Battle Over Seizing Mortgages Through Eminet Domain is Heating Up
Suppose I own a first trust deed loan with a face amount of $300,000. It's a thirty-year fixed rate mortgage at 6%. It was made in 2007 to finance the purchase of a home for $375,000. The homeowner is current on the payments. What is that loan worth today? What would you give me for it? Oh, by the way, I forgot to mention that the house is now worth $200,000. It is in a neighborhood of homes that have experienced a similar devaluation from the good old days. 48% of the surrounding homes are also underwater. Now, how much would you pay to buy that loan?
The scenario sketched above could have come right out of the city of Richmond, California. Richmond is currently the epicenter of the controversy regarding the use of eminent domain to seize underwater mortgages and to refinance the affected homes based on current real estate values. The result of doing so, of course, would be to reduce the principal balance owed by the homeowner.
The program, originated by a group called Mortgage Resolution Partners, has been in and out of the public eye for about 1½ years. It was most prominently considered, and ultimately rejected, by the city of San Bernardino, California. While still being looked at by a number of jurisdictions around the country, it has moved furthest along in Richmond. This week the city council will hold a meeting where both opponents and supporters are expected to vociferously express their views. A great deal of heat will be generated. There will probably not be a commensurate amount of light.
The city of Richmond has already sent letters to 32 banks and other mortgage holders offering to buy 624 underwater mortgages at discounts to the homes' current value. If the offers are not accepted, the letter said Richmond may use the power of eminent domain to condemn the mortgages and seize them anyway, paying court-determined fair market value.
The theory is this: the loan is worth far less than its face value. Statistics gathered over recent years tell us that the homeowner - even if presently current - is likely sooner or later to default. In that event, the loan's value will be, at best, the market value of the property, less the costs of foreclosure and resale - roughly 80% of the property's fair market value. If the city can purchase the loan at 80% of the property's fair market value, then it should be able to provide the owner with a 90% loan-to-value refinance, thus putting him/her back in an equity position while still enabling the city to cover its costs.
The lending community's reaction to this has verged on apoplectic. Lawsuits have been filed - by the priciest of law firms, of course. Lobbyists have been engaged. PR firms are being employed. Most prominently, Wells Fargo Bank and New York Mellon have filed suits. They are joined by a long list of plaintiffs and amici. Realtor® associations have also climbed on the lender band wagon. The Contra Costa Times reports that the West Contra Costa County Association of Realtors® has hired a San Francisco-base public relations firm “to wage a campaign against the plan.”
While there are many sub-arguments to be considered, the opposing viewpoints can generally be subsumed under two headings: (1) the whole plan involves an illegitimate use of eminent domain. (2) Were this to happen, real estate lending in areas like Richmond, perhaps all of California, or more, would be severely restricted.
No one in the lending community has yet explicitly objected on the grounds that, if eminent domain proceedings upheld the discounted values of affected loans, then that could have a devastating effect on the asset claims of their funds. But, of course, that couldn't be what they are worried about. Could it?
