oversight

The City of Modesto, CA Did Not Always Comply with Neighborhood Stabilization Program 2 (NSP2) Requirements

Published by the Department of Housing and Urban Development, Office of Inspector General on 2011-12-22.

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

                                                                 Issue Date
                                                                          December 22, 2011
                                                                 Audit Report Number
                                                                              2012-LA-1003




TO:        Maria F. Cremer, Acting Director, San Francisco Office of Community Planning
           and Development, 9AD

           Craig T. Clemmensen, Director, Departmental Enforcement Center, CACB



FROM:      Tanya E. Schulze, Regional Inspector General for Audit, Region IX, 9DGA

SUBJECT: The City of Modesto, CA, Did Not Always Comply With Neighborhood
         Stabilization Program 2 Requirements

                                 HIGHLIGHTS

 What We Audited and Why

            We completed a review of the City of Modesto’s Neighborhood Stabilization
            Program 2 (NSP2). We performed the review because it was part of the Office
            of Inspector General’s (OIG) audit plan to conduct audits of NSP2 under the
            American Reinvestment and Recovery Act of 2009. We selected the City
            because it received $25 million and HUD’s San Francisco Office of
            Community Planning and Development requested that OIG consider a review
            of the City.

            Our objective was to determine whether the City administered its NSP2 grant
            in accordance with HUD requirements. Specifically, we focused on whether
            the City administered the program to ensure that developers used program
            funds for eligible acquisition and rehabilitation costs. The audit scope did not
            include tenant or homeowner eligibility and occupancy.
What We Found


           Program funds were not always used for eligible costs to acquire and
           rehabilitate properties. Specifically, the City approved ineligible project
           management fees and unsupported expenditures totaling $56,130 during
           rehabilitation. In addition, a city council member and a principal of one
           developer violated HUD’s and the City’s requirements when a company they
           co-own collected a commission of $62,500 in an NSP2 property purchase
           transaction. Lastly, the City used program funds of $51,936 to pay
           inappropriate real estate commissions based on unsigned addenda to purchase
           agreements.

What We Recommend


           We recommend that the Acting Director of HUD’s San Francisco Office of
           Community Planning and Development require the City to (1) adjust the loan
           amounts and developer contribution amounts for each of the properties affected
           by the $47,976 in ineligible project management fees and the $8,154 in
           unsupported rehabilitation costs and (2) reimburse its NSP2 grant $51,936
           using non-Federal funds for the ineligible real estate commissions paid based
           on unsigned addenda to purchase agreements.

           We also recommend that the Director of HUD’s Departmental Enforcement
           Center take administrative action against the city council member for the
           conflict-of-interest violation.

           For each recommendation without a management decision, please respond and
           provide status reports in accordance with HUD Handbook 2000.06, REV-4.
           Please furnish us copies of any correspondence or directives issued because of
           the audit.

Auditee’s Response


           We provided the City a discussion draft report on November 28, 2011, and
           held an exit conference with appropriate officials on December 1, 2011. The
           City provided written comments on December 12, 2011, and generally agreed
           with our findings.

           The complete text of the City’s response, along with our evaluation of that
           response, can be found in appendix B of this report. The City also provided
           numerous attachments, which were too voluminous to include in the report;
           however, they are available upon request.




                                          2
                             TABLE OF CONTENTS

Background and Objective                                                              4

Results of Audit
Finding 1: The City Approved Ineligible and Unsupported Costs During Rehabilitation   5

Finding 2: One NSP2 Developer and a City Council Member Violated the Conflict-of-     8
           Interest Requirements in an NSP2 Property Purchase Transaction

Finding 3: The City Approved Ineligible Real Estate Commissions                       10

Scope and Methodology                                                                 12

Internal Controls                                                                     13

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                                                                  19
       D.   Schedule of Ineligible and Unsupported Costs                              21
       E.   Summary of Property Information                                           22




                                             3
                     BACKGROUND AND OBJECTIVE

The Neighborhood Stabilization Program 2 (NSP2) was authorized under Title XII of
Division A of the American Recovery and Reinvestment Act of 2009 and provided 56 grants
nationwide on a competitive basis totaling $1.93 billion. The grants went to one State, local
governments, nonprofits, and consortia of public or private nonprofit entities. This program
was established to stabilize neighborhoods, the viability of which had been damaged by the
economic effects of properties that were foreclosed upon or abandoned.

The U.S. Department of Housing and Urban Development (HUD) awarded $25 million in
NSP2 funding to the City of Modesto and executed the grant agreement with the City on
February 11, 2010. The grant agreement requires the City to expend 50 percent of the grant
by February 11, 2012, and expend 100 percent of the grant by February 11, 2013.

According to the City’s action plan, NSP2 funding will be used to purchase and rehabilitate
foreclosed-upon or abandoned residential properties and then rent or resell these properties to
income-eligible households. The City expected to accomplish three major objectives: (1)
stabilize the housing market in the City, (2) create jobs through the rehabilitation work, and
(3) provide an opportunity for home ownership to many who might not have that opportunity
otherwise.

Activity                        Responsible entity                         NSP2 funds
Buying and rehabilitating       For-profit and nonprofit                  $10,500,000
residential properties for      developers
rental or home ownership by
households with incomes of      Stanislaus Community                       $4,500,000
up to 120% of the area          Assistance Project
median income
Buying and rehabilitating       Housing Authority of the                   $6,000,000
residential properties for      County of Stanislaus
rental or home ownership by
households at or below 50%      Stanislaus Community                       $1,500,000
of the area median income       Assistance Project
Program administration          City                                       $2,500,000
Total                                                                     $25,000,000

Our objective was to determine whether the City administered its NSP2 grant in accordance
with HUD requirements. Specifically, we focused on whether the City administered the
program to ensure that developers used program funds for eligible acquisition and
rehabilitation costs. The audit scope did not include tenant or homeowner eligibility and
occupancy.




                                               4
                                RESULTS OF AUDIT

Finding 1: The City Approved Ineligible and Unsupported Costs
           During Rehabilitation
The City used NSP2 funds for ineligible project management fees and unsupported
rehabilitation costs for one developer and its affiliated general contractor. This deficiency
occurred because the City did not follow HUD’s or its own requirements. As a result, the
rehabilitation costs and corresponding loans to the developer were inflated, and $56,130 in
NSP2 funds was not available for other eligible expenditures.


 The City’s NSP2 Program
 Design


               Although the City attempted to design its program in accordance with HUD
               requirements and guidelines for acquisition and rehabilitation of NSP2
               properties, there were ineligible and unsupported costs during rehabilitation.
               One of the for-profit developers, Trinity Ventures RE II, used a company
               owned by one of its principals, Trinity Renovation, Inc., as its general
               contractor. HUD has no requirement that specifically prohibits such an
               arrangement. However, the conflict-of-interest clause in the City’s
               memorandum of understanding with developers prohibits this arrangement. It
               states, “No board member, officer, owner or employee of Developer shall have
               any personal interest, direct or indirect, in this MOU [memorandum of
               understanding]. No board member, officer or employee of Developer shall
               have, receive, accept or derive any pecuniary interest, direct or indirect, from
               this MOU or any CDBG [Community Development Block Grant] NSP2 Loan
               made to purchase eligible property” (see appendix C). When we identified the
               issue, the City stated that it believed that the conflict-of-interest clause was
               written incorrectly in the for-profit developer memorandums of understanding
               and it was inconsistent with the regulatory and loan agreements; thus, the
               clause could not be enforced. As a result, the City planned to amend the
               memorandum to remove and replace the conflict-of-interest clause to conform
               to HUD requirements.

               HUD allows grantees to engage subrecipients and developers to assist in the
               acquisition and rehabilitation of eligible properties under NSP2. Developers
               are distinctly different from subrecipients in that developers may earn a
               developer fee. Developers are also not held to the same level of procurement,
               record-keeping, or audit requirements as subrecipients. Because of this
               flexibility, HUD put the burden on the grantees to structure programs to avoid
               undue enrichment of developers. For instance, grantees were encouraged to



                                               5
            structure assistance to developers that undertook acquisition or rehabilitation as
            loans rather than grants (see appendix C).

            The lack of an arm’s-length transaction led to Trinity Ventures RE II and
            Trinity Renovation, Inc., having collectively received undue enrichment for
            eight of the developer’s nine rental properties. This enrichment included a
            developer fee that amounted to 5 percent of the rehabilitation budget, a project
            management fee, a project supervision fee, and a 20 percent markup for
            subcontractors’ rehabilitation work.

Ineligible and Unsupported
Costs


            While developers are permitted to charge a developer fee, HUD’s NSP Policy
            Alert, dated August 27, 2010 and updated on November 16, 2011, prohibited
            developers from double-dipping by both collecting a developer fee and
            charging a project management fee (see appendix C). The City approved
            ineligible project management fees for eight of nine Trinity Ventures RE II
            properties. The project management fees amounting to $47,976 were ineligible
            because the City had already paid a developer fee that equaled 5 percent of the
            rehabilitation budget for each of eight properties (see appendix D). For
            instance, Trinity Ventures RE II received $6,340 in project management fees
            for one property for which it had previously collected a $1,712 developer fee.

            The City also approved rehabilitation invoices from Trinity Ventures RE II
            without requiring adequate supporting documentation. Invoices showed
            rehabilitation costs charged by Trinity Renovation, Inc., but did not always
            include adequate documentation to support the rehabilitation costs invoiced.
            For instance, there were invoices showing project supervision costs and other
            subcontractors’ work with a 20 percent markup by Trinity Renovation, Inc.,
            but no documentation other than the invoice was provided.

            The City’s NSP2 loan agreement required the developer, as the borrower, to
            “…prepare and retain all pertinent books, records, and documents sufficient to
            reflect all costs incurred by Borrower for which funds are sought in accordance
            with HUD and NSP2 Program requirements. City and/or HUD may inspect
            such writings and carry out such monitoring and evaluation which will, at
            minimum, ensure that Borrower is in compliance with the terms of this NSP2
            Loan Agreement.” It further required that the borrower (developer)
            “…maintain complete books of accounts and other records for expenses
            incurred under this NSP2 Loan Agreement, including personal property,
            personnel and financial records. Borrower’s records shall accurately and fully
            show the date, amount, purpose, and payee of all expenditures incurred” (see
            appendix C).




                                            6
Conclusion

             The City did not follow HUD’s or its own requirements when it approved
             $47,976 in ineligible project management fees and $8,154in unsupported
             rehabilitation costs. As a result, the rehabilitation costs and corresponding
             rehabilitation loans for Trinity Ventures RE II’s eight properties were inflated
             by these questioned costs, and the developer received undue enrichment (see
             appendix D).


Recommendations


             We recommend that the Acting Director of HUD’s San Francisco Office of
             Community Planning and Development require the City to:

             1A.    Adjust the loan amount and developer contribution amount for each
                    property affected by the $47,976 in ineligible project management fees
                    and ensure that the City only draws down the appropriate amounts from
                    its NSP2 grant from HUD.

             1B.    Provide documentation to support the $8,154 rehabilitation costs
                    incurred by Trinity Ventures RE II and Trinity Renovation, Inc., or
                    adjust the loan amount and developer contribution amount for each
                    property affected by the unsupported rehabilitation costs and ensure
                    that the City only draws down the appropriate amounts from its NSP2
                    grant from HUD.




                                             7
Finding 2: One NSP2 Developer and a City Council Member
           Violated the Conflict-of-Interest Requirements in an NSP2
           Property Purchase Transaction
A city council member and one of the developers violated conflict-of-interest requirements of
both HUD and the City in one multifamily property acquisition. Specifically, the real estate
company co-owned by the city council member and a principal of the developer collected a
real estate commission from the purchase transaction. This condition occurred because the
city council member and the developer did not disclose the relationship with the real estate
company. This deficiency resulted in the real estate company’s collecting an inappropriate
$62,500 in commissions from the seller.



 Conflict of Interest


              HUD’s conflict-of-interest regulations at 24 CFR (Code of Federal
              Regulations) 570.611 state that no persons who are employees, officers, or
              elected or appointed officials of the recipient, who are in a position to
              participate in a decision-making process or gain inside information with regard
              to such activities, may obtain a financial interest or benefit from a CDBG-
              assisted activity or have a financial interest in any contract, subcontract, or
              agreement with respect to a CDBG-assisted activity, either for themselves or
              those with whom they have business ties, during their tenure or for 1 year
              thereafter. In addition, the City’s memorandum of understanding with the
              developer specifically stated that no board member, officer, or employee of the
              developer could have, receive, accept, or derive any pecuniary interest, direct
              or indirect, from that memorandum of understanding or any CDBG NSP2 loan
              made to purchase an eligible property (see appendix C).

              The city council member and a principal of the developer, Trinity Ventures RE
              II, ignored the conflict-of-interest requirements when the real estate company
              they co-owned, Benchmark Commercial Real Estate Services, collected a
              $62,500 broker’s commission from the seller, Delta Bank, when Trinity
              Ventures RE II purchased a multifamily property (see appendix D). While the
              city council member recused himself from discussions related to NSP2 at city
              council meetings, both before and after the purchase transaction as required,
              his real estate company chose to accept the broker’s commission in this
              transaction. The City was unaware of the conflict-of-interest violation because
              both the city council member and the principal of Trinity Ventures RE II failed
              to disclose their ownership interests in Benchmark Commercial Real Estate
              Services.



                                              8
    Corrective Action Taken



                 Soon after we brought this matter to the City’s attention, the City took
                 corrective action and sent a letter to the principals of Trinity Ventures RE II
                 demanding that the $62,500 commission be returned to the City. In response to
                 the City’s demand, Sentinel Rock Realty Trust1 wrote a check to the City for
                 $62,500. However, since the commission was not originally paid by the City
                 using NSP2 funds, the City did not retain these funds in its NSP2 grant.
                 Instead, it returned the $62,500 commission to Delta Bank.

    Conclusion

                 A conflict-of-interest violation occurred because there was no disclosure of the
                 ownership interest of Benchmark Commercial Real Estate Services. This
                 omission resulted in an inappropriate real estate commission of $62,500. Had
                 the relationship been disclosed to the City, it would have disallowed the
                 payment.

    Recommendation

                 We recommend that the Director of HUD’s Departmental Enforcement Center:

                 2A.      Take appropriate administrative action, up to and including debarment2,
                          against the city council member for his part in the violation that
                          resulted in the inappropriate $62,500 commission.




1
  According to California’s Department of Real Estate, Sentinel Rock Realty Trust is doing business as
Benchmark Commercial Real Estate Services.
2
  A debarment sanction means that an individual, organization and its affiliates are excluded from conducting
business with any Federal Agency government-wide. Debarment is the most serious compliance sanction and is
generally imposed for a three-year period. However, debarment can be imposed for a longer period of time, if
the debarring official determines this action is necessary to protect the public interest.


                                                      9
Finding 3: The City Approved Ineligible Real Estate Commissions
In addition to the seller-paid commissions, the City approved and financed ineligible real
estate commissions that equaled six percent of the property purchase price for one developer.
This condition occurred because the City did not verify with the seller or the buyer the
appropriate amount of real estate commissions. As a result, NSP2 funds were used to pay
$51,936 in ineligible real estate commissions.


    Real Estate Commissions Paid
    by Buyer

                 Financed by the City’s NSP2 funds, the developer, Mission Housing
                 Development Corporation, purchased 12 properties. Mission used the same
                 real estate agent for all 12 acquisitions. In 11 of those transactions, an
                 unsigned addendum to the purchase agreement stated that Mission, as the
                 buyer, would pay all closing costs above those stipulated by the seller in the
                 contract and would also pay commissions totaling 6 percent (half for the
                 seller’s agent and the other half for the buyer’s agent) of the purchase price at
                 closing.3

                 When the offers to purchase were accepted by the sellers, the sellers prepared
                 the purchase agreements and emailed them to Mission’s real estate agent for
                 signature. The seller, Bank of America, stipulated in its nine purchase
                 agreements that it would pay commissions to both agents, while the seller,
                 Wells Fargo’s purchase agreements for two transactions were silent on the
                 commissions. The verbiage that stipulated the additional closing costs and
                 commissions to be paid by the buyer was added to each addendum by
                 Mission’s real estate agent, who then collected half of the additional
                 commissions based on the unsigned addendum.

                 The City paid a total of $51,936 for ineligible real estate commissions based on
                 the unsigned addenda in 11 property acquisitions (see appendix D). Upon
                 receiving the unsigned addenda, the City raised concerns about the additional
                 closing costs and commissions to be paid by Mission. In response, the buyer’s
                 real estate agent verbally informed the City that, through negotiation, the
                 sellers had demanded that the buyer pay all closing costs, including the real
                 estate agents’ commissions. The ineligible real estate commissions occurred
                 because the City did not further verify with the seller or buyer regarding
                 commissions that benefited the real estate agent. Instead, the City relied on the
3
  One of the twelve transactions had an addendum with the same language, stipulating that the buyer would pay
the additional closing costs and commissions, and it was signed by both the seller, JPMorgan Chase, and the
buyer, Mission.


                                                      10
         explanation from the buyer’s agent although his explanation conflicted with the
         written terms in the purchase agreements and unsigned addenda. In addition,
         Old Republic Title Company allowed escrow funds to be disbursed based on
         unsigned purchase agreement addenda for 11 transactions.


Recommendation


         We recommend that the Acting Director of HUD’s San Francisco Office of
         Community Planning and Development require the City to:

         3A.     Repay, using non-Federal funds, $51,936 in ineligible real estate
                 commissions to its NSP2 grant.




                                        11
                           SCOPE AND METHODOLOGY

Our review generally covered the period July 1, 2009, to March 31, 2011, and was expanded
to other periods when necessary. We performed our onsite audit work at the City’s office
located in Modesto, CA, from May to October 2011.

To accomplish our audit objective, we

        Reviewed applicable HUD requirements;
        Reviewed relevant background information related to the City and its NSP2 grant;
        Reviewed the City’s policies and procedures for administering NSP2;
        Interviewed HUD staff, City staff, developers, and real estate agents, as appropriate;
        Reviewed the City’s records pertaining to property acquisition, rehabilitation, and
        expenditures and disbursements;
        Reviewed escrow files; and
        Visited properties that were purchased and rehabilitated under NSP2.

We chose a survey sample from a universe of 66 properties with more than $10.3 million in
NSP2 funds drawn down and attributed to four activities4 as of March 31, 2011. Based on the
Disaster Recovery Grant Reporting system drawdown reports, we selected a nonstatistical
sample of draws from three activities.5 The draws selected in the survey sample totaled more
than $5 million for 12 property acquisitions and 8 rehabilitations. In the audit phase, we
expanded the nonstatistical sample to include an additional 22 property acquisitions with
purchase prices that totaled more than $2.1 million and 19 property rehabilitations with
rehabilitation budgets that totaled more than $1.2 million (see appendix E for a summary of
property information). We used computer-processed data to select the nonstatistical sample
and, through our testing, determined that the computer-processed data were adequate for our
purposes.

We conducted the audit 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.




4
  The four activities shown in the Disaster Recovery Grant Reporting system drawdown reports were entitled AR
Developers, AR Special Needs, LH 25% Special Needs, and Administrative.
5
  We did not select from the administrative activity because as of March 31, 2011, the amount drawn down for
this activity was less than 3 percent of the total amount drawn for all four activities.


                                                     12
                             INTERNAL CONTROLS

Internal control is a process adopted by those charged with governance and management,
designed to provide reasonable assurance about the achievement of the organization’s
mission, goals, and objectives with regard to

       Effectiveness and efficiency of operations,

       Reliability of financial reporting, and

       Compliance with applicable laws and regulations.

Internal controls comprise the plans, policies, methods, and procedures used to meet the
organization’s mission, goals, and objectives. Internal controls 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
               objective:

                  Policies and procedures implemented to reasonably ensure that program
                  activities comply with applicable laws and regulations.

                  Policies and procedures implemented to reasonably ensure that program
                  funds are used for eligible activities.

               We assessed the relevant controls identified above.

               A deficiency in internal control exists when the design or operation of a control
               does not allow management or employees, in the normal course of performing
               their assigned functions, the reasonable opportunity to prevent, detect, or
               correct (1) impairments to effectiveness or efficiency of operations, (2)
               misstatements in financial or performance information, or (3) violations of
               laws and regulations on a timely basis.




                                                 13
Significant Deficiency


            Based on our review, we believe that the following item is a significant
            deficiency:

                The City did not always ensure that program expenditures were eligible and
                adequately supported.




                                           14
                                     APPENDIXES

Appendix A

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

       Recommendation             Ineligible 1/     Unsupported 2/     Funds to be put to
              number                                                        better use 3/
                      1A              $47,976
                      1B                                     $8,154
                      2A                                                          $62,500
                      3A              $51,936
                   Totals             $99,912                $8,154               $62,500


1/     Ineligible costs are costs charged to a HUD-financed or HUD-insured program or
       activity that the auditor believes are not allowable by law; contract; or Federal, State,
       or local policies or regulations. In this case, the ineligible costs included the $47,976
       in project management fees paid to Trinity Ventures RE II and the $51,936 in real
       estate commissions paid based on the unsigned purchase addenda for the Mission
       properties.

2/     Unsupported costs are those costs charged to a HUD-financed or HUD-insured
       program or activity when we cannot determine eligibility at the time of the audit.
       Unsupported costs require a decision by HUD program officials. This decision, in
       addition to obtaining supporting documentation, might involve a legal interpretation or
       clarification of departmental policies and procedures. In this instance, the unsupported
       costs represented the $8,154 in rehabilitation costs charged by Trinity Ventures RE II
       and Trinity Renovation, Inc., which the City approved but did not provide supporting
       documentation.

3/     Recommendations that funds be put to better use are estimates of amounts that could
       be used more effectively if an Office of Inspector General (OIG) recommendation is
       implemented. These amounts include reductions in outlays, deobligation of funds,
       withdrawal of interest, costs not incurred by implementing recommended
       improvements, avoidance of unnecessary expenditures noted in preaward reviews, and
       any other savings that are specifically identified. In this case, the funds to be put to
       better use refer to the $62,500 real estate commission paid by the seller, Delta Bank, to
       Benchmark Commercial Real Estate Services based on nondisclosure of a conflict of
       interest.




                                               15
Appendix B

       AUDITEE COMMENTS AND OIG’S EVALUATION


Ref to OIG Evaluation   Auditee Comments




Comment 1




                        16
Comment 2




Comment 3




            17
                        OIG Evaluation of Auditee Comments

Comment 1   We reviewed the City’s policies and procedures to obtain an understanding of
            the program design. We made no attestation to the effectiveness of appraisal
            procedures, billing procedures by developers, the City’s overall policies and
            procedures, and the reasonableness and cost effectiveness of property
            rehabilitations. Our audit focused on whether the City ensured program funds
            were used for eligible acquisition and rehabilitation costs.

Comment 2   The final report has been revised. After reviewing the documentation provided
            by the City, we determined that $8,154 in rehabilitation costs remained
            unsupported.

Comment 3   The City approved the payment of the real estate commissions based on the
            explanation of the buyer's agent even though his explanation conflicted with
            the written terms in the purchase agreements and unsigned addenda. The
            ineligible real estate commissions were paid because the City did not verify
            with the seller or buyer regarding the commissions that benefited the real estate
            agent. Therefore, the recommendation remains the same, for the City to repay,
            using non-Federal funds, $51,936 in ineligible real estate commissions to its
            NSP2 grant. While we had discussed the possibility of adjusting the developer
            fees, we evaluated this further, and do not agree that the City adjust the
            developer fees for the ineligible real estate commissions.




                                           18
Appendix C

                                        CRITERIA
The Notice of Fund Availability (NOFA) for the NSP2 under the American Recovery and
Reinvestment Act, 2009 states, “The Recovery Act repealed Section 2301(d)(4) of HERA
[Housing and Economic Recovery Act of 2008], which set requirements for the disposition of
revenues generated by NSP assisted activities. Therefore, regular CDBG rules governing
program income shall apply. Recipients are strongly encouraged to avoid the undue
enrichment of entities that are not subrecipients.”

HUD NSP Policy Alert, dated December 11, 2009, states that developers “are not subject to
recordkeeping or audit requirements that do apply to subrecipients. This flexibility creates a
burden on the grantee to underwrite all such transactions to avoid undue enrichment.”

HUD NSP Policy Alert, dated August 27, 2010 and updated on November 16, 2011, states,
“Grantees and subrecipients may not earn a developer’s fee. An entity may charge
developer’s fees only under 24 CFR 570.202(b)(1), which allows a grantee to provide CDBG
funds (or NSP funds) to assist in the acquisition and rehabilitation/reconstruction of property
by private individuals or entities. The right to charge a developer’s fee is available only to an
entity that receives assistance from the grantee or the subrecipient and assumes some of the
risk of the project, which the developer does by investing some of his/her own money in the
project.”

The same HUD NSP Policy Alert states that “if a developer’s budget called for directly
paying a project manager and also a developer fee that would be double-dipping and would
not be allowed. Direct costs or indirect costs of a developer related to project management
should be paid only through the fee.”

HUD’s conflict of interest requirements in 24 CFR 570.611 specify that no persons (who are
employees, agents, consultants, officers, or elected or appointed officials of the recipient or of
any designated public agencies or of subrecipients), who exercise or have exercised any
functions or responsibilities with respect to CDBG activities assisted under this part or who
are in a position to participate in a decision-making process or gain inside information with
regard to such activities, may obtain a financial interest or benefit from a CDBG-assisted
activity or have a financial interest in any contract, subcontract, or agreement with respect to a
CDBG-assisted activity or with respect to the proceeds of the CDBG-assisted activity, either
for themselves or those with whom they have business or immediate family ties, during their
tenure or for 1 year thereafter.

The City’s memorandum of understanding with developers includes a conflict-of-interest
clause that states, “No board member, officer, owner or employee of Developer shall have any
personal interest, direct or indirect, in this MOU. No board member, officer or employee of
Developer shall have, receive, accept or derive any pecuniary interest, direct or indirect, from
this MOU or any CDBG NSP2 Loan made to purchase Eligible Property.”



                                               19
The City’s NSP2 loan agreement with developers, section 9, paragraphs d and e, states:

       Borrower shall prepare and retain all pertinent books, records, and documents
       sufficient to reflect properly all costs incurred by Borrower for which funds are sought
       in accordance with HUD and NSP2 Program requirements. City and/or HUD may
       inspect such writings and carry out such monitoring and evaluation activities which
       will, at minimum, ensure that Borrower is in compliance with the terms of this NSP2
       Loan Agreement.

       Borrower shall maintain complete books and accounts and other records for expenses
       incurred under this NSP2 Loan Agreement, including personal property, personnel and
       financial records. Borrower’s records shall accurately and fully show the date,
       amount, purpose, and payee of all expenditures incurred for a period of not fewer than
       five (5) years after the date the expenditure is incurred. The same shall be available
       for audit, inspection and copying by City upon reasonable notice to Borrower.

The City’s NSP2 loan agreement with developers further states in Section 33 that the
“Borrower shall maintain complete books of accounts and other records for the Project and for
the use of Loan Funds; including, but not limited to, records of preliminary notices, lien
releases, invoices, receipts and certificates of insurance pertaining to the contractor and each
subcontractor, and the same shall be available for inspection and copying by City upon
reasonable notice to Borrower.”

Paragraph 24 in the purchase agreements for the nine Bank of America properties and
paragraph 30 in the purchase agreements for two Wells Fargo properties state, “Modification:
No provision, term or clause of this Agreement shall be revised, modified, amended or waived
except by an instrument in writing signed by Purchaser and Seller.”




                                              20
     Appendix D

      SCHEDULE OF INELIGIBLE AND UNSUPPORTED COSTS
     Developer                   Ineligible          Unsupported          Ineligible    Ineligible
                                 project             rehabilitation       real estate   real estate
                                 management          costs                commissions   commissions
                                 fees                (finding 1)          (finding 2)   (finding 3)
                                 (finding 1)
1    Trinity Ventures RE II                    -                   -          $62,500                -
2    Trinity Ventures RE II               $6,340              $3,531                -                -
3    Trinity Ventures RE II                5,149               1,424                -                -
4    Trinity Ventures RE II                4,710                   -                -                -
5    Trinity Ventures RE II                4,295                 426                -                -
6    Trinity Ventures RE II                4,063                 896                -                -
7    Trinity Ventures RE II                4,037                 170                -                -
8    Trinity Ventures RE II                4,218                 276                -                -
9    Trinity Ventures RE II               15,165               1,432                -                -
10   Mission Housing                           -                   -                -           $7,080
     Development Corporation
11   Mission Housing                            -                     -             -               6,750
     Development Corporation
12   Mission Housing                            -                     -             -               6,210
     Development Corporation
13   Mission Housing                            -                     -             -               5,760
     Development Corporation
14   Mission Housing                            -                     -             -               5,760
     Development Corporation
15   Mission Housing                            -                     -             -               4,950
     Development Corporation
16   Mission Housing                            -                     -             -               4,440
     Development Corporation
17   Mission Housing                            -                     -             -               3,621
     Development Corporation
18   Mission Housing                            -                     -             -               3,150
     Development Corporation
19   Mission Housing                            -                     -             -               3,105
     Development Corporation
20   Mission Housing                            -                     -             -               1,110
     Development Corporation
     Total                             $47,976*              $8,154*          $62,500         $51,936

          * The totals are off by $1 due to the rounding of each line item to the nearest dollar.




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     Appendix E

               SUMMARY OF PROPERTY INFORMATION
      Developer                                        Purchase price      Approved budget
                                                                           for rehabilitation,
                                                                           construction, and
                                                                           miscellaneous
                                                                           property costs
1     RSJS                                                 $     133,650           $ 37,350
2     Trinity Ventures RE II                                     146,520                47,832
3     Verterex Investments                                       193,050                94,460
4     Trinity Ventures RE II                                   1,250,000               465,753
5     Stanislaus Community Assistance Project                    227,700                27,320
6     Stanislaus Community Assistance Project                    135,000                95,170
7     Stanislaus Community Assistance Project                  1,465,200            1,014,500
8     Stanislaus Community Assistance Project                    110,000               144,670
9     Stanislaus Community Assistance Project                    255,000                76,820
10    Stanislaus Community Assistance Project                     70,000                 6,800
11    Stanislaus Community Assistance Project                    115,899                47,700
12    Stanislaus Community Assistance Project                    229,900                43,650
13    Stanislaus Community Assistance Project                    229,900                67,170
14    Stanislaus Community Assistance Project                    247,000                75,470
15    Stanislaus Community Assistance Project                    180,000               161,860
16    Stanislaus Community Assistance Project                    155,000                77,570
17    Stanislaus Community Assistance Project                    199,900                77,570
18    Borges Construction                                        145,000                37,445
19    Global Acres                                                66,500                56,150
20    Mission Housing Development Corporation                    118,000                65,564
21    Mission Housing Development Corporation                    112,500                56,916
22    Mission Housing Development Corporation                    103,500                85,008
23    Mission Housing Development Corporation                     98,877                96,432
24    RSJS                                                       144,540                14,545
25    RSJS                                                       118,800                 3,545
26    RSJS                                                       113,850                47,845
27    RSJS                                                       113,850                30,045
28    RSJS                                                       104,000                11,445
29    Stocktonians Taking Action to Neutralize Drugs             123,750                54,625
30    Thompson Construction                                      127,500                50,395
31    Thompson Construction                                       68,400                42,170
32    Thompson Construction                                       63,360                23,370
33    Trinity Ventures RE II                                     143,550                29,689
34    Trinity Ventures RE II                                      73,000                22,977
35    Trinity Ventures RE II                                      70,000                12,636
36    Trinity Ventures RE II                                      64,350                21,339


                                               22
     Developer                                  Purchase price   Approved budget
                                                                 for rehabilitation,
                                                                 construction, and
                                                                 miscellaneous
                                                                 property costs
37   Trinity Ventures RE II                         $   64,350           $ 19,031
38   Trinity Ventures RE II                             64,350                20,706
39   Trinity Ventures RE II                             60,390               106,982
40   Mission Housing Development Corporation            82,500                88,006
41   Mission Housing Development Corporation            74,000                99,916
42   Mission Housing Development Corporation            51,755                93,883
     Total                                          $7,714,391           $3,752,330




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