During the second quarter a plan to use eminent domain to “condemn” underwater mortgages began making headlines after San Bernardino County California and Cook County Illinois both indicated they were at least evaluating the plan.
The basic idea is that County residents who are underwater, and owe more than their home is worth, but not delinquent or actually under any financial distress, would have their mortgages taken over by the municipality. The municipality would allow them to refinance it at a much lower balance with a new lender. All of this would be arranged by a “helpful” intermediary, which also happens to be the same party that is trying to sell the idea of the plan, which would effectively force the losses on the mortgage lenders, give the homeowners a big free write down on their mortgage and better terms, and give the intermediary a big fee in the process.
The intermediary has been pitching the idea to large pension plans and money managers for over a year now, and has been soundly rejected by most with even a basic understanding of market dynamics.
The most obvious pitfalls of the plan start with the fact that it is not helping struggling homeowners, and in fact is targeted specifically at performing mortgages. It also runs contrary to even the most basic tenets of property, mortgage, and even standard contract law, and would likely result in decades of litigation. Finally, no lender would ever lend in a county that implemented a plan like this in the future without additional assurances that the collateral for their loan was secure.
This would be a devastating "solution" for the citizens as well as the investors in the mortgages, which include all of us as taxpayers, pension holders, and retirement assets in fixed income assets.
Our perspective is that we do not think that this plan will ever actually be executed, but is an example of another poorly thought out legislative “solution” to counter mortgage market problems. These kind of regulatory/legislative risks continue to be a concern.
