One of the counties hardest hit by the housing debacle that helped crash the U.S. economy has been quietly considering a plan to use its eminent domain powers to seize underwater mortgages to fight foreclosures.

Banks are not happy with the aggressive plan—first discussed by San Bernardino County in January talks with a private investor group but not publicized until recently—that might help 20,000 to 30,000 families remain in their homes. The idea was brought to the county by Mortgage Resolution Partners, venture capitalists who would collect a fee based on the number of loans that were restructured.

Homeowners who are still current in their house payments but whose homes are underwater (worth less than the balance on their mortgage) would have their property seized by the county using its eminent domain powers. The acquired loans would be repackaged at a lower rate and sold to a private investment firm, allowing the homeowner to stay put with lower monthly payments. The plan would only target mortgages that have already been securitized and sold to private investors.   

San Bernardino County and the cities of Fontana and Ontario have created a joint authority to explore, and possibly enact, a plan while banks are warning of “devastating” consequences for the housing market if eminent domain is exercised. California banking association spokesman Dustin Hobbs suggested banks might stop lending altogether in the area or, at the very least, raise the cost of loans.

San Bernardino County is the largest county in the nation and some of its cities have the highest foreclosure rates in the country. The county’s largest city, San Bernardino, voted to declare bankruptcy last week, the third in the state to do so in recent weeks.

If the plan were enacted, there would almost certainly be legal challenges. Cornell law professor Robert C. Hockett, an adviser on the project, is confident that the program would be approved by the courts, which have a long tradition of honoring municipal eminent domain powers.

But the California Mortgage Bankers Association, the American Bankers Association and the American Securitization Forum do not share the professor’s legal analysis. In a letter of opposition joined by several other financial groups, they wrote: “We believe that the contemplated use of eminent domain raises very serious legal and constitutional issues.”

Bankers aren’t the only people questioning the wisdom of San Bernardino County’s proposal. Robert Kuttner, co-editor of The American Prospect, thinks it’s a fine idea to use eminent domain to help solve the mortgage crisis. He’s been proposing it for years. But he thinks it should be used on nonperforming mortgages that have been abandoned by their owners, not the cream of the crop (so to speak) of the underwater mortgages where the owners are still managing to make payments.

Kuttner sees the county plan as mostly beneficial to the venture capitalists who will make windfall profits, while abandoned homes continue to depress the housing market. He would prefer a government-subsidized Homeowners Loan Corporation that would use eminent domain to process distressed mortgages sucked out secularized pools, purchasing foreclosed homes at deep discounts before conveying them to non-profit groups for an eventual return to the market as affordable housing.

 “The last thing we need is for one more layer of entrepreneurs to skim off the most potentially lucrative layer of distressed mortgages.”

–Ken Broder

To Learn More:

California County Weighs Drastic Plan to Aid Homeowners (by Jennifer Medina, New York Times)

California County Began Eminent Domain Talks in Secret (by Matthew Goldstein and Jennifer Ablan, Reuters)

San Bernardino County Weighs Eminent Domain to Fight Foreclosures (by Alejandro Lazo, Los Angeles Times)

An Eminently Bad Idea (by Robert Kuttner, Huffington Post)