The Takings Clause and the Contracts Clause: Friends or Foes?

I’ve been doing a lot of research lately on how property law and the law governing debt recomposition interact—specifically in the context of the Puerto Rican debt crisis. Two major concepts that keep coming up in my research are the Takings Clause and the Contracts Clause.

Property law professors routinely teach eminent domain and Takings Clause concepts in class. In fact, it’s rare to attend a property law conference these days without at least several panels being devoted to such topics. But, I’ve not spent much time thinking about the Contracts Clause—or how it’s different from/similar to the Takings Clause.

Let me make this a little more concrete [BEWARE: this is going to be long-winded] . . . the Supreme Court recently struck down Puerto Rico’s Recovery Act. For those who haven’t been following this as obsessively as I have, Puerto Rico has been going through a bit of a debt spiral of late (to the tune of about $72 billion). Rather than waiting for Congress to do something about it, back in June 2014 Puerto Rican lawmakers decided to take things into their own hands and passed something called the Public Corporation Debt Enforcement and Recovery Act. The new law essentially created a bankruptcy-like process for the island to restructure its debt (I am summarizing, of course. For a more in-depth discussion, the good folks over at CreditSlips have some great descriptions and analysis).

Naturally, the island’s bondholders didn’t greet this new law with open arms. A group of them quickly filed a lawsuit in late summer 2014 arguing that the Recovery Act was unconstitutional. They raised a number of claims, including that the Act was preempted by the U.S. Bankruptcy Code. Now, despite the way oral arguments seemed to go, on June 13, 2016 SCOTUS struck down the Recovery Act in Commonwealth of Puerto Rico v. Franklin California Tax-Free Trust et al., holding that it was preempted by the federal bankruptcy code (specifically, Section 903).

But the part that got me thinking didn’t have anything to do with the Bankruptcy Clause—instead, I got interested in some of the other claims that the bondholders made, but that were not decided by the Court. They asserted in their complaint that “The operation of the Act, as enacted by the Commonwealth and signed into law by the Governor, threatens to improperly impair Plaintiffs' rights . . .  in contravention to . . .  the Takings Clause, and the Contract Clause.” See Amended Complaint, Franklin California Tax-Free Trust et al., 2014 WL 4954576 (D. Puerto Rico) (Trial Pleading). So, basically, modifying the creditor’s debt would violate the Contracts Clause and the Takings Clause—so Puerto Rico can’t do it – because both constitutional rights apply—or something like that—Right?

THE CONTRACTS CLAUSE

The Contract Clause (Article I, Section 10, Clause 1) states that “[n]o state shall . . . pass any . . . law impairing the obligation of contracts . . . .”

By its very terms, it only applies to the states (i.e., feds, this isn’t a problem for you). The Contracts Clause has a storied history—ebbing and flowing from importance to obscurity. In the early days of the republic (often called the Critical Period, being that time during which the Articles of Confederation were in effect) it was precisely due to a fear of state governments interfering with the rights of creditors that the provision was ultimately included in the federal constitution. As background, after the American Revolution many citizens of the new country found themselves horribly in debt. As a result, various state legislatures began passing laws to ease their pain (which creditors didn’t like very much). Drafters of the constitution found these “invasions into the contracts of private parties” harmful to commerce and the general course of business so they decided to put a limitation in place. See Ogden v. Saunders, 25 U.S. 213, 354 (1827) (for some angry commentary by Chief Justice Marshall).  As with so many other provisions in the federal constitution, numerous state constitutions contain parallel contracts clauses as well.

THE TAKINGS CLAUSE

The Takings Clause (in the Fifth Amendment), on the other hand, provides that “private property [shall not] be taken for public use, without just compensation.”

Going back to the early days of the Republic, Thomas Jefferson and his buddies who were opponents of a strong central government advocated for the Bill of Rights (which contained the Fifth Amendment), but they weren’t the first to come up with the idea of protecting private property from the government. The Magna Carta had a similar idea going on, and the concept was already fairly prominent in various state constitutions during the period of the Articles of Confederation. 

Initially, the Takings Clause only applied to the federal government (i.e., states, not your problem). Chief Justice Marshall stated in Barron v. Mayor and City Council of Baltimore, 32 U.S. 243 (1833) that “The provision in the fifth amendment to the constitution of the United States, declaring that private property shall not be taken for public use, without just compensation, is intended solely as a limitation on the exercise of power by the government of the United States; and is not applicable to the legislation of the states.”

But that all changed with the ratification of the Fourteenth Amendment in 1868. In Chicago Burlington and Quincy R.R. v. City of Chicago, 166 U.S. 226 (1897) the Court stated: “‘Whatever may have been the power of the states on this subject prior to the adoption of the fourteenth amendment to the constitution, it seems clear that, since that amendment went into effect, such limitations and restraints have been placed upon their power in dealing with individual rights that the states cannot now lawfully appropriate private property for the public benefit or to public uses without compensation to the owner.”

To the point about the recomposition of debt, SCOTUS later developed the regulatory takings doctrine in Pennsylvania Coal Co. v. Mahon, 260 U.S. 393 (1922), which provides that the government need not physically dispossess a person from his property in order for a takings claim to be raised. Rather, the government could restrict or regulate the use of property to such a degree that the state action was tantamount to a physical taking.

THE CLAUSES WORKING TOGETHER (OR NOT)

So now, when a state government takes an action that causes an impairment or modification of a contract, an aggrieved party can asset claims under both the Takings Clause and the Contracts Clause. That got me wondering—are they really, practically different? Do they produce different outcomes? Are those outcomes consistent? Do courts do a good job (or even try) when it comes to differentiating between the two?

I’m still working on the answers to those questions, but what does seem clear to me is that there doesn’t appear to be very clean lines here. The law is a bit…well…cloudy.

Take the Contracts Clause, for instance. Contemporary cases have held that just because a law impairs a contact doesn’t necessarily mean that it’s prohibited. Cases like U.S. Trust v. New Jersey, 431 U.S. 1 (1977) and Allied Structural Steel Co. v. Spannaus, 438 U.S. 234 (1978) hold that this clause still has to be squared with “the inherent police power of the State to safeguard the vital interests of its people.” See Energy Reserves Group, Inc. v. Kan. Power & Light Co., 459 U.S. 400, 410 (1983). The Supreme Court noted in U.S. Trust that “an impairment may be constitutional if it is reasonable and necessary to serve an important public purpose.” So the prohibition isn’t all that prohibitive after all.

In the context of the Takings Clause, courts have held that various government actions, despite limiting or restricting the use of property, nevertheless do not raise a takings claim. Regulations related to providing for the general welfare, for instance, are perfectly permissible. The court in Penn Central Transp. Co. v. City of New York, 438 U.S. 104, 105 (1978) stated that where the government “reasonably conclude[s] that ‘the health, safety, morals, or general welfare’ would be promoted by prohibiting particular contemplated uses of land,” there is no requirement to compensate the owner. Joe Singer points out in Justifying Regulatory Takings, 41 Ohio N.U. L. Rev. 601 (2015) that:

Key examples of laws that promote the public welfare are zoning and environmental laws and consumer protection laws such as building codes. The Supreme Court has upheld against takings challenges laws that impose height limits and setback requirements, as well as zoning laws that segregate residential, commercial, farming, institutional, and industrial uses. The Court has upheld public accommodation laws and implicitly approved fair housing and employment discrimination laws. It has allowed minimum wage and maximum hours laws and workplace safety laws to operate without challenge.

Both clauses are, in a sense, concerned with protecting the sanctity of property rights (be they tangible—like land or personalty—or intangible—like those arising from a contract creating debt). One obvious difference is that with the Takings Clause it’s still possible for state governments to “take” property as long as they do so for a public purpose and just compensation is paid. Under the Contracts Clause, however, states are flat out prohibited from impairing a contract right. But, as indicated above, both of these commands can ring a bit hollow. States can pass laws that break contracts when it's “necessary and reasonable” and states can regulate property without causing a taking when its “justified.” And if a state is prohibited from impairing a contract, then can they just turn around and claim they're doing it under the Takings Clause? Can a public purpose be "necessary and reasonable" for Contracts Clause purposes and yet not "justified" for Takings Clause purposes? What about the other way around? Are these standards different or are they the same thing?

So what does all this mean for the distinction between the two? Can they always be raised together in the face of state action? What are the defining features/lines that make them wholly separate concepts—or is it better to think of them as being interlocking (like how Justice Kennedy describes the Equal Protection and Due Process Clauses in Obergefell v. Hodges)? I hope to formulate some answers to these questions (or at least sound a bit more like I know what I’m talking about) in the months ahead. Your thoughts are welcome and appreciated in the comments below.