Owner Made Improper Mortgage Transfer, Raised Rents Without Proper Notice

Facts: An owner of a 52-unit site obtained a mortgage from an FHA-approved lender. The mortgage was secured as part of HUD’s Section 236 program. The Section 236 program insures loans to private developers in exchange for their commitment to provide low-income housing. As part of the Section 236 program, HUD also provides interest-reduction payments to FHA-approved mortgagees on behalf of the mortgagors.

In exchange for these benefits, the owner executed a Housing Assistance Payment contract to operate the site in accordance with the Section 8 Housing Choice Voucher program. The contract requires owners to provide HUD and affected residents with at least one year’s notice before terminating the contract.

In January 2008, the owner deposited $325,000 from the site’s reserve account into an account at another bank. The next month, the owner secured a loan using the $325,000 deposited in January as collateral. The owner then used the loan to send a check to the first mortgagor “in full payment” of the original 1970 mortgage. In 2011, apparently believing that HUD statutory and regulatory requirements now no longer pertained to the site because of the mortgage transfer, the owner issued a notice to all of its subsidized residents stating that they would have to sign new leases and pay new rents. Soon thereafter, the site began issuing vacate notices to subsidized residents.

In 2012 HUD filed a complaint with its Office of Hearings and Appeals against the owner. The complaint sought civil money penalties for violations of the provisions governing Section 236 and Section 8 programs, in particular concerning the new leases and rent notices as well as the notices to vacate. The complaint sought $212,500 for violating the requirements of the Section 236 program and $1,260,000 for violating the requirements of the Section 8 program.

In 2013, the administrative law judge (ALJ) assigned to the case found the owner liable for violating its HUD statutory, regulatory, and contractual obligations. The ALJ found that the owner deserved the maximum penalties. But the ALJ observed that the governing regulations provided for consideration of “ability to pay” in the determination of penalty amounts. After considering that regulatory factor, the ALJ determined that the owner could reasonably pay a penalty of only $450,000, instead of $2,325,000. The ALJ also determined that HUD’s motivation was to bankrupt the site, and the ALJ consequently reduced the penalties by 25 percent.

The government filed an appeal of the ALJ’s penalty determination to the Secretary of HUD. The Secretary issued a decision upholding the liability determinations but modifying the penalty amounts. First, the Secretary vacated the ALJ’s reduction penalties, restoring them to $262,500 and $1,260,000. The owner asked the court to review the Secretary’s decision.

Ruling: A District of Columbia appeals court denied the petition for review.

Reasoning: Pursuant to HAP and statutory requirements, an owner may not increase Section 8 tenants’ rents without giving those tenants and HUD one year’s notice of the proposed termination of a HAP contract. Nevertheless, the site sent notices to all of its Section 8 tenants informing them that they would have to sign new leases and pay new rents. No notice was given to either HUD or the tenants of any proposal to terminate the HAP contract.

The owner also withdrew money from the project’s reserve fund without HUD’s permission; fired the project manager without HUD’s approval; and failed to provide HUD with adequate financial disclosure reports for the project.

Also, because the owner offered no evidence of its inability to pay HUD’s requested penalty of $1,260,000, there was no basis to reduce the penalty. The owner and its president were properly found liable for violations of the Section 236 and Section 8 programs. The court found that the ALJ’s reduction of penalties was based on a misinterpretation of testimony and was properly reversed.

• Grier v. HUD, July 2015