U.S. Department of Housing and Urban Development Office of Inspector General Region IX 611 West Sixth Street, Suite 1160 Los Angeles, CA 90017-3101 Voice (213) 894-8016 Fax (213) 894-8115 Issue Date February 9, 2011 Audit Report Number 2011-LA-1801 MEMORANDUM FOR: Teresa B. Payne, Associate Deputy Assistant Secretary, Office of Regulatory Affairs and Manufactured Housing, HE Vicki B. Bott, Deputy Assistant Secretary for Single Family Housing, HU FROM: Tanya E. Schulze, Regional Inspector General for Audit, Region IX, 9DGA SUBJECT: Review of Compliance With the Real Estate Settlement Procedures Act by DHI Mortgage, LTD, and Its Closing Agents INTRODUCTION We reviewed Federal Housing Administration (FHA)-insured loan settlement documents from two branches of DHI Mortgage Company, LTD (DHI Mortgage), in Arizona. During a previous audit of loan origination by the same branches (audit report number 2009-LA-1018), there was information indicating that the Real Estate Settlement Procedures Act (Act) might have been violated; however, we were unable to report on the issue at the time. Our review followed up with the objective to determine whether DHI Mortgage FHA branch numbers 0524200180 and 0542400332 charged borrowers for services and disclosed settlement charges in accordance with the Act‘s and the U.S. Department of Housing and Urban Development‘s (HUD) requirements. We issued a discussion draft report on August 5, 2010, and solicited comments from the auditee as well as HUD officials. As a result of those comments, we made significant changes to our draft report and omitted the referrals. The report conveys our concerns regarding the potential noncompliance with certain sections of the Act, irrespective of the responsible parties. SCOPE AND METHODOLOGY We reviewed title files corresponding to 4681 FHA-insured loans with beginning amortization dates from October 1, 2006, to September 30, 2008, originated by DHI Mortgage FHA branch numbers 0542400180 and 0542400332, both now closed. Generally, the review was limited to examination of the settlement statement (HUD-1); file balance sheet or disbursements summary; and schedule A to purchase contract, declaration of covenant restricting rental or resale of property, or equivalent documents. We also reviewed underwriting documentation in the lender/FHA loan files for 34 of these FHA-insured loans, which was a nonrepresentative sample based on the existence of loan defaults and claims. We reported the results of the underwriting review for these loans in HUD Office of Inspector General (OIG) audit report number 2009-LA- 1018. To accomplish our objective, we Reviewed the Act. Reviewed HUD regulations and reference materials related to the Act and FHA single- family mortgage insurance program requirements. Reviewed DHI Mortgage‘s processing, underwriting, and settlement policies and procedures. Reviewed 34 DHI Mortgage loan files. Reviewed 468 title files corresponding to the 481 loans originated in our audit period. Documents reviewed were generally limited to the (1) HUD-1; (2) file balance sheet or disbursements summary; and (3) schedule A to purchase contract, declaration of covenant restricting rental or resale of property, or equivalent. Considered written and oral comments on the discussion draft report provided by the auditee, HUD officials responsible for oversight and enforcement of the Act, and counsel in HUD Office of General Counsel and OIG‘s Office of Legal Counsel. We conducted our fieldwork at DHI Mortgage‘s Tucson and Scottsdale, AZ, branch offices between December 2008 and March 2009. BACKGROUND DHI Mortgage is a nonsupervised lender2 approved June 8, 1981, to originate FHA loans. It currently originates FHA loans under the lender insurance program.3 The company is a wholly owned subsidiary of D.R. Horton, Inc., a national residential home builder, and provides mortgage financing services principally to purchasers of homes built by D.R. Horton, Inc. DHI 1 Although we attempted to review all 481 loans originated during our review period, we did not receive 13 title files and, therefore, did not conduct a review of those loans. This limitation did not affect the results of our review. 2 A nonsupervised lender is a HUD/FHA-approved lending institution that has as its principal activity the lending or investment of funds in real estate mortgages and is not a supervised lender, a loan correspondent, a governmental institution, a government-sponsored enterprise, or a public or State housing agency and has not applied for approval for the limited purpose of being an investing lender. 3 HUD‘s lender insurance program allows lenders to self-insure FHA loans and submit only those case binders (paper or electronic) requested for review by HUD. HUD requests approximately 6 percent of insured loans for review. 2 mortgage generally closed its loans using the services of various settlement agents; however, for the majority of loans in this review, DHI Mortgage primarily used an affiliated title company and one other independent title company. DHI Mortgage headquarters is at 12357 Riata Trace Parkway, Suite C-150, Austin, TX, and the company has branches in 19 States. RESULTS OF REVIEW 1. Home Buyers May Have Been Charged Ineligible Settlement Fees or Service Charges The Act is a HUD consumer protection statute enacted by Congress in 1974 to protect the American home-buying public from unreasonably and unnecessarily inflated prices in the home- buying process and is enforced by HUD through regulations promulgated at 24 CFR (Code of Federal Regulations) Part 3500. The Act requires that consumers receive disclosures at settlement in a prescribed manner and that settlement charges be only for goods and services actually furnished. Accordingly, regulations at 12 CFR 3500.14(c) do not allow charges for which no or nominal services are performed or which are duplicative. Fees that violate HUD regulations are ineligible to be charged to borrowers of FHA-insured mortgages. HUD Mortgagee Letter 2006-04 allows lenders to charge and collect customary and reasonable costs necessary to close the mortgage. It restricts the fees, in general, to the actual cost for the service and limits the origination fee to 1 percent of the loan balance at settlement for forward mortgages.4 This mortgagee letter also notes that ―all fees and charges must comply with Federal and State disclosure laws and other applicable laws and regulations.‖ Excess Origination Fees DHI Mortgage charged FHA borrowers for services that appeared to duplicate services covered by the origination fees. We questioned whether charging apparent duplicative fees effectively caused the originations fees to exceed the 1 percent limit applicable at the time. 5 The origination fee (also called an underwriting fee, administrative fee, or processing fee) is charged by the lender for evaluating and preparing the mortgage loan. In a number of instances, DHI charged borrowers fees labeled as document preparation, underwriting, administrative, processing, and/or application fees (or a variation thereof) in addition to an origination fee charge, resulting in an aggregate total that exceeded 1 percent of the loan value. The auditee‘s response disagreed with our interpretation of the 1 percent limit and noted that Mortgagee Letter 2006-04 specifically permits a lender to charge and collect from the borrower those customary and reasonable costs necessary to close the mortgage. The response also noted that ―the services covered by the Application and Administration Fee arguably could be considered services covered as part of the administration process. Therefore, DHIM is in the process of refunding the Application and Administration Fee charged to the borrowers‖ on 11 loans. Although we do not consider the matter settled 4 All of the loans reviewed were forward mortgages. A forward mortgage is a mortgage in which the balance of the mortgage decreases over time. 5 For the years in our review period and until January 1, 2010, 24 CFR 203.27 allowed an origination charge of up to 1 percent of the loan value. 3 and are uncertain of how the auditee distinguished between charges that were duplicative and those that were not, we accept DHI Mortgage‘s voluntary effort to address the issue. We have decided to not refer the issue and note that HUD revised regulations in November 20086 to remove the 1 percent limit on origination fees and allow a single ―origination charge‖ that ―must include any amounts received for origination services, including administrative and processing services, performed by or on behalf of the loan originator.‖ Escrow Charges Almost 20 percent of the settlement statements contained charges to borrowers for recording fees and/or e-mail document and delivery (courier, messenger, overnight, and special) fees. Because the (mostly even dollar) amounts varied widely in some cases and appeared excessive for services such as e-mails, we questioned whether the amounts charged represented actual costs for the services in accordance with Mortgagee Letter 2006-04. The auditee‘s response stated that the closing agents charged these fees in accordance with escrow rate schedules filed with the State of Arizona to comply with Arizona Revised Statutes, section 6-846.01. The response also stated that the filed rates were evidence that ―it is customary to charge a flat escrow service fee for the couriering of documents.‖ Our follow-up review of the escrow rate schedules filed by the title companies with the Arizona Department of Financial Institutions generally supported that the charges we had questioned agreed with the rates on file. The Arizona Revised Statutes, title 6, section 846, required escrow agents to file their rate schedule with the Arizona Department of Financial Institutions and further stated that an escrow agent may not deviate from his escrow rates that are in effect. State officials confirmed that penalties would be applied for undercharges as well as overcharges. Although in many cases the closing files we reviewed contained no charges for these services, State officials noted that this practice was acceptable if the title company had filed a bundled rate schedule.7 We continue to question charges that did not agree with the applicable rate schedules. We also question whether the rates filed under the Arizona statute would be found allowable as customary and reasonable costs (see OIG‘s response to auditee‘s comments in appendix A) or whether this criterion should have been applied when an outside party provided the services. Because HUD‘s revised regulations6 generally changed the criteria for allowable charges, we have determined that further pursuit of the matter would not be warranted. 6 ―Real Estate Settlement Procedures Act: Rule to Simplify and Improve the Process of Obtaining Mortgages and Reduce Consumer Settlement Costs; Final Rule.‖ Federal Register 73 (17 November 2008): 68227, 68239, 68244, and 68276 7 During our review, it appeared that there was no straightforward way to tell whether a particular fee had been bundled as of a specific date. Further, enforcement of the rates for the related services was complicated by years of disorganized rate filings on the part of one title company. 4 Lender’s Inspection Fees DHI Mortgage charged eight FHA borrowers lender‘s inspection fees that appeared to duplicate appraisal fees, costing home buyers an additional $595 to close on their homes. For FHA-insured loans, an appraisal must be completed, but a lender inspection is not required. FHA appraisals generally evaluate everything and more than a lender‘s inspection would cover. In all eight cases, an appraisal fee was charged in addition to the lender‘s inspection fee, which appeared to be for the same service. Further, since DHI Mortgage officials did not consistently charge lenders‘ inspection fees to borrowers (8 of 468 borrowers were charged), the fees were not customary as required by the Mortgagee Letter 2006-04 fee requirements. DHI Mortgage reviewed the documentation for these loans and provided support for three of the lender inspection fees. It volunteered to refund to the borrowers amounts for the fees that should not have been charged for the other five loans. 2. We Questioned Whether Fees Net Funded by the Lender Were Properly Disclosed The regulations for the Act listed at 24 CFR Part 3500, appendix A, require that, ―The settlement agent shall complete the HUD-1 to itemize all charges imposed upon the Borrower and the Seller by the Lender, and all sales commissions, whether paid at settlement or outside of settlement, and any other charges which either the Borrower or the Seller will pay for at settlement. Charges to be paid outside of settlement…shall be included on the HUD-1 but marked ‗P.O.C.‘ for ‗Paid Outside of Closing‘ (settlement) and shall not be included in computing totals. P.O.C. items should not be placed in the Borrower or Seller columns, but rather on the appropriate line next to the columns.‖ We questioned a number of instances in which HUD-1s included amounts for items such as appraisals and credit reports in the settlement totals but the disbursement records showed no disbursement to the service provider (indicating that the items might have been paid outside of closing). DHI Mortgage stated in its response that it net funded certain borrower charges at closing and, therefore, properly included the charges in the HUD-1totals without a corresponding settlement disbursement. This situation occurred because DHI Mortgage had already paid the charges for items such as appraisals and credit reports through its standard corporate accounts payable system and the borrowers paid the third party ―through DHIM [DHI Mortgage] the amount charged for the service at the time of settlement‖ (see Auditee Response, appendix A). We agree that, in cases that were net funded, the borrower actually paid for the services at the time of closing and, therefore, the charges should not be marked ―P.O.C.‖ or omitted from the computed totals. However, we question whether in all cases reviewed, the charges were properly itemized as required by the regulations. Under section L, Settlement Charges, the regulations also state that ―for all items except those paid to and retained by the Lender, the name of the person or firm ultimately receiving the payment should be shown.‖ Therefore, for cases with facts consistent with net funding as described in the auditee‘s response, omission of the outside service provider‘s name appeared to be noncompliant with the regulations. The settlement documents were too inconsistent to allow a determination in each instance regarding whether DHI received and retained payment for items (because there was no outside service provider to disclose). 5 As a result of the net funding practice and inconsistent identification of third-party service providers, we could not conclude whether all of the transactions were net funded and/or were reported in compliance with regulations. Further, unless we examined the auditee‘s corporate accounts payable, we would not be able to determine compliance with FHA regulations at 24 CFR 203.27 that do not allow lenders to collect more than the amount actually paid for an outside appraisal.8 We believed that the pattern of many questionable disclosures warranted referral to HUD for further review of compliance with the Act and related regulations. However, our preliminary discussions of the matter with HUD officials knowledgeable in the field did not provide a consensus regarding this issue. Further, the Act‘s statute of limitations has expired for many cases; therefore, we do not plan to pursue this matter further. It should be noted that the challenges we encountered while applying the Act and its regulations raised concerns regarding how well the Act served its purpose to inform and protect the consumer or whether instances of noncompliance could be detected and prosecuted. It remains to be seen whether the revised regulations issued in November 2008 successfully addressed these challenges. 3. Names of Individuals Who Ultimately Received Payments for Apparent Real Estate Commissions Were Not Disclosed on the HUD-1 Real estate commissions disbursed at settlement were not all disclosed on the HUD-1 in 35 instances. Regulations at 24 CFR Part 3500, appendix A, required that, ―For all items except for those paid to and retained by the Lender, the name of the person or firm ultimately receiving the payment should be shown‖ and ―Lines 701–702 (of the HUD-1) are to be used to state the split of the commission where the settlement agent disburses portions of the commission to two or more sales agents or brokers.‖ In these cases, the total real estate commission paid for the transaction was listed on the HUD-1 in the 700 series as payable to one entity, generally the real estate broker. However, at settlement, separate checks were issued to up to five different entities and/or individuals. In its response to our discussion draft report, the auditee stated that the settlement agents had followed instructions set forth in the commission disbursement authorizations received from the real estate brokers regarding how to disburse the real estate proceeds and, further, in no case was the amount of commission disbursed in accordance with the instructions different from the [total] amount of commission owed to the real estate broker as evidenced on the HUD-1. The auditee‘s response stated that the settlement company issued separate checks as a courtesy to the real estate brokerage firms and that this was a customary practice to avoid the need for and cost of additional processing internally by the brokerage company once the commission was received. The response further asserted that the HUD-1only needed to disclose the names of the real estate brokers who were due the commissions earned for services performed. However, we believe it could be argued that the regulations meant for all settlement disbursements of commissions to be disclosed to the borrower on the HUD-1, so that the borrower was informed of who [ultimately] profited from the sales transaction. HUD officials did not provide a consensus on this matter and, therefore, we are not recommending corrective action. 8 HUD‘s regulations for the FHA single-family insurance program at 24 CFR 203.27(a) state that, ―The mortgagee may collect from the mortgagor the following charges, fees or discounts… (3) Reasonable and customary amounts, but not more than the amount actually paid by the mortgagee, for any of the following items: …(v) Fees paid to an appraiser or inspector approved by the Commissioner for the appraisal and inspection, if required, of the property.‖ (Reasonable amounts are allowed for mortgagee staff appraisers.) 6 CONCLUSION The affected home buyers were potentially overcharged fees—which may have increased the cost of home ownership—and/or were uninformed about who received payments related to settlement or when payments for settlement charges were made to service providers. We concluded that the disclosures in the HUD-1s we reviewed were inadequate to fully inform the borrowers regarding these settlement charges and that the many loans with questionable settlement charges amounted to a pattern of questionable disclosures. Therefore, a review of the supporting documentation by HUD officials was warranted to determine whether requirements of the Act and other regulations had been satisfied. Although we discussed the draft report and auditee‘s comments with various HUD officials, we did not obtain a consensus and could not establish the likelihood of enforcement if noncompliance were determined. Further, since our audit period, HUD has revised the applicable regulations in an effort to improve some of the disclosure issues we questioned. Lastly, with future plans to transfer the responsibility to administer the Act outside HUD, we are not making recommendations for further corrective action. We are hopeful that the Act‘s current and future regulations and new administration9 will improve its effectiveness and enforceability in respect to the consumer. RECOMMENDATIONS There are no recommendations with this report. 9 The responsibility to administer the Act will be moved to the Bureau of Consumer Financial Protection established under the Dodd-Frank Wall Street Reform and Consumer Protection Act (2010) with the transfer effective July 21, 2011. 7 Appendix A AUDITEE COMMENTS AND OIG’S EVALUATION Ref to OIG Evaluation Auditee Comments 8 Comment 1 Comment 2 Comment 8 9 Comment 3 10 Comment 1 11 Comment 4 Comment 7 12 Comment 5 Comment 6 13 Comment 6 14 Comment 1 Comment 7 15 Comment 1 Comment 7 Comment 8 16 Comment 8 17 Comment 9 Comment 10 Comment 9 18 Comment 9 Comment 1 19 OIG Evaluation of Auditee Comments Comment 1 The auditee‘s response noted that in many instances, the draft report referred to charges imposed by DHI Mortgage when, in fact, the charges were imposed by third parties. We agreed that many of the charges were imposed by the closing agents and revised the report to deemphasize responsibility for compliance. We note that HUD officials we asked to review the discussion draft would not provide definitive guidance (based solely on the information reviewed for this report) regarding the lender‘s and/or closing agents‘ responsibilities to ensure that the settlement statements in these cases complied with the Act and related regulations. Comment 2 The auditee‘s response asserted that in cases in which the borrowers paid for the credit report and appraisal services at closing, designating the charges as ―P.O.C.‖ would have been a misrepresentation. We agreed, while noting that the settlement documents we reviewed displayed these charges inconsistently. Also see comment 8. Comment 3 The auditee‘s response asserted that the ―ABC‖ and ―MTV‖ fees were not inappropriate. We agreed that if the borrower signed a contractual agreement that allowed such charges, these commission payments were appropriately included in the settlements. We revised the report to exclude this issue. Comment 4 We revised the report to incorporate the auditee‘s comments and acknowledged that most of the e-mail loan document fees agreed with the escrow charge schedules filed with the State by the title companies. Also see comment 7. Comment 5 We agreed that documentation provided in exhibit C (provided by DHI Mortgage) supported the lender inspection fee for three FHA cases. We revised the report to reflect this fact and to acknowledge DHI Mortgage‘s expressed intent to refund the ineligible inspection fees charged for the remaining five FHA cases. Comment 6 We agreed with the auditee‘s response that Mortgagee Letter 2006-04 permits lenders to ―charge and collect from mortgagors those customary and reasonable costs necessary to close the mortgage….[borrowers] may not be charged an origination fee greater than one percent on forward mortgages...‖ We also agree with DHI Mortgage that Mortgagee Letter 2006-04 does not state that reasonable and customary fees charged by the lender plus the origination fee may not exceed an aggregate total that exceeds 1 percent of the loan total. However, our draft finding also asserted that the document preparation, underwriting, administrative, processing, and/or application fees (or a variation thereof) duplicated services covered by the origination fee. We revised the report to acknowledge that the auditee agreed that certain fees were arguably duplicative and planned to refund $2,734 in Application and Administration Fees charged to borrowers on 11 loans (see page 6 of the 20 Auditee‘s Response, appendix A). However, the auditee‘s planned action did not address the $14,405 in other potentially duplicative fees charged to 42 borrowers. We disagree with the auditee‘s response which stated ―fees charged for underwriting, processing and document preparation are services which are distinctly separate from the costs incorporated in the loan origination fee.‖ Contrary to this assertion, HUD‘s revised guidelines (regulations) did not acknowledge these services were distinctly separate from the loan origination fee. Rather, its revised regulations issued in 200810 stated that the ―improvements to the disclosure requirements…should make total loan charges more transparent and allow market forces to lower these charges for all borrowers, including FHA borrowers.‖ Further, in its final regulatory flexibility analysis of the final rule, HUD noted that fees like those we questioned were often referred to as junk fees. Specifically, under the discussion of costs of implementing the new good faith estimate (GFE) form (which matches up the categories of settlement charges with those on the new HUD-1), HUD stated, ―The reduction in the itemization of fees will lead to fewer unrecognizable items on the new GFE.‖37 Footnote 37 further states that ―[t]he fees in the lender-required and selected services section will still be itemized (e.g., appraisal, credit report, flood certificate, or tax service) as will those in the lender-required and borrower selected section (e.g., survey or pest inspection). There will, however be no itemization or long lists of various sub- tasks of lender fees or title fees, often referred to as junk fees.‖ (underlined by OIG) Accordingly, we do not consider the finding regarding the remaining fees of $14,405 to be cleared, but have decided not to refer the issue. Under the new requirements, lenders are not permitted to add on such junk fees and argue that services such as underwriting are not included under loan origination. Comment 7 We revised the report to incorporate the auditee‘s comments and acknowledged that most of the courier and recording fees agreed with the escrow charge schedules filed with the State by the title companies. However, for the following reasons, we were not persuaded that the filing of fee schedules according to the State requirements constituted an accepted practice that was, therefore, compliant with FHA requirements. First, the courier and recording fees appeared to be for third-party vender services, and the mortgagee letter (2006-04) clearly stated, ―FHA will not allow ‗mark-ups,‘ i.e., charging a fee to the mortgagor for an amount greater than that charged the mortgagee by the service provider; only the actual cost for the service may be charged the mortgagor.‖ Therefore, to the extent to which any scheduled fee exceeded an actual charge, the fee would be noncompliant. Second, we disagree with the assertion in the auditee‘s response that in its revised rules for the Act (which do not apply to our audit period), HUD 10 ―Real Estate Settlement Procedures Act: Rule to Simplify and Improve the Process of Obtaining Mortgages and Reduce Consumer Settlement Costs; Final Rule.‖ Federal Register 73 (17 November 2008) 21 was, in effect, following the practice and direction previously put in place by the State of Arizona. Although the State does provide for a rate review at the time of filing, the required support/justification for a proposed rate is not similar to the average cost pricing prescribed in HUD‘s revised rule and is less protective to the consumer. Specifically, the Arizona statute allows the following rate justifications: 1. The experience or judgment of the escrow agent making the filing. 2. The escrow agent‘s interpretation of any statistical data on which the agent relied. 3. The experience of other escrow agents. 4. Any other factors that the escrow agent deems relevant. In contrast, HUD‘s revised regulations specify that ―[t]he amount stated on the HUD-1 or HUD-1A for any itemized service cannot exceed the amount actually received by the settlement service provider for that itemized service, unless the charge is an average charge in accordance with paragraph (b)(2) of this section.‖ Paragraph (2), Use of Average Charge, goes on to list specific requirements for the calculation of the average charge, including items such as specification of a particular class of transactions, a period of not less than 30 calendar days and not more than 6 months, a geographic area, loan type, etc. Paragraph (2) also specifies that the settlement service provider must use the same average charge in every transaction within that class for which a GFE was provided and maintain documentation for 3 years and that a violation of any of the requirements will be deemed to be a violation of section 4 of the Act. Comment 8 See comment 2. While we agreed that if charges were net funded as described in the auditee‘s response, these charges were appropriately included in the settlement totals, we note that the auditee‘s response did not submit documentation to support this assertion. In particular, the manner in which service charges were displayed on the HUD-1 and the disbursement sheets was inconsistent from one loan to the next. Further, the disclosures in specific case files frequently omitted information such as the amount of the charge and the service provider.11 We revised the report to incorporate this point and note that without, for example, an appraisal amount, we could not determine whether the amount charged for the appraisal appeared excessive. In addition, we revised the report to question whether the service providers and related fees were appropriately itemized. Because of the many instances in which the disclosures were questionable, we continue to believe that this area warrants review by legal or regulatory officials. Comment 9 We revised the report to acknowledge the auditee‘ response that asserted real estate commissions were properly disclosed on the HUD-1s and that settlement disbursements that split these commissions among additional parties were a 11 Depending on the circumstances, the requirement could vary from loan to loan. For example, if the lender itself provided the service, the requirements may be different. 22 customary practice unrelated to the real estate transactions. However, we continue to question the auditee‘s interpretation of the pertinent regulations as well as the appropriateness of making such ―customary‖ distributions as part of the settlement process. The HUD officials we asked to informally comment on the draft report did not explain why they agreed or disagreed with the auditee‘s response, and therefore we did not recommend corrective action. Comment 10 The auditee‘s response stated that for 2 of the 35 FHA cases cited in the report, only one commission disbursement was made. However, the closing documents we received from the corresponding title company showed multiple disbursements for both of these cases; therefore, the report was not revised to omit them. 23
Review of Compliance With the Real Estate Settlement Procedures Act by DHI Mortgage, LTD, and Its Closing Agents
Published by the Department of Housing and Urban Development, Office of Inspector General on 2011-02-09.
Below is a raw (and likely hideous) rendition of the original report. (PDF)