A California company that produces natural hazard disclosure reports — and the real estate brokers it shared profits with — broke the law by creating sham companies to funnel illegal kickbacks, a lawsuit by federal regulators alleges.

The company, Property I.D., is accused of forming sham affiliated businesses with Realogy Corp., Coldwell Banker Residential Brokerage Corp., and two other brokers doing business as Prudential California Realty.

The lawsuit, filed by federal prosecutors in U.S. District Court on behalf of the Department of Housing and Urban Development, alleges violations of the Real Estate Settlement Procedures Act, or RESPA, which prohibits kickbacks.

Earlier this week, Property I.D. announced it had filed its own lawsuit against HUD, in which it sought to end a nearly two-year-long investigation into its business practices (see Inman News story). Property I.D.’s suit claimed that its natural hazard disclosure reports are not subject to RESPA requirements because they do not qualify as a settlement service.

An attorney representing Property I.D. said Thursday that even if RESPA did apply to the disclosure reports, HUD does not have the legal authority to require the “disgorgement,” or return, of profits generated by the joint ventures. HUD’s request for an injunction against the joint ventures is also moot, since they have not been used “in well over a year,” said Jay Varon, of the Washington, D.C., law firm Foley & Lardner LLP.

Brokers named in the lawsuit issued statements echoing Property I.D.’s assertion that hazard disclosure reports are not subject to RESPA requirements.

“We dispute the factual and legal allegations in the complaint, including the characterization of Natural Hazard Disclosure reports as being a settlement service under RESPA,” Realogy spokesman Mark Panus said in a prepared statement. “Like most in this industry, we have operated under RESPA, obsolete and ambiguous as it is, for many years.”

RESPA allows real estate companies, such as title insurers and real estate brokers, to form affiliated businesses and share in the profits they generate based on their ownership stake. But the companies must have their own employees, separate offices and phones, and RESPA prohibits the payment of kickbacks or fees on a per-referral basis.

In announcing the lawsuit, HUD said its investigation uncovered “a network of sham affiliated businesses for the purpose of paying kickbacks” to brokers. The investigation was preceded by a civil suit by a Southern California home buyer making similar allegations (see story).

The sham businesses did not produce hazard disclosure reports, and “appeared to exist solely for the purpose of funneling payments in exchange for the brokers’ referrals of business,” HUD said in a press release announcing the lawsuit. “The joint ventures are all located at the hazard reporting company’s Los Angeles address, had no employees of their own, and shared bank accounts.”

California requires that sellers provide natural hazard disclosures for properties located in areas prone to flooding, fire, earthquake or landslides. The disclosures must be made on standardized forms, and can be prepared by the seller, the seller’s agent, or a third-party consultant.

According to HUD’s complaint, Property I.D. charges $99 for its hazard disclosure reports if they are purchased when a property is listed for sale, or $114 if payment is deferred until settlement. The “vast majority” of reports are paid for out of escrow at settlement, the suit claims.

Property I.D. allegedly created several sham companies to generate referrals from real estate brokers, who received about $25 for each report that originated with a referral from their agents.

The lawsuit alleges real estate brokers used several techniques to persuade their agents and franchises to refer customers to Property I.D., including:

  • Mandatory policies advising buyers to purchase Property I.D. hazard disclosure reports, even though buyers have no liability under California law;

  • Listing contracts with Property I.D. pre-selected as the provider of the hazard disclosure report;

  • Bonuses for branch managers, who received a portion of the referral fee.

HUD’s lawsuit, which seeks an injunction against further referrals and recovery of “all illegitimate profits,” claims brokers received quarterly payments in return for referrals. After deducting about $50 per report to cover the joint venture expenses, including rent, payroll and property taxes, Property I.D. split the remaining $50 between itself and the referring broker, the complain alleges.

All three joint ventures shared the same Wilshire Boulevard address in Los Angeles as Property I.D., and shared the company’s phone, fax, e-mail and Web site, HUD alleges.

Although HUD says the referral payments were suspended after it launched its investigation in August 2005, a permanent injunction is needed because two of the three joint ventures are still active, and “Property I.D. may resume making these kickback payments to the referring parties.”

The complaint says Property I.D. Associates LLC, the joint venture between Coldwell Banker, its parent company, Realogy, and Property I.D., was formally terminated in August. Panus said Realogy “voluntarily terminated” its relationship with Property I.D. “for business reasons unrelated to HUD’s allegations,” as of July 1, 2006.

Realogy and Coldwell Banker filed a $3 million breach-of-contract suit against Property I.D. last year, which alleges the company failed to make quarterly distributions of cash and blocked access to the joint venture’s books and records. Realogy and Coldwell Banker claimed early termination of the joint venture cost them $2 million.

According to HUD’s lawsuit, Property I.D.’s other joint ventures included Property I.D. of East Bay LLC, which was formed with Dutra Realty Enterprises in January 1999, and Property I.D. Golden State LLC, formed with Pickford Golden State Member LLC in August 2000.

Dutra, now known as Mason-McDuffie Real Estate, is based in Pleasanton and does business in Northern California as Prudential California Realty. San Diego-based Pickford Realty Ltd. does business in Southern California as Prudential California Realty.

Prudential California Realty issued a statement saying the company is “governed by the highest standards of business conduct and denies the recent allegations made by the Department of Housing and Urban Development.”

Like Property I.D. and Realogy, Prudential California maintains that the production of natural hazard disclosure reports is not included within the definition of settlement services as defined by federal law.

Prudential California said it takes “any allegation of impropriety seriously and will defend its position in due course.”

***

Send tips or a Letter to the Editor to matt@inman.com, or call (510) 658-9252, ext. 150.

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