Is Richmond’s Mortgage Seizure Scheme Even Legal?

On September 21, The Washington Post published a blog titled Is Richmond’s Mortgage Seizure Scheme Even Legal?

Is Richmond’s mortgage seizure scheme even legal?

The possibility of using eminent domain to reduce underwater mortgage debt in the city of Richmond California survived several tough challenges a week ago. As Lydia DePillis reported, the City Council decided to go ahead with the process after a long hearing that could have possibly derailed it. Meanwhile an attempt by Wells Fargo and Deutsche Bank to have the action shut down even before it properly started was tossed out by a U.S. District Court (Judge: “Isn’t this, as we say in the trade, a no-brainer?”).

The arguments will now proceed to the two parts of eminent domain law: demonstrating public purpose for the takings and offering fair-value. Since this is the furthest an eminent domain case has made it, it might be useful to step back and walk through the arguments. If the case succeeds, it is likely other cities, which have been hesitant, will consider going forward.

What is going on in Richmond?

Richmond, California is one of the hardest hit cities in the housing collapse. The median sale price of housing fell from about $450,000 in January 2006 to $220,000 today. Roughly 51 percent of mortgages are underwater, and the average underwater homeowner owes 45 percent more than their home is worth. 16 percent of homeowners with a mortgage have suffered a foreclosure.

Richmond has proceeded by offering to purchase 624 mortgages held in private-label securities, offering a price as determined by an independent appraisal. The offer explained that they would attempt to negotiate first, but if they failed they would use their eminent domain powers.

However, in a technique argued since the beginning of the crisis by Cornell law professor Robert Hockett, rather than use eminent domain on the house itself, the city would seize the mortgage. A private investment company, Mortgage Resolution Partners (MRP), would in turn write down the mortgage amount to something closer to the current value. They would collect a profit and refinance the loan. The homeowner would be less likely to default with a lower loan amount, or would be able to sell without a short-sale, leaving him or her with more money to spend locally.

So wait, the city wants to use eminent domain on mortgages? I thought you could only use eminent domain on, like, actual property and things.

Interestingly enough, that is not the case. The issue here is whether or not a property that is “intangible” can be taken under eminent domain. And it can.

The very first time the Supreme Court heard a case on eminent domain, in fact, had to do with a state taking an intangible form of property. In the 1848 case West River Bridge Company v. Dix, the state of Vermont used its eminent domain powers to take a franchise contract. The Court argued that the distinction between “property which is corporeal” or tangible and property that is intangible, like the franchise under question, “has no foundation in reason.” They were “aware of nothing peculiar to a franchise which can class it higher, or render it more sacred, than other property.”

Since then, eminent domain cases have come up in everything from sports franchises to stocks, and every time the fact that the property in question wasn’t a physical thing didn’t matter for the case.

So what problems do the banks have with it?

Here’s where it gets interesting. The banks are arguing that it is in fact against the Constitution to use eminent domain on these mortgages in question, as well as that it doesn’t serve the public purpose and there is no fair-value offer that would make the plan workable.

Wait, so it is illegal to use eminent domain on mortgages?

The banks are arguing that there’s something specific to the nature of securitized mortgages that have been financially engineered into bonds and eminent domain that goes beyond previous cases.

Their first, and main, argument, is that the mortgages don’t actually exist in Richmond. And since Richmond can only use eminent domain for these within its territory, if the mortgages aren’t there it is a problem. The banks argue that the mortgages, because of their slice-and-diced nature, exist legally somewhere other than Richmond. (Given the notorious document fraud in the financial industry when it comes to these mortgage bonds, it’s likely the financial industry also doesn’t know where the mortgages are, but that’s another issue.)

The courts use a variety of tests to figure out where intangible property resides, and it can in turn reside in several different places for different legal purposes.  Richmond argues that when considering where an intangible property resides, the mortgages are incurred by Richmond residents and secured by property in Richmond, and there’s extensive case law that this is the important distinction that should be used for eminent domain purposes.

The banks are also arguing that this is a state trying to set interstate commerce for the nationwide housing market, and is thus illegal under a “dormant commerce clause.” The banks also argue that it would violate the Contracts Clause of the Constitution, because the debts of local citizens would be forgiven at the expense of creditors.

However, the Supreme Court has consistently argued that eminent domain supersedes the Contracts Clause. And there’s nothing in this process that would discriminate against out-of-state creditors versus in-state. (Indeed, the creditors who would face writedowns could be in the same state.)

One never knows what courts will do, but in general the argument that this is illegal because of something to do with the mortgages themselves doesn’t seem that strong. Hence the real fighting over public purpose and valuation.

So that leaves public purpose and costs. What is the public purpose of this program?

This is what will be argued next in Richmond. It is very likely Richmond will argue that preventing blight is a major, legitimate public purpose, and the courts agree. Abandoned homes result in increased crime and significant public costs, in addition to destabilizing neighborhoods. According to the Richmond city manager, William Lindsay, the city had to haul 295 tons of trash off of private property, most of it from vacant homes in 2010 alone. And that says nothing of the police and fire services that have had to dedicate resources away from regular crimes to deal with vacant homes.

The banks argue that the loans are performing (more on their argument about this in a minute), and as such don’t serve a public purpose. But there’s also a public purpose in solving problems in the coordination of mortgage servicers to writedown and deal with failing mortgages. There’s also the public purpose of allowing people to move as well as refinance allowing for the movement of individuals as well as the ability to refinance. These are all legitimate purposes of eminent domain; indeed one such Supreme Court case from the 1980s found that “reduc[ing] the concentration of land ownership” is a legitimate public purpose for eminent domain.

What’s this about coordination?

There’s been a lot of development in the argument that the middlemen in mortgage servicing have both significant conflicts of interest as well as are underinvested to handle these issues. As Adam Levitin and Tara Twomey argue, servicers “do not have a meaningful stake in the loan‘s performance,” and their business structure “encourage servicers to underinvest in default management capabilities, leaving them with limited ability to mitigate losses.”

Their incentives don’t match those of the investors they are supposed to work for. They are make more money dragging out mortgage issues, while padding their costs along the way. And they are “incentivized to favor modifications that reduce interest rates rather than reduce principal, even if that raises the likelihood of redefault.”

One function of regulation is to coordinate the actions of many different parties into productive paths — think of traffic laws. Coordinating creditors and investors is usually the function of the bankruptcy code, but bankruptcy isn’t applicable for home mortgages. However eminent domain is often used for this purpose of coordinating and forcing a sale, and it can do the same here in breaking coordination problems among the many different, broken parts of the mortgage chain.

Ok, so the real fight is probably about valuation. Is this a highway robbery issue?

As a reminder of process, the courts will have to agree that any price paid is an actual fair-value price. “It is a legal requirement that fair value is paid,” Robert Hockett told me. “The courts are going to do their duties, and hear arguments under an adversarial system. This isn’t a new issue. Across a range of legal issues, including eminent domain, the courts have to figure out the legal value of something. Both sides will offer valuations, and bring experts to explain different methodologies under cross-examination. The court itself may impanel their own witness. And they’ll ultimately decide what fair value is.”

The banks argue that the only way to make this work is to pay far below what would have been given in a fair negotiation. Richmond, in turn, argues that their offers were generated by appraisers that the financial industry itself uses. Indeed, Richmond doesn’t “make offers” — it instead hires independent appraisers who come up with the valuations that were proposed.

Now the fight will continue to what methods those appraisers use, and that is likely where the court fight will settle. One way to evaluate these mortgages would be to compare them to bonds of mortgages containing similar instruments and see what discount is used. Given the still high levels of foreclosures, this would generate a significant discount. This is a common technique to evaluate risk and valuations when markets aren’t available, say for understanding the credit risk of a brand new company, as they aren’t in high foreclosure areas.

The banks also argue that the fact that a majority of homeowners are current on their loans means that they aren’t relevant to either public purpose or subject to a steep discount. But, in a high-risk zone with unemployment still high, current mortgages can easily fall apart. There’s also an argument that if you only picked mortgages that were failing, you’d encourage a kind of moral hazard that could amplify the very problem the city is trying to stop. Regardless, the valuation in eminent domain is a matter for the courts to ultimately decide, hearing from independent appraisers and experts.

Will this collapse the Richmond housing market?

The biggest remaining worry is whether or not this will permanently harm the ability of people in Richmond to get new mortgages. One of the main arguments from the banks is that the housing market is recovering at a rapid clip, and if this process scares off lenders then it could both hurt all future homeowners and the fragile recovery.

It’s early to tell whether or not this would be an issue, and if so how big it would be. As Peter Dreier, a professor at Occidental College and an expert on housing policy, argued in the Richmond case, stabilizing the mortgage market is far more important in making credit widely accessible. Banks always, as a rule, threaten on this front on all consumer related issues, yet with a stable mortgage market Richmond would make a reasonable investment opportunity.

At the end of the day, isn’t eminent domain shady?

Eminent domain gets a well-deserved negative rap for its role in so-called urban renewal projects, and many other instances of the state taking from the poor or even average citizens to give to the rich and developers. Just listen to Fugazi.

However, there’s an important role for eminent domain in forcing coordination among many different agents who, for a variety of institutional and legal reasons, find it hard to coordinate among themselves. The story about how mortgage originators abused their responsibility in originating mortgages, at the expense of both investors and borrowers, is well-understood. But what is equally well-documented but less understood is that what is going on in the foreclosure process is the mirror image of that same thing. Fundamentally, these problems are the type eminent domain can solve.

Meanwhile, some seven years since the housing market collapsed, the country is still fundamentally dealing with the same issues. The federal government and the administration had multiple attempts to address these issues since the beginning of the bailouts, and they have either failed or ignored them. It is entirely appropriate that local government take the steps they need to in order to address their housing market if they can make the case to their constituents and to the courts that the situation is this desperate. Because for many people, including the residents of Richmond, California, it is.

To view the online article, please click here.

x

CHIEF EXECUTIVE OFFICER

Alan Jaffa

Alan Jaffa is the chief executive officer for Safeguard, steering the company as the mortgage field services industry leader. He also serves on the board of advisors for SCG Partners, a middle-market private equity fund focused on diversifying and expanding Safeguard Properties’ business model into complimentary markets.

Alan joined Safeguard in 1995, learning the business from the ground up. He was promoted to chief operating officer in 2002, and was named CEO in May 2010. His hands-on experience has given him unique insights as a leader to innovate, improve and strengthen Safeguard’s processes to assure that the company adheres to the highest standards of quality and customer service.

Under Alan’s leadership, Safeguard has grown significantly with strategies that have included new and expanded services, technology investments that deliver higher quality and greater efficiency to clients, and strategic acquisitions. He takes a team approach to process improvement, involving staff at all levels of the organization to address issues, brainstorm solutions, and identify new and better ways to serve clients.

In 2008, Alan was recognized by Crain’s Cleveland Business in its annual “40-Under-40” profile of young leaders. He also was named a NEO Ernst & Young Entrepreneur of the Year® finalist in 2013.

x

Chief Operating Officer

Michael Greenbaum

Michael Greenbaum is the chief operating officer for Safeguard. Mike has been instrumental in aligning operations to become more efficient, effective, and compliant with our ever-changing industry requirements. Mike has a proven track record of excellence, partnership and collaboration at Safeguard. Under Mike’s leadership, all operational departments of Safeguard have reviewed, updated and enhanced their business processes to maximize efficiency and improve quality control.

Mike joined Safeguard in July 2010 as vice president of REO and has continued to take on additional duties and responsibilities within the organization, including the role of vice president of operations in 2013 and then COO in 2015.

Mike built his business career in supply-chain management, operations, finance and marketing. He has held senior management and executive positions with Erico, a manufacturing company in Solon, Ohio; Accel, Inc., a packaging company in Lewis Center, Ohio; and McMaster-Carr, an industrial supply company in Aurora, Ohio.

Before entering the business world, Mike served in the U.S. Army, Ordinance Branch, and specialized in supply chain management. He is a distinguished graduate of West Point (U.S. Military Academy), where he majored in quantitative economics.

x

CHEIF INFORMATION OFFICER

George Mehok

George Mehok is the chief information officer for Safeguard. He is responsible for all strategic technology decisions, new systems deployments and data center operations supporting a national network of more than 10,000 mobile workers.

George has more than 20 years of leadership experience dedicated to high-growth companies in the mobile telecommunications and financial services industries, spanning startups to global industry leaders.

George played a senior role in the formation of Verizon Wireless, leading the IT product development and strategic planning team. He led the integration planning for the Verizon merger including: GTE, Vodafone-AirTouch, Bell Atlantic Mobile and PrimeCo.

As chief information officer at Revol Wireless, a VC-backed CDMA wireless communications network operator, George’s team implemented an integrated technology infrastructure and award-winning business intelligence platform.

George holds a bachelor’s degree in political science and economics from Eastern Michigan University and an M.B.A. from The Ohio State University. He is a board member of Akron University’s School of Business Center for Information Technology, in addition to an advisory board member for OHTec.

In 2013, George won the Crain’s Cleveland Business CIO of the Year award for his team’s work in completing a major acquisition and technology transformation at Safeguard. In 2015, George’s team was recognized by InformationWeek’s annual Elite 100 ranking of the most innovative U.S.-based users of business technology. The mobile inspection technology developed at Safeguard was selected as InformationWeek’s “One of the top 20 ideas to steal in 2015”.

x

General Counsel and Executive Vice President

Linda Erkkila, Esq.

Linda Erkkila is the general counsel and executive vice president for Safeguard, with oversight responsibilities for the legal, human resources, training, compliance and audit departments. Linda’s broad scope of oversight covers regulatory issues that impact Safeguard’s operations, pro-active risk mitigation, enterprise strategic planning, human capital and training initiatives, compliance and audit services, litigation and claims management, and counsel related to mergers, acquisition and joint ventures.

Linda’s oversight of the legal department along with multiple compliance and human capital focused departments assures that Safeguard’s strategic initiatives align with its resources, leverage opportunities across the company, and contemplate compliance mandates. Her practice spans almost 20 years, and Linda’s experience, both as outside and in-house counsel, covers a wide range of corporate matters, including regulatory disclosure, corporate governance compliance, risk assessment, executive compensation, litigation management, and merger and acquisition activity. Her experience at a former Fortune 500 financial institution during the subprime crisis helped develop Linda’s pro-active approach to change management during periods of heightened regulatory scrutiny.

Linda previously served as vice president and attorney for National City Corporation, as securities and corporate governance counsel for Agilysys Inc., and as an associate at Thompson Hine LLP. She earned her JD at Cleveland-Marshall College of Law. Linda holds a degree in economics from Miami University and an MBA. In 2017, Linda was named as both a “Woman of Influence” by HousingWire and as a “Leading Lady” by MReport.

x

Chief Financial Officer

Joe Iafigliola

Joe Iafigliola is the Chief Financial Officer for Safeguard. Joe is responsible for oversight of the Control, Quality Assurance, Accounting and Information Security departments, and is a Managing Director of SCG Partners, a middle-market private equity fund focused on diversifying and expanding Safeguard Properties’ business model into complimentary markets.

Joe has been in a wide variety of roles in finance, supply chain management, information systems development, and sales and marketing. His career includes senior positions with McMaster-Carr Supply Company, Newell/Rubbermaid, and Procter and Gamble.

Joe has an MBA from The Weatherhead School of Management at Case Western Reserve University, is a Certified Management Accountant (CMA), and holds a bachelor’s degree from The Ohio State University’s Honors Accounting program.

x

AVP, High Risk and Investor Compliance

Steve Meyer

Steve Meyer is the assistant vice president of high risk and investor compliance for Safeguard. In this role, Steve is responsible for managing our clients’ conveyance processes, Safeguard’s investor compliance team and developing our working relationships with cities and municipalities around the country. He also works directly with our clients in our many outreach efforts and he represents Safeguard at a number of industry conferences each year.

Steve joined Safeguard in 1998 as manager over the hazard claims team. He was instrumental in the development and creation of policies, procedures and operating protocol. Under Steve’s leadership, the department became one of the largest within Safeguard. In 2002, he assumed responsibility for the newly-formed high risk department, once again building its success. Steve was promoted to director over these two areas in 2007, and he was promoted to assistant vice president in 2012.

Prior to joining Safeguard, Steve spent 10 years within the insurance industry, holding a number of positions including multi-line property adjuster, branch claims supervisor, and multi-line and subrogation/litigation supervisor. Steve is a graduate of Grove City College.

x

AVP, Operations

Jennifer Jozity

Jennifer Jozity is the assistant vice president of operations, overseeing inspections, REO and property preservation for Safeguard. Jen ensures quality work is performed in the field and internally, to meet and exceed our clients’ expectations. Jen has demonstrated the ability to deliver consistent results in order audit and order management.  She will build upon these strengths in order to deliver this level of excellence in both REO and property preservation operations.

Jen joined Safeguard in 1997 and was promoted to director of inspections operations in 2009 and assistant vice president of inspections operations in 2012.

She graduated from Cleveland State University with a degree in business.

x

AVP, Finance

Jennifer Anspach

Jennifer Anspach is the assistant vice president of finance for Safeguard. She is responsible for the company’s national workforce of approximately 1,000 employees. She manages recruitment strategies, employee relations, training, personnel policies, retention, payroll and benefits programs. Additionally, Jennifer has oversight of the accounts receivable and loss functions formerly within the accounting department.

Jennifer joined the company in April 2009 as a manager of accounting and finance and a year later was promoted to director. She was named AVP of human capital in 2014. Prior to joining Safeguard, she held several management positions at OfficeMax and InkStop in both operations and finance.

Jennifer is a graduate of Youngstown State University. She was named a Crain’s Cleveland Business Archer Award finalist for HR Executive of the Year in 2017.

x

AVP, Application Architecture

Rick Moran

Rick Moran is the assistant vice president of application architecture for Safeguard. Rick is responsible for evolving the Safeguard IT systems. He leads the design of Safeguard’s enterprise application architecture. This includes Safeguard’s real-time integration with other systems, vendors and clients; the future upgrade roadmap for systems; and standards designed to meet availability, security, performance and goals.

Rick has been with Safeguard since 2011. During that time, he has led the system upgrades necessary to support Safeguard’s growth. In addition, Rick’s team has designed and implemented several innovative systems.

Prior to joining Safeguard, Rick was director of enterprise architecture at Revol Wireless, a privately held CDMA Wireless provider in Ohio and Indiana, and operated his own consulting firm providing services to the manufacturing, telecommunications, and energy sectors.

x

AVP, Technology Infrastructure and Cloud Services

Steve Machovina

Steve Machovina is the assistant vice president of technology infrastructure and cloud services for Safeguard. He is responsible for the overall management and design of Safeguard’s hybrid cloud infrastructure. He manages all technology engineering staff who support data centers, telecommunications, network, servers, storage, service monitoring, and disaster recovery.

Steve joined Safeguard in November 2013 as director of information technology operations.

Prior to joining Safeguard, Steve was vice president of information technology at Revol Wireless, a privately held wireless provider in Ohio and Indiana. He also held management positions with Northcoast PCS and Corecomm Communications, and spent nine years as a Coast Guard officer and pilot.

Steve holds a BBA in management information systems from Kent State University in Ohio and an MBA from Wayne State University in Michigan.

x

AVP, Mobile and Analytics

Jason Heckman

Jason Heckman is the assistant vice president of mobile and analytics for Safeguard. He is responsible for both Safeguard’s mobile development and strategy as well as the company’s data warehousing and business intelligence. Jason oversees the design, development and release of all Safeguard’s internally developed mobile applications. He also oversees the development and delivery of operational and analytical data technologies throughout the organization.

Jason joined Safeguard as manager of mobile in 2012. During that time he led the development and integration of Safeguard’s mobile applications across the company’s vendor network to provide real-time data from the field. In 2014, he was promoted to director of mobile applications and named assistant vice president in 2017.

Prior to joining Safeguard, Jason was the director of application development and business intelligence for Revol Wireless, a privately held wireless provider in Ohio and Indiana.

Jason holds a bachelor’s degree in business management from Case Western Reserve University in Ohio.

x

AVP, Business Development

Tim Rath

Tim Rath is the AVP of business development for Safeguard. He is responsible for developing innovative growth strategies for Safeguard and developing and overseeing potential partnerships, mergers and acquisitions.

Tim joined Safeguard in 2011 as project director and has filled numerous roles within Vendor Management, most recently serving as director of vendor management, a role he assumed in 2011.

Prior to Safeguard, Tim worked as director of supply chain at PartsSource Inc. in Aurora, Ohio, a provider of medical replacement parts, procurement solutions and healthcare supply chain management technology services. He also has held sales positions with Rexel, ComDoc, and Pier Associates, all based in Ohio.

Tim holds a degree in marketing and sales from The University of Akron in Akron, Ohio. He also earned his FAA Certified Commercial UAS (Drone) Pilot license in 2017.