California Supreme Court lets stand challenge to tiered pricing model for water service

California water utilities cannot impose tiered pricing to discourage excessive water use without showing the price increases are related to the increased cost of providing water service to the customer.

On July 23, the California Supreme Court let stand a lower court ruling that invalidated San Juan Capistrano’s price tier structure for water rates.  In Capistrano Taxpayers Association, Inc. v. City of San Juan Capistrano, the California Court of Appeal held that Proposition 218 requires public water agencies to calculate the actual costs of providing water at various levels of usage.  Water rates must reflect the “cost of service attributable” to a particular parcel.  If a water agency does not calculate the cost of actually providing water at its various tier levels, the tier allocation is suspect and may violate the California Constitution.

Capistrano Taxpayers Association was decided and published in April.  The immediate outcry in response to the decision was powerful — with even California Governor Jerry Brown deriding the decision.  In response, various public interest groups and California’s Attorney General Kamala Harris requested that the California Supreme Court “depublish” the opinion.  “Depublication” would have eliminated the precedential effect of the lower court ruling, so that other water districts could ignore the decision.  However, without further comment, the California Supreme Court refused to depublish the opinion today.  As a result, Capistrano Taxpayers Association is binding on water districts throughout the state.

The state’s Water Resources Board has told the Sacramento Bee that it can live with the ruling.  “The decision does not foreclose conservation pricing,” board spokesman Tim Moran said in a written statement.  It appears that the Water Resources Board may need to re-read Capistrano Taxpayers Association and Proposition 218.

Proposition 218, enacted by voters in 1996, says that it “shall be liberally construed to effectuate its purposes of limiting local government revenue and enhancing taxpayer consent.”  The voters adopted Proposition 218 in order to prevent local governments from using their considerable powers to raise revenue without an economic nexus or a vote of the people.  Proposition 218 provides in relevant part:  “A fee or charge shall not be extended, imposed, or increased by any agency unless it meets all of the following requirements: Revenues derived from the fee or charge shall not exceed the funds required to provide the property related service [and] the amount of the fee or charge imposed upon any parcel or person as an incident of property ownership shall not exceed the proportional cost of the service attributable to the parcel.”  If the fee or charge does not meet the economic nexus requirements of the California Constitution, then a water district should call the policy what it is – a tax – and seek voter approval.

Put another way, if a water district seeks to adopt, as a matter of policy alone, a pricing structure to discourage “wasteful water use” such an action by a water district would not survive a challenge under Proposition 218 without a vote of the people.  Taxpayer consent is required for a water district to adopt a “conservation pricing” policy.

Of course, most water districts politically want to avoid a public vote.  It is much easier politically to claim that a tiered pricing structure fits within the economic nexus requirements of Proposition 218. To do that, some heavy lifting by the water district and its consultants will be required.  A water district needs to do more than merely balance its total costs of service with its total revenues.  The water district must correlate its tiered prices with the actual cost of providing water at those tier levels.  Of course, Capistrano Taxpayers Association says that it is not necessary for the water district to calculate a rate for each particular parcel or street address.  However, pricing tiers must be based on water usage, not water budgets.  Water agencies must determine how to pass on the true, marginal cost of water to those customers whose extra use of water forces water agencies to incur higher costs to supply extra water.  In order to make that determination, water agencies will need to compile a robust evidentiary record and supporting professional analysis in support of their decision.

Much of California is still in the midst of a severe drought.  Policy makers are using whatever tools they can to encourage residents and businesses to conserve water — and rightly so.  However, those tools should be used within Constitutional limits. The California Supreme Court’s decision not to depublish Capistrano Taxpayers Association ensures that water districts will have to follow Proposition 218’s mandate.

US Supreme Court holds sign regulations can’t impose different restrictions based on informational content

If a city or county’s laws impose different restrictions on signs based on their informational content, the laws are presumptively unconstitutional and may be justified only if the government proves they are narrowly tailored to serve compelling state interests, the US Supreme Court has held.

In Reed v. Town of Gilbert, decided in the last blockbuster month at the US Supreme Court, the justices established a powerful tool for real estate owners, developers and brokers to challenge local sign ordinances. Cities and counties throughout the US should carefully review their signage laws and regulations in light of the court’s decision, as many local governments likely have non-compliant laws on the books.

The Town of Gilbert is a municipality in Arizona that had, like many U.S. cities, a sign code that limits the use and display of outdoor signs without a permit.  The Town’s sign code applied different time, size, and other restrictions on the signs, depending on whether they were ideological, political or for religious assembly, among other categories.  The petitioners, a church and its pastor, held temporary worship services in and near the Town.  The church posted signs early each Saturday bearing the church’s name and the time and location of the next service.  The church did not remove the signs until around midday Sunday.  The Church was cited by the Town for exceeding the time limits for displaying temporary directional signs and for failing to include an event date.

The U.S. Supreme Court held that the sign code’s provisions were content-based regulations of speech, violating the First Amendment to the U.S. Constitution.    The Town’s sign code defines categories of temporary, political and ideological signs on the basis of their messages and then subjects each category to different restrictions.  Because the nature of the restrictions depend entirely on the signs communicative content, the signs are subject to the strictest level of Constitutional review. The Town’s claims that the disparate treatment was justified on the basis of keeping the Town beautiful and safe were inadequate and rejected by the high court.

Justice Thomas, writing for the court, rejected the Ninth Circuit’s prior decision upholding the Town’s sign code.  A court must first ask whether a law is content based on its face. If so, the inquiry ends and strict scrutiny applies. It doesn’t matter if a local government has a benign motive, content-neutral justification, or lack of animus toward the ideas contained in the regulated speech. However, if a sign law is content neutral on its face, the inquiry is not over.  A court must still inquire into the purpose and justification for the law and determine whether it is content based.

The Court rejected the Ninth Circuit’s conclusion that the Sign Code did not single out any idea or viewpoint for discrimination.  While the Town may not have been guilty of blatant content discrimination, the sign code did single out specific subject matter for differential treatment.

In light of the Court’s decision, local governments enacting sign ordinances must resolve their public policy concerns with regulations that focus on size, building materials, lighting, moving parts, portability, and location.  Those requirements cannot differ based on the content or message of the sign.  For example, it is no longer acceptable to have different sign requirements for political signs and commercial real estate listing signs.

Only in extraordinary circumstances would a content-based sign survive strict scrutiny — such as, for example, where absolutely necessary to protect the safety of pedestrians, drivers and passengers. Local governments are well advised to closely review Justice Alito’s concurring opinion, which describes additional helpful examples of sign restrictions that would likely survive First Amendment testing.

Real estate owners, developers and brokers often confront cities and counties that seek to impose strict limits on the types of signage that can be placed on public and private property.  In light of the holding of Reed v. Town of Gilbert, commercial signage will be harder for local governments to prohibit and limit.  All signage in the community must be treated equally, regardless of its content, with very limited exceptions.

California Cities Can Require Developers to Build and Sell Affordable Housing in Their Projects

Local governments may enact laws that require all new residential development projects of 20 or more units to sell at least 15 percent of the for-sale units at a price that is affordable to low or moderate income households, the California Supeme Court has held.

The case marks a defeat for the California Building Industry Association (“CBIA”), who sought to invalidate San Jose’s inclusionary housing ordinance on the basis that the law was an unconstitutional condition in the form of a development exaction under the takings clauses of the United States and California constitutions. An “inclusionary housing ordinance” is a law that requires a developer to construct and offer affordable housing as a part of its proposed development project. The case is California Building Industry Ass’n v. City of San Jose, decided June 15, 2015.

The decision is significant for cities and counties as they grapple with the limited amount of affordable housing in the state. Many cities and counties are now expected to follow San Jose’s example and adopt laws imposing affordable housing requirements on for-sale development in their jurisdictions. The imposition of affordable housing requirements on new for-rent housing is limited by the Costa-Hawkins Rental Housing Act, a 1995 state law.

For developers, the decision is another example of the tough legislative requirements imposed on new developments in California.  Developers of large scale projects have often had to deal with cities and counties demanding that in return for long term vested rights to build their projects, the developer is required to provide a percentage of affordable housing in the overal project. Now, not only can cities and counties bargain for a required percentage of affordable housing in development agreements, they can mandate it as law on projects as small as 20 units (and perhaps fewer!). Developers in cities and counties that adopt such laws will now need to include in their pro formas the cost of building, offering and selling affordable units to low income and moderate income families. Those financial impacts not only include lower returns on construction and development costs, but the added expense of implementing an affordable housing program as part of the project (unless the local government provides those services).  The inclusionary requirements will certainly reduce developer profit, but may also affect the financial viability of the project as a whole.

Chief Justice Cantil-Sakauye wrote for the Court that the conditions that the San Jose ordinance imposed upon future developments did not impose “exactions” upon the developer’s property so as to bring into play the unconstitutional conditions doctrine under the takings clauses of the federal or state constitutions. The conditions do not require the developer to pay money but place a limit on the way a developer may use its property, the court said. The ordinance serves legitimate government purposes of increasing the number of affordable housing units in the city and assuring that new affordable units are distributed throughout the city as part of a mixed-income development. Therefore, the court reasoned, the affordable housing ordinance is a zoning restriction, not a taking. The higher standard of court review applied to takings cases did not apply. Instead, the court could apply the much lower judicial review standard for zoning laws: such laws will be upheld so long as they have a reasonable relationship to a legitimate governmental interest.

CBIA’s lawsuit was a “facial” challenge to the City of San Jose’s ordinance, which argues that the ordinance was unlawful for essentially all reasonably conceivable projects. Another path to challenge the City of San Jose’s ordinance is still available. It is still possible for a developer to make the argument that the law, “as applied” to its particular project, is a taking. Under compelling facts, the California Supreme Court could find that “as applied” the law was confiscatory or an “unconstitutional condition” to the development of the project. However, such a lawsuit would be a risky endeavor given the Court’s prior holding.

In addition, CBIA could appeal the decision to the United States Supreme Court to review the California Supreme Court’s interpretation of federal takings law.  Strategically, it would probably be best for the CBIA to wait for a project with compelling facts in an “as-applied” challenge rather than using the facial attack. It could well be the case that the chances of prevailing would be higher in an “as-applied” challenge.  The risks of losing the case in another “facial” challenge and establishing national legal precedent similar the California Supreme Court’s holding would definitely not be welcomed by the development community.

California Lawmakers Propose Property Tax Reform for Commercial and Industrial Properties

California lawmakers recently introduced SCA 5, a new proposal of an old idea to create a “split-roll” property tax.  The proposed constitutional amendment would remove Proposition 13’s limits on property taxes for commercial and industrial properties. The measure would allow for yearly reassessment of those properties to ensure their property taxes reflect current market value, as opposed to only reassessing a property when it changes ownership.  Protections for residential and agricultural property assessments would remain in place.

Voters approved Proposition 13 in 1978 in reaction to skyrocketing property taxes on homes and commercial properties.  The landmark measure restricted the yearly increase in property taxes and only allowed reassessment when the property changed ownership.

SCA 5 faces numerous tough hurdles before it could be enacted.  As a constitutional amendment, passage of the bill requires a two-thirds vote in both the Senate and Assembly, followed by a vote of the people in the 2016 election.  SCA 5’s first test will be in the Senate Government and Finance Committee, which has not set a hearing date yet, but it could be as early as next month.

WHAT SCA 5 DOES

The proposal includes a complicated multi-step phase-in process for the new yearly reassessments.  Beginning in fiscal year 2018-19, only the half of commercial properties with the oldest assessments would be re-assed.  The new tax rates for these properties would have a three year phase-in period.  They would pay only one-third of the increase in the first year, followed by two-thirds in the second year, and finally paying the full taxes based on the new assessment in the third year.  Beginning in fiscal year 2019-2020, the second half of properties would be reassessed.  They would pay 50% of the tax increase in the first year, and the full increase in the second year.

FY 18-19 FY 19-20 FY 20-21
Oldest half of assessments 1/3 of increase 2/3 of increase Full increase
Newest half of assessments 1/2 of increase Full increase

In an attempt to make the measure more palatable, the authors of SCA 5 carved out protections for smaller businesses.  Businesses that own their own property worth less than $3 million and operate on that property will have a five year phase-in of the new rates.  Additionally, the proposal exempts business personal property up to $500,000.  The authors say this credit will take 90% of businesses off of the personal property tax roll.

SUPPORT AND OPPOSITION

Proposition 13 reform and the split-roll proposal are old issues that draw predictable support and opposition.  Although most groups have not had time to take formal positions on SCA 5, some business groups, like the Howard Jarvis Taxpayers Association, have already voiced their strong opposition to any changes to the property tax rate.

The authors of SCA 5, Senators Loni Hancock (D-Berkeley) and Holly Mitchell (D-Los Angeles), are supported by the Make it Fair campaign, a coalition of unions and liberal activists who are the primary backers of the bill.  In the likely event that SCA 5 does not pass, the Make it Fair campaign is exploring the option of collecting the necessary signatures to place the measure directly on the November 2016 ballot.

Proposition 13 has long been considered the third rail of California politics. Most Californians strongly support this law that keeps their property taxes low in a state that already has high tax rates.  In light of this, liberal activists have long viewed the split-roll proposal as a half measure that Californians might support.  Polls as recent as 2014 have shown support as high as 62% of voters for a hypothetical split-roll proposal like SCA 5.  However, a new poll published in May by the Public Policy Institute of California found that support for the split-roll had dropped significantly down to 50% of Californians, with 44% opposed the idea.

THE MONEY

Proponents of SCA 5 say the proposal would raise $9 billion a year in revenues for local governments.  The bill would distribute this money based on the current allocation formulas to cities, counties, and special districts.  Local communities could decide how best to reinvest the money in local services like public safety, parks, mental health, and infrastructure.  To comply with complicated funding formulas, the bill funnels the money allocated for schools through a special fund and then to local school districts.  Some of the money would be used to reimburse local assessors for their increased costs, to reimburse the state for lost revenue, and to create new online transparency and accountability for local governments receiving the new funds.

BOTTOM LINE

With numerous hurdles and strong opposition still on the horizon, SCA 5’s fate is far from certain.  Most people consider the bill to be a longshot, but it represents the most concerted effort by liberals to amend Prop 13.  Just last year, a much more modest bill targeted at curbing abuses was defeated in the Senate after passing the Assembly. SCA 5 will likely undergo a number of changes as it works its way through Sacramento.  As it does we will be keeping an eye on it and how it could affect your business.