The Importance of a Promise: Underwater Mortgages and a Municipal Rescue Attempt Through Eminent Domain

Abstract

Millions of Americans purchased real estate during the housing bubble of the mid 2000s, when prices reflected a constant upward trend, and real estate appeared to be an ideal investment. When the bubble burst, however, the value of real property plummeted, yet homeowners remain obligated to pay their bubble era mortgage amounts. This has created a situation where many Americans must pay creditors significantly more than the current value of the properties for which they borrowed to purchase. When property values plummet in this way foreclosure rates skyrocket and in a cyclical manner, values continue to drop, crime rates rise, and tax bases and consumer markets whither.

State and federal governments have struggled, with minimal success, to address the issue of excessive debt created by the housing bubble as it continues to mire the economy in a slow and lurching recovery. Most efforts to eliminate debt overhang have been based on incentivizing lenders to forgive and restructure debt in various ways. Unfortunately these incentives have generally not been sufficient, and programs have foundered. This Article examines an alternative plan to address excessive housing debt through the operation of investor funded use of the governmental power of eminent domain to acquire and restructure debt. This Article argues that this plan has the potential to resolve many of the shortcomings of previous efforts to alleviate debt, but that, as conceived, this plan also has many problems. This Article will identify the primary barriers to the operation of such a plan and thereby indicate how to modify the plan to address those barriers.

Keywords: Foreclosure, Mortgage Crisis, Negative Equity, Housing Crisis, State and Local Government, Eminent Domain, Deficiency Action

JEL Classification: K11, K12