In a landmark California Environmental Quality Act (CEQA) case decided yesterday, the California Supreme Court provided guidance on the use of categorical exemptions in Berkeley Hillside Preservation v. City of Berkeley (S20116). This decision has been closely monitored by developers and agencies because the Court’s interpretation could have had the effect of severely limiting the use of categorical exemptions in the future and subjecting small projects to preparation of environmental impact reports. In upholding a permit to construct a single-family residence, the Court held that when an agency is considering the use of a categorical exemption, it must apply a two-step inquiry to determine whether the “unusual circumstances” exception would preclude the use of the exemption. The Court’s two-step inquiry asks: (1) Are there unusual circumstances applicable to the project? and (2) If so, is there a reasonable possibility that the project will have significant environmental effects as a result of the unusual circumstances?

The determination as to whether there are “unusual circumstances” is a factual inquiry, reviewed under the deferential substantial evidence standard.1 However, an agency’s finding as to whether unusual circumstances give rise to “a reasonable possibility that the activity will have a significant effect on the environment” is subject to the fair argument standard.2 This decision has far-reaching implications for developers, lead agencies and courts that routinely rely upon and interpret categorical exemptions for development projects.

Minor development projects (e.g., construction of small structures, alterations to or rehabilitation of existing buildings, and infill developments) can qualify for categorical exemptions from the reaches of CEQA because the State—in adopting the CEQA Guidelines—determined that, as a class, these activities do not have a significant effect on the environment and deserve streamlined approvals. (CEQA Guidelines § 15300.) The use of categorical exemptions, however, is rebuttable. The CEQA Guidelines establish certain exceptions that—if present—would preclude the use of the categorical exemption. Once a lead agency determines that a project is within an exempt category, the burden shifts to the party challenging the exemption to demonstrate that the project falls within an exception.

The exception at issue in the Berkeley Hillside case limits the use of a categorical exemption “where there is a reasonable possibility that the project will have a significant effect on the environment due to unusual circumstances.” (CEQA Guidelines § 15300.2.)

In Berkeley Hillside, the City of Berkeley approved a use permit to demolish an existing single-family residence located on a hillside with a single new structure consisting of a 6,478-square-foot home and attached 3,394-square-foot garage. The City approved the project without requiring an Environmental Impact Report (“EIR”) because it found that it qualified for two categorical exemptions: infill development (CEQA Guidelines § 15332) and new construction of small structures (CEQA Guidelines § 15303). Opponents challenged application of the categorical exemptions, arguing that the “significant effects” exception should apply because the proposed residence would be one of the largest in the city and had potentially significant environmental impacts. The opponents presented evidence from a geotechnical engineer that alleged “side-hill fill” grading on the site’s 50% slopes would result in significant seismic impacts. Expert opinion from the project proponent disagreed with these findings, presenting evidence in the administrative record that there were comparable-sized dwellings in the city and project vicinity, the project would not result in significant impacts, and that the opposition’s engineer appeared to have based its opinion on incorrect assumptions regarding the extent of excavation required for the project.

At issue in Berkeley Hillside is how the “unusual circumstances” exception to categorical exemptions would be interpreted, and the amount of discretion reviewing courts must accord to lead agencies’ decisions on whether CEQA’s categorical exemptions apply to projects those agencies approve. The trial court applied a two-part test that arose from the decision in Azusa Land Reclamation Co. v. Main San Gabriel Basin Watermaster (1997) 52 Cal.App.4th 1165. The Azusa test requires two findings for a project to “fit” into a categorical exemption class. First, the agency must determine whether the project’s circumstances are “unusual,” and only if the circumstances are “unusual” would the agency be required to make the second finding: whether there is a reasonable possibility that those same unusual circumstances will result in a significant environmental impact. Whether there is a significant impact has been evaluated, in most cases, under the fair argument standard.

If there are no unusual circumstances, then under the two-part test, the inquiry ends and the categorical exemption applies. And even if there are unusual circumstances, those same circumstances must create the potential for a significant impact in order for the exception to apply. (See Banker’s Hill, Hillcrest, Park West Community Preservation Group v. City of San Diego (2006) 139 Cal.App.4th 249, 278 where the court opined: “[a] negative answer to either question means the exception does not apply.”)

The Berkeley Hillside trial court found that the categorical exemption was proper because, although the record supported a fair argument that the proposed construction would cause significant environmental impacts due to geotechnical problems and inconsistency with the Berkeley General Plan, the possible significant impacts were not due to “unusual circumstances.” The Court of Appeal reversed the trial court’s decision, finding that there was a fair argument that the proposed construction would have a significant effect on the environment, and that this alone was enough for the “unusual circumstances” exception to apply. “The fact that proposed activity may have an effect on the environment is itself an unusual circumstance, because such action would not fall ‘within the class of activities that does not normally threaten the environment,’ and thus should be subject to further environmental review.” (Berkeley Hillside (2012) 203 Cal.App.4th 656, 670.) The appellate court relied on the evidence presented by the petitioners’ geotechnical engineer, and noted that contrary evidence presented by the project applicant demonstrated a dispute among experts and was not adequate to support use of the categorical exemption instead of an EIR.

The California Supreme Court reversed the Court of Appeal’s decision and upheld the express language of the CEQA Guidelines’ two-part test for exceptions to categorical exemptions. Remanding the case back to the Court of Appeal, the Court determined that neither the trial court nor the Court of Appeal applied the legal standards of review correctly. The Court also determined that in applying the requisite standards of review to the case: (1) local agencies have the discretion to consider conditions in the vicinity of the proposed project in determining whether effects of a project are unusual or typical; and (2) findings of environmental impacts must be based on the proposed project as actually approved and may not be based on unapproved activities that opponents assert will be necessary because the project, as approved, cannot be built. Justice Liu’s concurring opinion, however, stated that the majority’s decision adds further complexity to an already complicated area. Justice Liu felt that the Court of Appeal got it right—the “unusual circumstances” exception should be a single inquiry (not a two-part test) that is reviewed under the fair argument standard.

The majority opinion concluded that the approach of the petitioners and that set forth in Justice Liu’s concurring opinion would have made the categorical exemptions of “miniscule value” and that therefore the intent of the Legislature, to provide for a streamlined process in certain cases, would not be achieved.