Eminent Domain on Mortgages: An Idea To Be Condemned
There has been much discussion in news outlets about proposals to use eminent domain to acquire “underwater mortgages”—mortgages where the owner owes more than the worth of the home. State laws and state constitutions prohibit this abuse of eminent domain. Nearly all states reformed their laws in the wake of the U.S. Supreme Court’s notorious 2005 decision in Kelo v. City of New London. There, the Court ruled that the mere possibility of “economic development,” i.e. increased jobs and tax dollars, in a city justified taking private homes and transferring them to a private developer. Although it denied federal constitutional protection for individual’s rights, the Court took care to note that if states wanted to provide more protection to property owners, they could do so.
The states took the Court up on this suggestion. Forty-four changed their laws in response to the decision, and all 44 made it more difficult to condemn property for the benefit of other private parties. Government is, sadly, endlessly inventive in the ways in which it will seek to abuse its power to violate property rights and to benefit favored private parties. One such proposed abuse of power that no one anticipated at the time is the proposal to use eminent domain to condemn mortgages.
The mortgage market is incredibly complex, but one doesn’t need to understand it in order to see that the proposal involves transferring property (mortgages and mortgage securities) from their current owners to another set of owners, with a hefty profit going to the second owners and a hefty loss going to the first. In other words, local governments are proposing to play favorites and to wield their enormous power to secure benefits for some at the expense of others.
Fortunately, the post-Kelo changes in state constitutions and state statutes will prohibit such shenanigans. Cities claim that the benefit of these condemnations will be that they will make the cities economically better off and make the housing markets there stronger. But when states prohibited condemnations for economic development in the wake of Kelo, they prohibited the use of eminent domain based on the vague and frequently inaccurate guesses of municipal officials about what might generally make their city better off economically. California prohibits eminent domain for economic development (and did even before Kelo). The post-Kelo legislative revisions emphasize that eminent domain is to be used sparingly and not for private benefit. And California court decisions, along with those of Ohio, Pennsylvania, and other states, have grown increasingly wary of the use of eminent domain for private benefit. Some other states, like Nevada, simply forbid private-to-private transfers. Florida allows condemned property to given to other private parties, but only after a ten-year delay. And Illinois places a high burden on government to prove that a condemnation that will result in private ownership is both for a primarily public purpose and necessary to achieve that purpose. Eminent domain for mortgages will likely fail in all of these states and others.
And every city considering this scheme also should remember one of the lessons of the Kelo case itself: Eminent domain projects rarely live up to their promises, and cities’ attempts to engage in central economic planning often have unintended, and disastrous, consequences. The city approved the Kelo project unanimously, claiming it would generate many jobs, millions in taxes, and revitalize the city. In the seven years since the city won at the U.S. Supreme Court, nothing has been built on the property taken by eminent domain. It was used as a dump for hurricane refuse. There are no jobs, no tax benefits, no revitalization, and indeed, the Pfizer plant that was the centerpiece of the project closed when its tax benefits ran out. The wrecks of failed eminent domain redevelopment projects litter urban landscapes across the country.
Finally, this proposal mainly takes property from banks, pension funds, and impersonal investors, tempting us to ignore the danger it represents. Such apathy is short-sighted. The legal principles involved are the same as if the city tried to take property from private individuals. When state and local governments began justifying the taking of property for “economic development” in the 1950s, it started by condemning shopping malls from big corporate owners; it ended by condemning tens of thousands of individual homes and businesses, including the little pink house at the center of the Kelo v. City of New London decision. The proposed use of eminent domain for mortgages violates state statutes and state constitutions. If it can happen to mortgage investors, it can happen to you.
Dana Berliner is the litigation director for the Institute for Justice. She was co-counsel in the Kelo case, defending homeowners.
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