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Calif. City Steps In to Save Residents From Foreclosure

First the U.S. government bought stakes in banks, insurers, and automakers. Now, one city is buying a stake in homes facing foreclosure.

In what may be the most unique program to tackle the housing crisis, the Silicon Valley community of Menlo Park is offering to take over some debt of homeowners who are 90 days late on their mortgages.

In essence, one neighbor's tax money will be used to help another neighbor stay in his house. The city council approved plans to set aside $2.5 million for the project, and will now start searching for about a dozen homeowners who qualify.

Applicants must have jobs and have lived in their homes for at least five years. Then the city, which has teamed with a non-profit called The EARN Group, will try to convince the bank to let the city buy out the mortgages at current market values, saving the cost of foreclosing on the homes.

The plan calls for Menlo Park to then find a new lender willing to issue new mortgages for 70 percent of the current values, with the city holding the other 30 percent. When the homeowner eventually sells the house, the city will be repaid the 30 percent plus half of any appreciated value. However, if the home sells for less, or goes into foreclosure, the city loses its investment.

"This program is not a bailout program," says David Shapiro, CEO of The EARN Group. "This is just another way for cities to put money into housing to stabilize their neighborhoods. And because of the way we've structured the equity sharing, the city could actually make money."

Not everyone in Menlo Park approves.

"It seems like something the city shouldn't be involved with," says resident Monica Tompkins.

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She acknowledges that Menlo Park has fared better than many other cities—the San Francisco Chronicle reports that the town's tax revenues are actually up this year—but she feels this is not an appropriate use of her tax dollars.

"My husband and I have been renting for almost seven years now because we've been saving our money to buy something here, and it's been really hard," she says. "We've been trying to do the right thing, and now everybody is bending over backwards to help people who didn't do the right thing, and it's very, very frustrating."

The city council is still ironing out some details. Councilman Andy Cohen says it will take a month or two to decide issues like whether the home should remain affordable after it's eventually sold, or if it's in everyone's interest to see the most appreciation as possible. "We still have homework to do, and will make a decision on that part."

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  • Diana Olick serves as CNBC's real estate correspondent as well as the editor of the Realty Check section on CNBC.com.

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