Federal Home Loan Mortgage Corporation:

Abuses in Multifamily Program Increase Exposure to Financial Losses

RCED-92-6: Published: Oct 7, 1991. Publicly Released: Oct 15, 1991.

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Pursuant to a congressional request, GAO examined whether the Federal Home Loan Mortgage Corporation's (Freddie Mac) procedures governing the purchasing and servicing of 35 Bronx, New York, multifamily mortgages adequately protected its investments.

GAO found that: (1) because of weak controls, Freddie Mac did not detect patterns of inaccurate and incomplete information in the appraisals and reports on the physical and financial condition of the properties that were provided by seller/servicers and, as a result, overfinanced 27 of the 35 Bronx properties by about $5.4 million; (2) appraisals for the 35 properties included inaccurate information on the sales dates and prices of comparable properties used to estimate the market value of the appraised property, incomplete information on previous sales transactions on the appraised property, overstatements of the annual net income of the appraised properties, overestimates of expected annual net income and the appraised properties' physical condition and neighborhood, and understatements of the rates of return that borrowers expected on their investments; (3) internal control weaknesses exist in Freddie Mac's multifamily program nationwide; (4) when it reinstates its multifamily mortgage purchase program in its Northeast Region, Freddie Mac plans to require that loan applications include certified engineering reports for buildings over 20 years old that address the condition of major building systems, copies and analyses of any commercial leases for the properties, and confirmation of the borrowers' rent registrations from the appropriate state agencies; and (5) improved controls to better detect inaccurate and incomplete information will reduce Freddie Mac's exposure to financial losses on the new mortgages it purchases and improve the servicing of existing mortgages.

Recommendations for Executive Action

  1. Status: Closed - Implemented

    Comments: Freddie Mac revised its multifamily loan underwriting process to include quality control measures which will enhance the reliability of appraisal information. However, there is no indication that it plans to address the recommendation on improving information on the servicing of multifamily properties.

    Recommendation: To ensure that key appraisal and servicing information submitted by seller/servicers on multifamily properties is accurate and complete, the Chief Executive Officer of Freddie Mac should direct program controls to be further strengthened by requiring seller/servicers to submit documentation verifying key appraisal and servicing information. For appraisals, seller/servicers should be required to obtain, to the extent available, and include as part of the loan package, documentation verifying key information on the selling prices and dates of sale of comparable and appraised properties, rents, expenses, the physical condition of the properties, and the professional standing of appraisers. For servicing, the documentation and verification requirement should cover updated reports on maintenance problems, rental income and expenses, property sales and secondary mortgages, and the timeliness of borrower mortgage payments. The information should be verified with data obtained from independent sources such as public records, government agencies, and reputable data services, or with documentation such as audited financial statements, signed contracts, or cancelled checks.

    Agency Affected: Federal Home Loan Mortgage Corporation (Freddie Mac)

  2. Status: Closed - Not Implemented

    Comments: Freddie Mac pointed to existing controls over seller/services that it feels are adequate to mitigate the problem.

    Recommendation: To ensure that key appraisal and servicing information submitted by seller/servicers on multifamily properties is accurate and complete, the Chief Executive Officer of Freddie Mac should direct program controls to be further strengthened by establishing standards governing appraisers' methods of forecasting net income, determining the appropriateness and completeness of expense items, calculating tax savings, and justifying capitalization rates.

    Agency Affected: Federal Home Loan Mortgage Corporation (Freddie Mac)

  3. Status: Closed - Not Implemented

    Comments: Freddie Mac believes that its quality control review process and annual high-risk loan reviews are adequate to mitigate the problem.

    Recommendation: Freddie Mac should review its $11-billion portfolio of multifamily loans to identify other instances in which it received inaccurate appraisal and servicing information that may constitute misrepresentation of fact and refer those matters to the U.S. Attorney for appropriate action. Freddie Mac could focus such a review, for example, on: (1) appraisals associated with loans that became delinquent within a short time after it purchased them or that have frequently been delinquent; and (2) servicing information provided for properties on its watch-list of high-risk loans.

    Agency Affected: Federal Home Loan Mortgage Corporation (Freddie Mac)

 

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