RICHMOND, Calif. — The City Council of this San Francisco suburb has put itself at the center of a national controversy: Reeling from the foreclosure crisis, it took a step toward using a novel legal tool to seize mortgages to help its citizens avoid losing their homes.
Richmond, a city of 105,000 people, will use the power of eminent domain to take troubled home loans away from financial firms, ignoring dire warnings from the banking industry of unintended consequences.
At best, supporters say the approach would keep people in their homes who otherwise might have lost them, at a minimal cost to taxpayers. At worst, critics warn that it could set a precedent that would make mortgages harder and more expensive to obtain across the country. The decision came after a night of impassioned debate — featuring six feuding council members, a mayor firmly committed to the plan, and several dozen speeches from the public.
Residents crowded City Hall, color-coded by their position. Some wore red T-shirts distributed by plan opponents reading “STOP INVESTOR GREED,” others yellow T-shirts distributed by supporters.
At the center of the debate are the millions of homeowners who, despite rising home prices, still owe significantly more than their homes are worth.
These “underwater” borrowers are at higher risk of defaulting on their mortgages.
Cities can take over a mortgage through the power of eminent domain since the loans are a form of property, just like a house or a piece of prairie. City Manager Bill Lindsay explained that Richmond would be using that power as a creative solution for a city racked by foreclosures. It would designate new investors to buy the mortgages with the intention of lowering what is owed to levels more homeowners can afford.
The bond market is already miffed at the city for trying to stiff the investors who currently own Richmond’s mortgages. When the city went out to issue $34 million in bonds, nobody bought them, forcing the city to withdraw the offering.
“When investors have choices in the market, they tend to choose the safe, plain vanilla option, rather than an option that requires them to research and fully understand the story,” Lindsay said. “Those bonds are called ‘story bonds,’ and investors tend to avoid them.”
Lindsay says he heard from a few municipal finance experts, who said that any nervousness about the eminent-domain plan on the part of investors was “baseless” and should fade away. But as long as Richmond is the only one pursuing the option, it becomes much easier for bond-buyers to punish the city.
“One of the things that’s been really difficult is going forward as a single entity,” Lindsay told the council. “We’re really the only city right now that’s on board with the program. That is an issue also for you to consider, that right now, we are the only one.”
The bondholders’ request for a court order to block a plan was denied by a judge Thursday. However, the case has not been dismissed.
And to further deepen the council’s worries about forging into unknown territory, Mortgage Resolution Partners — which has lined up investors to take over the loans once they have been seized by the city — has said that while it will pay for the city’s legal defense, it can’t buy insurance to cover a large judgment against the city.
The plan’s defenders, most prominently Cornell University law professor Robert Hockett, who designed it, say the city that is on rock-solid legal ground and should not fear catastrophic losses.
But that’s hardly a sure thing. And for those on the council who remember having to fire a third of the city’s workforce after a fiscal crisis in the early 2000s, it’s an untenable risk — especially for the lower-income areas that are disproportionately affected by a loss of city services.
The council defeated the resolution to kill the eminent domain plan, but the city is still a long way from actually exercising its power to seize property.
“Nothing in life is 100 percent risk-free,” McLaughlin said. “But leadership demands that we sometimes take risks on behalf of our community.”