Local Governments to Seize Underwater Mortgages?

If you consider the state of the housing market with all of the homes that are still underwater on their mortgages, you may come to the conclusion that the federal programs that promised to help homeowners have not been very successful. True, they have helped many, but overall their assistance is limited.

A new idea has come up that has struck a nerve with mortgage financers: eminent domain. Local governments could write down mortgages in the same way that a piece of land is condemned. The town or county would get the court's approval to pay a "fair market" price to the lendor or investor that is holding a homeowner's underwater mortgage. This would be similar to credit companies selling debt to collectors in that the amount would be substantially less than the unpaid balance. Once approved, the local government would sell the smaller mortgage back to the homeowner who would refinance that amount with a new loan and basically get a second chance on paying their mortgage.

This idea has drawn a lot of controversy. The FHFA has threatened unspecified action against local governments if they opt to seize underwater homes through eminent domain. The FHFA regulates the government-sponsored enterprises Fannie Mae and Freddie Mae hold nearly half of the outstanding mortgages in the US.

In the past, eminent domain has been used in small cases to claim property for new roads for facilities that would somewhat benefit the community. Critics say that seizing individual properties would only benefit homeowners by giving them a break on their loan balance. It is argued that these seizures would serve the public by boosting local housing markets and helping to speed up economic recovery. Despite this, the FHFA is understandably opposed to the idea since they would lose money on every case.

Many opponents of the eminent domain idea claim that this would raise an issue of "moral hazard". If homeowners were given these second chances by having their underwater mortgages cut, they would be encouraged in the future to take on debts that cannot be paid back. It would bring about a whole slew of irresponsible homebuyers who think they can just get bailed out later.

What do you think? Is eminent domain a good idea or would it hurt the economy?

Posted in: eminent domain,fair market,fannie mae,FHFA,freddie mac,housing market,seize,underwater mortgages