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NY Fed suggests sidestepping eminent domain

June 10, 2013

With more than 11 million homes still underwater, the mortgage debt overhang caused by the housing bubble remains a burden on communities across the country.

One possible solution to this problem is for state and municipal government to use eminent domain programs — interest in the idea is growing.

While it’s no surprise that eminent domain is a great tool to keep in the shed for homeowners, such write downs can be difficult to achieve, especially when the underlying mortgages are securitized and held by private-label securitization trusts.

"Specifically, such loans are subject to pooling and servicing agreements that require collective action by a large majority of security holders before a loan can be modified," said Robert Hockett of the Federal Reserve Bank of New York.

He added, "As a result, carrying out write-downs is challenging and sometimes impossible."

How do we turn a program that is seemingly impossible into the possible?

Hockett argues that one possible way to sidestep this problem is by having governments buy and restructure under water mortgages.

"By utilizing their eminent domain authority, state and municipal governments could bypass the coordination problems posed by the pooling and servicing agreements," Hockett explained.

He added, "They could then reduce the principal on underwater loans, lowering the amount owed by borrowers and thereby reducing the risk of default."

In sum, it takes a village — but the federal government must help in assisting distressed borrowers.

The ideal situation in any summit as that proposed here should be to convert the eminent domain tool in a formality, enabling all interested parties to sidestep pool and servicing agreements consensually and thereby recapture any lost value.

Getting past such contracts and the collective action problems they underwrite is, after all, what the buying and restructuring plan is for.

"States and their sub-units are best situated at this point to act," Hockett said. 

He concluded, "But federal agencies could be helpful facilitators for all."

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