U. S. Department of Housing and Urban Development 

Office of Inspector General for Investigation 

Inspections and Evaluations Division 

Inspection of the Assignment and 

Assumption of Mark-to-Market Loans 

Lakeshore Village Apartments 

Cleveland, OH 

November 2009 

IED-09-005
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Executive Summary 

The Office of Inspector General, Inspections and Evaluations Division, conducts independent, 

objective examinations of U.S. Department of Housing and Urban Development (HUD) 

activities, programs, operations, and organizational issues. 

We conducted an inspection of the post-Mark-to-Market (M2M) restructuring of mortgage debt 

of Lakeshore Village Apartments (Lakeshore Village), Cleveland, OH, to determine the validity 

of an informal complaint from HUD’s Multifamily Office of Asset Management (OAM). OAM 

staff was concerned that, in approving the assignment and assumption of the restructured debt 

instruments, HUD’s Office of Affordable Housing Preservation (OAHP) was not sufficiently 

verifying information provided from purchasers and sellers and stated that OAHP 

 

• Allowed the nonprofit purchaser to retain approximately $400,000 that should have 

been remitted to HUD, 

• Failed to provide timely information to OAM during the decision-making process, 

and 

• Ignored questions raised by OAM staff about the amount of proceeds due HUD at 

loan closing. 

We examined official records of the post-M2M restructuring, including the mortgage notes, the 

related low-income housing tax credit application, and the settlement documents. We 

interviewed staff of HUD’s Office of General Counsel, the Multifamily HUB at Columbus, OH, 

the Cleveland field office, and current and former OAM and OAHP staff. We also reviewed the 

issues in question with key third parties involved in the transaction. 

Our inspection did not substantiate any of the allegations in the informal complaint. OAHP did 

not allow the purchaser to retain funds that should have been remitted to HUD and required the 

purchaser to pay $426,432 to HUD in compliance with existing guidelines. OAHP also took into 

consideration questions raised by OAM staff during the loan approval process and did not ignore 

OAM’s concerns as evidenced by interoffice e-mails and related correspondence. Nevertheless, 

OAHP and OAM could not reach full agreement on some of OAM’s concerns. Going forward, 

better communications between the two offices will be needed to adequately resolve questions 

raised during the loan approval process. 

Apart from our inspection objective, we observed three other matters which warrant further 

review by HUD’s Office of Housing concerning (1) certified source and use of funds statement, 

(2) voting rights on the Assumption/Subordination Loan Committee, and (3) safe harboring 

certification. We made four recommendations to address the observations in this report. 

We discussed our observations with OAM and OAHP staff during the inspection and provided a 

copy of the draft report to the Assistant Secretary for Housing – Federal Housing Commissioner 

on October 15, 2009. We received the Assistant Secretary’s written comments on November 6, 

2009. The Assistant Secretary agreed with recommendations 1, 2, and 4 and is willing to amend 

current HUD guidelines in response to recommendation 3. The complete text of the Office of 

Housing’s response is included in appendix A of this report. 
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Table of Contents 

Introduction ......................................................................................................................................1 

Scope and Methodology ..................................................................................................................3 

Observations 

 Concern 1 ...................................................................................................................................3 

 Concerns 2 and 3 ........................................................................................................................4 

 Other Matters .............................................................................................................................5 

Recommendations ............................................................................................................................6 

Office of Housing’s Comments and OIG Response ........................................................................6 

Appendix A – Office of Housing’s Comments ................................................................................8 
1 

Introduction 

Mark-to-Market Program 

Pursuant to the Multifamily Assisted Housing Reform and Affordability Act (MAHRA) of 1997, 

as amended, the Mark-to-Market (M2M) program allows the U.S. Department of Housing and 

Urban Development (HUD) to restructure Federal Housing Administration (FHA)-insured or 

HUD-held debt on multifamily subsidized housing that operate with above-market, project-based 

Section 8 contract rents. The primary objective of the M2M program is to reposition a property 

financially and physically so that the low-to-moderate-income tenants can continue to have 

access to affordable housing and owners can undertake needed repairs. At the conclusion of the 

rent and debt restructuring, the above-market rents are reduced to comparable-market rents for 

the area, the project owner generally obtains a new first mortgage loan, and the loan is amortized 

on a schedule that can be supported by the lower market rents. HUD pays off the existing FHAinsured first mortgage through a claim on behalf of the owner. The owner’s obligation to repay 

the claim is evidenced by a second mortgage note (called an MRN or mortgage restructuring 

note) and/or a third mortgage note (called a CRN or contingent repayment note). These notes 

have periodic payment obligations to HUD, which are to be met solely from future surplus cash 

from the property, with full repayment expected from property refinancing at maturity or 

disposition. To ensure that the claim payments are ultimately repaid to HUD, the repayment 

terms of the second and third subordinate notes include a “due-on-sale or refinance” clause. 

Within the Office of Housing, the M2M program and the post-M2M assignment and assumption 

transactions are administered by the Office of Affordable Housing Preservation (OAHP), 

formerly the Office of Multifamily Housing Assistance Restructuring. The Office of Asset 

Management (OAM), also within the Office of Housing, is responsible for the oversight of all 

multifamily project assets after their development. This responsibility includes oversight of 

ownership and management of HUD’s multifamily properties, mortgage default servicing, and 

the acquisition and disposition of loans and properties. 

Assignment and Assumption of M2M Program Loans 

HUD Guidelines 

HUD Notice H 08-04, issued July 31, 2008, by the Assistant Secretary for Housing (recently 

reissued under Notice H 09-06), provides that HUD has the discretionary flexibility to waive the 

“due-on-sale” requirements of the M2M debt when it is determined that such a waiver may be in 

the best interests of HUD. These guidelines describe the waiver request process for multifamily 

project owners who wish to refinance or sell a property that has received the benefits of a debt 

restructuring under the M2M program and for which the loans evidenced by an MRN or CRN 

will be assumed or subordinated. It also outlines HUD’s criteria for determining whether the 

proposed transaction is in the best interests of HUD and how the amount of proceeds due to the 

parties, if any, is calculated. The guidelines also relate to cases in which HUD will approve debt 

assignment, modification, or forgiveness of the subordinate notes to a qualifying nonprofit 

purchaser. Pursuant to Section 517(a)(5) of MAHRA, the HUD Secretary may modify, assign, 
2 

or forgive all or part of the second mortgage if the project is acquired by a tenant organization or 

community-based nonprofit entity or public agency. 

HUD Notice H 08-04 also states that “OAHP has the delegated responsibility to review and 

approve assumptions and subordinations involving proceeds and/or requested modifications to 

the existing note(s) or any first mortgage,” and “all qualified nonprofit transactions involving 

assignment, modification or forgiveness of note(s) without exception, will be reviewed and 

approved by OAHP.” 

Pursuant to the same HUD notice, OAM has the authority to review and approve assignment and 

assumption requests when there are no modifications to the notes or no proceeds due to the seller 

and/or purchaser. OAM also has the authority to process and approve requests for transfers of 

physical assets in accordance with the established procedures. 

Appendix C of the Mark-to-Market Program Operating Procedures Guide provides details on 

how purchasers can qualify for and receive mortgage relief for second and third mortgages and 

outlines the criteria and process for OAHP to follow in determining the eligibility of the 

nonprofit purchasers. 

Lakeshore Village Apartments 

M2M Transaction

Lakeshore Village is a 108-unit garden style complex located in Cleveland, OH. Built in 1982, 

Lakeshore Village went through its first phase of preservation in August 2004 with the HUDapproved M2M rent and debt restructuring. As a result of this M2M restructuring, the former 

owner, Beach House Development Company, LP, obtained a new first HUD-insured mortgage in 

the amount of $777,100, a second mortgage (MRN) of $1,875,000, and a third mortgage (CRN) 

of $1,537,219, with HUD holding both subordinate notes. 

Post-M2M Transaction

In July 2008, Cleveland Leased Housing Associates I, LP (purchaser), entered into a contract 

with Beach House Development, LP, to acquire Lakeshore Village Apartments. To facilitate the 

sale and financing, the purchaser requested HUD to waive the “due-on-sale” clause of the M2M 

subordinate debt and provide debt relief through the assignment of the HUD-held second and 

third mortgage notes to a qualified nonprofit. The purchaser also proposed to assume the HUDinsured first mortgage and attain State and Federal low-income housing tax credits to accomplish 

extensive rehabilitation of the project. 

 

To meet the HUD eligibility requirements, the purchaser sought qualified nonprofit status 

through a request for debt relief submitted to OAHP. In September 2008, OAHP approved the 

request based on the nonprofit status of CRS Housing Preservation, Inc., as the sole managing 

member of Cleveland Leased Housing Associates I, LLC (the sole general partner of the 

purchaser). In November 2008, the assignment of the subordinate debt was approved by OAHP; 

and on December 31, 2008, the Lakeshore assignment and assumption transaction was 
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completed. According to OAHP, the subordinate debt will be further assigned at a later date to 

the qualified nonprofit, CRS Housing Preservation, Inc. 

Scope and Methodology 

In evaluating the concerns of OAM, we reviewed the documents and communications related to 

the M2M restructuring and the assignment and assumption of the Lakeshore Village Apartments, 

including but not limited to mortgage notes, OAHP restructuring documents, settlement 

documents, HUD interdepartmental communications, and the low-income housing tax credit 

application. 

We met with employees of OAM and OAHP, and spoke with staff of HUD’s Office of General 

Counsel, the Multifamily HUB at Columbus, OH, and HUD Cleveland field office. We also 

spoke with the purchaser’s attorney, the developer, and employees of the Ohio Housing Finance 

Agency (the agency that provided the low-income housing tax credit financing). 

 

We conducted the inspection in accordance with the Quality Standards for Inspections issued by 

the President’s Council on Integrity and Efficiency. 

Observations 

OAM’s primary concerns regarding the Lakeshore Village assignment and assumption 

transaction and our evaluation of these concerns are detailed below. 

 

Concern 1 

OAHP did not sufficiently verify information provided by the purchaser or seller when analyzing 

requests for assignments of M2M loans. In the case of Lakeshore Village, this deficiency may 

have resulted in OAHP’s allowing the purchaser to retain approximately $400,000 that should 

have been remitted to HUD. 

OIG Evaluation 

OAHP did not allow the purchaser to retain funds that should have been remitted to HUD and 

required the purchaser to pay $426,432 to HUD in compliance with existing guidance. OAM 

staff mistakenly believed that the purchaser intended to pay down $775,000 of the subordinate 

debt owed to HUD, but OAHP instead allowed the purchaser to pay down a lesser amount 

calculated to be $426,432.1 OAM incorrectly based its $775,000 pay-down amount on the 

difference between the amount of subordinate debt OAHP used for its calculations in the 

assignment and assumption computer model and the lower subordinate debt amount filled in on 

the Ohio Housing Finance Agency’s low-income housing tax credit application form. The 

calculation of the $348,568 total underpayment using OAM’s methodology is shown in the 

following table. 

 

1

 The difference of $348,568 (or approximately $400,000 according to OAM) was the amount OAM believed was 

improperly retained by the purchaser. 
4 

Second mortgage balance according to purchaser2

 $1,951,133 

Third mortgage balance according to purchaser 1,599,636 

Total subordinated debt owed to HUD $3,550,769 

Less: total subordinate debt on low-income housing 

tax credit application 

 2,775,769 

Amount due to HUD according to OAM $775,000 

Less: proceeds due HUD according to OAHP 426,432

Amount of underpayment to HUD according to 

OAM 

 $348,568

Based on the lower mortgage balances for the subordinate debt shown on the low-income 

housing tax credit application, OAM staff presumed that a larger pay down of $775,000 was due 

from the purchaser. OAHP responded to OAM’s concern by obtaining an explanation from the 

purchaser’s law firm. The attorney certified in a letter, dated December 1, 2008, that after 

exhaustive discussions with the parties that prepared the low-income housing tax credit 

application, the discrepancy in mortgage amounts was not a result of a projection of any pay 

down at closing but was caused by some combination of poor information provided by the seller, 

bad assumptions of amortization that would occur between the time of application and closing, 

and human error. Further, the attorney stated that any differences in these mortgage amounts had 

no effect on the acquisition basis or purchase price of the project and no effect on the amount of 

equity to be provided by the investors. We confirmed that these errors did not result in an 

improper calculation of the funds due HUD from the Lakeshore Village transaction. OAHP 

correctly calculated the proceeds due to HUD in the amount of $426,432, as set forth in Housing 

Notice H 08-04, and applied the amount to the outstanding subordinate CRN note. Additionally, 

the purchaser did not retain any funds due to HUD. 

Concerns 2 and 3 

OAHP did not provide timely information to OAM in assisting it in the decision-making process 

and ignored concerns raised by OAM which affect the amount of funds due HUD. 

OIG Evaluation

OAHP took into consideration questions raised by OAM staff during the loan approval process 

and did not ignore OAM’s concerns as evidenced by interoffice e-mails and related 

correspondence. Nevertheless, OAHP and OAM could not reach full agreement on some of 

OAM’s concerns. Going forward, better communications between the two offices will be 

needed to adequately resolve questions raised during the loan approval process. 

After reviewing the documents of the transaction, we contacted the former OAHP employee 

responsible for the Lakeshore Village assignment and assumption as well as other OAHP 

employees with knowledge of the Lakeshore Village transaction. The former employee 

indicated that the concerns raised by OAM were adequately addressed by OAHP before closing. 

As mentioned in our evaluation of concern 1, OAM’s primary concern regarding the discrepancy 

 

2

 The balances of the second and third mortgages are the amounts which appear on the purchaser’s sources and uses 

statement and were also included in the OAHP post restructuring model. 
5 

in the subordinate loan balances was addressed in the letter from the purchaser’s attorney. Other 

OAM issues brought to the attention of OAHP were addressed in e-mails between the two 

divisions. The record shows that the assignment and assumption of Lakeshore Village was 

approved by OAHP on November 14, 2008; however, OAM staff continued to have questions 

regarding this transaction up to December 18, 2008. OAHP considered its primary concerns 

addressed, and the settlement occurred on December 31, 2008. 

We recognize that both OAHP and OAM bring their own unique expertise into the evaluation of 

these transactions. As the two offices work through their concerns and questions, we believe a 

more complete record of the decisions made during the process should be established. During 

our review, we discussed the need for OAHP and OAM to better coordinate the assignment and 

assumption process. We were advised by the OAHP Director that staff of both offices met 

during a more recent assignment and assumption transaction, during which both OAHP and 

OAM sought to better their working relationship before the formal loan committee meeting. We 

recommend that both offices continue to hold these pre-loan committee meetings and 

appropriately document their concerns. 

Other Matters 

During our review we also noted the following other matters, which warrant attention by the 

HUD Office of Housing: 

(A) Certified Source and Use of Funds Statement

The nonprofit purchaser did not provide a certified source and use of funds statement to OAHP 

as required in HUD’s letter to the purchaser, dated November 14, 2008, granting approval of the 

Lakeshore Village assignment and assumption of M2M debt. This statement is necessary for 

OAHP’s determination of the financial viability of the proposed transaction. We believe that the 

assignment and assumption process should not be completed until OAHP obtains a certified 

source and use statement from the purchaser. 

(B) Voting Rights on the Assumption/Subordination Loan Committee

While OAHP has the delegated responsibility to review and approve assumptions and 

subordinations involving proceeds, HUD Housing Notice H 08-04 states, “...OAHP and the 

Multifamily Office of Asset Management will meet as an Assumption/Subordination Loan 

Committee to review and approve, reject or modify all Requests with Proceeds or 

Modifications....” 

In the Lakeshore Village transaction, OAHP invited OAM staff to attend the loan committee 

meeting but did not allow OAM to vote on the approval of the transaction, as implied in the HUD 

guidelines. Previously, the Director of OAM made a request to the Director of OAHP to revise 

the guidelines to specifically allow OAM one of the three existing votes on the loan committee. 

The guidelines were reissued in July 2009 (Notice H 09-06) without revisions. Since OAM will 

have the continued responsibility of monitoring the physical and financial stability of the project, 

we believe that OAM’s input and voice in the loan approval process is essential. Accordingly, 
6 

the existing guidelines should be revised to clarify the responsibilities of both OAHP and OAM 

during this process. 

(C) Safe Harboring Certification

A nonprofit purchaser requesting debt relief must demonstrate to OAHP that it is independent 

from and not controlled by any for-profit entity. The Mark-to-Market Program Operating 

Procedures Guide, appendix C, section IV (E), states that certain “safe harbored” purchasers can 

demonstrate that they are independent without the need for any transaction-specific review by 

OAHP. To qualify under the safe harbor standard, a purchaser must certify to OAHP, in a form 

acceptable to OAHP, that it is independent from any for-profit entity. 

Assignment and assumption transactions such as Lakeshore Village often represent the 

forgiveness of a significant amount of debt due to HUD at the time of sale. If OAHP is relying 

on the assertions of the purchaser and/or its agents to determine safe harbor status, those 

assertions should be subject to a certification containing a prohibition against false or misleading 

information. To better protect the interests of HUD, we suggest that along with the required 

documentation, the purchaser also provide a certification stating, “Under the penalty of perjury, 

the information contained in these documents is true and correct.” 

Recommendations 

We recommend that the Office of Housing ensure that 

1. OAM and OAHP continue their pre-loan committee meetings and provide a comprehensive 

record of the concerns raised and the decisions arrived at during the assignment and 

assumption approval process. 

2. The assignment and assumption approval process not be completed until such time as a 

certified source and use of funds statement is received by OAHP. 

3. Existing HUD guidelines are amended as soon as possible to clarify OAHP’s and OAM’s 

responsibilities during the assignment and assumption approval process. 

4. Nonprofit purchasers who intend to qualify for safe harboring status include a certification of 

their independence from any for-profit entity by declaring, “the information contained in 

these documents is true and correct under the penalty of perjury.” 

Office of Housing’s Comments and OIG Response 

We discussed the observations with OAM and OAHP staff during the inspection and provided a 

copy of the draft report to the Assistant Secretary for Housing – Federal Housing Commissioner 

on October 15, 2009. The Assistant Secretary agreed with recommendations 1, 2, and 4 of this 

report and has already taken or will take corrective action as stated in a memorandum, dated 

November 6, 2009 (see appendix A). 
7 

Regarding recommendation 3, the Assistant Secretary stated that it was not OAHP’s intention to 

imply in the HUD housing notice that OAM was a voting member of all loan committees, but 

only that it would be a participant in all transactions. Further, he stated that OAHP has final 

approval authority on all qualified nonprofit transactions involving the assignment, modification, 

or forgiveness of notes. The Assistant Secretary advised us that to eliminate the confusion in the 

language of the current Housing Notice H 09-06, the Office of Housing would amend the notice 

now or upon its expiration in July 2010. Since OAM concurs with this response, we have 

revised our draft results and this recommendation accordingly. 

OIG agrees with the planned corrective actions indicated in the Assistant Secretary’s 

memorandum cited above. To clarify OAHP’s and OAM’s responsibilities in all post-M2M 

transactions, we believe that Housing Notice H 09-06 should be amended as soon as possible. 

 
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Appendix A – Office of Housing’s Comments 
9 

 
10