oversight

Rawson Management Company Multifamily Management Agent, Hooper, Utah

Published by the Department of Housing and Urban Development, Office of Inspector General on 1996-10-07.

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

                                                                    Issue Date

                                                                         October 7, 1996
                                                                    Audit Case Number

                                                                         97-DE-214-1001




TO:            Ronald C. Bailey, Director, Office of Housing, 8AH


FROM:          W. D. Anderson, District Inspector General for Audit, 8AGA

SUBJECT:       Rawson Management Company
               Multifamily Management Agent
               Hooper, Utah


At the request of the HUD Rocky Mountain Office of Housing's Multifamily Management
Operations Branch, we have audited Rawson Management Company's operations of its six HUD-
insured projects. The audit was conducted as part of Operation Safe Home. The purpose of our
review was to determine whether: (1) the agent was properly in compliance with the terms and
conditions of the Regulatory Agreements and other applicable HUD directives; and (2) the
agent's charges to the HUD-insured projects were reasonable and necessary project expenses.

We found that the agent was not complying with the terms and conditions of the Regulatory
Agreements or HUD regulations and instructions relating to the operation of HUD-insured
projects. The agent: (1) has charged the projects for ineligible salaries; (2) has improperly
distributed project funds to the project owner; and (3) has not established adequate controls over
project funds. In addition, the agent has not thoroughly investigated conversion to energy saving
individual utility meters.

Within 60 days, please furnish this office, for each recommendation cited in the report, a status
report on: (a) the corrective action taken; (b) the proposed corrective action and the date to be
completed; or (c) why action is not considered necessary. Also please furnish us copies of any
correspondence or directives issued because of the audit.

We appreciate the courtesies and assistance extended by the Office of Housing program staff
during this audit. Should you have any questions, please contact Ernest Kite, Assistant District
Inspector General for Audit, at (303)672-5452.
Management Memorandum




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97-DE-214-1001                  Page ii
                                                                    Management Memorandum




Executive Summary
We have audited Rawson Management Company's operations of its six HUD-insured projects.
The audit was conducted as part of Operation Safe Home. The purpose of our review was to
determine whether: (1) the agent was properly in compliance with the terms and conditions of
the Regulatory Agreements and other applicable HUD directives; and (2) the agent's charges to
the HUD-insured projects were reasonable and necessary project expenses. Our Review covered
the period from January 1, 1990 through December 31, 1994.

We found that the agent was not complying with the terms and conditions of the Regulatory
Agreements or HUD regulations and instructions relating to the operation of HUD-insured
projects. The agent: (1) has charged the projects for ineligible salaries totalling $688,210; (2)
has improperly distributed $124,397 of project funds to the project owner; and (3) has not
established adequate controls over project funds. In addition, the agent has not thoroughly
investigated conversion to energy saving individual utility meters.



                                     The projects have been charged and have paid $688,210 in
 Salaries were ineligible
                                     ineligible salaries from 1990 through 1994. This includes
                                     $572,880 for excess payments to reimburse the agent for
                                     maintenance and repairs payroll, $101,650 for payments to
                                     reimburse the agent for the cost of ineligible salaries for
                                     central office staff and $13,680 for payments to reimburse
                                     the agent for on-site manager salaries that were never
                                     incurred. These improper payments happened because the
                                     agent has disregarded HUD requirements. As a result, the
                                     projects have been deprived of needed operating funds.

                                     The management agent has improperly disbursed to the
 Distributions were
                                     project owner withdrawals totaling $124,397 from the
 improper
                                     Normandie Apartments operating accounts. The owner
                                     received the withdrawals without the required HUD
                                     approval and when the projects had no surplus cash. These
                                     withdrawals have occurred because the agent has
                                     disregarded HUD's requirements for owner distributions
                                     even after being notified by HUD that the disbursements
                                     were ineligible. As a result, the Department's security
                                     interest in these projects has been jeopardized.



                                              Page iii                               97-DE-214-1001
                            The agent has not established adequate controls over project
Controls are not adequate
                            funds. Enhanced internal controls and cash management
                            improvements are needed to ensure that common expenses
                            are fairly allocated among the HUD-insured projects,
                            materials and supplies are provided to the projects at the
                            most advantageous terms, security deposits are protected,
                            fidelity bond coverage is adequate, and rent receipts are
                            safeguarded. These control weaknesses have occurred
                            primarily because the agent has decided not to comply with
                            HUD requirements. These weaknesses have exposed the
                            projects to inefficient use of their resources and may have
                            exposed HUD to excessive rent subsidies.

                            The audit results were presented to the auditee in the form
Auditee Comments
                            of a draft audit report and were discussed with him at an
                            exit conference on June 7, 1996. The auditee provided us
                            with several written responses dated May 20, 1996 through
                            June 7, 1996.

                            The auditee generally disagreed with our audit findings. He
                            claims that HUD either verbally approved the items we cite
                            in this report or that HUD was aware of the items and did
                            not instruct him to change his operations, thereby
                            approving. He did not offer any documentation that would
                            compel us to change our original conclusions.




                                    Page v                                  97-DE-214-1001
Table of Contents

Management Memorandum                                    i


Executive Summary                                       iii


Introduction                                             1


Findings

        1        The Management Agent has Charged
                 the Projects for Ineligible Salaries    3

        2        Project Funds Were Improperly
                 Withdrawn                              15

        3        Accounting and Management Controls
                 Need to be Improved                    21


Issue Needing Further Study and Consideration           33


Internal Controls                                       35


Follow Up On Prior Audits                               37


Appendices

        A        Auditee Comments                       39

        B        Distribution                           55



97-DE-214-1001                      Page vi
           Table of Contents




Page vii         97-DE-214-1001
Table of Contents




                    THIS PAGE LEFT BLANK INTENTIONALLY




97-DE-214-1001                    Page viii
Introduction
Thompson Rawson Co. (a Utah Corporation), dba Rawson Management Company, and R. F.
Rawson Company, is an identity-of-interest management agent located in Hooper, Utah. The
President of Thompson Rawson Co. is Rodger F. Rawson. The agent manages Thompson
Rawson Co.'s six HUD-insured apartment complexes, two Farmer's Home subsidized projects,
miscellaneous other real estate holdings, its farm, and its related construction businesses.

According to Rawson Management Company's most recent management profile, the agent has
managed HUD-subsidized properties since 1973 and manages a total of 324 subsidized units.
The agent has managed all six HUD-insured projects since at least 1989. The latest audited
financial statements for the six HUD-insured projects managed by Rawson Management
Company show that Thompson Rawson Co. and/or Rodger Rawson are general partners in each
project. The six projects managed by the agent are located in Utah and Idaho.

The mortgages on each of the six projects are insured and subsidized by HUD under the Section
236 program. In addition, each of the six projects receive Section 8 subsidy assistance under
Housing Assistance Payment Contracts. The projects' rents are based on the projects' budget of
revenues and expenses.

Specific project information is listed below:


                                                                   No.        Rawson
                                       Project           Year      of         Ownership
 Project Name          Location        Number            Insured   Units      Percentage
 LaDawn I              Roy, UT         105-44029         1973      32         50%
 LaDawn II             Roy, UT         105-44034         1974      32         50%
 Norman Manor          Burley, ID      124-44007         1972      48         100%
 Normandie I           Ogden, UT       105-44002         1971      36         100%


 Normandie II          Ogden, UT       105-44022         1973      16         100%


 Osmond Heights        Ogden, UT       105-44035         1974      40         100%

The agent managed all six projects during the entire audit period, and received a percentage of
project receipts as a management fee for managing the projects in compliance with HUD
requirements.

The agent procured materials and services for the projects, and used its own employees and
equipment to maintain the properties. The maintenance employees worked for the HUD projects,


                                                Page 1                              97-DE-214-1001
Introduction



and for the agent/owner's other properties, construction and farm activities. The agent billed the
HUD-insured projects monthly for the maintenance and management services provided.

Project records are located at the Rawson Management office at 5175 West 4000 South, Hooper,
Utah.



                                     The purpose of our review was to determine whether: (1)
 Audit Objectives
                                     the agent was properly in compliance with the terms and
                                     conditions of the Regulatory Agreements and other
                                     applicable HUD directives; and (2) the agent's charges to
                                     the HUD-insured projects were reasonable and necessary
                                     project expenses.

                                     To accomplish our objectives, we reviewed files and other
 Audit Scope
                                     information of the agent, the projects managed by the agent
                                     and HUD. We also interviewed the agent, his employees
                                     and employees of HUD. We analyzed accounting
                                     transactions and tested the accounting systems of the agent
                                     and of the projects he managed.

                                     Our audit period generally covered activities from January
 Audit Period
                                     1, 1990 through December 31, 1994. We conducted the
                                     audit in accordance with government auditing standards.




97-DE-214-1001                                Page 2
                                                                                       Finding 1




      The Management Agent has Charged the
          Projects for Ineligible Salaries
The projects have been charged and have paid $688,210 in ineligible salaries from 1990 through
1994. This includes $572,880 for excess payments to reimburse the agent for maintenance and
repairs payroll, $101,650 for payments to reimburse the agent for the cost of ineligible salaries
for central office staff and $13,680 for payments to reimburse the agent for on-site manager
salaries that were never incurred. These improper payments happened because the agent
disregarded HUD requirements. As a result, the projects have been deprived of needed operating
funds.



                                     HUD Handbook 4381.5, Management Documents, Agents
 HUD Requirements
                                     and Fees, outlines the charges that may be paid out of the
                                     project accounts and those that must be absorbed by the
                                     management fee. This Handbook generally allows each
                                     project's accounts to be charged for the costs incurred for
                                     front-line management of the project.

                                     Maintenance and Repairs Payroll

                                     Maintenance and repairs payroll expenses were charged to
 The projects were
                                     each of the projects by the management agent on a monthly
 charged for maintenance
                                     basis. However, the agent could not demonstrate to us any
 and repairs salaries
                                     factual basis for the amounts charged.

                                     This expense item includes:

                                     •   Account #6510 - Janitorial and Cleaning Payroll
                                         Expense;

                                     •   Account #6540 - Repairs Payroll Expense;

                                     •   Account #6560 - Decorating Payroll/Contract Expense;
                                         and,

                                     •   Account #6535 - Grounds Payroll Expense.

                                     All four expenses are billed by the management agent to
 Salary charges were
                                     each project similarly for each month. For 1990, the
 based on estimates


                                              Page 3                                 97-DE-214-1001
Finding 1



     projects were usually billed a flat dollar amount based on the annual budgeted amount. From
     1991 through 1994, the agent estimated the amount of time that his maintenance staff spent
     on each activity during the month for each project. These estimated hours were billed to the
     projects at predetermined hourly rates.

                                     The management agent told us that he based these rates on
                                     what local contractors charge for similar services.
                                     However, he did not have cost comparisons or written
                                     estimates from local contractors supporting the rates
                                     charged. Likewise, he had not based the rates on any other
                                     consistent and fair allocation of indirect costs.

                                     He did tell us that his billing rates were marked-up about
                                     100% from the actual wages paid. These mark-ups were
                                     intended to reimburse him for the actual base wages, direct
                                     overhead taxes, insurance and other overhead costs, (such
                                     as the use of his tools and equipment and transportation
                                     costs) as well as to allow for a reasonable profit. The agent
                                     said that he limits his annual charges for these expenses to
                                     the approved budget amount.

                                     HUD Handbook 4381.5, Section 2-15 allows for reasonable
 HUD allows only actual
                                     amounts incurred for front-line, day-to-day activities to be
 costs
                                     charged against the project accounts. If staff work is
                                     performed out of the agent's office for several projects, the
                                     agent must prorate the costs among the projects served in
                                     proportion to actual use. Also, the agent may not impose
                                     any surcharges or administrative fees on top of the actual
                                     costs.

                                     Therefore, while the agent did incur costs while providing
                                     maintenance and repair services to the projects, he cannot
                                     arbitrarily charge the projects for those services. He must
                                     limit his charges to the actual costs he incurred.

                                     We attempted to identify the actual costs incurred by the
 The agent's records did
                                     agent in providing maintenance and repair services to the
 not account for hourly
                                     projects. There were several factors that made this task
 billings
                                     impossible:

                                     •   Most of the time, employees did not keep detailed
                                         timesheets showing hours worked by activity or by
                                         project.



97-DE-214-1001                                Page 4
                                                                         Finding 1



                      •   The amounts billed to the projects were based on
                          estimates of hours spent by employees on various
                          activities at each project.

                      •   The agent did not reconcile the number of hours billed
                          to all the projects with the actual number of hours
                          worked for the month. The amount of hours charged by
                          the agent appeared to be significantly more than would
                          be supported by the agent's payroll.

                      •   These expenses were for time spent by agent employees
                          (manager or maintenance man) cleaning the common
                          areas and performing janitorial services as well as time
                          spent by the agent's maintenance crew performing
                          repairs and decorating work at the projects. However,
                          the on-site manager's salary is charged under
                          management salaries (discussed later), and the
                          maintenance employees work on HUD related and non-
                          HUD related activities.

                      •   The agent's computer system could not provide us with
                          a consolidated general ledger printout for the entire year
                          and other previous printouts for the period could not be
                          located.

                      In order to obtain the most conservative disallowed cost
We computed the
                      possible, we determined actual, allowable maintenance and
maximum actual cost
                      repairs salaries as follows:

                      •   We computed the agent's actual amounts paid to his
                          employees based on employer payroll records (any
                          available W-2's, quarterly reports or year-end
                          summaries).

                      •   We computed a payroll overhead rate based on payroll
                          overhead costs (taxes, workman's compensation
                          insurance, unemployment insurance). The agent's other
                          employee insurance costs were charged separately to
                          the projects and were not included in this rate.

                      •   Costs for employees who worked on more than one
                          project were considered to be indirect and were prorated
                          to each project based on that project's number of units
                          as a percentage of all units managed by the agent (both


                               Page 5                                   97-DE-214-1001
Finding 1



                               HUD insured and non-HUD insured). We did not
                               deduct time spent by the indirect employees on the
                               agent's farming or construction activities because we
                               were unable to readily determine the percent of time
                               devoted to such activities.

                           •   For each project, we added the payroll costs of the
                               direct employees and the prorated payroll costs of the
                               indirect employees. We added to that total an amount
                               for payroll overhead based on our computed payroll
                               overhead amount.           We believe this amount
                               conservatively represents the total incurred by the agent
                               for maintenance and repairs salaries.

                           Based on this amount, the agent has charged his HUD
 Salary charges exceeded
                           insured projects $572,880 more than he has incurred for
 actual costs
                           maintenance and repairs salaries. Each project was
                           overcharged:

                           Normandie I . . . . . . . . . . . . . . . . . . . . . . . . . . . . $81,537
                           Normandie II . . . . . . . . . . . . . . . . . . . . . . . . . . . . 57,142
                           LaDawn I . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 80,448
                           LaDawn II . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 85,797
                           Norman Manor . . . . . . . . . . . . . . . . . . . . . . . . . . 168,438
                           Osmond Heights . . . . . . . . . . . . . . . . . . . . . . . . . 99,518
                              Total                                                             $572,880

                           Office Salaries

                           According to the management agent, the Office Salaries
 The projects were
                           expense was to reimburse the agent for the salaries of his
 charged for salaries of
                           central office staff. The central office staff included the
 central office staff
                           management agent, the agent's bookkeeper and members of
                           the agent's family who performed various functions.

                           The agent bills the projects for this expense monthly based
                           on that month's share of the annual budgeted line item
                           amount for each project. For most of the audit period from
                           1990 to 1993, the agent billed exactly $10 per unit per
                           month. For Normandie I and II, the agent received a rent
                           increase and corresponding budget increase in 1993 and
                           started charging $13.89 per unit per month or $500 per
                           month for Normandie I and $12.50 per unit per month or
                           $200 per month for Normandie II effective June 1993.


97-DE-214-1001                        Page 6
                                                                                           Finding 1



                            The amounts paid by each project from 1990 through 1993
                            are:

                                Normandie I . . . . . . . . . . . . . . . . . . . . . . . . . $18,260
                                Normandie II . . . . . . . . . . . . . . . . . . . . . . . . . . . 8,072
                                LaDawn I . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15,383
                                LaDawn II . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15,482
                                Norman Manor . . . . . . . . . . . . . . . . . . . . . . . . 23,905
                                Osmond Heights . . . . . . . . . . . . . . . . . . . . . . 20,548
                                   Total . . . . . . . . . . . . . . . . . . . . . . . . . . . $101,650

                            We reviewed these expenses for all of the HUD insured
We reviewed expenses
                            projects for December 1990, December 1991, December
for test months
                            1992, June and December 1993 and June and December
                            1994. We also reviewed these expenses for Normandie I
                            and II for May, June, and July of 1994.

                            For each item we tested:

                            •   the disbursement was to the management agent;

                            •   the amount billed was based on a predetermined budget
                                amount; and

                            •   the amount billed was not supported by documentation
                                of the agent's actual costs for eligible front-line services.
                                The agent maintains payroll records for the central
                                office staff. However, these records do not include
                                documentation showing the types of activities
                                performed or the amount of time spent on any
                                individual project.

                            Section 2-15 of HUD Handbook 4381.5 allows reasonable
Payments are not eligible
                            expenses incurred for front-line management activities to be
                            charged to the projects' operating accounts. This section
                            defines front-line activities as including:

                                •   taking applications;

                                •   screening, certifying and recertifying residents;

                                •   maintaining the project; and,

                                •   accounting for project income and expenses.


                                      Page 7                                             97-DE-214-1001
Finding 1



                             The Handbook does allow for prorating central office staff
                             time for non-supervisory staff that work on front-line
                             duties. However, all the HUD-insured projects had site
                             managers and offices to handle the day-to-day project
                             operations. They also all paid a contractor separately for
                             bookkeeping and accounting services.

                             Therefore, lacking any evidence that non-supervisory
                             central office staff worked on front-line duties, we conclude
                             they did not, and these costs are not allowable.

                             Correspondence with HUD in August 1994 indicated that
 The agent has stopped
                             the agent agreed that this was not a valid project expense.
 this practice
                             Although the agent continued to charge this expense, it was
                             subsequently backed out from the projects' general ledgers
                             and audited financial statements for 1994.

                             Management Salaries

                             According to the management agent, the Management
 The projects were
                             Salaries expense was to reimburse the agent for the salaries
 charged for manager
                             of the on-site managers. Each project made payments to the
 salaries
                             management agent for manager salaries during each year of
                             our audit period.

                             HUD Handbook 4381.5 REV-1, Management Documents,
 Manager salaries can be
                             Agents and Fees, issued June 1986, states that reasonable
 charged to project
                             amounts incurred for front-line, day-to-day activities may
 accounts
                             be charged against the project operating accounts.

                             However, the agent does not bill this expense item to each
 Manager salaries were
                             project based on the amount incurred. Rather, he bills the
 not based on actual costs
                             projects for this expense monthly based on the annual
                             budgeted line item amount for each project.

                             We reviewed these expenses for all of the HUD insured
 We reviewed expenses
                             projects for December 1990, December 1991, December
 for test months
                             1992, June and December 1993 and June and December
                             1994. We also reviewed these expenses for Normandie I
                             and II for May, June, and July of 1994.




97-DE-214-1001                        Page 8
                                                                                          Finding 1



                         For each item we tested:

                         •   the disbursement was to the management agent;

                         •   the amount billed was based on a predetermined budget
                             amount; and

                         •   the amount billed was not supported by documentation
                             of the agent's actual costs for eligible front-line services.

                         During the audit we attempted to determine the actual
Actual costs cannot be
                         amounts incurred for the manager's salary at each of the
determined
                         projects from 1991 through 1994. However, while the
                         agent maintains payroll records for the on-site managers, in
                         most cases these records do not include timesheets showing
                         the types of activities performed or the amount of time
                         spent on individual projects. Since in most cases the on-site
                         manager also provided maintenance services for the project,
                         the payroll records do not accurately show the actual salary
                         cost incurred for project management.

                         Therefore, to obtain the most conservative ineligible
                         expense possible, we classified all payments made to the
                         managers as actual manager salary expense. We then
                         computed a payroll overhead rate based on the management
                         agent's payroll records and applied that rate to the salary
                         expenses to obtain the total amount incurred by each project
                         for on-site management.

                         We found that, while some of the projects were
The projects were
                         overcharged and some undercharged, the HUD-insured
overcharged
                         projects managed by the agent were overcharged a
                         cumulative $13,680 for on-site manager salaries from 1990
                         through 1994:

                         Normandie I . . . . . . . . . . . . . . . . . . . . . . . . . . . . $12,053
                         Normandie II . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8,088
                         LaDawn I . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,159
                         La Dawn II . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,417
                         Norman Manor . . . . . . . . . . . . . . . . . . . . . . . . . . (12,842)
                         Osmond Heights . . . . . . . . . . . . . . . . . . . . . . . . .          (195)
                            Total . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $13,680




                                    Page 9                                              97-DE-214-1001
Finding 1



                        We have observed many instances where the owner should
 The owner disregards
                        have been aware of the requirements for operating HUD-
 HUD's requirements
                        insured projects, but chose to operate his HUD-insured
                        projects differently. Other cases are detailed in the other
                        findings. In this case, the HUD Handbook clearly states
                        that the projects may pay for costs incurred to perform day-
                        to-day functions. However, the owner has chosen to charge
                        the projects for amounts that appear in the annual budgets.

                        Operating the projects in this manner results in more of the
                        projects' assets being used to fund operations than normally
                        anticipated by HUD. This results in fewer assets being
                        available for debt service and capital expenditures than
                        initially projected when HUD decided to insure the
                        mortgage on the property.

                        HUD's interest in these properties is directly related to the
                        physical condition of the properties as well as the punctual
                        payment of the debt service. Therefore, HUD must take
                        action to correct the way in which the owner charges the
                        projects for office and management salaries.



Auditee Comments        The auditee provided us with several written responses
                        dated May 20, 1996 through June 7, 1996. Those responses
                        have been included in their entirety in Appendix A. The
                        auditee also provided us with some supporting
                        documentation which we have passed on to the appropriate
                        HUD staff.

                        Maintenance and Repairs Payroll

                        The agent believes that he has charged the projects an
                        amount for maintenance and repairs payroll which covered
                        his cost of labor plus his cost of maintaining an extensive
                        inventory of equipment, vehicles and tools. He feels that he
                        should be able to charge for labor at rates that equal those
                        charged by licensed tradesmen (electricians, plumbers,
                        contractors, painters, etc.) in the area.

                        Also, he should be able to charge the projects for all of the
                        costs incurred in maintaining the equipment, vehicles and
                        tools. These costs include: fuel, repairs, maintenance, wear
                        and tear.


97-DE-214-1001                  Page 10
                                                                       Finding 1



                    In addition, he feels he should receive monies from the
                    projects to reimburse him for his out-of-pocket cash he used
                    for project expenses as well as for the thousands of hours he
                    has spent personally working on maintenance, decoration,
                    grounds and repair.

                    He feels we should reconsider the costs of outside
                    contractors that were charged to the projects.

                    The agent stated that he no longer charges the projects for
                    maintenance and repairs payroll based on estimated time.
                    Each employee is now required to track his/her time each
                    day. Charges are made to each project based on the actual
                    time spent at that project each month.

                    Office Salaries

                    The agent has stopped charging the projects for office
                    salaries. However, he asserts that his central office staff
                    performs front-line duties at the projects. He feels it is
                    necessary for his central office staff to perform these duties
                    because they have fewer errors and problems than when the
                    on-site managers perform these duties. He wants to track
                    the time spent on front-line duties for the purpose of
                    charging the projects for that time.

                    The agent would also like to charge the projects for
                    bookkeeping expense since the contract bookkeeper hasn't
                    provided any services since 1994.

                    Management Salaries

                    The agent indicated that he has started charging the projects
                    for only the actual cost of the manager's salaries plus
                    overhead.


OIG Evaluation of   Maintenance and Repairs Payroll
Auditee Comments
                    We contend the projects have paid the agent $572,876 for
                    ineligible maintenance and repairs payroll. The agent's
                    response did not provide any information that would
                    dispute our contention.



                            Page 11                                   97-DE-214-1001
Finding 1



                 The agent feels that he has charged the projects for the
                 reimbursement of the cost of labor and equipment usage.
                 However, his records provide no basis for charges of this
                 type. As we explained in the finding, HUD rules do not
                 allow for a surcharge on agent payroll costs for
                 performance of front-line duties. Therefore, even though
                 the agent holds tradesman licenses, he cannot charge higher
                 than actual cost for the labor of his employees.

                 If the agent wishes to be reimbursed for the project related
                 use of vehicles and equipment, he should document use by
                 the projects and charge a reasonable rate for that use.

                 The purpose of this charge is not to reimburse the agent for
                 his cost of the equipment, but to charge the projects' for use
                 of the equipment. HUD does not require an extensive
                 inventory of vehicles and equipment, nor does it prohibit
                 one. Therefore, the maintenance of this inventory is
                 entirely at the option of the agent. The agent should realize
                 that it is not acceptable to have the projects pay an amount
                 in excess of an appropriate, reasonable usage fee.

                 The agent may be allowed to be reimbursed from project
                 accounts for his out-of-pocket cash he used for project
                 expenses. However, he did not demonstrate to us when or
                 how much out-of-pocket cash he has spent on project
                 expenses. The agent should note that "owner advances"
                 were only payable from surplus cash during most of the
                 audit period.

                 HUD regulations do not allow an owner or agent to be
                 reimbursed from project accounts for his/her labor. HUD
                 Handbook 4370.2, Section 2-10 states that "The term
                 distribution includes...any salaries or other fees paid to the
                 sponsor or mortgagor, unless those salaries or fees have
                 been approved by HUD as essential to the operation of a
                 project..." Distributions are only payable from surplus cash.
                 In addition, HUD Handbook 4381.5 states that
                 "Supervisory personnel are paid from the management fee,
                 whether or not they perform supervisory or front-line
                 tasks..."

                 We have not taken issue with any of the costs of outside
                 contractors incurred by the projects. The fact that they are


97-DE-214-1001           Page 12
                                                   Finding 1



not noted in this report indicates that they have not been
disallowed.

The agent has started to charge the projects for maintenance
and repairs payroll based on the actual time spent at each
project by the maintenance staff. We recognize this as a
positive reaction to our audit. However, this action does
not address the ineligible costs identified during our audit.

Office Salaries

We contend that the projects have paid the agent $101,650
for ineligible office salaries. The salaries are ineligible
because the agent has no evidence that the payments were
for non-supervisory central office staff performing front-
line duties. The agent's response did not provide any
information that would dispute our contention.

HUD has clearly defined which salaries can be paid by the
projects and which salaries must be paid from the
management fee. HUD Handbook 4381.5 states that the
agent can charge the time of non-supervisory central office
staff to the project accounts if that person's job description
includes front-line duties and that person keeps track of the
actual time spent performing front-line duties. However,
the agent's central office staff did not have job descriptions
that included front-line duties and non-supervisory duties,
and the staff did not keep track of the time they spent
performing front-line duties for the projects. Therefore, his
charges to the projects for office salaries are not allowable.

If the agent wishes to develop job descriptions and charge
the projects for the cost of office salaries, he must do so in
accordance with HUD rules. However, we still do not feel
it is reasonable to charge the cost of office salaries to a
project that has an on-site manager. According to HUD
Handbook 4381.5, the management fee is intended to pay
for the cost of supervising and checking the performance of
on-site staff.

If the agent wishes to be reimbursed by the projects for the
cost of centralized accounting and bookkeeping, then he
should follow the guidance in HUD Handbook 4381.5.



        Page 13                                   97-DE-214-1001
Finding 1



                  Management Salaries

                  No evaluation is necessary.



Recommendations   We recommend that HUD:

                  1A.    Direct the management agent to reimburse each
                         project for its share of the $688,210 in ineligible
                         costs paid.

                  1B.    Direct the management agent to only charge the
                         projects for the actual cost of maintenance and
                         repairs payroll.

                  1C.    Direct the management agent to acknowledge that
                         payments for office salaries will not be made unless
                         he develops a plan for charging these items and
                         submits that plan for your approval.

                  1D.    Direct the management agent to only charge the
                         projects for the actual cost of management salaries
                         incurred.

                  1E.    Direct the management agent to provide evidence
                         that these practices did not continue in 1995. If they
                         have, require reimbursement for any ineligible
                         amounts paid by the projects.

                  1F.    Review the agent's operations after these
                         recommendations have been implemented.
                         Determine if the changes are adequate and in
                         conformity with HUD regulations.

                  1G.    Direct the owner to engage a new arms-length
                         management agent if the current management agent
                         is not responsive and effective in resolving this
                         finding.




97-DE-214-1001            Page 14
                                                                                      Finding 2




   Project Funds Were Improperly Withdrawn
The management agent has improperly disbursed to the owner of the projects withdrawals
totalling $124,397 from the Normandie Apartments operating accounts. The owner received the
withdrawals without the required HUD approval and when the projects had no surplus cash.
These withdrawals have occurred because the agent has disregarded HUD's requirements for
owner distributions even after being notified by HUD that the disbursements were ineligible. As
a result, the Department's security interest in these projects has been jeopardized.



                                    The use of project funds except for reasonable operating
 HUD Requirements
                                    expenses and necessary repairs is a violation of Section 6(b)
                                    of the Regulatory Agreement. This section states that the
                                    owner shall not, without the prior written approval of the
                                    HUD Secretary, "assign, transfer, dispose of, or encumber
                                    any personal property of the project, including rents or pay
                                    out any funds, other than from surplus cash, except for
                                    reasonable operating expenses and necessary repairs."

                                    HUD Handbook 4370.2, Financial Operations and
                                    Accounting Procedures for Insured Multifamily Projects
                                    (effective January, 1991), provides other requirements that
                                    must be followed while operating HUD-insured housing.

                                    According to the projects' audited financial statements, the
 Over $120,000
                                    owner received a total of $124,397 from the Normandie I
 improperly withdrawn
                                    and II accounts from January 1, 1989 through December
 and not repaid
                                    31, 1994. These payments were made while neither
                                    Normandie project was in a surplus cash position.

                                    The following is a summary of the $124,397 in ineligible
                                    disbursements from the Normandie accounts during the
                                    audit period:




                                            Page 15                                  97-DE-214-1001
Finding 2




                                                 Normandie I   Normandie      Total
                                                                  II

                              Payments to            $58,979       $33,794    $92,773
                              Ogden Door

                              Repayment of           $24,952        $2,672    $27,624
                              Owner Advances

                              Other Payments          $3,200          $800     $4,000
                              For\to Owner

                              Total                  $87,131       $37,266   $124,397


                            Payments totalling $92,773 have been made to the projects'
 $92,773 paid to former
                            prior owner, Ogden Door Company. As part of the
 owner
                            purchase of this and several other projects in 1989, the
                            current owner agreed to make these payments to Norman
                            Thompson, dba Ogden Door Company as "funds become
                            available from the project."

                            These amounts were accounted for on the projects' books as
                            prior owner advances to the projects. However, all of the
                            advances were made before the sale of the projects.
                            Therefore, any amounts "owed" to the prior owner after the
                            sale of the projects must be considered as part of the sale
                            price of the projects.

                            Since these payments to the prior owner are actually
                            payments on the purchase of the property, they are not
                            "reasonable operating expenses and necessary repairs". As
                            explained in Section 6(b) of the Regulatory Agreement,
                            these payments can only be paid out of surplus cash.

                            The agent stated that the repayment of the advances from
                            "available cash" was approved by HUD. However,
                            correspondence in the HUD files shows no such
                            authorization and instead shows that HUD has repeatedly
                            requested that the owner repay the amounts to the projects
                            because the payments were made when the project did not
                            have surplus cash.

                            Payments totalling $26,124 were paid to the owner during
 $27,624 for repayment of
                            the years 1991 through 1994 for repayment of advances for
 owner advances
                            1990 operating expenses. An additional $1,500 was paid to



97-DE-214-1001                        Page 16
                                                                                  Finding 2



  the owner for interest on a loan he made to Normandie Apartments for installation of a new
  roof.

                                 HUD Handbook 4370.2 requires that advances may be
                                 repaid only from surplus cash at the end of an annual or
                                 semi-annual period. In addition, prior HUD approval is
                                 needed if the owner wants to receive repayment before the
                                 end of the annual or semi-annual period. However, the
                                 Normandie projects were not in a surplus cash position
                                 during the years 1991 through 1994 and HUD did not give
                                 approval for any withdrawals.

                                 The remaining $4,000 payment was for an appraisal
$4,000 paid for the
                                 obtained by the owner for Title VI processing. This is an
benefit of the owner
                                 expense of the owner and not a reasonable operating
                                 expense of the project.

                                 Unauthorized withdrawals not only violate HUD
Project conditions could
                                 regulations, they also weaken the financial condition of the
have been improved
                                 projects and contribute to the lack of funds available to
                                 make needed repairs.

                                 Inspections of Normandie Apartments during the audit
                                 period showed that the projects needed substantial repairs.
                                 A physical inspection by the HUD Asset Manager in
                                 September 1992 indicated the projects were in "below
                                 average" condition. In addition, an architectural inspection
                                 of the projects in December 1993 showed that the projects
                                 needed about $84,000 in repairs.

                                 Our inspection of the project in September 1994 indicated
                                 that most of the deficiencies on those prior inspection
                                 reports (e.g. retaining walls, sidewalks, soffits etc.)
                                 remained uncorrected.        The money used for the
                                 unauthorized withdrawals could have been used to improve
                                 the physical condition of the projects.

                                 The agent has repeatedly made these types of distributions
Withdrawals must stop
                                 even after HUD has notified him that they are improper.
                                 This makes it appear that the agent is intentionally
                                 disregarding HUD's requirements for owner withdrawals.

                                 HUD needs to stop the agent from making these payments
                                 because it has an interest in ensuring that the projects are


                                          Page 17                                97-DE-214-1001
Finding 2



                    financially and physically sound. Withdrawal of project
                    funds at times other than authorized and when the projects
                    have no surplus cash, is detrimental to the interest of the
                    projects and HUD.

Auditee Comments    The auditee provided us with several written responses
                    dated May 20, 1996 through June 7, 1996. Those responses
                    have been included in their entirety in Appendix A. The
                    auditee also provided us with some supporting
                    documentation which we have passed on to the appropriate
                    HUD staff.

                    The agent claims that at the time of the purchase of the
                    property by the current owner, HUD agreed that the prior
                    owner would be paid monies out of the projects' accounts.
                    He further claims that agreement was an oral one and that
                    HUD has since changed its opinion.

                    The agent would like to be reimbursed for payments he
                    made several years ago for repairs at Normandie II and
                    Osmond Heights.

                    He also claims that the appraisal fee originally paid by the
                    project was repaid in 1995.

                    The agent took exception to our characterization of the
                    physical condition of his projects and explained that he has
                    repaired or corrected many physical deficiencies since
                    buying the projects.


OIG Evaluation of   We have found no indication that HUD has approved
Auditee Comments    payment of project funds to the prior owner. In fact, HUD
                    formally questioned payments made in 1989 (the year the
                    current owner purchased the properties), 1990 and 1991. In
                    response to these questions, the owner characterized the
                    payments as reductions in "accounts payable".

                    However, any payments to the prior owner are clearly
                    payments toward the purchase price of the projects. The
                    sales agreement between the current and prior owners even
                    states that these payments are payments on the sales price
                    of the properties.



97-DE-214-1001              Page 18
                                                                      Finding 2



                  That same sales agreement states that the payments will "be
                  paid to Sellers immediately upon funds becoming available
                  from the projects". We believe this provision does not
                  make a claim on project assets, but rather on partnership
                  assets. Under the projects' regulatory agreements, the
                  partnerships cannot receive project funds unless there is
                  surplus cash.

                  Even if the sales agreement is interpreted to make a claim
                  on the assets of the projects, we do not believe that the sales
                  agreement can override the previously executed Regulatory
                  Agreement which only allows payments for reasonable
                  operating expenses and necessary repairs unless there is
                  surplus cash.

                  The agent should consult with HUD regarding the
                  repayment of advances he made to the projects in prior
                  years. HUD has developed rules regarding repayment of
                  advances.

                  During our exit conference, the agent provided us with a
                  copy of the duplicate of a check dated 5/10/95 for $3,200 to
                  Normandie I for reimbursement of an appraisal fee. HUD
                  should assure itself that this amount was deposited into the
                  project accounts and that a corresponding deposit was made
                  into the accounts of Normandie II.

                  We acknowledge that the agent has completed some
                  physical repairs since the new owner purchased the project.
                  We did not intend to imply that the physical condition of
                  the projects has deteriorated. We do believe, however, that
                  there were deficiencies that still needed to be corrected.
                  The ineligible disbursements we noted in this finding could
                  have been used to fund those corrections.



Recommendations   We recommend that HUD:

                  2A.    Direct the agent to repay $124,397 in unauthorized
                         withdrawals to the Normandie projects' operating
                         accounts. Determine if the project accounts reflect
                         the repayment of the appraisal fees. If so, allow the
                         agent credit for that amount.



                          Page 19                                   97-DE-214-1001
Finding 2



                 2B.   Identify any amounts improperly withdrawn after
                       December 31, 1994. Require reimbursement to the
                       projects' operating accounts.

                 2C.   Advise the agent of the requirements that must be
                       met before making future withdrawals of project
                       funds.

                 2D.   Direct the owner to engage a new arms-length
                       management agent if the current management agent
                       is not responsive and effective in resolving this
                       finding.




97-DE-214-1001         Page 20
                                                                                       Finding 3




        Accounting and Management Controls
                Need to be Improved
The agent has not established adequate controls over project funds. Enhanced internal controls
and cash management improvements are needed to ensure that common expenses are fairly
allocated among the HUD-insured projects, that materials and supplies are provided to the
projects at the most advantageous terms, that security deposits are protected, that fidelity bond
coverage is adequate, and that rent receipts are safeguarded. These control weaknesses have
occurred primarily because the agent has decided not to comply with some HUD requirements.
These weaknesses have exposed the projects to inefficient use of their resources and may have
exposed HUD to excessive rent subsidies.



                                     HUD Handbook, 4370.2 REV-1, Financial Operations and
 HUD Requirements
                                     Accounting Procedures for Insured Multifamily Projects,
                                     Paragraph 2-12, provides guidelines for cash management
                                     controls over disbursements, security deposits, fidelity
                                     bonds, and cash receipts. These controls are necessary to
                                     ensure that project assets are adequately protected.

                                     In addition, Paragraph 4-4 of the Handbook provides
                                     instructions relevant to the maintenance of project accounts
                                     including tenant and other accounts receivable. The
                                     projects' regulatory agreements and Paragraph 2-3 of the
                                     Handbook require the project books and records to be
                                     complete and accurate and kept in reasonable condition for
                                     proper audit at all times.

                                     We found significant control weaknesses in the following
 Control weaknesses exist
                                     areas:
 in the agent's operations
                                     •   Allocation of Indirect Costs

                                     •   Charges for Materials and Supplies

                                     •   Security Deposits

                                     •   Fidelity Bond Coverage

                                     •   Tenant Rent Receipts




                                             Page 21                                 97-DE-214-1001
Finding 3



                             The Agent does not have a fair and consistent method of
                             allocating indirect costs to the projects.

                             HUD Handbook 4381.5 REV-2, The Management Agent
 HUD allows charges for
                             Handbook, issued December 29, 1994, specifically states in
 overhead
                             Paragraph 6.38 that the agent may charge actual overhead
                             expenses attributable to the performance of the front-line
                             duties but may not impose surcharges or administrative fees
                             in addition to actual costs. The agent may bill the project
                             for staff performing front-line functions only if the
                             following conditions are met:

                             •   Salaries of the agent's supervisory personnel are not
                                 charged to the project.

                             •   There is a job description for each position outlining the
                                 responsibilities of the position and that the position does
                                 not include supervisory functions.

                             •   The agent develops a reasonable hourly billing rate not
                                 exceeding the amount that would have been paid to an
                                 on-site staff member with similar experience.

                             •   Staff members document hours spent and duties
                                 performed for each project.

                             The agent was not meeting these conditions at the time of
 The agent does not fairly
                             our review. In fact, as explained more fully in Finding 1,
 allocate overhead or
                             the agent charged the projects for salary reimbursement
 expenses
                             based on cost estimates and arbitrary mark-ups.

                             In addition, the agent allocates some of his indirect
                             expenses only to his eight federally insured projects (6
                             HUD and 2 Farmers Home Administration projects) instead
                             of all projects and activities which may benefit from the
                             expenses. Among the federally insured projects, some
                             indirect expenses are allocated equally to the projects even
                             though the projects may vary significantly in size.

                             Also, common expenses for Normandie I and II were
                             allocated between the two projects based on an 80/20 ratio.
                             However, the number of units in each project indicates that
                             the allocation should be 69/31. These costs are not even
                             allocated consistently from year to year. According to the


97-DE-214-1001                        Page 22
                                                                              Finding 3



                             agent's accountant, these ratios change. In the past, they
                             have also used 70/30 and 75/25 ratios.

                             The agent needs to establish an allocation system which
                             fairly and equitably allocates all specifically identified
                             common costs to each of the projects he manages. This
                             system should be consistently applied each year.

                             The agent does not ensure that materials and supplies
                             are provided to the projects at the most advantageous
                             terms.

                             Section 9(b) of the Regulatory Agreement limits allowable
Amount allowed for
                             costs for goods and services provided under arms-length
identity-of-interest
                             transactions. This paragraph states that "payment for
purchases is limited
                             services, supplies, or materials shall not exceed the amount
                             ordinarily paid for such services, supplies, or materials in
                             the area where the services are rendered or the supplies or
                             materials furnished."

                             The agent sells to the projects most of the materials and
The projects must buy
                             supplies they use. He purchases the items, stores them and
many things from
                             distributes them when needed by the projects. He charges
identity-of-interest firms
                             the projects for each item based on his original cost plus a
                             percentage mark-up. The agent's usual markup on
                             inventory items is 25% for items over $50, 50% for items
                             between $10 and $50, and 100% for items under $10. The
                             markups are intended to compensate the agent/owner for
                             storage and handling costs.

                             Luxury Leasing, an Identity-of-Interest company, charges
                             each project $1 per-unit-per-month for newsletters and
                             $4.25 per-unit-per-month for computer rental and additional
                             amounts for rental of furniture and equipment to the
                             projects. Luxury Leasing also sells mini-blinds and drapes
                             to the project at a 100% markup.

                             In addition, the agent paid the owner from the accounts of
                             Normandie I and II for use of irrigation water stored on a
                             strip of land that he owns and that is next to the project.
                             The owner based his charges to the project on an arbitrary
                             estimate of what he believed the project would have to pay
                             if it used city water instead of irrigation water.



                                     Page 23                                 97-DE-214-1001
Finding 3



                           The agent was unable to demonstrate that the goods were
 Prices paid may be more
                           provided to the projects at a price less than or equal to a
 than market price
                           price available on the open market. The agent feels the
                           markups on goods provided by him are justified because the
                           centralized purchasing of materials and supplies results in
                           vendor discounts that reduced project operating costs. The
                           agent also maintains that his contractor's and wholesaler's
                           licenses allow him to purchase many items at wholesale.

                           While the agent did obtain discounts for quantity purchases,
                           we noted that in practice, the markups were assessed even
                           for items purchased individually or locally at full retail. We
                           also believe that many of the discounts available to the
                           agent would have also been available to the projects
                           themselves.

                           Luxury Leasing claimed that the goods and services
                           provided by them cost less than charged by local
                           contractors. Some recent bids on mini-blinds had been
                           obtained from several local vendors, but there was
                           inadequate information in the agent's files to determine
                           whether they were similar to the blinds sold to the projects.

                           The agent did not have any documentation to support the
                           owner's estimates of the market value of the water provided
                           to Normandie.

                           Regardless of the reasons the agent felt any of the mark-ups
 The agent cannot
                           were justified, the fact remains that his system of controls
 demonstrate reasonable
                           provides no assurance that the price the projects pay for
 prices
                           materials and supplies is the most reasonable available.

                           In fact, we found instances where the agent's charges
                           exceeded comparable rates available in the local market.
                           For example, we noted that the agent purchased cleaning
                           supplies from Pace Warehouse and then sold those supplies
                           to the projects at a 100% markup. The projects themselves
                           should purchase the supplies from Pace and not incur the
                           agent's markup.

                           The agent needs to implement a system that will
                           demonstrate the reasonableness of prices paid by the
                           projects. This system should include documentation of



97-DE-214-1001                     Page 24
                                                                          Finding 3



                         reasonable market price as well as why the project would
                         not be able to receive any discounts from the retail price.

                         Security deposits are not separately funded and
                         accounted for.

                         HUD Handbook, 4370.2 REV-1, Chapter 2, states that a
HUD requires special
                         separate bank account should be established to maintain
treatment of security
                         security deposits from project tenants.
deposits
                         In addition, Paragraph 6(g) of the Regulatory Agreement,
                         requires the owner to keep security deposits separate and
                         apart from all other funds of the project in a trust account
                         the amount of which shall at all times equal or exceed the
                         aggregate of all outstanding obligations under said account.

                         However, the agent has failed to place security deposits in
The agent comingles
                         separate accounts for Normandie I and II. The security
security deposit funds
                         deposit records are maintained manually and the amounts
                         are not segregated for the individual projects until the end
                         of the year financial statements and adjustments. The need
                         to maintain separate accounts has been cited repeatedly in
                         prior HUD reviews.

                         The agent expressed an unwillingness to comply with the
                         requirements because he believed that separate accounts
                         would create confusion and require additional forms,
                         reports, statements and costs while reducing interest
                         earnings. However, we believe separate accounts would
                         provide more security over project assets.

                         Separate accounts would also allow use of the agent's
                         monthly bank reconciliation program, check register and
                         check printing programs which are used for other bank
                         accounts. This would make the accounts easier to reconcile
                         and would allow the use of the controls inherent in the
                         agent's accounting system, thereby saving administrative
                         time and reducing errors.

                         Fidelity Bond Coverage is inadequate.

                         HUD Handbook 4370.2 REV-1, Paragraph 2-12 states that
The agent needs more
                         fidelity bond coverage must be equal to at least two months
coverage
                         potential rent collections. However, the agent had only


                                 Page 25                                 97-DE-214-1001
Finding 3



     $70,000 coverage for all of the properties he managed in 1994. This is less than the monthly
     rent potential for the HUD insured projects alone.

                                     The agent's accountant felt that the amount of coverage was
                                     adequate because of the difficulty and expense involved in
                                     obtaining the present coverage. However, regardless of the
                                     cost or complications, the coverage prescribed in the
                                     Handbook is necessary to protect the interest of the owner
                                     and of HUD.

                                     HUD Handbook 4381.5 REV-2, Paragraph 6.42 requires
 The agent is prorating the
                                     that the cost of fidelity bonds be prorated between the
 cost improperly
                                     agent's supervisory staff and the on-site managers at each of
                                     the projects the agent manages. The cost allocated to each
                                     project should be based on the gross rent potential at each
                                     project.

                                     However, the agent allocated the 1994 fidelity bond equally
                                     between his on-site managers for the federally insured
                                     projects. The agent did not make any deduction for any
                                     central office or supervisory staff which are also covered or
                                     for non HUD-insured properties which employ an on-site
                                     manager.

                                     Controls over tenant rent receipts are not adequate.

                                     Additional controls over rent receipts are needed. We noted
 Rent receipts are
                                     the following weaknesses in the agent's controls over cash
 vulnerable
                                     receipts:

                                     •   Prenumbered rent receipts are not reconciled to actual
                                         collections and deposits.

                                     •   Tenant accounts receivable are not posted monthly to
                                         each project's general ledger.

                                     •   Accounts receivable for tenant damages are posted on
                                         a cash basis only.

                                     •   Bank reconciliations are prepared by the agent's
                                         accountant who also records cash and prepares checks.




97-DE-214-1001                                Page 26
                                                                               Finding 3



                           These weaknesses need to be corrected to provide assurance
                           that all of the funds received by the project remain available
                           for use by the project.

                           In each of the control weaknesses, except for the
The agent has caused
                           weaknesses over rent receipts, the agent has made a
these problems
                           decision to not comply with the related HUD requirements.
                           While the agent may contend that the decisions were made
                           to benefit the projects, we believe the results of those
                           decisions have been to the benefit the agent. For example:

                           •   The agent decided to charge the projects for front-line
                               services by billing at arbitrary rates for estimated hours.
                               The result was to reimburse the agent excessive
                               amounts for front-line services.

                           •   The agent decided not to segregate security deposit
                               funds because he felt that it would be more difficult and
                               reduce interest earnings.

                           •   The agent did not obtain adequate fidelity bond
                               coverage because it was a difficult process and would
                               cost more.

                           At a minimum, these control weaknesses have exposed the
These problems place the
                           projects to a risk of misused or wasted resources. However,
projects and HUD at risk
                           we believe that these weaknesses may have also exposed
                           the Department to higher than necessary rent subsidies.

                           Each of the six projects receives Section 8 subsidy
                           assistance under Housing Assistance Payment Contracts.
                           The project rents are based on the projects' budget of
                           revenues and expense. Each year, the budget is generally
                           based on the actual recorded revenues and expenses in the
                           past. These budgets are submitted to HUD to justify rent
                           increases.

                           Under the rent subsidy program, a tenant's rent is based
                           upon the amount of income they have. HUD subsidizes the
                           remainder of the total rent. Therefore, if the total rent
                           increases, HUD's rental subsidy increases.

                           If the budgets used to justify rent increases are based on
                           expenses that are unreasonably high, then the total rent will


                                    Page 27                                  97-DE-214-1001
Finding 3



                   be unreasonably high, resulting in HUD's rental subsidy
                   being unreasonably high.

Auditee Comments   The auditee provided us with several written responses
                   dated May 20, 1996 through June 7, 1996. Those responses
                   have been included in their entirety in Appendix A. The
                   auditee also provided us with some supporting
                   documentation which we have passed on to the appropriate
                   HUD staff.

                   Supervisory Salaries

                   The agent states that he has stopped charging projects for
                   salary reimbursement for these employees. He would like
                   to start charging the projects for certain services that these
                   employees perform.

                   Allocation of Overhead and Expenses

                   The agent states that he allocates expenses to the
                   Normandie projects based on a 70/30 ratio. He is willing to
                   change it to 69/31.

                   Materials and Supplies

                   The agent no longer maintains an inventory of supplies. He
                   now charges the projects the actual cost of supplies. The
                   identity of interest company is not currently supplying
                   blinds or newsletters.

                   Security Deposits

                   The agent has separated the security deposits for
                   Normandie I and II and has instituted procedures for
                   automated accounting of the funds.

                   Fidelity Bonds

                   The agent is in the process of increasing the fidelity bond
                   coverage and will allocate the cost of the bond based on the
                   gross rent potential of each project.

                   Rent Receipts



97-DE-214-1001             Page 28
                                                                      Finding 3



                    The agent claims that the rent receipts have always been
                    reconciled to actual collections and deposits. He also has a
                    no cash policy which further safeguards receipts.

                    The agent will add the capability of recording tenant
                    damages in accounts receivable as they occur.

                    The agent feels that he has good overall control over receipt
                    of rents.



OIG Evaluation of   Supervisory Salaries
Auditee Comments
                    We recoginize that the agent has taken a positive step by
                    stopping the charges for his central office staff. HUD
                    should now work with the agent to structure all of his
                    administrative fees in accordance with applicable rules.

                    Allocation of Overhead and Expenses

                    During the audit period, the agent did not have a consistant
                    and logical method for allocating overhead and common
                    expenses. HUD should determine if his current method of
                    allocation is logical and fair and require that he apply any
                    acceptable method consistently from year to year.

                    Materials and Supplies

                    We recognize that the agent has taken a positive step by
                    stopping the markups on items supplied by him and the
                    identity-of-interest company. The agent should now
                    develop a plan for providing any goods and services to the
                    projects. The plan should identify any markups that will
                    occur and methods to ensure that prices will not exceed
                    those obtainable by the projects. HUD should determine if
                    that plan is acceptable.

                    Security Deposits

                    No evaluation necessary.

                    Fidelity Bonds

                    No evaluation necessary.


                            Page 29                                  97-DE-214-1001
Finding 3



                  Rent Receipts

                  When we were conducting our audit, the agent's staff told
                  us that receipts were not reconciled to actual collections by
                  receipt number. If that procedure is now being performed,
                  that is a positive step. Controls would also be improved by
                  posting tenant damages to accounts receivable as they
                  occur, not as they are collected.



Recommendations   We recommend that HUD:

                  3A.    Direct the agent to develop a fair and consistent
                         method of allocating administrative overhead and
                         indirect costs to the projects. Require that the agent
                         submit this allocation plan to you for review.

                  3B.    Direct the agent to develop a method to document
                         that any materials and supplies sold to the projects
                         are at or below the price that could be obtained by
                         the projects on the open market. This should
                         include documentation of the reasons why the
                         projects would not be able to obtain the same
                         discounts the agent received.

                  3C.    Determine if the agent's new procedures for
                         handling tenant security deposits have been
                         implemented properly and are functioning correctly.

                  3D.    Direct the agent to increase fidelity bond coverage
                         to comply with HUD requirements. The agent
                         should also be required to develop a fair and
                         equitable system for allocating the cost of the
                         fidelity bond amongst his staff, HUD-insured
                         project staff and non HUD-insured project staff.

                  3E.    Direct the agent to design and implement procedures
                         that ensure safeguarding of tenant rent receipts. The
                         new procedures should be sent to HUD for review.

                  3F.    Review the agent's operations after these
                         recommendations have been implemented.
                         Determine if the changes are adequate and in
                         conformity with HUD regulations.


97-DE-214-1001            Page 30
                                                 Finding 3



3G.   Review the total operating costs of the projects after
      all of the recommendations in this report have been
      implemented. Determine if the current rent levels at
      the projects are justified and take any appropriate
      action to maintain the rents at appropriate levels.

3H.   Direct the owner to engage a new arms-length
      management agent if the current management agent
      is not responsive and effective in resolving this
      finding.




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Finding 3




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97-DE-214-1001                  Page 32
Issue Needing Further Study and Consideration
During our audit we noted another matter that warrants HUD's consideration and action. There
is additional initiative required to convert the projects to tenant paid utilities.



                                   HUD Handbook, 4350.1, Insured Project Servicing
 Conversion to Individual
                                   Handbook, encourages controlling utility costs by
 Meters is Needed
                                   undertaking feasible, cost effective actions to increase
                                   energy efficiency. Chapter 12, Section 5, of the Handbook
                                   provides steps for obtaining tenant input and HUD approval
                                   for conversion from master meters to individual metered
                                   (tenant paid) utilities.

                                   The agent has checked into converting to individual meters
                                   in the past but reportedly didn't have enough reserve funds
                                   to pay for the conversion. At the time of our review, there
                                   were adequate funds in some of the project's reserves to
                                   fund the conversion. Since HUD benefits directly from any
                                   savings in reduced subsidy to the project, it should assist the
                                   owner in pursuing the steps for converting to individual
                                   meters outlined in HUD Handbook 4350.1.




                                           Page 33                                   97-DE-214-1001
Issues Needing Further Study and Consideration




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97-DE-214-1001                            Page 34
Internal Controls
In planning and performing our audit, we considered internal controls of the projects' activities
in order to determine our audit procedures and not to provide assurance on internal controls.

Internal controls consist of the plan of organization and methods and procedures adopted by
management to ensure that resource use is consistent with laws, regulations, and policies; that
resources are safeguarded against waste, loss, and misuse; and that reliable data is obtained,
maintained, and fairly disclosed in reports.



                                     We determined the following controls were relevant to our
 Internal Controls
                                     audit objectives and each was assessed during our review:
 Assessed
                                     •   Controls to ensure adequate maintenance of the projects'
                                         grounds, buildings and improvements;

                                     •   Controls to ensure reliable financial management,
                                         including procedures for charging management agent
                                         cost to project accounts;

                                     •   Controls to ensure compliance with leasing and
                                         occupancy rules and regulations; and

                                     •   Controls to promote adherence to the agent's general
                                         management practices.

                                     We assessed all the controls identified above by
                                     determining the risk exposure and assessing control design
                                     and implementation.

                                     The following audit procedures were used to evaluate
 Assessment Procedures
                                     internal controls:

                                     •   Interviews with the management agent/owner and his
                                         employees;

                                     •   Review of files maintained by the management
                                         agent/owner;

                                     •   Tests and evaluation of the management agent/owner's
                                         operating policies and procedures as they relate to the
                                         identified relevant controls; and




                                             Page 35                                 97-DE-214-1001
Internal Controls



                      •   Review of the projects' accounting and administrative
                          records maintained by the management agent/owner.

                      A significant weakness exists if internal controls do not
 Assessment Results
                      give reasonable assurance that resources are used consistent
                      with laws, regulations, and policies; that resources are
                      safeguarded against waste, loss and misuse; and that
                      reliable data is obtained and maintained, and fairly
                      disclosed in the financial statements and reports.

                      Based on our review, the following items which are
                      discussed in the report, are significant weaknesses:

                      •   The agent did not have adequate financial management
                          controls to safeguard the assets of the project (discussed
                          in Findings 1 and 3).

                      •   The agent did not have adequate financial management
                          controls to ensure that the projects' expenses were
                          supported and were made at the most economical cost
                          possible (discussed in Findings 2 and 3).

                      We selected and tested transactions and records to
 Compliance
                      determine whether the management agent/owner complied
                      with laws and regulations governing the management and
                      maintenance of multifamily insured and subsidized projects.
                      For the items tested, we found noncompliance with these
                      laws and regulations as described in the Executive
                      Summary and Findings. The extent of noncompliance on
                      transactions tested suggested that the agent also may not
                      have fully complied on other transactions which we did not
                      test.




97-DE-214-1001                Page 36
Follow Up On Prior Audits
This is the Office of Inspector General's first audit of Rawson Management Company.




                                          Page 37                               96-DE-214-1006
Follow Up On Prior Audits




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96-DE-214-1006                     Page 38
                                                                                  Appendix B

Distribution
Secretary's Representative, 8S
Secretary's Representative, 0S
Regional Comptroller, 5AF
Regional Comptroller, 6AF
Director, Office of Housing, 8AH
Director, Office of Housing, 0AH
Director, Accounting Division, 8AFF
Director, Accounting Division, 0AF
Idaho State Coordinator, 0DS (2)
Regional Counsel, 8G
Assistant to the Deputy Secretary for Field Management, SC (Rm 7106)
Audit Liaison Officer for the Assistant Secretary for Housing, HF (Rm 5132) (3)
Acquisitions Librarian, Library, AS (Rm 8141)
Director, Participation and Compliance Division, HSLP (RM 6274)
Director, Division of Housing Finance Analysis, TEF (Rm 8212)
Chief Financial Officer, F (Rm 10166) (2)
Deputy Chief Financial Officer for Operations, FO (Rm 10166) (2)
Assistant Director in Charge, US GAO, 820 1st Street, NE
   Union Plaza, Bldg. 2, Suite 150, Washington, DC 20002
   Attn: Mr. Cliff Fowler
Regional Inspector General for Audit, US Department of Agriculture
   Great Plains Region
   PO Box 293
   Kansas City, Missouri 64141




                                           Page 55                                97-DE-214-1001
Appendix B




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