Richmond, California, … is spearheading a plan (paywall) to expropriate mortgages from the banks and trusts that hold them, so they cannot force any more foreclosures. Although it could expand the scope of this already controversial public policy, known as “eminent domain,” some think expropriating mortgages may be the best way to make the US financial-services industry accountable for causing a housing bubble and financial crisis.
The reasoning behind the expropriations is as follows. When a homeowner cannot meet mortgage payments or is “underwater”—owes more money to the bank than the home is worth—the bank has little leeway to offer easier payment terms, because mortgages are generally packaged up and sold to investors as mortgage-backed securities. These investors have little incentive to bend; in fact, it makes more sense for them to drag out lengthy foreclosure proceedings, because banks and other mortgage servicers have been able to manipulate federal programs meant to help homeowners get back on their feet in the process.
That’s part of why the delinquency rate on home loans—the percentage of homeowners late on their payments and at risk of foreclosure—has fallen only slightly since it peaked at at 11.3% in 2010. In the first quarter of 2013, 9.7% of single-family residential mortgages were delinquent. Mortgage servicer Fannie Mae estimates that 7.5 to 9.5 million homes (pdf) are likely to go into delinquency in the next few years.
Foreclosures—particularly on a large scale—are terrible for communities. Homeowners frequently gut and abandon their homes, which soon become targets for squatters. Crime generally joins that. So Richmond is at serious risk; about half of its homeowners are underwater on their loans.
The city’s plan is therefore to use eminent domain to forcibly buy mortgages from banks and bond investors. Then—with the help of San-Francisco-based investment firm Mortgage Resolution Partners—it will reduce the principal homeowners have left to pay and refinance the rest, modifying the mortgages in a way banks can’t or won’t.
Banks, asset managers, and other financial services firms have been fighting tooth and nail against this policy ever since a variant of the idea was first presented in 2008. Their reasoning is hardly complicated; local governments would determine the fair values of mortgages (pdf) based not only on the initial value but the homeowner’s likelihood of default, and the banks will have to put the losses on their books. …