The U.S. Department of Housing and Urban Development, Office of Inspector General audited Countrywide Bank, FSB (Countrywide),* a Federal Housing Administration (FHA) supervised lender** approved to originate, underwrite, and submit mortgages for insurance under the U.S. Department of Housing and Urban Development’s (HUD) direct endorsement program. We selected Countrywide based on its average default-to-claim rate of 6.76 percent for the FHA-insured loans originated in our region (Illinois, Indiana, Ohio, Michigan, Minnesota, and Wisconsin) during the period July 1, 2008, through June 30, 2010. The audit was part of the activities in our fiscal year 2010 annual audit plan. Our audit objectives were to determine whether (1) Countrywide complied with HUD's regulations, procedures, and instructions in the underwriting of FHA-insured loans and (2) Countrywide’s quality control plan, as implemented, met HUD’s requirements.

Countrywide did not comply with HUD’s regulations, procedures, and instructions in the underwriting of FHA-insured loans. Specifically, the loan files for 7 of the 14 loans reviewed contained material underwriting deficiencies.*** For these seven loans, Countrywide did not properly verify, analyze, or support borrowers’ employment and income, source of funds to close, liabilities and credit information. Additionally, it allowed borrowers to skip mortgage payments for refinance transactions. This noncompliance occurred because Countrywide’s underwriters did not exercise due diligence in underwriting the loans. As a result of the improperly underwritten loans, HUD paid more than $1 million in claims and incurred losses totaling more than $720,000 on the sales of the associated properties for the seven loans.

Additionally, Countrywide did not fully implement its quality control program in accordance with HUD’s requirements. Specifically, it did not conduct quality control reviews in accordance with HUD’s requirements, and its written quality control plan did not contain all of the necessary provisions. The problems occurred because Countrywide disregarded and misinterpreted HUD’s requirements. As a result, Countrywide increased the risk to FHA’s Mutual Mortgage Insurance Fund due to the lack of assurance of the accuracy, validity, and completeness of its loan underwriting activities.

We recommend that HUD’s Acting Deputy Assistant Secretary for Single Family require Bank of America to (1) reimburse HUD $720,300 for the actual losses incurred on seven loans since the properties associated with these loans were sold, (2) reimburse HUD or provide sufficient documentation to support that the $3,211 in fees charged to the four borrowers at settlement were reasonable and customary, (3) implement an adequate quality control plan that complies with HUD requirements, and (4) perform a 100 percent review of its early payment defaulted loans. Further, we recommend that HUD perform a review of Bank of America’s quality control program within 9 months to determine whether the required provisions have been included in its written plan and quality control reviews are conducted in compliance with HUD’s requirements.

We also recommend the HUD’s Associate General Counsel for Program Enforcement pursue remedies under the Program Fraud Civil Remedies Act, where legally sufficient, against Countrywide and/or its principals for incorrectly certifying to the integrity of the data or that due diligence was exercised during the underwriting of seven loans.

* Countrywide was acquired by Bank of America in July 2008; therefore, the recommendations will be addressed to Bank of America. The audit report represents the activities of Countrywide.

** A supervised lender or mortgagee is a financial institution which is a member of the Federal Reserve System or an institution the accounts of which are insured by the Federal Deposit Insurance Corporation or the National Credit Union Administration. A supervised lender may submit applications for mortgage insurance.

*** A deficiency is considered material when it affects the loan approval decision.