Sorohan, Mike--Nov. 5, 2013
Popping up like a Hydra, the latest battle over use of eminent domain to seize underwater mortgages has shifted to Pomona, Calif., a city of 150,000 residents outside Los Angeles.
The City of Pomona is currently considering several proposals to address perceived issues in the city’s real estate market--all of which would use the city’s powers of eminent domain. As with other municipalities in California, one proposal, from San Francisco-based Mortgage Resolution Partners, would have the city acquire underwater, but performing, mortgage loans held by private-label mortgage-backed securities.
In a letter this week to Pomona City Council members and City Manager Linda Lowry, the Mortgage Bankers Association and the California Mortgage Bankers Association, Sacramento, expressed “serious concerns” with the MRP proposal and urged them to reject it in favor of supporting programs that are already working to assist underwater borrowers in California.
“We believe that MRP’s proposal in particular raises very serious legal and constitutional issues, in addition to the threat it poses to the City’s housing market and economy,” the letter said. “No jurisdiction has ever used eminent domain to acquire underwater mortgages from securitized pools. Such a novel use of the eminent domain powers is unprecedented and would, in our view, not survive the multiple legal challenges that would ensue.”
Proposals to employ eminent domain to seize underwater mortgages have proliferated over the past year, with California a hotbed of such plans. Over the summer, Richmond, Calif. became one of the largest cities in the U.S. to embrace the private-sector program offered by MRP to seize underwater mortgages through eminent domain--in some instances for as little as 25 cents on the dollar. In letters it sent to more than 30 servicers this summer, the city offered to purchase more than 600 mortgages. The city said if the servicers do not agree to sell, it would seize the mortgages.
Other municipalities, such as Fontana and Ontario, Calif., North Las Vegas, Nev., and towns in Colorado, Illinois and Massachusetts have also considered eminent domain as a strategy to seize underwater mortgages. Most of these have backed off the strategy following discussion with MBA, local mortgage bankers’ groups and other industry group about drawbacks, including potential restriction of future lending.
These drawbacks also include deep constitutional concerns. The American Land Title Association issued a statement this summer (http://www.alta.org/press/9-11-2013%20ALTA%20Eminent%20Domain%20Statement.pdf), saying such create legal uncertainty and confusion and will likely take years to resolve. Bond investors argue that use of eminent domain as proposed is unconstitutional because it benefits a small group of citizens at the expense of out-of-state investors, effectively violating the interstate commerce clause..
MBA has been a leading opponent against such use of eminent domain. MBA President and CEO David Stevens said such eminent domain actions could cause “irreparable harm” to current homeowners and prospective homebuyers. “If it is demonstrated that any local government can simply intervene and abrogate a private lending contract, the uncertainty that will be introduced in to the mortgage system and housing market will impact lending everywhere in the U.S.,” he said.
The Federal Housing Finance Agency and HUD have also expressed concerns with such programs, saying it would severely impact loans guaranteed by Fannie Mae, Freddie Mac and FHA. FHFA said it had the discretion to direct the GSEs to stop their activities in towns that use eminent domain to seize mortgages; HUD expressed “doubt” that such mortgages would qualify for FHA financing. And Fitch Ratings, New York, said such use of eminent domain would likely negatively affect private-label U.S. residential mortgage-backed securities and future lending in those regions. Fitch said should Richmond and other local governments succeed, such programs could “further weigh on private investor confidence and appetite for private-label mortgage-backed securities going forward.”
In their letter, MBA and the California MBA said such action in Pomona might also prove premature, noting that home prices in Pomona have increased by 27.7 percent during the past year, reflecting the broader housing recovery. DataQuick, San Diego, reported last month that mortgage delinquencies for Los Angeles County have declined by 56.4 percent over the same period.
“The market is clearly on the mend and we would urge leaders to exercise caution before the City takes any action that would harm Pomona and be disruptive to the market and this recovery process,” the letter said.
The letter noted MRP’s proposal likely targets the small percentage of Pomona loans that are in private-label securities and then (if past proposals are any indication) narrows this group further to focus on those who are current on their existing mortgages, likely have good credit, and ideally do not have existing home equity loans or other liens on the property.
“While the small group of people that satisfy this criterion would initially appear to be helped, this help comes at the substantial expense of the entire community and other potential mortgage borrowers across the country,” the letter said. “Such a proposal, on its face, also substantially undervalues the existing owners’ holdings due to the nature of the compensation. In our view, it is impossible to argue that fair compensation has been provided when the amount of compensation would be (according to MRP’s own documents) well below the value of the home that collateralizes the mortgage; when it does not reflect the diminution in the value of the overall investment; and when the home that MRP and their partners paid the investors $160,000 for is refinanced shortly thereafter for $190,000--with much of the additional $30,000 going to MRP and its funders. The plan simply does not provide just compensation and could expose a jurisdiction utilizing eminent domain to significant liability beyond the initial condemnation payment.”
Furthermore, the letter said, a homeowner signs both a mortgage and a note. The mortgage note is typically held by the PLS trustee who is often domiciled outside the State of California. “A City's eminent domain authority does not extend beyond the City's borders; it certainly does not apply outside the state,” the letter said. “We therefore believe that local governments that seek to use eminent domain in this highly unusual way will face years of costly litigation brought by multiple litigants who, because of fiduciary and other obligations, are forced to sue to protect the assets of their investors. For these and other reasons, Pomona may be tied up in costly litigation with potentially tremendous liability for years.”
In addition to the legal issues, the letter said use of eminent domain would not only significantly tighten credit availability for credit-worthy borrowers in Pomona, it would also increase the cost of available credit in the city as lenders price the risk of such mortgage seizures into the cost of doing business in the community. “Any mortgage loan that is offered will likely require much stronger credit scores, higher interest rates and larger down payments,” the letter said. “This in turn could actually reverse recent increases in housing values in the city.”
The letter also pointed out that many people who invest in private-label securities have their investments held in private pension plans--many of whom are employees of the city.
“PLS losses are suffered not by large institutions, but by everyday savers and investors who have these investments in their pension and 401k plans, college savings plans and individual investment portfolios,” the letter said. “This would undoubtedly include local police, fire, teachers and other public pensioners. In fact, last month, the California Public Employee Retirement System, which holds approximately $11 billion in mortgage-backed investments, publically stated it has ‘some concerns about the precedent this may set and the impact to investors.’”
The letter was signed by Susan Milazzo, executive director of CMBA; and Pete Mills, senior vice president of residential policy and member services with MBA.