Russ Zimmer

@RussZimmer

SBA disaster loans were one of the main ingredients in the rebuilding recipe after superstorm Sandy

A new report shows that some disaster loans were approved despite red flags

People who could be reasonably seen as credit risks were given thousands of dollars before defaulting

The program is dependent on people repaying these taxpayer-funded loans

Superstorm Sandy disaster loans were granted to people with bad credit, little income and at least one non-U.S. citizen, according to an internal review by the U.S. Small Business Administration.

A total of 19,295 disaster loans, representing $757.9 million, were released after Sandy wrecked the region in October 2012. The money was meant to rebuild homes and reestablish businesses that were literally underwater during the massive storm's crippling coastal flooding.

After reviewing a sample of these loans, the SBA's inspector general estimates that about 500, or 2.6 percent, had to be charged-off — meaning the loan was deemed uncollectable — within 18 months. That's about $9.5 million worth of taxpayer dollars, most of which was not repaid.

That 2.6-percent share of bad loans is actually relatively low, compared with other natural disasters. Hurricane Isaac, for instance, was closer to 7 percent.

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But the inspector general's report identifies several shortcomings in the approval process that could've saved public funds.

"We recognize that borrowers in this program are disaster survivors in need of assistance and that SBA disaster loans are unexpected debts," the report states. "However, the program is designed with the expectation that these loans are ultimately repaid."

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The SBA, for its part, says in the report that it has already updated its training guidelines and that the sample size examined — 21 loans — is too small to draw any broader conclusions about the program.

1. Credit scores weren't given enough weight

The review found that borrowers with a credit score below 620 accounted for less than 1 in 10 of the loans issued, but represented nearly half of the loans that defaulted within 18 months.

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One borrower had a credit score of 521 and when asked to explain these delinquencies she replied that she was unaware that she had slipped into collections. The SBA decided to approve her for a $238,000 loan. Ultimately, only $14,000 was disbursed, but not a dime was paid back.

2. Credit blemishes sometimes went questioned

One suggestion the report makes is for the SBA to create a more uniform standard for determining creditworthiness. That left too much variance on decisions between loan officers.

In one instance, an applicant's credit history included 14 past due accounts, at least one of which had defaulted within the last year.

Her explanation? She was "a young, naive person that spent too much and wasn't able to afford to pay it back."

This apparently did not scare the SBA off, as they approved her for a $17,600 loan. She made seven payments on the loan before abandoning it.

3. One of its most powerful tools was seemingly ignored

Every loan the inspector general reviewed for this report would have been rejected by the Disaster Credit Management System, a database that is used by the SBA to process loan applications and, importantly, evaluate credit worthiness.

The inspector general found no evidence that the DCMS conclusion was being tossed aside in favor of some piece of information that the computer couldn't quantify.

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Loans that were approved over the DCMS's objections were more than three times as likely to default, according to the report.

4. Income sources weren't really scrutinized

The program is designed to prioritize cash flow over collateral, meaning applicants better be able to prove they can pay back the loan.

However, the review found multiple instances where declared income wasn't investigated at all.

One applicant reported that 29 percent of his income came from rental property and he was granted a $8,400 loan even though that income wasn't reflected on his tax return or proven by any other documentation. He defaulted after four payments.

5. Basic eligibility criteria was sometimes disregarded

The SBA's Office of Disaster Assistance was absolutely slammed with applications in late 2012, early 2013, according to the report.

As a result, the SBA brought on a "significant amount of additional personnel" and this may have lead to a number of errors made in determining eligibility.

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On one loan, the applicant indicated they were not an American citizen, but the loan was still approved. It is permissible to for non-U.S. citizens to get a disaster loan, but the program's rules require additional documentation to be filed. That wasn't done in this case.

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Russ Zimmer: 732-557-5748, razimmer@app.com