Exclusive: Investors tout controversial condemnation for housing fix NEW YORK (Reuters) - Here's a controversial but intriguing approach to the U.S. housing crisis: keep cash-strapped residents in their homes by condemning their mortgages. A mortgage firm backed by a number of prominent West Coast financiers is pushing local politicians in California and a handful of other states hardest hit by the housing crisis to use eminent domain to restructure mortgages that borrowers owe more money on than their homes are actually worth. San Francisco-based Mortgage Resolution Partners, in a presentation reviewed by Reuters, says condemning so-called underwater mortgages and taking them out of the hands of private lenders and bondholders is "the only practical way to modify mortgages on a large enough scale to solve the housing crisis." Eminent domain is a well-tested power by local government to get a court order to take over a property it deems either blighted or needed for the public good. Over the years, governments have used eminent domain authority to clear urban slums or seize land to build highways and bridges. The power to do this is often controversial because landowners don't have much negotiating power. And in this case, potentially even more controversial since it has never been used to sieze mortgages held by private investors or financial institutions. Under the ambitious proposal, Mortgage Resolution Partners would work with local governments to find institutional investors willing to provide tens of billions of dollars to finance the condemnation process to avoid using taxpayer dollars to acquire millions of distressed mortgages. A local government entity takes title to the loans and pays the original mortgage owner the fair value with the money provided by institutional investors. Mortgage Resolution Partners works to restructure the loans, enabling stressed homeowners to reduce their monthly mortgage payments. The restructured loans could then be sold to hedge funds, pension funds and other institutional investors with the proceeds paying back the outside financiers. Mortgage Resolution Partners, which up until now has tried to keep private its discussions with local politicians and the two investment banks it is working closely with, would collect a negotiated fee on every loan that is condemned and restructured. The plan by Mortgage Resolution Partners to keep people in their homes by condemning underwater mortgages comes as many institutional investors are raising money for funds to acquire foreclosed single-family homes with an eye toward renting them out until housing prices recover. Meanwhile, Mortgage Resolution Partners got caught up in a controversy earlier this year after Reuters reported that Phil Angelides, the former chairman of a Financial Crisis Inquiry Commission, was the executive chairman of Mortgage Resolution Partners. Angelides left the firm soon after, when some on Capitol Hill began raising questions about potential political influence by Mortgage Resolution Partners. {ID:nL2E8DDGCT] The firm's condemnation proposal, which is getting a receptive hearing from some public officials in San Bernardino County, California, could also prove controversial because eminent domain traditionally has been used by municipalities to take ownership of blighted properties and buildings - not loans. In a condemnation proceeding, the owner of a property is entitled to be compensated at fair market value, which often can be much less than the initial purchase price. That means banks or investors in mortgage-backed securities could face losses, if many underwater mortgages were condemned at a steep discount to their face value. "We are intrigued," said Gregory Devereaux, chief executive of San Bernardino County, which is east of Los Angeles and has one of the highest unemployment rates in the state. Our economy in this county can't be turned around until a large proportion of the mortgage crisis has been addressed. Devereaux said the idea of using private money to condemn underwater mortgages was first brought to him by Mortgage Resolution Partners several months ago. He said if the county goes ahead with the idea, it isn't definite it will work with the firm to manage the program. But Mortgage Resolution Partners would appear to be further along than any other firm in putting the pieces together to use private money to fund public condemnations of underwater mortgages. The firm is working with investment banks Evercore Partners Inc and Westwood Capital to find institutional investors interested in providing the billions of dollars necessary to fund the condemnation process on a significant scale, according to the firm's marketing documents and people familiar with the matter. The investment banks are talking to big bond fund managers, hedge funds and insurers about providing the financing. The documents also note that San Bernardino County and some of its municipalities are the closest to moving forward with the idea. Mortgage Resolution Partners is also having discussions with politicians in at least one other California county and in Nevada and Florida, said people familiar with the situation. "The private sector provides all the financing and all the risk with this program," said Steven Gluckstern, the firm's chairman and a former money manager and former owner of New York Islanders hockey team. We have watched state (and) national government try to fix this and it hasn't worked. Gluckstern acknowledges that using eminent domain for mortgages is untested but said the firm's lawyers believe the strategy would withstand a legal challenge from bondholders or banks. He also said he thinks most bondholders would not oppose eminent domain because the market prices for many mortgage-backed securities reflect the fact that millions of borrowers are underwater on those loans. "The loss for many bondholders has already been baked into this," he said. A person familiar with the matter, who was not authorized to speak publicly, said condemnation of underwater mortgage creates a "liquidity event" for many mortgage-backed securities that have been cobbled together largely from distressed home loans. The problem of underwater mortgages may be the most lasting impact of the U.S. financial crisis. Recent estimates by real estate information firm CoreLogic found that roughly 22 percent of U.S. homeowners owe more on their mortgages than their homes are worth. In San Bernardino County, an estimated 100,000 homeowners have mortgages that are underwater, according to county officials. Two California municipalities in the county, Fontana and Ontario, have agreed to work with the county on that study. But a third community, Hesperia, voted on June 5, not to join the effort. The use of eminent domain to help underwater homeowners has gotten some attention from the local press in San Bernardino County. But until now, Mortgage Resolution Partners behind-the-scenes role had not surfaced. Devereaux said Mortgage Resolution Partners has not come up in the public discussions about the eminent domain proposal because no decision has been made to work with them. But the lack of openness has concerned some in the local real estate community. "In two months and four public meetings, the critical details of how this might work have been left out of the discussion," said Paul Herrera, government affairs director for Inland Valleys Association of Realtors. Editing by Steve Orlofsky