Dean Baker has a generally positive story out about the proposal in San Bernardino County, California to use eminent domain to condemn, write down and return to the owner a lower-cost mortgage that is no longer underwater. I have discussed with Rep. Brad Miller the concept of an eminent domain-based mortgage debt relief plan and the specifics of the Mortgage Resolution Partners proposal. Baker is much more credulous about MRP’s plans:
MRP’s plan is to have the county condemn underwater mortgages in private mortgage pools. The logic is that these underwater mortgages are causing serious harm to the community. When people are seriously underwater in their homes, they are likely to lack both the means and the incentive to properly maintain their homes. Of course, the monthly payment on a mortgage that might exceed the current value of a home by 50 percent or more (and carry a high interest rate) is a huge drain on the purchasing power of homeowners.
The case for focusing on mortgages in private mortgage pools is that it is generally quite difficult to sell these mortgages out of the pool. This means that even if, in principle, it might be advantageous for both the investors and the homeowners to have pools sell underwater mortgages to third parties like MRP who would rewrite the terms, the rules of the mortgage pools makes it unlikely that the mortgage will be sold.
This is exactly the sort of situation where public action like condemnation is appropriate. The public action allows for a solution that can benefit all the parties but is obstructed by bureaucratic rules that were written to cover a different set of circumstances. (It is important to remember that investors can contest in court the compensation they are provided for condemned mortgages to ensure that they get fair market value.)
Baker doesn’t note that MRP is only planning to go after performing mortgages, meaning that all the delinquent borrowers in San Bernardino County would wait in line behind people with an ability to pay, who would get all the relief. He also doesn’t go into the problem of second liens, typically owned by banks and not used in private-label securities, and the legal problems with finding a proper price on them. The fear is that the municipality gets stuck with all the costs of the enterprise and none of the benefits. Again, this is a tantalizing idea in theory, but this particular concept, especially with its shroud of secrecy, does not strike me as a good way to prove the concept.
A sounder concept that Los Angeles has taken the lead on putting into practice is to make the post-foreclosure process so harrowing that lenders will think twice about the financial incentives. The city attorney, Carmen Trutanich, has sued another mortgage trustee over blighted and abandoned homes and the costs of them, typically borne by the local taxpayer.
On Monday, Los Angeles officials accused US Bank of illegally allowing the Abner Street home and many others to deteriorate into slums. The civil allegations found problems in the way US Bank handled 1,500 home foreclosures and cited more than 150 homes that had fallen into disrepair. The city is demanding that the bank clean up vacant properties and improve conditions for families living in others.
The lawsuit marks the second time the city has accused a major bank of being a slumlord, part of an aggressive attempt to deal with the urban decay caused by the housing crash [...]
City officials say they want to hold banks that helped fuel the housing boom responsible for the blight that rippled through the city after those loans went bad. Large financial institutions such as Deutsche Bank, which the city has previously sued, and US Bank serve as trustees for pools of loans that were turned into securities and sold to investors.
Los Angeles has gone after the trustees, who then blame-shift to the servicers, whom they hold responsible for the management of the properties. But this could serve to change behavior among those responsible for keeping shadow REO off the market. If it becomes cost-prohibitive to foreclose and leave the property to rot, maybe the trustee leans on the servicer to keep the individual in the home, through a principal reduction if necessary.
This is a bank shot, but perhaps less of one than a badly designed eminent domain proposal. And even at the surface level, banks should pay for any destruction they have wreaked on communities.