[co-author: Hunter Davis]*

On October 28, 2019 the U.S. Department of Housing and Urban Development (HUD) and the U.S. Department of Justice (DOJ) released a Memorandum of Understanding (MOU) announcing their joint approach to False Claims Act (FCA) enforcement against Federal Housing Administration (FHA) mortgage lenders. The MOU recognizes that stiff FCA penalties and FCA scrutiny for “unintentional mistakes and honest errors” could be linked to falling participation – at least among depository institutions – in the FHA-guaranteed loan market.[1] The MOU reflects an intent to raise the bar for initiating FCA enforcement proceedings. Instead, in the first instance, allegations of regulatory non-compliance would be resolved through HUD administrative proceedings.

Key Details of the MOU

The MOU stresses that violations of FHA mandates should be enforced principally through HUD’s administrative proceedings rather than through FCA enforcement. When HUD detects noteworthy violations of FHA requirements, it will first refer them to the Mortgage Review Board (MRB), through which HUD oversees FHA-approved lenders. Emphasizing that FCA enforcement should only be pursued when it is “the most appropriate method to protect the interests of FHA’s mortgage insurance program,” the MOU explains that the MRB will refer cases to DOJ for potential FCA litigation only if two “FCA Evaluation Standards” are met: (1) There are Tier 1 or equivalent Defect Taxonomy[2] violations in at least 15 loans, or in loans with unpaid principal balances (or FHA insurance claims) of at least $2.0 million, and (2) there are aggravating factors that warrant FCA litigation, such as evidence of systemic or widespread violations. If the MRB does not refer a case to the DOJ or recommend FCA enforcement, the MOU indicates that the MRB could still pursue administrative action, indemnification, or monetary penalties.

The MOU also instructs that DOJ will confer with HUD when a FCA action is initiated by a party besides HUD—such as a qui tam relator, HUD’s own Office of the Inspector General, or DOJ itself. In such situations, the MOU expressly counsels collaboration between HUD and DOJ, “including, for example, HUD’s support of or opposition to the FCA litigation,” and whether the matter would have met HUD’s FCA Evaluation Standards. In an obvious nod to the Supreme Court’s holding that the FCA’s materiality standard is “demanding” and “rigorous” and turns on an alleged misrepresentation’s “effect on the likely or actual behavior of the recipient of the alleged misrepresentation,”[3] the MOU also states that “HUD will make known to DOJ whether and to what extent any alleged defects or violations regarding the relevant FHA requirements are material or not material to the agency so that DOJ can determine whether the elements of the FCA can be established.”

In a new twist for FCA litigation, the MOU empowers HUD to recommend that DOJ move to dismiss qui tam actions by invoking its authority under § 3730(c)(2)(A) of the qui tam statute[4]—which DOJ has long been reluctant to wield. Consistent with the relatively new and untested DOJ policy setting out factors supporting dismissal, the MOU enumerates specific criteria and examples of instances where HUD will seek DOJ’s support for dismissal, including HUD’s determination that the alleged violation was not material, that the allegations do not meet MOU’s FCA Evaluation Standards, or that the litigation would otherwise interfere with HUD’s administration of the FCA lending program. This appears to be the first MOU between DOJ and a client-agency announcing such protocols, and it effectively formalizes a pathway for HUD to voice its concerns with DOJ proactively.

Related Regulatory Issues

Consistent with Secretary Carson’s effort to decrease the regulatory and enforcement burdens of participating in FHA lending programs, the MOU also notes that the FHA is refining the language and streamlining the loan level and lender level certifications required by the FHA single family mortgage lending programs. These changes provide additional avenues to address the materiality and culpability concerns raised in FCA enforcement actions. The FHA is seeking to replace the requirement that a lender swear under penalty of perjury that the lender abided by all HUD regulations and requirements, at both the loan and institution level, with a loan-level certification that statements to HUD are “materially correct, with the understanding that in the event HUD elects to pursue a claim arising out of or relating to any inaccuracy of this certification, HUD will interpret the severity of such inaccuracy in a manner that is consistent with the HUD Defect Taxonomy in effect as of the date this mortgage is endorsed for insurance.”[5] HUD’s proposed streamlined annual lender certification does not contain any statement certifying compliance with FHA’s eligibility requirements. [6]

The FHA is also refining its Defect Taxonomy in an effort to connect it to relevant HUD remedies and violations. In the meantime, however, just what kind of violations will trigger consequences like HUD “administrative action, indemnification, or civil money penalties” referenced in the MOU remains uncertain.

Key Takeaways for Lenders

The MOU and related regulatory reform efforts appear intended to assuage lenders’ fears regarding risks associated with FHA lending. However, the MOU does not mark the end of FCA enforcement against FHA lenders, nor does it curtail criminal enforcement by DOJ. Rather, the non-binding MOU is intended to guide the exercise of prosecutorial discretion. Though Secretary Carson has expressed that the FCA should be used as “a tool of last resort”[7] and that HUD will be much more forgiving of “immaterial errors” or “correctable mistakes,”[8] there is as-yet no guidance for what this means. The impact of the scaled-back FHA certification requirements under the prevailing materiality standard is uncertain too. Indeed, trends in FCA enforcement tend to be cyclical and current lending practices could become the focus of future policy shifts and enforcement priorities.

[View source.]