to incur related claims and losses.



 Loans Did Not Comply with
 HUD Requirements


               McAfee Mortgage underwrote 11 loans that contained significant underwriting
               deficiencies. These deficiencies primarily involved the following:

               Unsupported Income/Questionable Employment Histories
               McAfee Mortgage did not properly assess income of borrowers. Borrower
               income was either overstated or not adequately supported. McAfee Mortgage
               also did not adequately assess borrowers’ employment histories and income
               stability. Borrowers had unexplained gaps in the two-year employment history
               required by HUD, did not provide support for employment listed on the
               application, or did not provide reasonable explanations for frequent job changes.
               Lenders must accurately assess borrower income and employment history to make
               informed decisions on income stability and the borrower’s ability to repay the
               mortgage.

               For example, in case number 493-7827818, the lender did not obtain a verification
               of employment or pay stubs for the coborrower’s current employment but used
               the expected base pay of $2,167 per month from an anticipated job for qualifying
               the borrowers. The expected income was $521 more than the lender could
               support based on prior employment. The lower income increased the financial
               ratios to 34.9 percent and 46.7 percent, which exceeded HUD’s limits.

               Unsupported Assets/Questionable Gift Funds
               McAfee Mortgage did not adequately support assets (funds available to close)
               claimed by borrowers. HUD requires a verification of deposit and the most recent
               bank statement for automated underwriting approvals. If a verification of deposit
               is not available, additional months of bank statements are required. HUD requires
               two months of bank statements on manual underwriting approvals. The lender



                                                5
either did not adequately document the source of funds or there was evidence that
the funds came from an unallowable source.

For example, in case number 291-3239808, the assets claimed in the borrower’s
bank accounts included $3,000 from the seller. The loan file included a
transaction receipt from the borrower’s bank showing a $3,000 deposit. A letter
from the borrower stated that the deposit was a draw against a balance due the
borrower from a company contracting with the borrower for future construction
work. This same company was also the seller of the property. Without the
$3,000, the borrower would not have had the funds necessary to close the loan.

Further, one common form of assets is gift funds provided to borrowers. McAfee
Mortgage did not always obtain adequate gift documentation. HUD requires
extensive gift documentation to ensure the gift funds are coming from an
acceptable source and not from a party related to the sales transaction. McAfee
Mortgage did not accurately identify donor funds as gifts. It also did not
adequately verify that funds provided to the borrower were from an allowable
source and did not require repayment, or verify that repayment was deferred.
McAfee Mortgage also allowed gift funds from related parties.

Underreported Liabilities/Questionable Credit Histories
McAfee Mortgage did not include all applicable and significant liabilities when
approving loans. Credit reports and other borrower documents reflected
obligations that the underwriter did not consider when calculating borrowers’ debt
ratios. Underwriters must accurately assess borrower debts to make reasonable
decisions on the borrowers’ ability to repay the mortgage.

Also, McAfee Mortgage did not adequately assess borrower credit histories.
Credit histories showed significant derogatory credit and collection items within
the two years before closing. McAfee Mortgage did not document its analyses of
the credit reports to explain why it approved borrowers with poor credit histories.

For example, the borrower’s credit history in case number 493-7852047 included
numerous late payments and a car repossession. The borrower enrolled in a debt
consolidation program to pay off more than $20,000 in debt shortly before
applying for the Federal Housing Administration loan. McAfee Mortgage did not
verify that the debt consolidation agency granted the borrower permission to enter
into the mortgage transaction, as required by HUD.

Appendix D summarizes the significant deficiencies, and appendix E provides
details of the deficiencies on each of the 11 questioned loans.




                                 6
McAfee Mortgage’s Inadequate
Quality Control Process Caused
Improper Underwriting

            McAfee Mortgage had an inadequate quality control process that allowed the lender
            to approve and submit improperly underwritten Federal Housing Administration
            loans to HUD for insurance. Its formal quality control plan did not include several
            basic elements that HUD requires in all quality control programs, and McAfee
            Mortgage did not properly implement the plan it had in place. For example,

               •   The written quality control plan did not include numerous HUD-required
                   elements.
               •   The quality control personnel did not provide the quality control results to
                   management in a timely manner. In some cases, the results were not
                   reported to management until six months after loan closing.
               •   The quality control personnel did not review 100 percent of the loans
                   defaulting within six months of loan closing.
               •   McAfee Mortgage did not report review findings containing fraud or other
                   serious violations to HUD, although the quality control reviews identified
                   numerous loans with material risks.
               •   McAfee Mortgage’s underwriting manager stated that she conducted on-site
                   reviews of the branch offices but could not provide documentation to
                   confirm that she properly conducted branch office reviews.

            Without implementation of adequate quality control procedures, McAfee Mortgage
            was unable to ensure accuracy, validity, and completeness of its loan origination
            and underwriting operations. Therefore, HUD is not assured that the loans it
            insured were qualified for Federal Housing Administration insurance.

Insurance Status of Improperly
Underwritten Loans


             As of June 27, 2006, HUD systems showed that HUD had paid a claim or a claim
             was in process on 7 of the 11 questioned loans. Of the four remaining loans, two
             were in default, including one in preclaim status.

                 Status of loans with material              Number          Losses           Estimated
                deficiencies as of June 27, 2006            of loans       incurred         future losses
              Claims paid – property sold                       2           $82,604
              Claims paid – property not yet sold               5                             $131,729
              Currently insured – in default                    2                             $ 43,884
              Currently insured – not in default                2                             $ 40,341
              Totals                                           11           $82,604           $215,954
             **Estimated future losses are based on HUD’s average loss rate of 29 percent of claims paid from
                the Federal Housing Administration insurance fund for fiscal year 2005.



                                                   7
Conclusion


             McAfee Mortgage did not comply with HUD requirements when underwriting 11
             Federal Housing Administration loans. Therefore, HUD’s insurance fund was
             placed at unnecessary risk for these loans, which had original mortgage amounts
             totaling more than $1 million. HUD has paid claims on 2 of the 11 improperly
             underwritten loans with losses totaling $82,604 and may incur further losses on
             five loans for which HUD has not sold the related properties but has paid claims
             of $454,238. HUD also remains at unnecessary risk for the other four loans that
             are currently insured and had original mortgage amounts totaling $290,430.

             If HUD implements our recommendations for the lender to indemnify the loans, it
             will reduce HUD’s actual and potential losses to the Federal Housing
             Administration insurance fund. We are not making a recommendation for HUD
             to take action regarding McAfee Mortgage’s inadequate quality control program
             because McAfee Mortgage’s former operations are currently managed by another
             lender, including the quality control process.


 Recommendations

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

             1A. Require McAfee Mortgage to indemnify HUD for four actively insured
                 loans with original mortgage amounts totaling $290,430. The projected loss
                 is $84,225, based on HUD’s insurance fund average loss rate of 29 percent
                 for fiscal year 2005 (see appendix D).

             1B. Require McAfee Mortgage to reimburse HUD for two loans where HUD has
                 already incurred losses totaling $82,604 (see appendix D).

             1C. Require McAfee Mortgage to indemnify HUD for five loans where HUD
                 has paid $454,238 in claims but not yet sold the properties. The projected
                 loss is $131,729, based on HUD’s insurance fund average loss rate of 29
                 percent for fiscal year 2005 (see appendix D).




                                             8
Finding 2: McAfee Mortgage Originated Federal Housing
           Administration Loans from Branch Offices Not Registered
           with HUD
McAfee Mortgage originated 1,928 Federal Housing Administration loans between January 2004
and December 2005 from branch offices that it had not registered with HUD. Management
ignored HUD regulations regarding branch office registration despite HUD warnings of the
violation. As a result, McAfee Mortgage circumvented HUD’s risk management controls and
placed unnecessary risk on the Federal Housing Administration insurance fund. It also avoided
registration fees of $16,500


 McAfee Mortgage Did Not
 Register All Branch Offices
 with HUD

              From January 2004 through December 2005, McAfee Mortgage originated almost
              60 percent of its Federal Housing Administration-insured loans from branch
              offices not registered with HUD. Of the 3,326 loans endorsed by McAfee
              Mortgage during this period, 1,928 were originated (with original mortgage
              amounts of more than $172 million) from 33 branches not registered with HUD.
              These offices performed significant loan origination activities, including

                  •   Accepting borrower applications,
                  •   Ordering appraisals and title searches,
                  •   Ordering Federal Housing Administration case numbers,
                  •   Verifying borrower information and obtaining any additional borrower
                      information needed for loan processing, and
                  •   Entering loan information into automated underwriting systems.

              Nonsupervised lenders, such as McAfee Mortgage, are allowed to maintain branch
              offices but must register them with HUD. HUD assigns each branch its own
              identification number and collects an annual registration fee. In addition, HUD uses
              an automated system to monitor the performance of Federal Housing Administration
              lenders. The system analyzes the default and claim rates in various ways, including
              by branch office. HUD may terminate the approval of a lender or its branch offices
              to originate Federal Housing Administration loans based on excessive default and
              claim rates.

              McAfee Mortgage circumvented HUD’s risk management controls by originating
              loans from 33 unregistered branch offices. The unregistered branches used the
              branch identification numbers of registered branches to access HUD systems and
              submit loans for insurance endorsement. For example, McAfee Mortgage operated
              a HUD-approved branch office in College Station, Texas. According to HUD data,
              the College Station branch submitted more than 900 loans for endorsement during


                                               9
             the audit period. However, McAfee Mortgage’s records showed that College
             Station originated only about 130 loans. It originated the remaining loans from 12
             other branch offices using the College Station branch identification number.

             In addition, McAfee Mortgage’s failure to register the branch offices kept HUD
             from receiving the registration fees of $16,500 for the two-year audit period.


McAfee Mortgage Ignored
Branch Office Registration
Requirements

             McAfee Mortgage management knew HUD’s branch office requirements but
             ignored them. In August 2004, HUD conducted a review of McAfee Mortgage’s
             Phoenix, Arizona, branch office. HUD identified Federal Housing Administration-
             insured loans that McAfee Mortgage originated from three branch offices that were
             not registered with HUD. In November 2004, HUD notified McAfee Mortgage of
             the violation. However, McAfee Mortgage continued originating loans from
             unregistered branches despite being notified of the violation. After the HUD review,
             between December 1, 2004, and December 31, 2005, McAfee Mortgage submitted
             821 loans with original mortgage amounts of more than $74 million from 30
             unregistered branch offices.

Conclusion


             McAfee Mortgage originated Federal Housing Administration loans from branch
             offices that it had not registered with HUD. Without proper registration of branches,
             HUD’s automated system cannot monitor the performance of branch offices, assess
             lender performance, and take appropriate actions to protect the insurance fund.

             McAfee Mortgage’s practice of originating loans from unregistered branches
             circumvented HUD’s risk management controls and unnecessarily increased the risk
             to the Federal Housing Administration insurance fund. It also kept HUD from
             receiving $16,500 in fees HUD collects to increase the insurance fund.

Recommendations


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

             2A. Take appropriate administrative action against McAfee Mortgage, including
                 imposing civil money penalties, for all loans originated from unregistered
                 branches from December 1, 2004, to the present for failing to comply with
                 HUD’s requirement to register all branch offices.



                                              10
2B. Require McAfee Mortgage to properly register all of its branch offices.

2C. Require McAfee Mortgage to pay HUD the $16,500 in branch office
    registration fees that it would have paid if it had properly registered the
    branch offices.




                                 11
                         SCOPE AND METHODOLOGY

McAfee Mortgage endorsed 3,326 Federal Housing Administration-insured loans that closed
between January 1, 2004, and December 31, 2005. Of the 3,326 loans, 310 defaulted within two
years of loan closing. Of the 310 loans, HUD terminated insurance and paid claims on 33 loans.
HUD’s Single Family Data Warehouse system showed that McAfee Mortgage had originated
these loans from nine different branch offices. In addition, 98 of the 310 loans defaulted within
the first six months after the loan closed (early defaults). We reviewed 22 of the 33 loans in
claims status and 13 of the early defaults.

To review loan processing by multiple branch offices, we initially grouped the 33 loans by the
branch office identification number in HUD’s systems. We calculated the percentage of loans in
claims status at each of the nine branch offices, then selected 10 loans based on each branch
office’s pro rata share of the 33 loans. For example, HUD’s systems showed that the College
Station, Texas, branch office had originated 17 of the 33 loans (51 percent). Using the pro rata
share method, we selected five loans from that branch office (i.e., 51 percent of the 10 loans
selected). Once we had identified the number of loans to review from each branch office, we
selected the loans based on the level of risk to the Federal Housing Administration insurance
fund, as follows:

   •   HUD incurred a loss on the sale of the foreclosed property,
   •   Loans with the fewest months paid before the first default
   •   Highest mortgage amount.

We also selected the remaining 12 loans in claims status that were identified in HUD’s systems
as loans originated by the College Station branch office. McAfee Mortgage’s loan data showed
that it had actually originated these loans from its Houston, Texas, area branch offices but had
processed the loans using the HUD branch identification number for its College Station branch.
McAfee Mortgage had not registered the Houston branch offices with HUD as required, and
these branch offices had higher default rates than most other McAfee Mortgage branches.

We also reviewed 13 of the 98 loans that defaulted within six months of loan closing but had not
reached claims status. We evaluated the distribution of loans throughout all of McAfee
Mortgage’s branch offices and selected the 13 loans from the three branches with the highest
Federal Housing Administration loan volume. We selected the loans based on the level of risk to
the Federal Housing Administration insurance fund, as follows:

   •   Loans with the fewest months paid before the first default
   •   Highest mortgage amount.

We accomplished our objective by reviewing the Federal Housing Administration and McAfee
Mortgage underwriting policies and procedures and interviewing McAfee Mortgage personnel.
We also reviewed the HUD and lender loan files for the 35 loans reviewed. We identified
underwriting deficiencies and assessed the materiality of those deficiencies to the insurability of
the loan. For significant deficiencies, we are recommending that HUD take appropriate action


                                                12
on these loans. We informed McAfee Mortgage of minor underwriting deficiencies but have not
recommended that HUD take action on these loans.

We reviewed McAfee Mortgage’s quality control plan and reviews performed by the lender,
including branch office reviews. We also analyzed reviews performed by HUD’s Office of
Housing, Quality Assurance Division, and interviewed HUD quality assurance staff.

We relied on computer-processed data contained in HUD’s Single Family Data Warehouse and
Neighborhood Watch systems. We assessed the reliability of the data, performed sufficient tests
of the data, and found the data adequate to meet our audit objective. We also relied on computer
data from McAfee Mortgage to identify the branch offices that originated its loans. McAfee
Mortgage had not registered all branch offices with HUD but allowed its unregistered branches
to originate loans using registered branch identification numbers. Therefore, no independent
data were available to test McAfee Mortgage’s branch office data.

In assigning a value to the potential savings to HUD if it implements our recommendations on
loans for which it has not yet incurred a loss, we applied the Federal Housing Administration’s
average loss experience for fiscal year 2005 provided by HUD. We calculated the savings value
at $84,225 for those properties currently actively insured, which is 29 percent of the original
mortgage amount of $290,430. For loans for which HUD has paid a claim but not yet sold the
related property, we calculated the savings value at $131,729, or 29 percent of $454,238 in
claims paid.

We conducted audit work at McAfee Mortgage’s former corporate office in Lubbock, Texas, and
branch offices in Beaumont and Port Arthur, Texas. We conducted audit work from January
through July 2006 and performed our review in accordance with generally accepted government
auditing standards.




                                               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 - Policies and procedures that management has
                      implemented to reasonably ensure that underwriting activities comply with
                      HUD’s regulations, procedures, and instructions.

              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 Weakness


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

              •       McAfee Mortgage’s quality control program did not meet HUD
                      requirements, and McAfee Mortgage did not properly implement the plan
                      it had in place (finding 1).
              •       McAfee Mortgage circumvented HUD’s oversight controls by operating
                      unapproved branch offices (finding 2).




                                               14
                                    APPENDIXES

Appendix A

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

                     Recommendation                               Funds to be put
                            number              Ineligible 1/      to better use 2/

                            1A                                            $84,225
                            1B                      $82,604
                            1C                                          $131,729


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/   “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.

     Implementation of our recommendation to indemnify loans that were not originated in
     accordance with Federal Housing Administration requirements will reduce the Federal
     Housing Administration’s risk of loss to its insurance fund. The amounts above reflect
     that, upon sale of the mortgaged property, the Federal Housing Administration’s average
     loss experience is about 29 percent of the claim amount based upon statistics provided by
     HUD.




                                              15
Appendix B

         AUDITEE COMMENTS AND OIG’S EVALUATION

Ref to OIG Evaluation                     Auditee Comments




Comment 1




Note: We redacted borrower’s names from the auditee comments and substituted the applicable
      Federal Housing Administration loan number, as needed, to protect the privacy of the
      individual borrowers.


                                            16
Comment 1




            17
Comment 1




Comment 1




            18
Comment 1




            19
Comment 2




            20
Comment 3




            21
22
Comment 4




Comment 5




            23
Comment 3




            24
Comment 6




Comment 4




            25
Comment 4




Comment 7




            26
Comment 4




Comment 4




Comment 8




            27
Comment 4




Comment 8




Comment 2




            28
Comment 9




            29
Comment 2




Comment 2




            30
31
Comment 2




            32
Comment 2




            33
Comment 2




            34
Comment 10




             35
Comment 4




Comment 3




            36
Comment 3




            37
Comment 11




             38
Comment 4




Comment 12




             39
Comment 4




            40
41
42
Comment 4




Comment 13




             43
Comment 2




            44
Comment 3




            45
Comment 4




Comment 14




Comment 15




             46
Comment 16




Comment 3




             47
48
Comment 17




             49
50
51
Comment 18




             52
Comment 19




             53
Comment 20




             54
55
                     OIG Evaluation of Auditee Comments


Comment 1   In response to our initial draft report, McAfee Mortgage provided written
            comments and additional documentation. We reviewed the information and
            revised the report accordingly. The final report questions 11 loans for
            underwriting deficiencies. We removed 6 of the initial 17 loans from the
            report based on information provided in McAfee Mortgage’s response. After
            making these changes, we provided the revised report to McAfee Mortgage
            and gave it an opportunity to provide revised comments. McAfee Mortgage
            requested that we include their original comments.

Comment 2   Based on information provided in McAfee Mortgage’s response, we removed
            this loan from our finding.

Comment 3   Based on the information provided in McAfee Mortgage’s response, we
            removed this issue from a loan that remains questioned in our finding.

Comment 4   Based on information provided in McAfee Mortgage’s response, we revised
            the language in our report to clarify this issue.

Comment 5   McAfee Mortgage did not adequately verify the coborrower’s future monthly
            income used to qualify for the loan. The sole support for using the future
            income was a letter from the company that offered the coborrower a position,
            contingent upon the coborrower meeting certain requirements. McAfee
            Mortgage did not verify that the coborrower had met the stipulations and was
            guaranteed the new job before closing the loan. Further, the letter did not
            represent a guaranteed, nonrevocable contract for employment, as required by
            HUD to support using the future income for qualifying for a Federal Housing
            Administration loan.

Comment 6   HUD requires lenders to obtain evidence of a two year work history to
            establish employment and income stability. The borrower claimed to have
            been self-employed for more than a year in the two years before applying for
            the loan. The lender supported 10 months of self-employment income in 2002
            but did not obtain a 2003 tax return or other documentation to support self-
            employment income for five months in 2003.

Comment 7   McAfee Mortgage did not establish that the borrower had a stable income
            despite the frequent changes in employment. The borrower had held five jobs
            in the two years before applying for the loan and the various jobs did not
            appear to be in a similar employment field as the borrower’s most recent job.
            Further, McAfee Mortgage did not obtain support for three months of income
            claimed in 2004 and the support that the lender relied on for seven months of
            income in 2003 was illegible.




                                        56
Comment 8    McAfee Mortgage used an unsigned monthly budget showing that the
             borrower should have been able to save $1,118 per month (or $893 if the
             unsupported child support income is excluded). The borrower provided a
             signed statement to the lender that she was able to save about $375 per month
             for nine months before applying for the loan. The lender and borrower did not
             establish that the borrower had actually saved more than the $375 per month
             claimed as the source of her earnest deposit. The borrower’s monthly housing
             payment was increasing by $376, causing us to question the likelihood that the
             borrower would have been able to make the monthly mortgage payments.

Comment 9    HUD Handbook 4155.1, Rev-5, chapter 2, section 2-10, revised October 2003,
             states that the lender is responsible for properly documenting the transfer of
             donor/gift funds and gives information on what documentation is acceptable.
             HUD issued the October 2003 version of the handbook as guidance after the
             HUD Single Family Reference Guide, dated November 2001. Therefore, the
             revised handbook was HUD's latest guidance and the guidance that McAfee
             Mortgage should have followed when documenting the gift transfer.

Comment 10   In its response, McAfee Mortgage provided evidence of the transfer of funds
             but did not provide information on the City of Houston’s assistance program.
             Without additional documentation, the lender and HUD cannot be assured that
             repayment was deferred or not expected, and that the debt was appropriately
             excluded when evaluating the borrower’s liabilities.

Comment 11   We maintain that the lender did not follow HUD requirements and failed to
             properly document the transfer of gift funds.

Comment 12   We agree that the assistance program description indicated that repayment
             was deferred. However, McAfee Mortgage did not document receipt of the
             funds or obtain a promissory note. Without documents confirming that
             payments were deferred and that any deferment was for at least one year,
             HUD cannot be assured that the lender appropriately excluded the assistance
             loan when evaluating the borrower's liabilities.

Comment 13   We agree that the six accounts either went to collection or the collateral was
             repossessed but disagree that this negates the borrowers' responsibility for the
             debts. Further, the credit report showed that two additional accounts were for
             defaulted federal student loans totaling nearly $5,000. The coborrower
             indicated that unemployment was the cause of the financial problems but the
             credit report showed a significant history of poor credit and numerous bad
             debts before the loss of employment.

Comment 14   McAfee Mortgage provided contractor and materials invoices/receipts of work
             completed on the property. However, the information did not support
             remediation of noted health and safety concerns or confirm that all valuation
             conditions noted by the appraiser were resolved. The appraiser noted



                                          57
             conditions of damaged plumbing and the presence of mold and lead-based
             paint. The lender did not obtain a final verification that the health issues and
             safety were resolved before or after closing the loan.

Comment 15   McAfee Mortgage stated that the loan was originally processed under a
             different Federal Housing Administration case number and that evidence of
             mold remediation may be in that loan file. However, the borrower's loan was
             not processed under a different Federal Housing Administration case number.
             The property was a HUD real estate owned property and the previous owner
             had a Federal Housing Administration insured loan under the case number
             referenced by the lender.

Comment 16   We maintain that the borrower’s pay stubs being faxed from the seller’s office
             was against HUD requirements and that the lender should not have relied on
             the pay stubs unless received from a party not related to the transaction.

Comment 17   As standard practice, OIG reports contain amounts considered as funds to be
             put to better use if the recommendations are implemented. The purpose of
             this practice is to estimate the monetary benefit of the audit, not to claim an
             amount of damages for violations committed by the auditee. In the case of
             indemnifications, OIG and HUD have agreed that 29 percent of the loan
             amount is a reasonable estimate of funds to be put to better use.

Comment 18   Using loan origination data provided by McAfee Mortgage, we identified 50
             of the lender’s office locations processing Federal Housing Administration
             loans in 2004 and 2005. A senior vice president in McAfee Mortgage’s
             corporate office identified the 50 offices as branch offices and not satellite
             offices. The 33 unregistered offices were included in the list of 50 offices.

Comment 19   We interviewed a McAfee Mortgage senior vice president and a direct
             endorsement underwriter in the corporate office, and various employees in
             two branch offices. Based on the interviews, we concluded that the lender’s
             staff conducted activities in the 33 offices beyond those allowed in satellite
             offices. In addition, several staff, including a corporate direct endorsement
             underwriter, told us that direct endorsement underwriters reviewed only the
             property appraisal on loans approved by an automated underwriting system.
             The underwriters did not perform a full review of the automated approvals.

Comment 20   HUD notified McAfee's Mortgage’s president and chief executive officer in
             November 2004 that the practice the lender had in place for processing loans
             in its unregistered branch offices was unacceptable and violated HUD
             requirements. A senior vice president in the corporate office responded to
             HUD’s letter, indicating that the situation was resolved because McAfee
             Mortgage had closed the branch offices. HUD adequately notified the
             lender’s management of the improper practices and the lender should have
             taken action to rectify the situation in all of its offices.



                                          58
Appendix C

                                         CRITERIA

Criteria 1
HUD Handbook 4000.2, REV-3, chapter 1, section 1-7, states that property flipping is a practice
whereby recently acquired property is resold for a considerable profit with an artificially inflated
value, often abetted by a lender’s collusion with the appraiser.

C. Resales Occurring 90 Days or Less Following Acquisition. A property acquired by the seller
is not eligible for a mortgage to be insured by the Federal Housing Administration for the buyer
unless the seller has owned that property for at least 90 days. If a property is resold 90 days or
fewer following the date of acquisition by the seller, the property is not eligible for a mortgage
insured by the Federal Housing Administration. The Federal Housing Administration defines the
seller’s date of acquisition as the date of settlement on the seller’s purchase of that property. The
resale date is the date of execution of the sales contract by a buyer intending to finance the
property with a Federal Housing Administration-insured loan.

Criteria 2
HUD Handbook 4155.1, REV-5, chapter 1, section 1-7-A, states that the seller may contribute up
to 6 percent of the property’s sales price toward the buyer’s actual closing costs, prepaid
expenses, discount points, and other financing concessions. Contributions exceeding 6 percent
of the sales price or exceeding the actual cost of prepaid expenses, discounts points, and other
financing concessions will be treated as inducements to purchase, thereby reducing the amount
of the mortgage. Closing costs normally paid by the borrower are considered contributions if
paid by the seller.

Criteria 3
HUD Handbook 4155.1, REV-5, chapter 1, section 1-13-A, states that any financing (other than
the Federal Housing Administration-insured first mortgage) that creates a lien against the
property is considered secondary financing and not a gift, even if it is a “soft” or “silent” second
(i.e., has no monthly repayment provisions) or has other features forgiving the debt.

Documentation from the provider of the secondary financing must show the amount of funds
provided to the borrower in each transaction, and copies of the loan instruments are to be
included in the endorsement binder. Costs incurred for participating in a downpayment
assistance secondary financing program may only be included in the amount of the second lien.
Permissible secondary financing arrangements include
A. Government Agencies. Federal, state, and local government agencies, as well as nonprofit
agencies considered instrumentalities of government, may provide secondary financing for the
borrower’s entire cash investment. The second lien itself must be made or held by the eligible
governmental body or instrumentality. Neither governmental units nor their established
nonprofit instrumentalities may use “agents,” including other nonprofits or for-profit enterprises,
to make the second lien regardless of the source of those funds. In other words, even if the funds



                                                 59
used for the secondary financing were derived from an acceptable source such as HUD
Homeownership Investment Partnership funds or from a unit of government or eligible nonprofit
instrumentality, the subordinate lien must be in the name of the eligible entity; i.e., the state,
county, city, or eligible nonprofit instrumentality must be the lien holder. This authority cannot
be delegated to another party that is not itself permitted to provide this level of secondary
financing. These other entities, however, may be used to service the subordinate lien if regularly
scheduled payments are to be made by the borrower. Loans secured by secondary mortgages are
subject to the conditions described below:
    1. The Federal Housing Administration-insured first mortgage, when combined with any
        second mortgage or other junior liens from government agencies, may not result in cash
        back to the borrower. The sum of all liens cannot exceed 100 percent of the cost to
        acquire the property. The cost to acquire is the sales price plus allowable borrower-paid
        closing costs, discount points, repair and rehabilitation expenses, and prepaid expenses.
        The cost to acquire may exceed the appraised value of the property under these types of
        government assistance programs.
   2. The required monthly payment under the insured mortgage and the second mortgage or
      lien, plus other housing expenses and all recurring charges, cannot exceed the borrower’s
      reasonable ability to pay.
   3. The source, amount, and repayment terms must be disclosed in the mortgage application,
      and the borrower must acknowledge that he or she understands and agrees to the terms.

Criteria 4
HUD Handbook 4155.1, REV-5, chapter 2, section 2-2-B, details citizenship and immigration
status requirements.

B. Citizenship and Immigration Status. When a mortgage loan applicant indicates on the loan
   application that he or she holds something other than U.S. citizenship, the lender must
   determine residency status from the documentation provided by the borrower.

   Nonpermanent Resident Aliens. The Federal Housing Administration will insure a mortgage
   made to a nonpermanent resident alien, provided the property will be the borrower’s
   principal residence, the borrower has a valid Social Security number, and the borrower is
   eligible to work in the United States as evidenced by an employment authorization document
   issued by the Bureau of Citizenship and Immigration Services. If the authorization for
   temporary residency status will expire within one year and a prior history of residency status
   renewals exists, the lender may assume continuation will be granted. If there are no prior
   renewals, the lender must determine the likelihood of renewal, based on information from the
   Bureau of Citizenship and Immigration Services.

   Although Social Security cards may indicate work status, such as “not valid for work
   purposes,” an individual’s work status may change without the change being reflected on the
   Social Security card. Therefore, the Social Security card is not to be used as evidence of
   work status for nonpermanent resident aliens; the Bureau of Citizenship and Immigration
   Services employment authorization document is to be used instead.




                                                60
Criteria 5
HUD Handbook 4155.1, REV-5, chapter 2, section 2-2-D, states that although the nonpurchasing
spouse’s credit history is not to be considered a reason for credit denial, a credit report that
complies with other HUD requirements must be obtained for the nonpurchasing spouse to
determine the debt-to-income ratio.

Criteria 6
HUD Handbook 4155.1, REV-5, chapter 2, section 2-3, states that past credit performance serves
as the most useful guide in determining a borrower’s attitude toward credit obligations and
predicting a borrower’s future actions. A borrower who has made payments on previous and
current obligations in a timely manner represents reduced risk. Conversely, if the credit history,
despite adequate income to support obligations, reflects continuous slow payments, judgments,
and delinquent accounts, strong compensating factors will be necessary to approve the loan.

When analyzing a borrower’s credit history, the lender is to examine the overall pattern of credit
behavior, rather than isolated occurrences of unsatisfactory or slow payments. When delinquent
accounts are revealed, the lender must document its analysis as to whether the late payments
were based on a disregard for financial obligations, an inability to manage debt, or factors
beyond the control of the borrower, including delayed mail delivery or disputes with creditors.

While minor derogatory information occurring two or more years in the past does not require
explanation, major indications of derogatory credit--including judgments, collections, and any
other recent credit problems--require sufficient written explanation from the borrower.

Neither the lack of credit history nor the borrower’s decision not to use credit may be used as a
basis for rejecting the loan application. HUD also recognizes that some prospective borrowers
may not have an established credit history. For those borrowers, and for those who do not use
traditional credit, the lender must develop a credit history from utility payment records, rental
payments, automobile insurance payments, or other means of direct access from the credit
provider. The lender must document that the providers of nontraditional credit exist and verify
the credit information.

As an alternative, the lender may elect to use a nontraditional mortgage credit report developed
by a credit-reporting agency, provided the credit-reporting agency has verified the existence of
the credit providers and the lender verifies that the nontraditional credit was extended to the
applicant. The lender must verify the credit using a published address or telephone number to
make that verification.

Criteria 7
HUD Handbook 4155.1, REV-5, chapter 2, section 2-3-A, states that the payment history of the
borrower’s housing obligations holds significant importance in evaluating credit. The lender
must determine the borrower’s payment history of housing obligations through either the credit
report, verification of rent directly from the landlord (with no identity-of-interest with the
borrower) or verification of mortgage directly from the mortgage servicer, or through canceled
checks covering the most recent 12-month period.



                                                61
Criteria 8
HUD Handbook 4155.1, REV-5, chapter 2, section 2-3-F, states that participation in a consumer
credit counseling payment program does not disqualify a borrower from obtaining a Federal
Housing Administration-insured mortgage, provided the lender documents that one year of the
pay-out period has elapsed under the plan and the borrower’s payment performance has been
satisfactory (i.e., all required payments made on time). In addition, the borrower must receive
written permission from the counseling agency to enter into the mortgage transaction.

Criteria 9
HUD Handbook 4155.1, REV-5, chapter 2, section 2-6, states that the anticipated amount of
income and the likelihood of its continuance must be established to determine a borrower’s
capacity to repay mortgage debt. Income may not be used in calculating the borrower’s income
ratios if it comes from any source that cannot be verified, is not stable, or will not continue.

HUD does not impose a minimum length of time a borrower must have held a position of
employment to be eligible. However, the lender must verify the borrower’s employment for the
most recent two full years. If a borrower indicates he or she was in school or in the military
during any of this time, the borrower must provide supporting evidence, such as college
transcripts or discharge papers. The borrower also must explain any gaps in employment
spanning one month or more. Allowances for seasonal employment, such as is typical in the
building trades, etc., may be made if documented by the lender.

To analyze and document 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. In this analysis, income stability takes precedence over job
stability.

Criteria 10
HUD Handbook 4155.1, REV-5, chapter 2, section 2-7, states that the income of each borrower
to be obligated for the mortgage debt must be analyzed to determine whether it can reasonably be
expected to continue through at least the first three years of the mortgage loan. If the borrower
intends to retire during this period, the effective income must be the amount of documented
retirement benefits, Social Security payments, or other payments expected to be received in
retirement.

In most cases, the borrower’s income will be limited to salaries or wages. Income from other
sources can be included as effective income with proper verification by the lender. Procedures
for analyzing other acceptable income sources besides salaries and wages are described below:

A. Overtime and Bonus Income. Both overtime and bonus income may be used to qualify if
   the borrower has received such income for the past two years and it is likely to continue. The
   lender must develop an average of bonus or overtime income for the past two years, and the
   employment verification must not state that such income is unlikely to continue. Periods of



                                               62
   less than two years may be acceptable, provided the lender justifies and documents in writing
   the reason for using the income for qualifying purposes.

   An earnings trend also must be established and documented for overtime and bonus income.
   If either type shows a continual decline, the lender must provide a sound rationalization in
   writing for including the income for borrower qualifying. If bonus income varies
   significantly from year to year, a period of more than two years must be used in calculating
   the average income.

R. Projected Income. Projected or hypothetical income is not acceptable for qualifying
   purposes. However, exceptions are permitted to this rule for income from cost-of-living
   adjustments, performance raises, bonuses, etc., which are both verified by the employer in
   writing and scheduled to begin within 60 days of loan closing.

   If a borrower is about to start a new job and has a guaranteed, nonrevocable contract for
   employment that will begin within 60 days of loan closing, the income is acceptable for
   qualifying purposes. The lender also must verify that the borrower will have sufficient
   income or cash reserves to support the mortgage payments and any other obligations during
   the interim between loan closing and the start of employment. However, if the loan will
   close more than 60 days before the borrower's employment begins, the loan is not eligible for
   endorsement until the lender provides a pay stub or other acceptable evidence that the
   borrower has begun the new job.

Criteria 11
HUD Handbook 4155.1, REV-5, chapter 2, section 2-9-B, states that the following documents
are required from self-employed borrowers:

1. Signed and dated individual tax returns, plus all applicable schedules, for the most recent two
   years.
2. Signed copies of federal business income tax returns for the last two years, with all applicable
   schedules, if the business is a corporation, an S corporation, or a partnership.
3. A year-to-date profit-and-loss statement and balance sheet.
4. A business credit report on corporations and S corporations.

Criteria 12
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10, states that all funds for the borrower’s
investment in the property must be verified and documented.

Criteria 13
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10-B, states that a verification of deposit,
along with the most recent bank statement, may be used to verify savings and checking accounts.
If there is a large increase in an account or the account was opened recently, the lender must
obtain a credible explanation of the source of those funds.




                                                63
Criteria 14
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10-C, states that 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. As a rule, HUD is not concerned
with how the donor obtains the gift funds, provided they are not derived in any manner from a
party to the sales transaction. Donors may borrow gift funds from any other acceptable source,
provided the mortgage borrowers are not obligors to any note to secure money borrowed to give
the gift.

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, as follows:

1. If the gift funds are in the homebuyer’s bank account, the lender must document the transfer
   of the funds from the donor to the homebuyer by obtaining a copy of the canceled check or
   other withdrawal document showing that the withdrawal is from the donor’s account. The
   homebuyer’s deposit slip and bank statement that shows the deposit are also required.

2. If the gift funds are to be provided at closing,

   a. If the transfer of the gift funds is by certified check made on the donor’s account, the
      lender must obtain a bank statement showing the withdrawal from the donor’s account, as
      well as a copy of the certified check.
   b. If the donor purchased a cashier’s check, money order, official check, or any other type
      of bank check as a means of transferring the gift funds, the donor must provide a
      withdrawal document or canceled check for the amount of the gift, showing that the
      funds came from the donor’s personal account. If the donor borrowed the gift funds and
      cannot provide documentation from the bank or other savings account, the donor must
      provide written evidence that those funds were borrowed from an acceptable source; i.e.,
      not from a party to the transaction, including the lender. “Cash on hand” is not an
      acceptable source of the donor’s gift funds.

Regardless of when the gift funds are made available to the homebuyer, the lender must be able
to determine that the gift funds ultimately were not provided from an unacceptable source and
were indeed the donor’s own funds. When the transfer occurs at closing, the lender remains
responsible for obtaining verification that the closing agent received funds from the donor for the
amount of the purported gift and that those funds came from an acceptable source.




                                                 64
Criteria 15
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10-M, states that borrowers who have
saved cash at home and are able to demonstrate adequately the ability to do so are permitted to
have this money included as an acceptable source of funds to close the mortgage. To include
such funds in assessing the homebuyer’s cash assets for closing, the money must be verified--
whether deposited in a financial institution or held by the escrow/title company--and the
borrower must provide satisfactory evidence of the ability to accumulate such savings.

The asset verification process requires the borrower to explain in writing how such funds were
accumulated and the amount of time taken to do so. The lender must determine the
reasonableness of the accumulation of the funds based on the borrower’s income stream, the
period during which the funds were saved, the borrower’s spending habits, documented
expenses, and the borrower’s history of using financial institutions. All other factors being
equal, individuals with checking and/or savings accounts are less likely to save money at home
than an individual with no history of such accounts.

Criteria 16
HUD Handbook 4155.1, REV-5, chapter 2, section 2-11-C, states that that if a debt payment,
such as a student loan, is scheduled to begin within 12 months of the mortgage loan closing, the
lender must include the anticipated monthly obligation in the underwriting analysis, unless the
borrower provides written evidence that the debt will be deferred to a period outside this
timeframe.

Criteria 17
HUD Handbook 4155.1, REV-5, chapter 2, section 2-12, states that 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. The lender must compute two ratios:

A. Mortgage Payment Expense to Effective Income. If the total mortgage payment (principal
   and interest, escrow deposits for real estate taxes, hazard insurance, the mortgage insurance
   premium, homeowners’ association dues, ground rent, special assessments, and payments for
   any acceptable secondary financing) does not exceed 29 percent of the gross effective
   income, the relationship of the mortgage payment to income is considered acceptable. A
   ratio exceeding 29 percent may be acceptable only if significant compensating factors are
   documented and recorded on the mortgage credit analysis worksheet. Typically, for
   borrowers with limited recurring expense, greater latitude is permissible on this ratio than on
   the total fixed payment ratio.

B. Total Fixed Payment to Effective Income. If the total of the mortgage payment and all
   recurring charges does not exceed 41 percent of the gross effective income, the relationship
   of total obligations to income is considered acceptable. A ratio exceeding 41 percent may be
   acceptable only if significant compensating factors are documented and recorded on the
   mortgage credit analysis worksheet.

Criteria 18
HUD Handbook 4155.1, REV-5, chapter 3, section 3-1, states that the application package must
contain all documentation supporting the lender’s decision to approve the mortgage loan. When


                                                65
standard documentation does not provide enough information to support this decision, the lender
must provide additional explanatory statements, consistent with other information in the
application, to clarify or to supplement the documentation submitted by the borrower.

Lenders may not accept or use documents relating to the credit, employment, or income of
borrowers that are handled by or transmitted from or through interested third parties (e.g., real
estate agents, builders, sellers) or by using their equipment.

Criteria 19
HUD Handbook 4155.1, REV-5, chapter 3, section 3-1-C, states that for all borrowers, including
U.S. citizens, the lender is required to document a valid Social Security number for each
borrower, coborrower, and cosigner on the mortgage. All individuals eligible for legal
employment in the United States must have a Social Security number. Each borrower must
provide the lender with evidence of his or her own valid Social Security number as issued by the
Social Security Administration. This applies to purchase money loans and all refinances,
including streamline refinances. While the Social Security card is not required, the lender is
required to validate the Social Security number. Lenders may use various means for validating
the Social Security number, including examining the borrower’s pay stubs, passport, and valid
tax returns, and may use service providers including those with direct access to the Social
Security Administration. The lender is also required to resolve any inconsistencies or multiple
Social Security numbers for individual borrowers that are revealed during loan processing and
underwriting.

Criteria 20
Mortgagee Letter 00-27 provides processing instructions for Federal Housing Administration-
insured financing that involves a HUD real estate owned property.

Appraisal Type - Upon conveyance of properties to HUD’s real estate owned inventory, HUD’s
management and marketing contractor shall obtain an as-is appraisal (not as-repaired) for each
HUD real estate owned property to determine the listing price.

Utility Issues - Utilities should be on at the time the appraisal is conducted, unless there are
documented extenuating circumstances. In the event of extenuating circumstances, the appraiser
should note the following:

•   On the uniform residential appraisal report, the appraiser will annotate “The following
    utilities were not on at the time the appraisal was conducted (e.g., electric, gas, and/or water)
    --Unable to verify their functionality.”

•   On the valuation condition sheet, it also should be clearly noted that “The following utilities
    were not on at the time the appraisal was conducted (e.g., electric, gas, and/or water)--Unable
    to verify their functionality.” However, the appraiser should note any readily observable
    condition that is evident. Completion of the valuation condition sheet requires observation of
    13 areas, that include but are not limited to the well and individual water supply, the septic
    system, structural conditions, and mechanical systems, to determine any obvious defects (i.e.,
    exposed wiring, frayed wiring, presence of leaks, and structural damage of plumbing



                                                 66
    fixtures). Extra attention should be given to the readily observable condition of the utility
    systems that are not activated at the time of the appraisal.

•   HUD’s management and marketing contractor shall permit entry to the purchaser(s) during
    the contract period to activate the utilities for the purposes of conducting a home inspection.
    If the HUD real estate owned appraisal was completed without the utilities being activated,
    the mortgage lender or purchaser(s) must complete the systems check while the utilities are
    activated.

Marketing Approach - A property that requires no more than $5,000 for repairs to meet the
Federal Housing Administration’s minimum property requirements as determined by the
appraiser is eligible to be marketed for sale in its as-is condition with Federal Housing
Administration mortgage insurance available, provided the purchaser(s) establishes a cash
escrow to ensure the completion of the required repairs. Purchaser(s) are permitted to include in
the mortgage an amount equal to 110 percent of the estimated cost of the repairs.

When a repair escrow is required, the escrow account should be established and administered in
accordance with the procedures outlined in HUD Handbook 4145.1. A completed form HUD-
92300, Mortgagee’s Assurance of Completion, should be included in the case binder submitted
for insurance endorsement. A completed form HUD-92051, Compliance Inspection Report,
must be submitted after the completion of repairs.

Criteria 21
Mortgagee Letter 04-28 requires that any resale of a property may not occur 90 or fewer days
from the last sale to be eligible for Federal Housing Administration financing.

Criteria 22
Mortgagee Letter 04-28 states that HUD Handbook 4155.1, REV-5, sets forth the documentation
requirements for showing the transfer of gift funds. The instructions also state that when the
transfer occurs at closing, the lender remains responsible for obtaining verification that the
closing agent received funds from the donor for the amount of the purported gift and that those
funds came from an acceptable source.

Since most transfers of downpayment funds from charities are by means of wire transfers, when
that situation occurs, the lender must obtain and keep the documentation of the wire transfer in
its mortgage loan application binder. While that document need not be provided in the insurance
binder, it must be available for inspection by HUD’s Quality Assurance Division when that
office conducts its on-site review of lenders.

Criteria 23
Underwriting requires careful analysis of the many aspects of the mortgage. Each loan is a
separate and unique transaction, and there may be other factors that demonstrate the borrowers'
ability and willingness to make timely mortgage payments. There is a danger of "layering
flexibilities" in assessing mortgage insurance risk, and simply establishing that a loan transaction
meets minimal standards does not necessarily constitute prudent underwriting. The lender is
responsible for adequately analyzing the probability that the borrower will be able to repay the
mortgage obligation in accordance with the terms of the loan.


                                                 67
        Appendix D

                        SCHEDULE OF MATERIAL DEFICIENCIES




                                                                                                       Unsupported assets




                                                                                                                                                                            Ineligible property
                                                                                                                                           Underreported



                                                                                                                                                           credit history
                                                                                        Questionable



                                                                                                                            Questionable




                                                                                                                                                           Questionable
                                                                          Unsupported



                                                                                        employment




                                                                                                                                                                            or borrower
   Federal                                29% of




                                                                                                                            gift funds

                                                                                                                                           liabilities
   Housing       Original                original               29% of




                                                                          income




                                                                                                                                                                                                  Other
Administration   mortgage     Claims     mortgage      Loss     claims
 case number     amount        paid      amount      to HUD      paid
161-2097168        $63,995                 $18,559                                                                               x                                                 x
491-8444756        $65,000                 $18,850                                                                                                                                 x
493-7681268        $86,325                 $25,034                                                         x
493-7770482        $75,110                 $21,782                                                         x                                                                       x              x
291-3239808        $98,356    $105,536               $55,091                  x                            x                                                     x                                x
493-7888318       $113,754    $121,916               $27,513                                                                                                     x
493-7775178        $65,772     $68,780                          $19,946                                                          x
493-7827818       $113,591    $118,911                          $34,484       x              x                                                                                                    x
493-7852047       $145,960    $149,249                          $43,282                      x                                                                   x
493-7905859        $90,972     $94,157                          $27,306                      x                                                  x
493-7908169       $113,326     $23,141                           $6,711                                                          x              x
    Totals       $1,032,161   $681,690    $84,225    $82,604   $131,729       2              3             3                     3              2                3                 3              3




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Appendix E

             CASE STUDIES FOR 11 QUESTIONED LOANS


Case number: 161-2097168                    Insured amount: $63,995
Section of Housing Act: 203(b)              Status upon selection: Active
Date of loan closing: May 10, 2004          Underwriter type: Automated

Ineligible Property
The property was resold within 90 days of the last sale for a substantial profit. The seller of the
property took ownership on December 22, 2003, paying $38,000 for the property. The new
contract was executed on March 1, 2004, for $65,000. The seller owned the property for only 69
days before reselling. A property resold within 90 days following the date of acquisition by the
seller is not eligible for a Federal Housing Administration-insured loan.

In response to the audit, McAfee Mortgage agreed with this finding.

HUD Requirements
HUD Handbook 4000.2, REV-3, chapter 1, section 1-7-C (appendix C – criteria 1)
Mortgagee Letter 2003-07 (appendix C – criteria 21)

Questionable Gift Funds
The lender did not adequately document gift funds provided by a charitable organization. The
settlement statement reflected gift funds of $1,950 to the borrower from the nonprofit and the
associated funds from the seller to the same nonprofit. The HUD case binder contained the gift
letter but did not include support for the transfer of funds. Without additional gift fund
documentation, such as wire transfer documents, the lender could not verify that the funds came
from an allowable source.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10-C (appendix C – criteria 14)
Mortgagee Letter 2004-28 (appendix C – criteria 22)


Case number: 491-8444756                    Insured amount: $65,000
Section of Housing Act: 203(b)              Status upon selection: Active
Date of loan closing: June 18, 2004         Underwriter type: Manual

Ineligible Property
The lender did not accurately process this loan as a HUD real estate owned property. The
appraiser noted several repairs necessary to meet Federal Housing Administration minimum
property requirements and estimated the cost of those repairs to be $4,900. The appraiser was
unable to check the plumbing system because the water was not turned on. There was no
documentation that an inspection was performed once the water was activated. The appraisal


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also noted the presence of lead-based paint and mold, both health hazards. Neither the HUD
case binder nor the lender file contained documentation of lead paint repairs or mold
remediation.

Neither a lender’s assurance of completion (HUD-82300) nor a compliance inspection report
(HUD-92051) was in the file. The file also did not contain support for completion of the
required repairs or administration of the repair escrow. A loan information sheet prepared by the
lender, dated June 23, 2004, stated that the repairs were not complete.

In response to our audit, McAfee Mortgage provided documentation to address some of the
conditions noted by the appraisal. However, McAfee Mortgage did not provide evidence of
paint repairs or mold remediation, a plumbing inspection, or a final inspection.

HUD Requirements
Mortgagee Letter 00-27 (appendix C – criteria 20)


Case number: 493-7681268                    Insured amount: $86,325
Section of Housing Act: 203(b)              Status upon selection: Active
Date of loan closing: January 16, 2004      Underwriter type: Automated

Unsupported Assets
The lender did not adequately support funds used to close the loan or the borrower’s ability to
pay a substantial increase in housing costs. The borrower provided a monthly budget savings
plan stating that she was able to save $1,118 per month, or half of her monthly income. The
savings plan included income of $225 from unsupported child support. State child support
records showed that she was not receiving the child support consistently. The records, dated
December 9, 2003, showed that the borrower had not received any child support since March
2003. The payments recorded by the state ranged from $34 to $113 per month – not the $225
used to support the borrower’s ability to save and have additional income available to offset
increased housing expenses.

In addition, the borrower provided a statement that she had only been able to save $375 per
month over a nine month period to accumulate the earnest money. The borrower’s housing
expense (principal and interest) increased $376, from $550 per month to $926 per month. The
lender did not adequately demonstrate that the borrower had the ability to absorb the 68 percent
increase in her housing payment.

Additionally, the file contained copies of a cashier’s check for $3,150, with the borrower as the
remitter, and a personal check from the borrower for $500. The borrower deposited both checks
with the seller and not a third party having no interest in the sale.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10-B (appendix C – criteria 13)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10-M (appendix C – criteria 15)




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Case number: 493-7770482                   Insured amount: $75,110
Section of Housing Act: 203(b)             Status upon selection: Active
Date of loan closing: May 13, 2004         Underwriter type: Manual

Citizenship and Immigration Status
The lender did not adequately document the borrower’s eligibility as a nonpermanent resident
alien, nor did it adequately ensure that the Social Security number claimed by the borrower
legitimately belonged to the borrower. The lender obtained a verification of employment and a
memorandum from the employer indicating that the borrower was working under the H-2B visa
program but did not provide his employment authorization document issued by the Bureau of
Citizenship and Immigration Services. The borrower’s work visa expired a month after closing,
and the lender did not provide proof of a renewal history or other documentation from the
Bureau of Citizenship and Immigration Services, ensuring that the borrower’s work status would
be renewed, thereby allowing him to legally reside in the country and be eligible for a Federal
Housing Administration-insured loan.

Additionally, the lender conducted checks on the borrower’s Social Security number that
indicated the number was associated with someone else and was issued in Michigan. The loan
file showed no indication that the lender attempted to resolve the discrepancy, which draws into
question the legitimacy of the Social Security number belonging to the borrower.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, paragraph 2-2-B (appendix C – criteria 4)
HUD Handbook 4155.1, REV-5, chapter 3, section 3-1-C (appendix C – criteria 19)

Unsupported Assets/Questionable Secondary Financing
The lender did not adequately document a deferred payment loan from a municipal
downpayment assistance program. The mortgage credit analysis worksheet and settlement
statement reflected $5,000 from the program. The lender file contained a conditional
commitment letter verifying the borrower’s eligibility for the program, pending the borrower
meeting additional conditions. The loan file did not indicate that the borrower met the additional
conditions or that the funds were transferred. The lender should have also obtained a promissory
note evidencing the secondary financing agreement. Without the appropriate documentation, the
lender could not be assured that the funds were received on the borrower’s behalf and came from
an allowable source, or that repayment of the municipal loan was deferred.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 1, section 5, paragraph 1-13-A (appendix C – criteria 3)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-11-C (appendix C – criteria 16)

Inadequate Documentation
The seller faxed the borrower’s pay stubs to the lender. When an interested third party handles
or transmits documents critical to the underwriting process, the lender cannot be assured of the
legitimacy of those documents. The lender cannot use pay stubs faxed from the seller to support
income.



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HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 3, section 5-1 (appendix C – criteria 18)


Case number: 291-3239808                    Insured amount: $98,356
Section of Housing Act: 203(b)              Status upon selection: Claim - sold for loss of $55,166
Date of loan closing: February 10, 2004     Underwriter type: Manual

Unsupported and Ineligible Assets
The seller contributed to the cash needed to close the loan. The borrower claimed his bank
account balance of $4,386 on February 5, 2004, as funds available to close. The account
contained $3,000 from the seller of the property, deposited on that same day. The deposit was
supported by a letter from the seller stating that the funds were a draw against a balance owed the
borrower for upcoming construction work contracted for by the seller. The settlement statement
showed the borrower needed $2,316 to close. Bank records showed the borrower had only
$1,524 on February 3, 2004. Without the $3,000, the borrower would not have had the funds
necessary to close the loan.

Additionally, other bank accounts for the borrower showed negative daily balances, multiple
negative balance fees, and insufficient funds charges.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10 (appendix C – criteria 12)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10-B (appendix C – criteria 13)

Overinsured Loan
The seller contributed more than 6 percent of the sales price for borrower closing costs. The
settlement statement showed that the seller contributed $4,339 toward borrower closing costs.
The seller also provided $3,000 directly to the borrower. The seller contributed 7.35 percent of
the sales price for borrower closing costs, causing the loan to be $1,345 overinsured.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 1, section 1-7-A (appendix C – criteria 2)

Unsupported Income and Invalid Compensating Factors
The lender overstated the borrower’s income by $94 per month. The lender incorrectly added
back the self-employment tax to the adjusted gross income. The financial ratios increase to 38.6
percent with the correct effective income. Additionally, the borrower provided his 2002 and
2003 tax returns, but neither was signed. The lender also failed to obtain a year-to-date profit-
and-loss statement and balance sheet for the self-employed borrower.

The borrower’s mortgage payment was $807 per month with no other liabilities listed on the
mortgage credit analysis worksheet. The borrower’s housing ratio significantly exceeded HUD’s
limit of 29 percent, and the lender listed multiple compensating factors. However, the factors
were invalid, as follows:



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   •   The lender claimed an excellent rental history, but one rent verification passed through
       the seller, and the seller also provided a verification of rent for a few months of the rental
       period.
   •   The lender claimed a minimal increase in housing expense, but the borrower’s housing
       costs were increasing by 25 percent from the current rent and 80 percent from the rent
       paid until five months before the loan closed.
   •   The lender claimed that the alternative credit provided an acceptable credit history;
       however, the alternative credit was not sufficiently supported.
   •   The lender claimed the borrower had reserves after closing, but the seller provided
       $3,000 to the borrower for funds to close, which effectively created the reserves.
   •   The lender claimed that the borrower had no recurring debt. While this may have been
       true, this was not sufficient to offset the other questionable issues of the loan or the high
       housing ratio.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-9-B (appendix C – criteria 11)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-12 (appendix C – criteria 17)

Identity of Interest
The seller of the property was the borrower’s landlord, and the seller had contracted with the
borrower for construction services, including rehabilitating the property being insured. The
seller also provided a verification of rent, which stated that the borrower paid $650 per month
from October 15, 2003, to the time of the loan application. An additional verification of rent
from another party stated that the borrower’s spouse paid $450 per month from 2001 to October
15, 2003. The seller faxed the earlier rent verification to the lender.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-3-A (appendix C – criteria 7)

Questionable Credit History
The borrower had no credit scores. The only items on the borrower’s credit report were two
collections. Additionally, the borrower was married, but the lender did not obtain credit reports
for the nonpurchasing spouse. HUD requires that credit reports be obtained for the
nonpurchasing spouse to determine the debt-to-income ratio.

In addition, the lender required the borrower to obtain a nontraditional credit history. The
borrower provided a letter of credit for a cell phone from a construction company. The letter
indicated that the borrower paid the company a monthly fee for its use. No payment history was
provided to support the legitimacy of the letter of credit. Also, the seller faxed the letter of credit
to the lender.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-2-D (appendix C – criteria 5)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-3 (appendix C – criteria 6)




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Questionable Appraisal
Two appraisals listed the property as vacant. The borrower claimed that he had lived in the
subject property for three years. The appraisals were performed 12 days apart, just before the
loan closed. One listed the borrower as the purchaser, and the other listed the borrower’s
nonpurchasing spouse as the purchaser. Also, both appraisals said there were no sales of the
property within the prior three years; however, the seller acquired the property in October 2003,
according to the verification of rent.

In response to the audit, McAfee Mortgage agreed with the findings on this loan.


Case number: 493-7888318                     Insured amount: $113,754
Section of Housing Act: 203(b)               Status upon selection: Claim
Date of loan closing: September 28, 2004     Underwriter type: Automated

Questionable Credit History
The credit report showed that an automobile was repossessed less than a year before loan closing
and listed more than $11,000 in collection accounts within the two years before loan closing.
The collection accounts included two defaulted federal student loans totaling nearly $5,000. The
lender excluded six debts from the credit report in the automated underwriting system but did not
provide documentation to explain why the items were excluded.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-3 (appendix C – criteria 6)


Case number: 493-7775178                    Insured amount: $65,772
Section of Housing Act: 203(b)              Status upon selection: Claim
Date of loan closing: June 4, 2004          Underwriter type: Manual

Questionable Gift Funds
The lender did not adequately document gift funds of $5,000 and a $500 earnest deposit paid by
parties other than the borrower. The mortgage credit analysis worksheet and settlement
statement reflected funds of $5,000 provided from the City of Houston. Neither the HUD nor
McAfee Mortgage loan file contained documentation supporting these funds, nor did they
include support for the transfer of funds. Without additional documentation, such as the wire
transfer documents and acceptance/award letter, the lender could not verify that the funds came
from an allowable source and that no repayment was required.

Additionally, the settlement statement, mortgage credit analysis worksheet, and sales contract
listed an earnest deposit of $500. The file contained a money order to the title company for $500
from someone other than the borrower. The loan files contained no evidence that the funds came
from an allowable source and that no repayment was required. Additionally, the individual that
purchased the money order also signed the termite inspection and was listed as the borrower.
However, the borrower that closed the loan signed an affidavit that he was not known by any




                                                74
other names, and he signed the termite inspection as well, evidencing that the two names
appearing on the various documents are not the same person.

In response to our audit, McAfee Mortgage provided additional documentation but no
documentation regarding the City of Houston funds or a gift letter for the $500.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10-C (appendix C – criteria 14)
Mortgagee Letter 2004-28 (appendix C – criteria 22)


Case number: 493-7827818                    Insured amount: $113,591
Section of Housing Act: 203(b)              Status upon selection: Claim
Date of loan closing: June 29, 2004         Underwriter type: Automated

Unsupported Income
The lender overstated income by $521 per month when approving the loan. The lender used the
coborrower’s expected base pay of $2,167 for qualifying. The only support for this employment
at the time the lender approved the loan was a letter offering the borrower a position. The lender
did not obtain a guaranteed, nonrevocable contract, as required by HUD to use future income for
qualifying. Further, the coborrower had been in the new position for three weeks at the time the
loan closed. The lender obtained two pay stubs from the new position but these were for work
performed after the loan closed.

At the time the lender approved the loan, the coborrower was earning $10 per hour working
through a staffing agency for four months. A pay history showed that she averaged more than 37
hours per week. At that rate, her monthly income was $1,646, which was supported by three
weeks of pay stubs. The lower, supported income of $1,646 increases the ratios to 34.9 percent
and 46.7 percent.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-7 (appendix C – criteria 10)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-12 (appendix C – criteria 17)

Questionable Income Stability/Employment
The lender did not establish income stability or a two year work history. It did not adequately
verify the borrower’s employment or education/training to fulfill the two year requirement. The
loan application showed that the borrower was self-employed in the home repair business for just
over a year before his current job, which began May 23, 2003. The lender did not obtain a tax
return for 2003 to support the five months of self-employment income claimed.

The coborrower’s two-year work history included four months of unemployment and three
different jobs. The coborrower explained the gaps in employment and that she changed jobs
frequently seeking better pay. According to the loan file, her income remained the same in each
of the three jobs prior to employment by the staffing agency.




                                                75
HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-6 (appendix C – criteria 9)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-9-B (appendix C – criteria 11)

Additional Factors
The borrowers had no cash assets. Their bank balance was less than $6 when verified.


Case number: 493-7852047                  Insured amount: $145,960
Section of Housing Act: 203(b)            Status upon selection: Claim - property not yet sold
Date of loan closing: July 30, 2004       Underwriter type: Automated

Questionable Employment History
The lender did not establish employment stability. The borrower changed jobs frequently in the
two years before applying for the loan and did not adequately support employment in the same
line of work. While the verification of employment and current pay stubs supported the income
used to qualify the borrower, she had been on the job for only one month. She was unemployed
for the 4.5 months before the current job and provided no explanation for the gap in employment.
The borrower wrote a letter stating that employment for the previous 10 years was in the
procurement field, but another letter stated that in 2001 and 2002 she was unable to find a
position in her career field.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-6 (appendix C – criteria 9)

Questionable Credit History
The borrower’s vehicle was repossessed at the end of 2003. She had recent late payments on
several accounts. The credit report showed several profit-and-loss writeoffs totaling more than
$13,000. She had enrolled in a debt consolidation program in May 2004 to pay off more than
$20,000 of debt. At the time she applied for the loan, she had been enrolled in the program for
only three months--not for at least one year of the pay-out period. The file contained an
authorization for automatic withdrawals from her bank account to pay the debts but no debt
consolidation agreement. Additionally, the borrower did not provide written permission from the
debt consolidation agency to enter into the mortgage transaction.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-3 (appendix C – criteria 6)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-3-F (appendix C – criteria 8)




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Case number: 493-7905859                    Insured amount: $90,972
Section of Housing Act: 203(b)              Status upon selection: Claim
Date of loan closing: October 29, 2004      Underwriter type: Manual

Underreported Liabilities
The lender did not obtain a credit report for the nonpurchasing spouse. The property was in a
community property state, so debts of the nonpurchasing spouse that are not excluded by state
law should have been included in the qualifying ratios. The lender approved the loan with ratios
of 33.78 percent and 47.68 percent.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-2-D (appendix C – criteria 5)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-3 (appendix C – criteria 6)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-12 (appendix C – criteria 17)

Questionable Employment History/Stability of Income
The borrower did not present a stable income. The borrower had worked for his current
employer for only seven months. His application listed five jobs during the two years before the
loan application. The application did not identify titles of each job, and none of the places of
employment appeared related to his current position as a cable installer.

Employers provided Internal Revenue Service forms W-2 for some of the jobs, but not all. The
tax documentation did not support two consecutive years of employment, nor did it indicate that
the job changes were related to increased pay or benefits. Based on the data provided, the
borrower’s earnings ranged from $746 per month to $1,309 per month. The information did not
support a trend of increasing income. The borrower's income for the seven months at his current
job was significantly higher than from any of his past jobs. HUD's regulations state that income
stability can be more important than job stability if the borrower changes jobs within the same
line of work and continues to advance in income or benefits. The lender did not sufficiently
demonstrate that the borrower met the HUD criteria.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-6 (appendix C – criteria 9)


Case number: 493-7908169                      Insured amount: $113,326
Section of Housing Act: 203(b)                Status upon selection: Claim
Date of loan closing: October 28, 2004        Underwriter type: Automated

Questionable Gift Funds
The lender did not adequately document gift funds provided by a nonprofit. The settlement
statement reflected gift funds of $3,585 from the nonprofit and the associated funds from the
seller to the same nonprofit. The case binder contained the gift letter but did not include support
for the transfer of funds. Without additional gift fund documentation, such as the wire transfer
documents, the lender could not verify that the funds came from an allowable source.



                                                77
HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-10-C (appendix C – criteria 14)
Mortgagee Letter 2004-28 (appendix C – criteria 22)

Underreported Liabilities
The lender did not include a projected monthly obligation of $639 in the borrower’s financial
ratios. The credit report listed a deferred student loan payment of $639 per month, which was
deferred until December 2005. While HUD requires a lender to only include a recurring debt in
the financial ratios that will begin within 12 months of closing, the loan payment was significant
and was scheduled to begin only 13.5 months after closing. Considering the student loan
payment, the total debt ratio would have been 57 percent. Further, HUD regulations state that
simply establishing that a loan meets minimum standards does not necessarily constitute prudent
underwriting. The lender is still responsible for analyzing the borrowers' ability to repay the
mortgage.

Using the same gross earnings used by the lender, the borrower's student loan payment beginning
13.5 months after closing was 20 percent of the borrowers' combined monthly income of $3,212.
Additionally, based on the information provided regarding the coborrower's college education,
her student loan payments were to begin around the same time. The coborrower had more than
$24,000 in federal student loans. Additionally, based on the loan information the coborrower
provided, she should have been making monthly payments of at least $53 for accrued interest on
the loans. This amount was not included in the borrowers’ recurring liabilities.

HUD Requirements
HUD Handbook 4155.1, REV-5, chapter 2, section 2-11-C (appendix C – criteria 16)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-12 (appendix C – criteria 17)
HUD Handbook 4155.1, REV-5, chapter 2, section 2-5 (appendix C – criteria 23)




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