Another Dumb Idea: "Eminent domain" for Underwater Mortgages

I haven't written about the use of "eminent domain" to buy mortgages because it seemed like such a dumb idea I didn't expect it to go anywhere (the city is proposing to use eminent domain to help individual homeowners who are underwater - who may or may not be able to afford their mortgage - obviously not an intended use of eminent domain).

An appropriate public policy to help underwater homeowners would be cramdowns in bankruptcy (see Tanta's Just Say Yes To Cram Downs), but having cities use "eminent domain" is obviously not.  I'll write more if this spreads ... 

From Alejandro Lazo at the LA Times: Eminent domain proposal for mortgages gains traction in California

Cities in the Golden State are once again testing a controversial mortgage relief plan that could use local eminent domain powers to help residents stung by the last housing crisis. ...

... the idea is gaining traction again, with the city of Richmond, Calif., last week becoming the first to press forward. The hardscrabble Bay Area city announced that it had asked the holders of more than 620 underwater mortgages — on which the borrower owes more than the home is worth — to sell the loans to the city at a discount. The city would then write down the debt and refinance the loans for amounts in line with current home values.

If lenders refuse, the city could use eminent domain powers to force the transaction, a move widely expected to bring lawsuits from the financial industry.

From Nick Timiraos at the WSJ: Freddie Mac Considers Legal Action to Block Eminent Domain Plan

“Our sense is that so-called voluntary loan sales would not be very voluntary. They are loan sales under pressure,” said William McDavid, general counsel of Freddie Mac, on a conference call with reporters Wednesday. “We would consider taking legal action” if it had the backing of its federal regulator, he said. ...

Eminent domain allows a government to forcibly acquire property that is then reused in a way considered good for the public—new housing, roads or shopping centers. Owners of the properties are entitled to compensation, often determined by a court.

Instead of acquiring houses, Richmond and other cities would buy the mortgages from investors at a price below the property’s current market value. They could cut the loan principal to around 97.75% of the property’s market value and then refinance the loan into a government-backed mortgage.