May 19, 2014

Richmond's plan to take underwater mortgages not going forward

By Jonathan Wood Attorney

Last year, Tony reported on a legal challenge to Richmond, CA’s plan to use its eminent domain power to bailout residents who bought houses they no longer can or want to pay for. The city planned to finance this scheme by partnering with a private firm, which stood to profit because the loan holders were going to be paid far less than the loans were worth. The banks and investors who owned these loans recently announced that they will be withdrawing their legal challenge because the city has not gone forward with its plan.

“We continue to believe that using eminent domain to seize mortgage loans is unconstitutional, and harmful to homeowners and ordinary savers with a pension, 401(k) or IRA,” Ertman said.

He said the trustees were dismissing the appeal since Richmond had not progressed toward seizing loans since Judge Breyer’s ruling and the filing of their appeal seven months ago.

There are many reasons to question the legitimacy of this aborted boondoggle. First, property can only be taken for a “public use,” quintessential examples of which include building roads, post offices, or schools. It should be an easy question whether tearing up a contract so that the current possessor can continue to make the same private use of property is a constitutional “public use.” Unfortunately, the Supreme Court in Kelo essentially read this requirement out of the Constitution.

Second, the Constitution requires “just compensation” for property that has been taken. Richmond’s plan was to pay far less than the Constitution requires. The city intended to pay mortgagors a share of the value of the homes, despite the significant decline in their value. But this isn’t a reasonable valuation of a mortgage that is being faithfully paid. Assuming that all of these mortgages will default — the assumption underlying the low value — would be like the government offering to compensate someone whose home it is taking as if the land were vacant on the theory that a tornado, earthquake or sea level rise might destroy the home. Government has to pay the value of property when it is taken, it can’t artificially lower compensation by hypothesis.

Sometimes governments back down when unjust and unconstitutional plans are challenged. PLF has had numerous legal challenges end because government rescinds its unconstitutional laws or forswears its plans. Although Richmond’s failure to proceed is a welcome conclusion, it’s unfortunate that the courts didn’t have an opportunity to condemn the scheme so that other cities wouldn’t make similar threats.

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