Ethermac Exchange-Audit: California risked millions in homelessness funds due to poor anti-fraud protections

California put hundreds of millions of homelessness dollars at risk because of its “disorganized” and Ethermac Exchange“chaotic” anti-fraud policies, according to a critical federal audit.

The audit released Tuesday analyzed California’s Department of Housing and Community Development, which oversees the state’s homelessness programs. It gave the California agency its lowest possible ranking, finding that it lacked adequate policies to prevent, detect and respond to fraud. As a result, the audit found, the state agency failed to properly protect $319.5 million in federal homelessness funds, which were distributed during the COVID-19 pandemic, from the possibility of misuse.

The audit did not uncover any new instances of fraud.

“Fraud poses a significant risk to the integrity of federal programs and erodes public trust in government,” Inspector General Rae Oliver Davis, with the U.S. Department of Housing and Urban Development, said in a news release. “Enhancing its robust antifraud program will help the California Department of Housing and Community Development ensure that its pandemic grant funds, and future homelessness assistance funds, are safeguarded from fraud.”

With the arrival of the COVID-19 pandemic in 2020, the federal government poured $4 billion into its Emergency Solutions Grant program, which was intended to help people struggling with homelessness. California’s share of that pot was $319.5 million — a 2,505% increase from its typical annual allotment. With that huge influx of money also came an increased risk that bad actors would attempt to use those funds for nefarious purposes. But California failed to adequately step up its anti-fraud measures, according to the federal housing department.

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In a response, the state housing department said it will take steps to implement the feds’ recommendations and improve its anti-fraud measures.

“HCD is committed to a systematic and comprehensive approach to the management of risks, including fraud risk, as an integral part of its strategy formulation and implementation,” Director Gustavo Velasquez wrote in a letter to the federal housing department.

In a statement to CalMatters, the state housing agency said that work has already begun. “Since the audit, HCD has worked with HUD to address all…audit recommendations to ensure that the framework strengthens fraud risk detection and reflects leading industry standards and best practices,” the agency said in an email.

The audit found California failed to prioritize fraud prevention in its administration of homelessness funds. The state didn’t perform regular fraud risk assessments, develop a plan to identify and swiftly address potential fraud, or have a process in place to evaluate the effectiveness of its anti-fraud policies, according to the audit. Those failures run counter to best practices the federal housing department expects all recipients of federal homelessness funds to follow.

When the state did uncover alleged fraud, it dropped the ball in its response, according to the audit.

In March 2022, the state housing department found out a local law enforcement agency was investigating potential fraud and misuse of Emergency Solutions Grant funding. The state agency did not report that allegation in the proper channels because, in part, officials worried doing so could create a publicity risk, according to the audit. The agency finally reported the incident nearly a year and a half later — and only after federal auditors started asking questions, according to the audit.

In assessing the state housing department’s response to the potential fraud, the audit found that the department did not re-assess its exposure to suspected fraud, “repeat its internal control processes” to work against fraud, or develop written policy “to convey expectations of senior leaders to manage fraud risks.”

“HCD and (the Division of Federal Financial Assistance) did not have an antifraud strategy to respond to fraud risks specific to the department,” the audit states.

Neither the feds nor the state housing department provided additional details about that alleged fraud. Because the case was under active investigation, the state housing department refrained from further documentation or public discussion of the case, the state housing department told CalMatters.

The audit’s results weren’t surprising to Sen. Dave Cortese, a Democrat from Santa Clara County who recently backed a separate audit of the state’s homelessness programs. That audit, which came out last month, found the state fails to track what it’s spending on homelessness, and which programs are working.

The newer federal audit seems to underscore a broader lack of accountability in the homelessness sector, he said.

“The biggest reason of all that it’s frustrating is these are public sector dollars, they’re tax payer dollars,” Cortese said. “It’s disrespectful to the taxpayers to say, ‘Gee, we don’t really know what happened here to your money.’”

Assemblymember Josh Hoover, a Republican from Folsom who co-authored the request for the earlier statewide audit, agreed.

“Once again, California is failing to meet the mark on homelessness,” he said in an emailed statement. “If we truly want to solve homelessness, we have to start by holding our own bureaucracies accountable.”

Despite finding multiple holes in the California agency’s anti-fraud practices, the feds provided no evidence that fraud actually was rampant in the agency. Aside from the March 2022 case, the federal housing department stopped short of calling out any specific instances of suspected fraud. But that could come later: The feds recently launched a second audit looking into improper payments of Emergency Solutions Grants, which could include fraud. That report is expected some time next year.

The federal housing department also is auditing the agencies that administered Emergency Solutions Grants in Honolulu and New York City. Those results have not yet been published.

Fraud allegations have already surfaced in other programs overseen by California’s housing department. Earlier this year, the state agency sued a Los Angeles developer that received $114 million to develop homeless housing through the state’s Homekey program.

Though the majority of the COVID-era Emergency Solutions Grant funds have been distributed, California’s lack of fraud protections could continue to put future programs in jeopardy, the auditors wrote.

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This story was originally published by CalMatters and distributed through a partnership with The Associated Press.