THE VIRGINIAN-PILOT
Copyright (c) 1996, Landmark Communications, Inc.
DATE: Saturday, October 19, 1996 TAG: 9610170247
SECTION: REAL ESTATE WEEKLY PAGE: 02 EDITION: FINAL
COLUMN: THE NATION'S HOUSING
SOURCE: Kenneth R. Harney
DATELINE: WASHINGTON LENGTH: 87 lines
Federal auditors have found widespread ``waste, fraud and abuse'' by investors in one of the Clinton administration's fastest-growing home fix-up loan programs, and have asked the administration to undertake immediate reforms to prevent ``substantial losses'' to the government and consumers.
The program - known as ``203(k)'' - features down payments as low as 3 to 5 percent, and generous maximum loan amounts based on the estimated market value of the home after all the renovation is completed.
Virtually moribund on the books of the Federal Housing Administration during the 1980s, the program has been promoted aggressively under the Clinton administration. After a streamlining of program rules in 1993 - opening participation to investors and nonprofit groups - the program jumped to 8,500 loans in 1995, and a projected 15,000 nationwide in fiscal 1996.
But according to a year-long investigation by the Department of Housing and Urban Development inspector general's office, the 203(k) program as currently administered is ``highly vulnerable'' to ``risky property deals, land sale schemes, overstated property appraisals, and phony or excessive fees ...'' as well as shoddy or nonexistent rehab work.
The program ``seems to be viewed by some (lenders, investors and nonprofits) as merely a means to turn a quick profit,'' according to Kathryn Kuhl-Inclan, a district HUD inspector general whose staff examined 203(k) files and rehab work in eight states in different parts of the country covering mid-1993 through mid-1996.
The states were California, Virginia, Florida, Massachusetts, Illinois, Georgia, Texas and North Carolina. Kuhl-Inclan noted that ``our results show that extensive program abuse is occurring around the country by lenders, investors and nonprofits.''
Auditors documented cases where investors fraudulently inflated land prices through sham sales and deed-flips in order to boost the amount of the FHA 203(k) mortgage money they could pocket at closing.
In one case, according to a summary report to FHA by Kuhl-Inclan, an investor falsified loan settlement statements to indicate a cost of $123,000 apiece for 27 properties purchased in Georgia. But investigators found that the investor had in fact paid only $80,893 per property, and walked away with a quick, illegal $1.14 million profit ``with minimal investment or risk.'' That fraud, in turn, increased the risk of loss to FHA's insurance fund by $35,800 per property, according to Kuhl-Inclan's computations, or about $966,000.
In a similar case in Florida, a nonprofit group bought 52 homes for fix-up for $1.25 million from a seller who had purchased the same homes the same day for just $715,000. The seller netted a one-day profit of $533,000. Key to the abuse here, said the inspector general's report, was inside dealing. The president of the nonprofit group borrowing the money ``also served as the closing agent for the . . . loans.''
When investigators visited properties supposedly rehabilitated with federally backed loan money, they sometimes found little if any actual work performed.
In one case in Illinois, a lender certified to the FHA that all renovation work was completed on 43 houses, thereby triggering release of all funds held in escrow. Site visits revealed, however, that on 12 homes, virtually no rehab had been done, while on the rest, ``substantial portions of the scheduled work had not been performed.''
Other problems with the booming 203(k) program turned up by auditors:
Overvaluations of properties, allowing excess rehabilitation funds to be pocketed ``for work which was not performed.'' In one sample of sixty-one 203(k) loans in Illinois, according to the report, 50 of the properties carried ``substantially'' inflated appraisals.
``Excess profits by nonprofit borrowers.'' Although by law nonprofits are supposed to be just that, investigators found nonprofit groups taking 21 to 42 percent of loan money escrowed for the rehab as their profits for the work.
The report attributed a major part of these problems to basic design flaws in the program, including the FHA permitting private lenders to handle most of the application, underwriting and approval decision-making - all fee-generating activities - on their own.
``In many cases,'' said the report, ``the lenders performed the work write-up and cost estimate, appraisal and rehab inspections with in-house staff.'' The government relies on lenders to be honest, ``yet the prospect of earning the large fees allowed by this program . . . has enticed lenders to break the rules.''
The district inspector general asked FHA, among other reforms, to bar private investors from the 203(k) program altogether, as well as to increase its oversight of lenders and nonprofit groups. In a written response to Kuhl-Inclan, FHA commissioner Nicolas P. Retsinas said that his agency had already tightened its administration of the program.
But Retsinas refused to bar investors because they are needed in ``distressed neighborhoods,'' and are ``often more willing . . . to risk making a financial investment'' in such a community than owner-occupants. by CNB