Regulating the Derivatives Market
Buffet's Failure of Leadership

City of Montebello Accused of Misusing HUD Funds

Responsibilities of City Government and Auditor Shortcomings

Is Montebello the second coming of the City of Bell? Last year we learned about former City of Bell administrator, Robert Rizzo, who was accused of stealing from the treasury while paying himself a salary well in excess of $800,000. Los Angeles County District Attorney Steve Cooley filed charges against eight current and former Bell officials last September alleging that they misappropriated $5.5 million in public funds. Rizzo is charged with 50 counts of fraud, including 44 counts of misappropriation of public funds, six counts of falsification of records by an official custodian, three counts of conflict of interest and one count of public officer crime.

Now we have the City of Montebello where the U.S. Department of Housing and Urban Development (HUD) is looking for possible criminal activity regarding the city's use of federal grant money in its HUD HOME program. In 2010, HUD demanded that Montebello repay $1.3 million because the city gave a developer HOME money to help build a housing project with affordable units and reported to the federal agency the project was complete, but construction had not started. The city is currently dealing with the suspension of funding by federal housing officials and the demand for repayment of a total of $5 million in grants.

According to a story written by two L.A. Times reporters on April 28, Abby Sewell and Jessica Garrison, departing city administrator Peter Cosentini said in a memo to City Council members that some of the city's past handling of HUD funds "may border on criminal." Whittier Daily News staff writer Bethania Palma Markus quoted James Todak, special agent in charge of HUD's Office of Inspector General, as saying,  "We're looking at it, and if there's criminal activity we'll work with the U.S. Attorney's Office and prosecute." HUD officials declined to describe Montebello's 31 violations but said they will outline them in a report that will be released later in the month.

The city is also facing several other probes by outside investigators. State Controller John Chiang last week announced his office will audit Montebello's books, citing concerns over delinquent financial reporting, use of restricted funds to cover operating costs and the discovery of two off-the-books bank accounts. It’s the first such audit since Chiang investigated the city of Bell last year and found massive misconduct.

The ethical issue in the Montebello situation is one of accountability. The City Finance Department prepares a Comprehensive Annual Financial Report (CAFR) that includes an independent auditor's report. The CAFR for the fiscal year ended June 30, 2010, includes a letter to the Mayor and City Council signed by Interim City Administrator Peter Cosentini that identifies the city's responsibility for the accuracy, completeness and fairness of the financial statement presentations. The letter clearly states the information is accurate and all disclosures are adequate "to the best of our knowledge." The audit report prepared by the independent firm of Eadie & Payne provides a clean opinion with respect to the City's financial statements.

It is interesting to note that the audit report is dated April 7, 2011, more than nine months after the fiscal year end of June 30, 2010. This time lapse between the date of the statements and issuance of the report is much longer than usual but probably can be explained by the ongoing HUD investigation. The financial statements include a footnote to the statements (# 17: Subsequent Events) that point to a December 22, 2010 notification by HUD that during its review of the City's books and records it discovered that:

"[T]the City could not provide sufficient documentation with respect to a $1,300,000 HOME expenditure. The City was ordered to repay HUD $1,300,000. The City has demanded payment from the developer who failed to provide the City the proper documentation to support the expenditure and has recorded a $1,300,000 receivable in its Capital Projects Fund. On February 18, 2011, the City was notified by HUD during its review of acquisition and related costs of property located at 124 South Sixth Street, Montebello, CA, that the City could not provide documentation and support regarding the City's acquisition of the property. The City was ordered to repay HUD $889,106. The City is currently negotiating a payment plan with respect to the above amounts due. The City has reflected these amounts due as notes payable - due within one year in the Statement of Net Assets - governmental activities."

Eadie & Payne's audit report does not mention the HUD investigation or payments already ordered with negotiated payments in the works. It also does not mention the city's failure to provide documentary support for the $1.3 million expenditure under the HOME program and its demand to be repaid that amount by the developer. Eadie & Payne may not have, in fact, violated generally accepted auditing standards because the financial statements include the appropriate footnote disclosure. However, I believe the firm failed in its ethical obligation to protect the public interest by not inserting a separate paragraph in its audit report about the HUD matter. The city already is reeling from a $1.6-million deficit this year, on top of $16.8 million that the general fund owes the city redevelopment agency as part of a highly unusual loan the council authorized last fall. How much longer can it be before the city of Montebello goes bankrupt as did the city Bell? The fact is Montebello's problems jeopardize its ability to continue to operate without outside intervention by the state and that should have been addressed by the auditors.

 Blog by Steven Mintz, aka Ethics Sage, May 4, 2011