A radical plan to help “underwater” homeowners makes a comeback Jan 4th 2014 | IRVINGTON, NEW JERSEY, AND LOS ANGELES | From the print edition The Economist
IN 2000 Loretta and Clifton Christian bought a two-family home in Irvington, a hardscrabble New Jersey town of 54,000, for $132,000. They poured money into it, fixing the roof and replacing the boiler. But in 2008 the world caved in and the couple lost their jobs soon afterwards; they now live off their pension and the income from a second-floor flat they let out. They manage to meet their monthly mortgage payments of $1,845. But their house is now worth just $71,000, significantly less than the outstanding mortgage of $115,000.
Nearly 11m American homes are similarly “underwater”. Despite the housing recovery, parts of the country are still struggling: 3m-4m people are in default, in foreclosure or awaiting liquidation. According to New Jersey Community United, a lobby group, nearly one in four homes in the state is worth less than the mortgage. Hence the return of an unorthodox proposal many thought had been laid to rest: for municipal governments to use eminent-domain (or compulsory-purchase) powers to seize underwater mortgages at below the home’s market value and to refinance them at lower rates. Homeowners get to stay put, and the city and a private sector partner split the profit. Governments traditionally use eminent domain to force property owners to sell their land for public projects such as railways.
But high foreclosure rates lead to problems like blight, crime and falling house prices; some argue that cities and counties ought therefore to be able to invoke eminent domain in depressed housing markets for the public good. The San Francisco-based Mortgage Resolution Partners (MRP), the private partner in question, first floated the idea in 2012. Several municipalities in the Inland Empire, a sprawl east of Los Angeles whacked by the foreclosure crisis, expressed interest, but dropped the idea last January under pressure from investors. Greg Devereaux, chief executive of San Bernardino county, one of the municipalities, says public support was not particularly forthcoming.
But like a movie monster, the eminent-domain proposal is back, and apparently stronger than ever. Irvington is in talks with MRP. Nearby Newark, New Jersey’s biggest city, is considering it, as are about a dozen other cities around the country. Most have been influenced by Robert Hockett of Cornell Law School, who has written about municipal governments’ eminent-domain powers. He has been advising several cities about the proposal. Farthest down the road is Richmond, a struggling city east of San Francisco. In July the city wrote to the holders of 624 mortgages asking to purchase the debt at 80% of market value and threatening to invoke eminent domain if it did not obtain satisfaction. (Those that responded said they were not authorised to comply.) The council has voted to push the plan forward several times since then, although it does not yet have the supermajority that state law requires to execute it. Officials hope to get around that by partnering with other Californian cities.
Mortgage investors hate the idea. In August several sued Richmond in federal court, arguing, among other things, that it violated laws on interstate commerce. A judge rejected the suit as premature. But if Richmond or another city does invoke eminent domain, lawsuits will fly. Critics say the plan can only work when purchases are made at sufficiently large discounts to give MRP a profit. Most of the mortgages in Richmond earmarked for help are not behind in repayments. “This has nothing to do with benefiting the community,” says Barbara Novick of BlackRock, a fund-management group that backed the suit. “It’s about making money.” (MRP did not respond to interview requests.) Others fear that putting an untested plan into action could wreak havoc on local markets. A $34m municipal-bond sale flopped in Richmond in August, and the plan could cost the city $300,000 in higher yields over ten years. Moody’s, a ratings agency, says the proposal could raise local mortgage rates and reduce access to credit, limiting tax revenue growth and thus making the city a riskier investment. But for proponents the proposal has become a civil-rights issue. Irvingtonians say it is “poetic justice” that powers traditionally used to boot people out of their homes may be used to keep them there. If that ever happens, plenty will disagree.