ERA Arbor III Realty CO., Inc., Noblesville, In

Published by the Department of Housing and Urban Development, Office of Inspector General on 1996-09-27.

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

                                            AUDIT RELATED MEMORANDUM

September 27, 1996

MEMORANDUM FOR:   Frank Slezak, Chief, Contract Operations Branch,
                       Illinois State Office

FROM:   Dale L. Chouteau, District Inspector General for Audit, Midwest

SUBJECT:   ERA Arbor III Realty Co., Inc.
           Single-family Property Disposition Program
           Noblesville, Indiana

We com pleted an audit of ERA Arbor Realty III Co., Inc. as yo     u
requested in your memorandum, dated January 10, 1996. On Ap  ril 23,
1991, HU D entered into a contract with ERA Arbor III Realty Co.   ,
Inc. to ma nage and sell HUD properties assigned to it.     Arbo   r
Realty was the exclusive listing agent for a two-county area i     n
Indiana. The contract was effective from May 1, 1991 throug  h April
30, 1992.

On July 19, 1991, HUD terminated the contract for the convenience
of the Government. A formal settlement agreement was not ex    ecuted.
However, HUD continued to pay   Arbor Realty commissions on the sale
of assigned properties based on verbal agreements. On Febru    ary 20,
1996, after HUD stopped the pa yments, Arbor filed a complaint with
the Board of Contract Appeals claiming that HUD owed it $229,74      6
plus interest and damages.

Our objectives were to determi ne whether HUD underpaid or overpaid
commissions and bonuses to Arbor and whether the expenses claimed
by Arbor were reasonable and supported.

To accomplish our objectives,   we reviewed the contract, applicable
HUD regulations, settlement statements, purchase agreements          ,
invoices, correspondence between Arbor Realty and HUD, and n   otes on
their meetings. We also interviewed the President of Arbor     and HUD
staff in the Indiana State Off ice and in the Illinois State Office
who were involved with the Exclusive Listing Agent program. W        e
rev iewed every property in the Indiana State Office inventory t     o
determ ine whether HUD had assigned the property to Arbor an         d
whether it underpaid or overpaid Arbor for the sale of th            e
property.    Appendix A shows each property we reviewed and th       e
results of our review. We als o reviewed expenses claimed by Arbor
to determine whether they were reasonable and supported.
During the term of the contract, the Indiana State Office'        s
inventory of single family properties totaled 412. HUD sele ctively
assigned 94 properties to Arbor Realty during the course of th    e

We con cluded that HUD overpaid Arbor Realty for commissions an    d
bonuses.   We calculated the commissions at 9 percent, 7 percent   ,
and 3 percent because of confl icting rates in the contract. Arbor
Realty received $390,264 in commissions and bonuses for the  sale of
209 properties. Based on a 9 percent commission rate, Arbor   Realty
receiv ed overpayments totalling $156,296. Based on a 7 percen     t
commission rate, Arbor Realty received overpayments totallin       g
$200,940.   Based on a 3 percent commission rate, Arbor receive    d
overpayments totalling $290,227.

Further, Arbor Realty could not adequately support its claime      d
exp enses. Arbor could not provide originals of cancelled check    s
and invoices for $113,093 in claimed expenses.

Our audit period was May 1, 1991 through April 30, 1992.   Th      e
coverage was adjusted as necessary. We performed our site wor      k
between March and August 1996 at the Indiana State Office. W       e
conducted   our audit in accordance with generally accepte         d
government auditing standards.

We kept Arbor Realty informed about our audit results throughou    t
the audit.    We provided interim data on the underpayments an     d
overpayments and a draft of this audit-related memorandum.     I   n
response, Arbor provided written comments. Arbor's comments   to the
draft of this audit-related memorandum are included in thei        r
entirety in Appendix E. We held an exit conference on Septembe     r
13, 1996.

We provided a copy of this audit-related memorandum to th          e
Presi dent of ERA Arbor Realty III Co., Inc. and HUD's Office o    f

If you have any questions, please contact me at (312) 353-7832.

Audit-Related Memorandum         Page 2
                               Results of Audit
HUD overpaid Arbor Realty between $156,296 and $290,227 for commissions and bonuse s
under the Exclusive Listing Agent contract. The excess payments were for properties sold b y
other realtors before and after the contract period, properties sold dire ctly by HUD, and properties
never assigned to Arbor or never sold. HUD authorized the payments. The Chief, Single Family
Disposition Branch, said the contracting officer verbally agreed to pay Arbor a commission on
the sales of all properties that had been assigned to it. The commissions were to be paid o n
closing of the sale s. The Indiana State Office paid a commission on assigned but unsold leased
properties because they had been held off the market for an extended period.

                                      The HUD-Arbor contract provided that from May 1, 1991
 Contract Terms
                                      through April 30, 1992, Arbor would be the exclusiv e
                                      listing and management service agent for HUD-owne d
                                      properties in a tw o-county area in Indiana. HUD would, at
                                      its discretion, assign the properties to be included in th e
                                      contract. The contract as amended was confusing as t o
                                      whether Arbor should receive 9 percent, 7 percent, or 3
                                      percent of sales prices.

                                      At sales closing, Arbor was to receive commissions an d
                                      bonuses for sales of properties assigned t o him and listed by
                                      him and reimbursements for services such as securing ,
                                      repairing, and winterizing the properties. The amoun t
                                      Arbor received in bonuses for each property depended o n
                                      the number of days elapsed between the da te HUD assigned
                                      the property to Arbor and the sales closing date.

                                      The contract was modified three times. Modification 1 ,
                                      effective April 24, 1991, was issued to set the sale s
                                      commission rate at 7 pe rcent. The modification was issued
                                      as a compromise to settle the confusio n as to whether Arbor
                                      should have been paid at 3 percent or 9 percent of sales.

                                      HUD unilaterally issued modifications 2 and 3 .
                                      Modification 2, effective June 17, 1991, was issued as a
                                      clarification. The modification excluded from the contract
                                      properties with sales pending at the beginning of th e
                                      contract and properties sold by HUD. The validity of this
                                      unilateral modification is in dispute.

                                      Modification 3, effective July 19, 1991, terminated th e
                                      contract for the convenience of the Govern ment. There was
                                      no formal settlement agreement identifying the

                                                Page 3                          Audit-Related Memorandum
                           amounts to be paid to Arbor after termination. HUD ,
                           however, continued to pay Arbor Realty a commission for
                           properties as they were sold, including properties sol d
                           without any Arbor particip ation. These included properties
                           sold before and after the contract period.

                           The Chief, Single Family Disposition Branch, said th e
                           contracting officer verbally agreed to pay Arbor a
                           commission on the sales of all properties that had bee n
                           assigned to it. The commissio ns were to be paid on closing
                           of the sales. The Indiana State Office paid a commission on
                           assigned but unsold leased properties because they ha d
                           been held off the market for an extended period.

                           We determined the allowability commissions and bonuses
 How We Determined the
                           on assigned and unassigned properties for which a purchase
 Allowability of
                           agreement was signed duri ng the contract period, including
                           properties sold directly by HUD. We used the date th e
                           purchase agreement was signed as the best determinant that
                           Arbor was the listing a gent. We also allowed commissions
                           on properties Arbor sold as the selling agent after th e
                           contract period.

                           We did not allow Arb or Realty a commission on sales with
                           purchase agreements executed by another agent before o r
                           after the contract period, regardless of when the sale wa s

                           As listing agent, Arbor Realty was entitled to a commission
 Commissions on Sales
                           and bonus on the sale of an assigned property sold durin g
 Involving Arbor
                           the contract period. After the contract terminated, Arbo r
                           was entitled to a 6 percent commission on any property i t

                           Based on our review, Arbor was entitled to sale s
                           commission on 88 sales. Arbor participated in the sales of
                           each of the properties. Eighty-three of the sales occurre d
                           during the contract period. Therefore, Arbor was entitled to
                           a commission of 9, 7, or 3 percent (depending on how the
                           contract is interpreted) on these 83 sales. The remainin g
                           five sales were after the contract period. Consequently ,
                           Arbor was entitled to a commission of 6 percent on thes e
                           five sales.

                           Arbor Realty received $128,053 for participating in the 88
                           sales. At a commission of 9 percent Arbor was underpaid
                           $105,746 at 7 percent Arbor was underpaid $61,103; and at
                           3 percent, Arbor Realty was overpaid $28,185. Ou r
                           computations are summarized below.

Audit-Related Memorandum            Page 4
                                          Payments at 9 Percent Commission

                            Description        No.    Received    Earned       (Under)

                        Assigned and sold
                        during contract        83     $113,290    $221,793     $(108,503)

                        Sales after
                        termination 6%          5      14,763      12,006       2,757

                         TOTALS                88     $128,053    $233,799     $(105,746)

                                          Payments at 7 Percent Commission

                           Description         No.    Received     Earned        (Under)

                        Assigned and sold
                        during contract        83     $113,290     $177,150     $(63,860)

                        Sales after
                        termination 6%          5      14,763       12,006       2,757

                         TOTALS                88     $128,053     $189,156     $(61,103)

                                          Payments at 3 Percent Commission

                            Description        No.     Received     Earned       (Under)

                        Assigned and sold
                        during the contract     83     $113,290     $ 87,862    $ 25,428

                        Sales after
                        termination 6%          5       14,763       12,006       2,757

                          TOTALS                88     $128,053     $ 99,868    $ 28,185

                       Appendix B shows the details for each property included
                       in the above tables.

                       Arbor received commissions and bonuses totaling $262,211
Commissions on Sales
                       for the sales of 132 properties in which it did no t
Not Involving Arbor
                       participate. We did not allow the payments.

                       Arbor received $237,835 for properties sold outside th e
                       contract period: $22,215 for 13 properties sold before the
                       contract period and $215,620 for 107 properties sold after
                       the contract period. Of these properties, 59 had not bee n
                       assigned to Arbor.

                                Page 5                               Audit-Related Memorandum
                           Arbor Realty also received commissions totaling $16,89 7
                           for leased properties and properties sold directly by HUD.
                           Arbor did not provide listing agent services for thes e
                           properties; therefore, we did not allow Arbor listing agen t
                           commissions for these properties.

                           In addition, Arbor Realty received $7,479 in bonuses fo r
                           sales in which it was not involved. HUD made the payment
                           after receiving an invoice fro m Arbor. The invoice showed
                           a lump sum due for bonuses.

                           Appendix C lists the properties for which Arbor receive d
                           commissions and bonuses for sale of properties in which it
                           was not involved.

                           At the request of the Office of Counsel, we prepare d
                           Appendix D which shows the properties not assigned.
                           Arbor Realty did not provide adequate support for it s
 Claimed Expenses Not
                           revised claim for expenses totaling $1 13,093. HUD has not
                           paid this claim. The expenses were in addition t o
                           commissions and bonuses claimed. Adequate suppor t
                           includes cancelled checks, inv oices, and bank statements to
                           evidence the purpose of the expense a nd that it was actually
                           paid. Because of the lack of documentation, we canno t
                           express an opinion on the allowability of these expenses.

                           Arbor Realty did provide some piece meal documentation,
                           but it was not sufficient. Arbor Realty did not provid e
                           original checks and invoices for any of the expenses. I t
                           provided some check register copies of checks totalin g
                           $21,037 which had cleared the bank. It did not provide any
                           documentation for the remaining expenses totallin g

                           The Office of Counsel and the Office of Inspector General
                           repeatedly requested that Arbor Realty provide origina l
                           documentation supporting its claim. In a letter dated April
                           15, 1996, the Office of General Counsel directed Arbo r
                           Realty to produce all records pertaining to the contract and
                           its complaint. We reiterated the request in severa l
                           discussions and in a letter dated May 23, 1996. The letter
                           itemized the claim and specified the documentation needed
                           to support each amount claimed.

                           The largest expenses co mprising $101,629 of the $113,093
                           were: commissions to Arbor Realty agents ($44,605) ;
                           compensation for the pre sident and employees' salaries and

Audit-Related Memorandum            Page 6
                    commissions ($39,240); yard signs, office space rental, and
                    computer software ($13,844); ERA regional fees ($2,940);
                    and attorney retainer fees ($1,000).

                    Some of the expenses may be reasonable. Regardless ,
                    some expenses are clearly ineligible because they wer e
                    covered under the commissions. For insta nce, commissions
                    and other compensation should be covered by commissions.
                    In the absence of adequate supporting documentation, w e
                    do not express an opinion on the allowability of thes e

Auditee Comments    This is in response letter to your Final Draft of the audi t
                    report you have prepar ed. In your first paragraph you state
                    that Arbor entered into a contract with HUD, "to manag e
                    and sell HUD properties assigned to it." T his is an incorrect
                    reading of the contract terms: terms that have taken o n
                    special emphasis in your report. The actual words of th e
                    contract are "SERVICES Part 1-B and SCOPE Part 1-C .
                    "Management and disposition services for assigned HUD-
                    owned single family properties...." Your interpretatio n
                    would indicate that Arbor was contractually obligated t o
                    "sell" HUD properties, while Arbor's duties in Sec. C .
                    included only advertising, listing in the multiple listin g
                    service, placing "For Sale" signs, and co-operating wit h
                    other interested selling brokers. At no location in th e
                    contract is Arbor required to sell or close any property o n
                    which it has perform ed the required services, in order to be
                    entitled to a commission. Arbor is only required t o
                    perform the services under Section C, and at sales closing,
                    it was to be paid the amount of 7%, (as amended). There is
                    no requirement for the property to sell or close during th e
                    term of the contract, and the auditor should not hav e
                    attempted to re-write the contract or insert thei r
                    interpretations in makin g determinations as to the propriety
                    of payments.

OIG Evaluation of   Part I, Section C.4.c of the contract is entitled Listing/Sales
Auditee Comments    Service Requirements. Arbor's comments accuratel y
                    describe some of its responsibi lities. However, the contract
                    also states that the contractor shall put forth every effort to
                    produce an acceptable purchase offer on each availabl e

                    Arbor's proposal also stated that the sole purpose of th e
                    contract was to sell HUD property. At the close-ou t

                             Page 7                           Audit-Related Memorandum
                           conference, Arbor's pr esident agreed that "disposition" was
                           synonymous with "sale".

                           When the contract was terminated, Arbor was no longer the
                           listing agent for unsold properties. Thus, HUD was n o
                           longer obligated to pa y commissions to Arbor as the listing
                           agent for any of the properties that sold after the contrac t
                           was terminated.

Auditee Comments           You also draw a legal con clusion that "the contract was not
                           modified to include a formal termination agreement" .
                           Sufficient evidence has been presented to you to indicat e
                           that a modification was, in fact, made in the form of a n
                           agreement between Arbor and the HUD Contractin g
                           Officer. Whether that agreement was formalized throug h
                           the actions of Arbor and HUD is a matter o f judicial review,
                           and exceeds the scope and purpose of an audit.

                           You state that "HUD continued to pay Arbor Realt y
                           commissions after the contract was terminated", as though
                           a formal agreement was required to make such payments ,
                           though the Federal Acquisition Regulation 49-103 allow s
                           settlement to occur by (a) negotiated settlement, (b )
                           determination by the Termination Contracting Officer, o r
                           (c) costing out under vouchers.          In addition, th e
                           Termination Contracting Officer may exercise a Partia l
                           Settlement, as allowed in Federal Acquisition Regulatio n
                           49.109.5. Your audit failed to investigate or report if an y
                           other of these options were utilized by the Terminatio n
                           Contracting Officer in authorizing payments, befor e
                           concluding that the payments were not proper.

OIG Evaluation of          Our statement that no formal settlement agreement wa s
Auditee Comments           executed is accurate. The evidence Arbor presented
                           consisted of letters from HUD's Indiana State Offic e
                           describing the properties sold for which Arbor shoul d
                           submit an invoice. We agree that HUD directed Arbor t o
                           submit invoices to receive the commissions. We found no
                           documentation explaining th e contracting officer's basis for
                           authorizing payments.

Auditee Comments           You stated that HUD delivered 230 properties to Arbor on
                           the date the contract was effective, yet only 59 propertie s
                           bear the delivery date of 5-1-91 on the attached charts.

Audit-Related Memorandum            Page 8
OIG Evaluation of   We discussed with HUD's Chief of Contrac t Operations and
Auditee Comments    HUD's Attorney in the Illinois State Office whether the list
                    of properties attached to the contract was meant to be a
                    property delivery order. They both agreed that th e
                    attachment was not a delivery order. Therefore, w e
                    changed our memorandum and appendices to show that the
                    230 properties were not delivered.

Auditee Comments    Your report does not d emonstrate how you determined that
                    70 properties claimed by the contractor were listed as "Not
                    Delivered", when more than adequate HUD-generate d
                    documentation was presented to you by the contractor t o
                    prove that those properties were considered by HUD a s
                    being in our assigned inventory. Even the Indiana Office's
                    payment for these properties indicate that they knew tha t
                    these properties had been assigned to us.

                    Further, your repor t simply concludes that if a property did
                    not receive an accepted bid or close during the contrac t
                    period, that Arbor was not entitled to a commission, while
                    as stated above, these re quirements are not contained in the

OIG Evaluation of   During the term of the contract HUD assigned to Arbor 94
Auditee Comments    of the 412 properties in its inventory. The propertie s
                    assigned were identified in three separate delivery orders .
                    We concluded that the 318 properties were undelivere d
                    properties. HUD reserved the right to selectively assig n
                    properties; therefore, HUD was not obligated to assign al l
                    properties in HUD's inventory during the contract period.
                    When the contract was terminated for the convenience o f
                    the Government, Arbor no longer participated in the sale s
                    as the listing agent. Therefore, Arbor would only b e
                    entitled to commission for properties t hat sold (had a signed
                    purchase agreement) during the contract period regardless
                    of the date the sale closed.

Auditee Comments    As part of the "Results of Audit-Contract Terms" yo u
                    mention that mod ification #2 was issued on June 17, 1991.
                    This attempted modification was illegally drawn and no t
                    accepted by the contractor and designed to deprive th e
                    contractor of large sums of commissions already havin g
                    been earned for a period of over a month and a half. This
                    was a substantial material change of the terms of th e
                    contract and not simply a "clarification". In an inter-office

                             Page 9                           Audit-Related Memorandum
                           memorandum from Carol Smith to J. Nicholas Shelley, and
                           dated June 24, 1991; and made a part of the Appeal Fil e
                           under 49.4, the Contracting Officer states th at she was using
                           authority granted under the clause "Changes with Alternate
                           I". This Clause st ates "The Contracting Officer may at any
                           time, by written order, without notice to the sureties if any,
                           make changes within the general scope of this contract i n
                           any one or more of the following: (1) Description o f
                           services to be performed, (2) time of performance, or (3 )
                           place of performance. This amendment did not deal with
                           any of these allowable changes and was not permissibl e
                           under this clause, or any other part of the contract. Th e
                           audit should have examined this amendment and th e
                           surrounding issues before accepting it as a legal amendment
                           and using it as a basis for determining commissions due to

OIG Evaluation of          Modification 2 did not affect our calculation of th e
Auditee Comments           commissions earned by Arbor. We did not exclud e
                           properties because they were covered in modification 2
                           from our calculation of commissions Arbor earned. Fo r
                           example, we allowed Arbor commission for direct HU D
                           sales during the contract period. We only exclude d
                           properties if theyy were sold before or after the contrac t

Auditee Comments           The draft audit-related memorandum states that, "W e
                           determined the allowability of the commission paid t o
                           Arbor based on whether Arbor Realty participated in th e
                           sale of a property." Participat ion in the sale of a property is
                           not mentioned in the contract as a requirement for th e
                           payment of commission to Arbor, and is not a permissible
                           basis for the auditors to make a determination as t o
                           allowability. Assignment o f a property to Arbor III and the
                           performance of duties required in Section C. of the Contract
                           are all that is required of the Contractor, and should hav e
                           been all that the audit utilized in determining whether a
                           commission was earned.

                           The audit used the date on which a pu rchase agreement was
                           signed as a determin ant that Arbor was the listing agent. If
                           you mean the date on which the purchase agreement wa s
                           signed and accepted by HUD, rather that signed by a
                           potential buyer, then Arbor has no argument, that th e
                           acceptance date could be used to determine when HUD' s
                           liability to pay commission upon closing began to attach.

Audit-Related Memorandum            Page 10
OIG Evaluation of   We modified our memorandum and appendices to allo w
Auditee Comments    Arbor commissions on all properties sold during th e
                    contract period. The properties include those sold directly
                    by HUD and in which Arbor did not participate in the sale
                    of the properties. We also allowed commissions o n
                    properties sold after the contract period for which Arbo r
                    was the selling agent. We used the purchase agreemen t
                    dates to determine whether the properties were sold during
                    the contract period. This was to Arbor's a dvantage since we
                    allowed a commission even if HUD's acceptances and the
                    sales' closing occurred after termination.

Auditee Comments    The balance of the Audit report becomes irrelevant an d
                    unusable when the contract and clau ses are applied as listed
                    above. The number of errors and misinterpretation s
                    contained in the charts (appendices) are to o numerous to list
                    in the response, due to the misapplication of the auditors '
                    unresearched opinion an d conclusions as to applicable law,
                    regulations, and terms of the contract.

                    While the auditors were personable and polite in ou r
                    discussion, I can onl y find that the audit was one-sided and
                    designed to verify conclusions already impro perly drawn by
                    the Chicago office p rior to ordering this audit. I restate my
                    earlier position that the audit should have thoroughl y
                    investigated the Indianapolis office and the actions of th e
                    Chief Property Officer and the Contracting Officer in th e
                    improper and incompetent handling of the contract, th e
                    attempts to defraud the contractor of earned commissions,
                    the true reason for the termination of this contract, th e
                    settlement agreement reached between the office and th e
                    contractor, and payments receive by the contractor as a
                    result of that agreement.

OIG Evaluation of   We have evaluated Arbor's comments to our draft an d
Auditee Comments    revised our memorandum and app endices accordingly. We
                    do not agree that we have misapplied the law, regulations,
                    and contract terms.

                    Our review was independent and not designed to verif y
                    conclusions of the Illinois State (Chicago) Office. W e
                    acknowledge that the Indiana State Office made errors i n
                    administering the contract and its termination. However ,
                    we believe that the errors unjustifiably benefitted Arbor .
                    Arbor offered no docu mentation supporting the charge that
                    the Indiana State Office staff attempted to defraud Arbor.

                            Page 11                          Audit-Related Memorandum
                                     Appendix E

Auditee Comments

Audit-Related Memorandum   Page 32
                  Appendix E

Page 33   Audit-Related Memorandum
                                                                          Appendix F

Secretary's Representative, Midwest
Director, Single Family Division, Indiana State Office (2)
Area Coordinator, Indiana State Office (2)
Assistant General Counsel, Midwest
Field Controller, Midwest
Director, Accounting Division, Midwest
Public Affairs Officer, Midwest
Assistant to the Secretary for Field Management, SC (Room 7106)
Acquisition Librarian, Library, AS (Room 8141)
Chief Financial Officer, F. (Room 10166) (2)
Deputy Chief Financial Officer for Operations, FO (Room 7106) (2)
Administration, Audit Liaison Officer, PF (Room 4122) (3)
Assistant Director in Charge, U.S. GAO, 820 1st NE, Union Plaza Bldg 2,
Suite 150, Washington, DC

Audit-Related Memorandum                   Page 34