A proposal in San Bernardino, Calif., that would use eminent domain to seize mortgages to help reduce the area’s massive negative equity does not adequately protect investors, analysts at Amherst Securities Group says.
In late 2011, San Francisco investment group Mortgage Resolution Partners proposed a program in which the local government would seize underwater mortgages at fair market value and restructure them, allowing the homeowner to stay in the home.
Like many areas across the nation, San Bernardino County is drowing in negative equity. Fifty percent of mortgages in the county are underwater, San Bernardino County Chief Executive Greg Devereaux says. The May jobless rate for the Riverside-San Bernardino-Ontario metro area was 11.8%, one of the highest for metros with 1 million or more people, according to the Bureau of Labor Statistics.
Borrowers current on their payments, but who hold underwater loans in private-label securitizations, are targets of the proposal. The county would use eminent domain, which is normally used to seize real estate, to take title to the loans and pay private-label security trusts with money provided by, for example, Mortgage Resolution Partners. When the loans are refinanced, the proceeds would be used to repay investors who financed the program.
“I don’t see this as interruptive to the financial system,” Steven Gluckstern, chairman of Mortgage Resolution Partners, told HousingWire. “I think it begins to recognize losses that have already been taken through the private-label security system. And more importantly, it begins to restore consumer confidence because this is a drag on the whole economy.”
Devereaux stresses that at this point the proposal in only in an exploratory stage. Along with two other counties in California, San Bernardino recently created the Joint Powers Authority to consider ideas brought forth.
Laurie Goodman and her team at Amherst are troubled by the idea because the use of eminent domain to seize mortgages, they say, does not have a built-in mechanism that would protect investors against purchases at less than fair value. Since it appears that neither servicer nor trustee have the fiduciary obligation to fight for fair value in eminent domain takings, investors would have very little representation.
“Eminent domain could conceivably be used to do what the pooling and servicing agreements do not allow for — restructuring of performing loans under tightly guarded parameters,” the analysts said in a research note released Thursday. "While we are sympathetic to this, we believe the troublesome precedent and impact on future borrowing outweighs this cost.”
Borrowers who are deeply underwater have a reasonable chance of defaulting and adding to foreclosure inventory. And restructuring the debt would lower the probability of default.
“However, if the targeted loans are performing and underwater loans — then the logic escapes us as how a municipality can make the case that the target should be only loans in private-label securitizations, but not Fannie (Mae) or Freddie (Mac) loans, nor loans in bank portfolios,” Amherst counters.
“It is interesting that the targeted borrowers are expected to be those in private-label securitizations, but not loans in government-sponsored enterprise pools,” say the analysts, who believe that if the program targeted GSE loans, the case would end up in court, challenged both on the legality of the program and the fair market determination.
“We believe (the choice of target) reflects the fact that private-label securitizations were poorly designed — the private-label structure does not provide for a responsible party whose duty it would be to ensure that such a taking was legal and the fair market price was actually fair,” Amherst adds.
Since Mortgage Resolution Partners pitched the idea to San Bernardino, three nonprofits have approached the three counties with their own ideas to help rectify the mortgage crisis, Devereaux said. Two of the three ideas involve the use of eminent domain.
The Joint Powers Authority will have its first meeting in late July and then issue a request for proposals in August for ideas on how to erase some of the negative equity in the area.