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Tuesday, July 30, 2013

The Real Defect in Eminent Domain Attacks on Residential Mortgages

The New York Times carries a front-page article on Richmond CA's plans to use its eminent domain power to confiscate underwater mortgages from the current mortgage holder and restructure them in lesser amounts that leave the homeowner with a bit of equity.  Unfortunately, the article completely misses the main legal problem with the city's plan, which is that it conflicts with the Contracts Clause ("No State shall ... pass any ... Law impairing the Obligation of Contracts"), and the Bankruptcy Clause ("To establish ... uniform Laws on the subject of Bankruptcies throughout the United States") of Article I of the U.S. Constitution.   Notwithstanding the use of the "eminent domain" terminology, the law amounts to nothing more than a retroactive discharge of private debt.  Early, foundational Supreme Court cases, that remain good law, make it clear that states (and by extension, their municipalities, which have no greater power than their state) cannot discharge a debt that existed before the legislation was passed (Ogden v. Saunders; Sturges v. Crowninshield )  It should be noted that these cases arose, and the Court's opinions only speak to a situation, when there was no federal bankruptcy law in force).  As for case law from an era where federal bankruptcy legislation was in effect, see Pobreslo v. Jos. M. Boyd Co., 287 U.S.518 (1933) (federal law pre-empts discharge provisions of Wisconsin law governing assignments for the benefit of creditors);  International Shoe Co. v. Pinkus, 278 U.S. 261 (1929)("A state is without power to make or enforce any law governing bankruptcies that impairs the obligation of contracts or extends to persons or property outside its jurisdiction or conflicts with the national bankruptcy laws."); Stellwagen v. Clum 245 U.S. 605 (1918)(any state law that effects a discharge from debts is "suspended" when federal bankruptcy legislation is in effect).

I think that law is pretty clear and not much in doubt.  One could, but does not need to, go into the modern law on pre-emption principles, but I don't think that is necessary when there is such specific and substantial case law on point. The only issue is whether the use of "eminent domain" to restructure debts avoids this line of cases.  I think to conclude that it does is to elevate form over substance, generally a disfavored approach in modern times.  The only thing this law would do is relieve a resident from paying a debt in full, which is clearly a discharge in function if not in words. But also the Contracts clause is quite broadly worded (if not always interpreted that way): this is clearly a law that impairs a contract.  There is no "eminent domain" exception to the Contracts Clause; it picks up all kinds of laws.

And one has to think about, as any Supreme Court argument would dwell on, what are the ramifications for other types of debt if this were permitted to stand.  A municipality could pass a further law applying eminent domain to credit card debt, to stimulate purchases from local retailers.  Or a law taking medical debts, because "it's the right thing to do", and so on. There would be no reason left for citizens to file for chapter 7 or 13 to obtain relief from their debt.  And that would frustrate a long-standing, widely used and quite substantive federal law, and thus should be pre-empted.