U.S. Department of Housing and Urban Development District Office of the Inspector General Richard B. Russell Federal Building 75 Spring Street, SW, Room 700 Atlanta, GA 30303-3388 (404) 331-3369 October 26, 1995 Audit-Related Memorandum No. 96-AT-214-1804 MEMORANDUM FOR: Daniel A. McCanless, Director, Multifamily Division, 4FHM FROM: Kathryn Kuhl-Inclan District Inspector General for Audit-Southeast/Caribbean, 4AGA SUBJECT: HUD State Office Request Essential Housing Management, Inc. Review of Charges for Front-Line Expenses Winston-Salem, North Carolina We have completed a review of charges to HUD multifamily projects for front-line expenses by Essential Housing Management, Inc. (EHM), Winston-Salem , North Carolina, for the three years ended December 31, 1994. Our objective was to determine if EHM's charges for front-lin e expenses were reasonable and properly supported. We initiated the review based on a request from your former Housing Management Division for an audit of EHM because of possibl e excessive charges by EHM to projects it managed. BACKGROUND EHM is a management company based in North Carolina. EHM operated under the name MBG, Inc. from January 1, 1992 until N ovember 22, 1994. At December 31, 1994, EHM managed 56 HUD assisted or unassisted multifamily projects, and 190 other Farmers Home Administration and conventional properties, in 7 states and the District of Columbia. EHM's corporate records were located in Winston-Salem and Raleigh, North Carolina. SCOPE We interviewed EHM staff and reviewed EHM's records pertaining to charges to HUD projects for front-line expenses. We also reviewed t he records documenting payments to EHM for front- line expenses by three HUD projects: Meadowbrook Apartments, Willow Creek Apartments, and Oak Knoll Apartments. We conducted our review from January through August 1995. SUMMARY EHM charged an estimated $317,245 in excessive front-line expense fees to 41 HUD projects. The fees were excessive because EHM duplicated costs for bookkeeping services in fees charged to the projects, reducing money available to the pro jects to pay operating expenses and mortgage payments. Eight of the projects defaulted on their HUD-insured mortgages, and the mortgages were assigned to HUD. Details of our finding and recom mendations are in Attachment 1. We discussed the finding and recommendations with EHM's President, Chief Operating Officer, and Manager of HU D Programs on August 24, 1995, and provided them a draft of the finding. The Chief Operating Officer's written comments are summarized following the finding and are included verbatim in Attachment 4. Within 60 days, please give us, for each recommendation in the memorandum, a status report on: (1) the corrective actions taken; (2) the proposed co rrective actions and the date to be completed; or (3) why actions are considered unnecessary. Also, please furnish us copies of an y correspondence or directives issued because of the review. We provided a copy of this memorandum to EHM's President. We appreciate you r cooperation during the audit. Should you or your staff have any questions, please contact Rudy E. McBee, Assistant District Inspector General for Audit, at (615) 545-4368 or Bruce Milligan, Senior Auditor, at extension 4056. Attachments: 1 - Finding and Recommendations 2 - Schedule of Excessive Charges 3 - Schedule of Unsupported Costs 4 - Auditee Comments 5 - Distribution ATTACHMENT 1 Page 1 of 3 FINDING AND RECOMMENDATIONS EHM Charged Excessive Front-Line Expenses To 41 Projects EHM charged an estimated $3 17,245 in excessive front-line expense fees to 41 HUD projects it managed. The fees were excessive because EHM charged two different fees which bot h reimbursed EHM for the same bookkeeping services. The excessive charges reduced mone y available to the 41 projects to pay operating expenses and mortgage payments. Eight of th e projects defaulted on the HUD-insured mortgages, and the mortgages were assigned to HUD . EHM's excessive fees included $94,029 charged to the 8 projec ts and $223,216 for the remaining 33 projects. Actual, Reasonable Costs are Chargeable to Project HUD allows management agents to charge reasonable expenses incurred for front-lin e management activities to the project operating account, in addition to costs paid out of th e management fee. Examples of front-line acti vities are taking applications, screening tenants and accounting for project income and expenses. However, the charges may not exceed the amount normally paid for such services, and may not exceed the agent's actual costs (HUD Handbook 4381.5 REV-2, The Management Agent Handbook, Paragraph 6.38). Owners of projects with mortgages assigned to HUD m ust remit all remaining net cash to HUD each month after project operating expenses have been paid (HUD Handbook 4350.1 REV-1, Multifamily Asse t Management and Project Servicing, Chapter 10). Fees Charged Were Excessive From January 1, 1992 through December 31, 1994 , EHM charged three fees to 41 HUD projects it managed: a fee for general manag ement services, a bookkeeping fee, and a fee for performing front-line services. The general management fees were based on a percentage of incom e collections. The bookkeeping and front-line fees were calculated on a per unit basis. Th e average annual bookkeeping and front-line fees charged by EHM were: Year Per Unit Month Fee 1992 1993 1994 Bookkeeping $ 3.27 $ 3.29 $ 3.27 Front-Line 5.98 6.00 3.44 ATTACHMENT 1 Page 2 of 3 The fees charged the 41 HUD projects by EHM were excessive by approximately $317,245 1. The fees were excessive because the bookkeeping and front-line fees reimbursed EHM for the same services. EHM charged the front-line fees because it claimed to provide service s chargeable to the project operating account. However, support for the calculation of the front- line fees for 1992 and 1993 listed only the costs of EHM's accounting department includin g salaries, payroll ta xes, employee benefits, rent and supplies. The front-line fees were excessive by at least the amount of the bookkeeping fees because the bookkeeping fees reimbursed EHM for maintaining the project accounting records. The excessive fees of $317,245 are listed in Attachment 2 by project. For 1992 and 1993, the excessive fees are the boo kkeeping fees which were less than the front-line fees. The excessive amounts for 1994 are the front-line fees because they were less than the bookkeeping fees fo r almost all of the projects. The excessive charges reduced the mon ey available to the 41 projects to pay operating expenses and mortgage payments. Eight of the 41 projects we nt into default from 1988 through 1992, and the project mortg ages were assigned to HUD. EHM's excessive fees included $94,029 charged to the 8 projects and $223,216 for the remaining 33 projects. HUD Required EHM to Stop Charging Front-Line Fees in 1995 The HUD North Carolina State Office reviewed front-line fees in a March 1995 managemen t review of EHM. HUD required EHM to discontinue the front-line fees retroactive to Januar y 1995 because the fees w ere duplicating charges to the projects for bookkeeping services. EHM agreed to stop charging the front-line fees and refunded 1995 fees, but did not reimburse th e projects for the excessive fees it received for the previous three years. EHM Comments In a September 12, 1995 letter, EHM's Chief Operating Officer (COO) agreed that support for the fees charged seemed to include unallowabl e costs, but believed allowable costs were omitted from the calculations. She said front-line fees charged for 1992 and 1993 were calculated b y persons no longer employed by EHM, and they had been unable to determine how th e calculations were made. The COO said HUD approve d the rate for front-line fees for 1994. She said they were recalculating front-line fees for each year. In a letter dated October 16, 1995, the COO provided a summary and numerous schedule s detailing front-line and bookkeeping charges they believe are allowable and their conclusio n regarding overcharg es. The summary indicated overcharges in 1992 and 1993, an undercharge in 1994, netting to a total overcharge of $71,806. The C OO then subtracted amounts the projects owed EHM (for unpaid management, bookkeeping and front-line fees) to arrive at 1 EHM staff stated some projects may not have fully paid front-line, bookkeeping and management fees. Any such unpaid amounts would be recorded as accounts payable by the projects and accounts receivable by EHM, and could be used to reduce fee overcharges. It was not feasible for us to determine and verify such amounts for all projects. ATTACHMENT 1 Page 3 of 3 $45,303 she contended EHM owed the projects. She said she had a thick file of supportin g documentation she would make available for review . The text of the COO's second letter, minus the attachments, is in Attachment 4. We provided the attachments separately to the HUD State Office. Evaluation of EHM Comments The HUD State Office approved EHM's front-line fee charges in 1994, but was unaware tha t salaries of the same EHM staff were duplicated in the front-lin e and bookkeeping fees. The State Office recognized the duplication duri ng the March 1995 review, and required EHM to stop the practice. Because of higher priority work, we did not return to EHM to review the supportin g documentation for EHM's second response. The No rth Carolina State Office will need to review the methodology and d ocumentation for EHM's computation, and determine whether to rescind its prohibition against EHM charging front-line costs. Recommendations We recommend that you review EHM's October 16, 1995 letter and supporting documentation and require EHM to: 1A. Repay to HUD the excessive fees paid by the projects whose mortgages were assigned to HUD, estimated at $94,029. 1B. Reimburse the other projects the excessive fees paid by the projects, estimated a t $223,216. 1C. Assure that project records are appropriately adjusted to reflect payables netted against EHM overcharges, and no longer owed to EHM. ATTACHMENT 2 Page 1 of 2 Schedule of Excessive Charges Project Excessive Charges Project Name Number 1992 1993 1994 Total Projects with mortgages assigned to HUD: Brookside 053-35536 $ 2,040 $ 2,040 $ 346 $ 4,426 Cinnamon Ridge 053-35492 1,200 - - 1,200 Forest Hills 053-35389 5,712 5,712 5,549 16,973 Lakewood 053-35493 6,720 6,720 166 13,606 Longmeadow 053-35507 5,040 3,360 - 8,400 Meadowbrook 053-35473 6,384 6,384 814 13,582 Summertree 053-35472 6,048 6,048 5,875 17,971 Willow Creek 053-35489 8,400 8,400 1,071 17,871 Sub-totals 41,544 38,664 13,821 94,029 Other projects: Academy Village 053-35320 2,100 2,100 2,040 6,240 Balsom Grove 053-35438 840 1,680 1,632 4,152 Bay Tree 053-35451 2,100 2,100 2,040 6,240 Bramblewood 053-35378 5,760 2,880 - 8,640 Carriage House 053-35452 2,142 2,142 2,040 6,324 Casa Grande 053-35329 1,890 1,890 1,683 5,463 Cotton Dale 053-35417 1,008 1,008 979 2,995 Duplin 053-35366 1,785 3,570 3,468 8,823 Erwin Elderly 053-EH236 540 540 918 1,998 Greenacre Terrace 053-35336 2,100 2,100 2,040 6,240 Heritage Ct.-NC 053-35388 1,512 1,512 1,469 4,493 Heritage Ct.-SC 054-35514 6,258 6,258 6,079 18,595 Heritage Homes 053-EH199 1,500 1,500 2,040 5,040 Hoffman Assoc. 053-35338 1,701 3,402 3,305 8,408 Meadow Wood 053-35402 2,100 2,100 2,040 6,240 Melvid Court 053-11020 1,512 1,512 1,346 4,370 Mountainside 053-35015 3,000 3,000 4,080 10,080 Oak Knoll 053-44101 7,560 7,560 7,344 22,464 Old Farm 053-35360 2,940 2,940 2,856 8,736 Plaza 053-35286 2,604 2,604 2,530 7,738 Richmond Village 053-35420 1,680 1,680 1,632 4,992 Robin Ridge 053-35385 600 600 816 2,016 R.M. Wilson 053-35287 1,050 1,850 2,040 4,940 ATTACHMENT 2 Page 2 of 2 Schedule of Excessive Charges Project Excessive Charges Project Name Number 1992 1993 1994 Total Sandy Ridge 053-35403 1,092 1,092 1,061 3,245 Scotland Manor 053-35368 2,520 2,520 2,448 7,488 South Village 053-35424 1,680 1,680 1,632 4,992 Tanglewood 053-35364 2,226 2,226 2,162 6,614 Union Square 053-35552 720 720 979 2,419 University 053-35311 2,373 4,746 2,875 9,994 Virginia Dare 053-35371 2,856 2,856 2,774 8,486 Walnut West 053-35346 714 1,428 1,387 3,529 Woodland 053-35330 2,100 2,100 2,040 6,240 Yadkin Trail 053-35446 1,008 2,016 1,958 4,982 Sub-totals 71,571 77,912 73,733 223,216 Totals $ 113,115 $ 116,576 $ 87,554 $ 317,245 ATTACHMENT 3 SCHEDULE OF UNSUPPORTED COSTS Finding/Recommendation Unsupported Costs 2 1A $ 94,029 1B 223,216 2 Unsupported amounts do not obviously violate law, contract, HUD or local agency policies or regulations, but warrant being contested for various reasons such as lack of satisfactory documentation and HUD approval. ATTACHMENT 4 AUDITEE COMMENTS ATTACHMENT 5 DISTRIBUTION Secretary's Representative, 4AS Comptroller, 4AF Audit Liaison Officer, 4AFI Director, Field Accounting Division, 4AFF North Carolina State Coordinator, 4FS Director, Multifamily Division, 4FHM (2) Special Agent in Charge, Southeast/Caribbean, 4AGI Chief Financial Officer, F (RM 10166) (2) Director, Office of Internal Control and Audit Resolution, FOI (Room 10176) (2) Associate Director, US GAO, 820 1st St., NE Union Plaza, Bldg. 2 , Suite 150, Washington, DC 20002, (2) Housing - Federal Housing Comptroller, HF, (Room 5132) (3) Assistant to the Deputy Secretary for Field Management, SDR (Room 7106) President, Essential Housing Management, Inc.
Essential Housing Management, Inc., Winston-Salem, NC
Published by the Department of Housing and Urban Development, Office of Inspector General on 1995-10-26.
Below is a raw (and likely hideous) rendition of the original report. (PDF)