The U.S. Department of Housing and Urban Development needs to crack down on investors who are abusing a federal preforeclosure program to buy houses at below-market value then quickly resell or “flip” them for profit, according to an audit released in mid-September.

“Investors abused the (HUD) preforeclosure sale program and obtained properties below fair market value…then resold (the properties) almost immediately at an increased sales price,” the report, performed by Joan Hobbs, a HUD regional inspector general for audit, said.

Investors are violating HUD rules to obtain properties at a lower price, the report said. They do so by relying on undervalued appraisals based on inaccurate or inappropriate comparable sales data, by neglecting to market properties to get a fair price and by not telling borrowers how to get a fair market price, the audit said.

The HUD Homes Program resells tens of thousands of foreclosed homes each year. Because of a lack of adequate controls by HUD, the department paid more than $5 million in insurance claims to investors abusing the process in just one small sample, the report said.

Under the program, a borrower can sell his or her property for less than the unpaid mortgage balance. The lender can then submit an insurance claim to HUD for the difference between the proceeds received from the sale and the amount owed on the mortgage. If the borrower gets less than fair market value for his or her property, HUD has to pay more than it should.

In the cases under investigation, investors bought properties below market value, contrary to HUD requirements. The investigators were able to find 102 properties sold through preforeclosure for at least $2.4 million less than fair market value, the audit said, resulting in excessive insurance claims to HUD.

“This is not the first time this kind of abuse has been reported,” said Rachel Dollar, an attorney who represents mortgage lenders nationwide in pursuing civil recovery from mortgage fraud.

“The preforeclosure program was meant to save HUD money. Foreclosure costs are expensive. The rationale was if you can find a willing buyer to purchase the property at market value you can avoid all the foreclosure costs,” the attorney said.

“It’s supposed to have actual market exposure at market price,” Dollar said. Doing so would increase the chance of the property selling for a higher price. But, too often, she said, this doesn’t happen, a problem also noted in the audit.

“The properties are never marketed,” agreed Frances Flynn Thorsen, a Realtor for Realty World Benchmark Realty in Bethlehem, Pa. Thorsen maintains a blog in which she has called for reform in the HUD Homes program to help stamp out abuses.

Addressing this issue, the audit recommended prohibiting any sale at less than the appraised value “unless the property has been marketed in the Multiple Listing Service for an established period with no qualifying offers submitted.”

The report recommends that Federal Housing Administration borrowers and real estate agents should be required to certify that marketing was done and the best offer accepted.

Another key audit recommendation was that HUD should make sure borrowers get counseling about their options. Thorsen emphasized the importance of this issue.

“Some lenders actually initiate situations that put a borrower into default,” the Realtor said. If borrowers understood what was happening, this would help them avoid such scenarios, said Thorsen.

According to the report, in many of the 102 cases in which properties were resold within one week by investors, the preforeclosure sale likely could have been prevented.

“For example, In 20 of the 102 cases where property resold within a week, the increase in sales price from the preforeclosure sale to the resale by the investor was greater than the total claim amount to HUD,” the auditors said.

Therefore, according to the audit, it’s likely that the borrowers in these cases could have sold the property at fair market value with no resultant insurance claim to HUD and associated damage to the borrowers’ credit record.

Hence, the report said, lenders should be required to verify directly that the borrower received housing counseling, both with the counseling provider and by speaking with the borrower.

Dollar and Thorsen agreed with the audit recommendations. However, Thorsen, who has been working with the HUD Homes Program since the 1990s, felt the audit didn’t go far enough. The Realtor said investors who violate the guidelines should be subject to some form of punishment for their actions.

“We are talking about billions of dollars worth of fraud and nobody is being taken to task. We need a call to action where some people will be held accountable,” the Realtor said.


Send tips or a Letter to the Editor to or call (510) 658-9252, ext. 140.

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