Wollongong City Council administrators made a last-minute admission that the homes, owned by Frank Vellar's family company, were built in protected bushland on the Illawarra escarpment where residential development is banned.

The news comes as a council report showed that $2.6 million of ratepayers' money had been spent defending corruption charges at a recent Independent Commission Against Corruption inquiry. The inquiry found that Mr Vellar had engaged in corrupt conduct.

The council's former general manager, Rod Oxley, also revealed yesterday he would file an insurance claim against the council to help pay the cost of defending himself at the inquiry.

The grand Corrimal homes were built after Mr Vellar's family struck a deal under which the council would rezone two small spots close to the road as 7b conservation zones, making construction there legal. The Vellars, however, chose to build in the prohibited 7a zone, which offers better views.

After the council was sacked, state appointed administrators Gabrielle Kibble, Col Gellatley and Robert McGregor, planned to give the Vellars' land an E3 zoning - making the buildings legal - but changed their minds after a community outcry.

In a last-minute decision made at last night's council meeting, the administrators decided to leave the Vellar land zoned 7a, which means the mansions still have no legal status.

Despite ongoing drainage, fire risk and landslip problems caused by the two Vellar properties, the administrators stopped short of ordering their demolition.

Greens MP, Lee Rhiannon, said that allowing the Vellar properties to remain in a prohibited zone "sets a really dangerous precedent".

"It's basically sending a signal you can get away with it," she said. "The big remaining question is why this didn't come up in the ICAC inquiry and you are left wondering what other illegal matters may not have been dealt with. That's why we need a real investigation. There is so much unfinished business."

Complicating matters is the revelation that the council file for the DA to build at least one of the houses has been defaced and documents are missing. Neither of the mansions has ever been lived in.

Clare Leabeater from the residents' group Wollongong Against Corruption said that "significant public money has already been spent and will need to be spent on flood mitigation works downhill from the Vellar site. Council is aware of the instability of this land that is considered a significant land slip risk".

"Why should the public continue to bear the costs incurred by this illegal development that risks both personal and structural safety?" Dr Leabeater said.

The Greens planning spokeswoman, Sylvia Hale, said the Corrimal houses should be demolished and the Vellars forced to pay the cost of land rehabilitation.

"What is needed is an independent judicial investigation of this and any other suspicious development decisions in Wollongong that have not been examined by the ICAC," she said.

Mr Vellar said it could be the council's fault the buildings were built in the protected area.

"They are in the right location and we are working with council to resolve this," he said.

Terry Wetherall from JBA Urban Planning Consultants, which is acting on behalf of the Vellar family, said: "We can only imagine there was some error in drafting the local environment plan. It should be remembered that the family put some 70 hectares of land in to public ownership to obtain approval for the buildings."

- with Mario Christodoulou

Sunanda Creagh is The Sydney Morning Herald's Urban Affairs Reporter