The lead story in the Oregonian on November 13, 2012, discussed the plight of a homeowner whose house was scheduled to be condemned by the Oregon Department of Transportation for a highway project. Unfortunately, the house was subject to a reverse mortgage, and as a result was underwater. This meant that the lender would receive all of ODOT’s offer of compensation, leaving the owner homeless and with nowhere to go.
In recent years, the collapse of the housing market has left many homes valued at less than their outstanding mortgages, and this problem is not limited to reverse mortgages. (A reverse mortgage does not require payment until the owner dies or the property is sold. It makes it very easy to build up a large debt.) Even with an ordinary mortgage, trust deed, or home equity line of credit, if borrowed before 2008, reductions in the value of homes over recent years were likely to cause similar problems.
A government taking may prove the last straw if your home is underwater. Nearly all loan agreements will require that the compensation for a taking be used to pay the loan first. Only if there is something left over does the owner get anything. (Insurance payments for fire and similar loss usually suffer the same fate.) This is not something that the lender will usually agree to take out of the agreement.
The fact that compensation for takings often comes in below market value increases the risk. Unfortunately, there isn’t much owners can do to protect themselves except to plan ahead before buying the house or taking the loan. If the neighborhood is developing rapidly and likely to require more roads or road widening, take a hard look at whether the home is likely to be in the path of the new roads before taking a loan. If there is a local wetland preservation program that may result in property being taken, look at the wetland maps. If the area is being scouted for a major project, such as a new school or prison, find out if the land in question is under consideration. You might not want that house if it’s not likely to stay there.
For a new loan, it will probably take several years to pay down the loan below compensation for a taking unless there is a rapid increase in the local market. For a reverse mortgage, your only protection is increases in the market that aren’t likely to increase fast enough in the near future.
Once you do take the loan, keep in touch with the appraiser you used. If there is a taking offer, you’ll need another appraisal to negotiate the amount of compensation. And if you think the offer is unreasonably low or the government isn’t moving enough in negotiations, contact a lawyer.