Reducing negative equity provides a public benefit, eminent domain proposals worthy of further consideration

Written by Tom Feltner on August 14, 2012 - 5:08pm

Seizing and restructuring underwater mortgages through eminent domain could provide significant public benefit by preventing foreclosures and protecting property values. But eminent domain should be used primarily in cases where existing principal reduction options are not available, and public accountability should be an integral part of the process. In comments prepared for the Chicago City Council Joint Committee on Finance, Housing, and Real Estate, Woodstock Institute described the scope of the negative equity problem and how a possible program could be structured.

Woodstock Institute’s testimony focused on the significant public benefit that could be achieved by expanding the availability of principal reductions and ensuring long-term housing affordability. In the fourth quarter of 2011, Woodstock Institute identified 245,486 mortgaged properties with negative equity. Underwater mortgages were far more likely to be concentrated in communities of color. In predominantly white communities, only 12 percent of mortgages were underwater, while in predominantly African American communities, 40 percent were underwater. In predominantly Latino communities, 38 percent of mortgages were underwater.

 

Homes with negative equity are more likely to go into foreclosure than are homes that have equity. Negative equity can create a cycle in which a growing number of concentrated foreclosures drives down property values, which further weakens the economic security of neighboring homeowners, which then leads to additional foreclosures. In fact, Woodstock research has demonstrated that for every new foreclosure filing, the property values of surrounding properties on that block are reduced by one percent, draining approximately $159,000 per property in value from the neighborhood. Woodstock research also shows that, in cases where foreclosure cannot be avoided through existing loss-mitigation programs, there is a significant loss of value once the property is sold post-foreclosure out of real-estate-owned (REO) status.

 

In its comments, Woodstock Institute also encouraged the Joint Committee to consider seizing and restructuring underwater mortgages through eminent domain when existing principal reduction options are not available. Some homeowners have new principal reduction options as a result in changes to federal loan modification programs and the national mortgage settlement reached by state Attorneys General in response to concerns over robo-signing foreclosure documents. Both of these actions increased the number of principal reductions. At the same time, stabilizing housing values in many communities and a change in loss-mitigation policies are driving an increase in short sales, in which the property is sold for less than the value of the current mortgage. However, the vast majority of homeowners in foreclosure still face significant challenges to meaningful loan modifications or “graceful exits” such as a short sale or a deed-in-lieu of foreclosure. Eminent domain proposals will likely have the most impact in circumstances where existing, successful loss mitigation strategies are not available.

 

Woodstock Institute also called for substantive public participation in any programs that make use of eminent domain to modify mortgages. Eminent domain is an important tool that local governments can use to facilitate economic development or promote public safety. When any property is acquired through eminent domain, safeguards are critical. It is important that the Joint Committee consider proposals that include significant public input and transparency to ensure that economic development and other local priorities are met.

 

Going forward, principal reduction needs to play a major role in loss mitigation strategies. In the absence of a concerted national principal reduction strategy that reaches the majority of underwater homeowners that could benefit, local options, such as seizing and restructuring underwater mortgages through eminent domain, deserve further consideration.