Issue Date December 17, 2008 Audit Report Number 2009-KC-1002 TO: Brian D. Montgomery, Assistant Secretary for Housing – Federal Housing Commissioner, H //signed// FROM: Ronald J. Hosking, Regional Inspector General for Audit, 7AGA SUBJECT: Clarion Mortgage Capital Did Not Fully Comply with HUD’s or Its Own Quality Control Requirements HIGHLIGHTS What We Audited and Why We reviewed the Leawood, Kansas, branch office of Clarion Mortgage Capital, a Federal Housing Administration (FHA)-approved loan correspondent. Our audit objective was to determine whether Clarion Mortgage Capital followed U.S. Department of Housing and Urban Development (HUD) requirements for implementing a quality control program. We audited Clarion Mortgage Capital because it had 87 percent more defaulted loans than the national average and a default-to-claim rate of 13.79 percent. Clarion Mortgage Capital’s Leawood, Kansas, branch office originated 376 FHA- insured loans between July 2006 and June 2008. What We Found Clarion Mortgage Capital did not fully comply with HUD’s or its own quality control process. It did not ensure that its quality control contractor reviewed loans within the proper timeframes. Also, it did not document on-site quality control reviews of the branch office and document corrective actions taken to address deficiencies identified in the quality control reports. What We Recommend We recommend that the Assistant Secretary for Housing – Federal Housing Commissioner verify that Clarion Mortgage Capital has fully implemented a quality control program that complies with HUD requirements. 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 Clarion Mortgage Capital agreed with our conclusions and to take corrective actions. We provided the draft report to the lender on December 2, 2008, and requested a response by December 16, 2008. It provided written comments on December 12, 2008. The complete text of the auditee’s response can be found in appendix A of this report. 2 TABLE OF CONTENTS Background and Objectives 4 Results of Audit Finding: Clarion Mortgage Capital Did Not Fully Comply with HUD’s or Its 5 Own Quality Control Requirements Scope and Methodology 7 Internal Controls 8 Appendixes A. Auditee Comments 9 B. Criteria 12 3 BACKGROUND AND OBJECTIVES Clarion Mortgage Capital was founded in 1996 as an affiliation of mortgage professionals based in Greenwood Village, Colorado. It has branch operations in five states. The Leawood, Kansas, branch office became a nonsupervised Federal Housing Administration (FHA)-approved lender on June 20, 2001. Clarion Mortgage Capital is an FHA loan correspondent that performed loan origination tasks such as taking the initial borrower application, ordering the property appraisal, conducting asset and employment verifications, and obtaining credit reports. The branch office originated FHA loans but various FHA-approved sponsoring lenders underwrote the loans and submitted them to FHA for insurance. Sponsors are FHA-approved direct endorsement lenders that underwrite loans originated by loan correspondents. Sponsors are responsible to HUD for the loan origination actions of their loan correspondents. From July 1, 2006, through June 30, 2008, Clarion Mortgage Capital’s branch in Leawood, Kansas, originated 376 FHA-insured loans, totaling more than $44.27 million. During this same period, 33 of the loans (8.78 percent) were at least 90 days delinquent. Our audit objective was to determine whether Clarion Mortgage Capital followed HUD requirements for implementing a quality control program. 4 RESULTS OF AUDIT Finding: Clarion Mortgage Capital Did Not Fully Comply with HUD’s or Its Own Quality Control Requirements Clarion Mortgage Capital did not ensure that its quality control contractor reviewed loans within the proper timeframe. Also, it did not document on-site quality control reviews of the Leawood, Kansas, branch office or the corrective actions taken to address deficiencies in the quality control reports. These issues occurred because Clarion Mortgage Capital did not effectively monitor its quality control contractor. Also, the lender’s managers were not aware of all HUD quality control requirements. As a result, Clarion Mortgage Capital could not ensure the accuracy, validity, and completeness of its loan origination operations, resulting in an increased risk to the FHA insurance fund. Quality Control Reviews Not Adequate and Documentation Not Always Accomplished Clarion Mortgage Capital did not fully comply with HUD’s or its own quality control requirements. HUD Handbook 4060.1, REV-2, establishes several basic elements that are required in all quality control programs. Appendix B provides the detailed HUD quality control requirements. Specifically, Clarion Mortgage Capital did not • Follow HUD’s requirements and ensure that its quality control contractor reviewed loans within 90 days from the end of the month in which the loan closed. The lender did not complete 8 of the 30 quality reviews within this time span. • Follow its own quality control requirements and ensure that its contractor reviewed loans within 90 days of closing. The contractor did not complete 17 the 30 quality controls reviews within the required timeframe. • Document on-site quality control reviews of the branch office. • Document corrective actions taken to address deficiencies identified in the quality control reports. In addition, Clarion Mortgage Capital’s corporate office provided quarterly quality control reports to branch office managers rather than monthly reports. 5 Branch office managers could have monitored loan origination deficiencies more effectively if they received more frequent feedback on their loan officers’ loan- processing activities. Contractor Not Monitored and Managers Unaware of All HUD Requirements Clarion Mortgage Capital’s main office, which centrally managed the quality control program, did not effectively monitor its quality control contractor. Senior management officials acknowledged their responsibility to require timely completion and return of quality control reviews from the contractor. Clarion Mortgage Capital managers were not aware of all HUD quality control requirements. A Clarion Mortgage Capital senior manager stated that management was not aware of the documentation requirements for the on-site branch quality control reviews and corrective actions taken to address deficiencies. Clarion Mortgage Capital Unable to Ensure Proper Loan Originations The lender was unable to ensure the accuracy, validity, and completeness of its loan origination operations. As a result, it might not identify potential deficiencies and make needed corrections in a timely manner, resulting in an increased risk to the FHA insurance fund. Recommendation We recommend that the Assistant Secretary for Housing – Federal Housing Commissioner 1A. Verify that Clarion Mortgage Capital has fully implemented a quality control program that complies with HUD requirements. 6 SCOPE AND METHODOLOGY To accomplish our objective, we reviewed Clarion Mortgage Capital’s quality control plan and quality control reports and interviewed its management officials. We also reviewed HUD’s and Clarion Mortgage Capital’s underwriting policies and procedures. Our audit period was July 1, 2006, through June 30, 2008. During this period, Clarion Mortgage Capital’s quality control contractor completed quality control reviews of 30 loans. We reviewed the quality control reports for all 30 to determine whether the quality control contractor • Completed the minimum number of loan reviews required. • Completed quality control reviews within 90 days from the end of the month in which the loan closed (HUD’s requirement) and within 90 days of closing (Clarion Mortgage Capital’s requirement). • Completed quality control reviews on early default loans. In addition, we determined whether Clarion Mortgage Capital’s management took prompt and appropriate actions to deal with material findings. During our audit period, Clarion Mortgage Capital’s Leawood, Kansas, branch office originated 376 FHA-insured loans. Of these loans, 33 loans became 90 days delinquent within the first two years. Initially, part of our objective was to determine whether Clarion Mortgage Capital followed HUD requirements for borrower eligibility and creditworthiness, and property eligibility when originating FHA loans. We reviewed the FHA loan binders and/or Clarion Mortgage Capital’s electronic loan files for 10 defaulted loans. We evaluated the loan origination and underwriting procedures performed on each loan and identified no reportable deficiencies. We relied on computer-processed data contained in HUD’s Single Family Data Warehouse system. During the audit, we assessed the reliability of the data and found it to be adequate. We also performed sufficient tests of the data, and based on the assessments and testing, we concluded that the data were sufficiently reliable to be used in meeting our objectives. We performed audit work from September through November 2008 at Clarion Mortgage Capital’s branch office at 10740 Nall Avenue, Suite 240, Leawood, Kansas. We performed our review in accordance with generally accepted government auditing standards. Those standards require that we plan and perform the audit to obtain sufficient, appropriate evidence to provide a reasonable basis for our findings and conclusions based on our audit objective. We believe that the evidence obtained provides a reasonable basis for our findings and conclusions based on our audit objective. 7 INTERNAL CONTROLS Internal control is an integral component of an organization’s management that provides reasonable assurance that the following controls are achieved: • Program operations, • Relevance and reliability of information, • Compliance with applicable laws and regulations, and • Safeguarding of assets and resources. Internal controls relate to management’s plans, methods, and procedures used to meet its mission, goals, and objectives. They include the processes and procedures for planning, organizing, directing, and controlling program operations as well as the systems for measuring, reporting, and monitoring program performance. Relevant Internal Controls We determined that the following internal controls were relevant to our audit objectives: • Controls to ensure that the lender implements a quality control program that complies with HUD requirements. 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 that the following item is a significant weakness: • Clarion Mortgage Capital did not have adequate controls in place to ensure that it followed HUD requirements when implementing its quality control program. 8 Appendix A AUDITEE COMMENTS 9 10 11 Appendix B CRITERIA HUD Handbook 4060.1, REV-2, paragraph 7-6A, states that loans must be reviewed within 90 days from the end of the month in which the loan closed. Clarion Mortgage Capital’s quality control plan states that loans must be reviewed within 90 days of the closing of the loan. HUD Handbook 4060.1, REV-2, paragraphs 7-3G and 7-3G(1), state that lenders’ offices, including traditional, nontraditional branch, and direct lending offices engaged in origination or servicing of FHA-insured loans, must be reviewed to determine whether they are in compliance with HUD’s requirements. The review must include but not necessarily be limited to confirmation of the following items: • The office is properly registered with FHA, and the address is current. • Operations are conducted in a professional, business-like environment. • If the office is located in commercial space, the office is properly and clearly identified for walk-in customers, has adequate office space and equipment, is in a location conducive to mortgage lending, and is separated from any other entity by walls or partitions (entrances and reception areas may be shared). • If the office is located in noncommercial space, the office has adequate space and equipment and displays a fair housing poster if the public is received. If it is open to receive the public, it must be accessible to persons with disabilities, including those with mobility impairments. If it is not open to the public but used occasionally to meet with members of the public, alternate means of accommodation may be used to serve persons with disabilities. • The servicing office provides toll-free lines or accepts collect calls from borrowers. • The office is sufficiently staffed with trained personnel. • Office personnel have access to relevant statutes, regulations, and HUD issuances and handbooks, either in hard copy or electronically. • Procedures are revised to reflect changes in HUD requirements, and personnel are informed of the changes. • Personnel at the office are all employees of the lender or contract employees performing functions that FHA allows to be outsourced. 12 • The office does not employ or have a contract with anyone currently under debarment, suspension, or a limited denial of participation. HUD Handbook 4060.1, REV-2, paragraph 7-3I, states that review findings must be reported to the lender’s senior management within one month of completion of the initial report. Management must take prompt action to deal appropriately with any material findings. The final report or an addendum must identify actions being taken, the timetable for their completion, and any planned followup activities. 13
Clarion Mortgage Capital Did Not Fully Comply with HUD's or Its Own Quality Control Requirements
Published by the Department of Housing and Urban Development, Office of Inspector General on 2008-12-17.
Below is a raw (and likely hideous) rendition of the original report. (PDF)