2013 was a banner year for developers under the takings clause, as both the U.S. Supreme Court and California Supreme Court issued decisions expanding the developers’ ability to challenge exactions as unconstitutional. In Koontz v. St. Johns River Water Management District, the U.S. Supreme Court held that the “essential nexus” and “rough proportionality” standards that apply to government property exactions also apply to monetary exactions that are tied to a governmental approval. And in Sterling Park v. City of Palo Alto, the California Supreme Court held that when a public agency approval requires a developer to convey units at below market rates or make substantial cash payments to the public agency, such conditions qualify as exactions that may be challenged under the California Mitigation Fee Act. It was on the heels of these decisions that the California Supreme Court granted the petition for review in California Building Industry Association v. City of San Jose, a case that presented a facial challenge to the legitimacy of an inclusionary housing ordinance. And because of this timing and a perceived momentum, many predicted that the California Supreme Court’s decision would be another victory for developers. These predictions turned out to be wrong.

In California Building Industry Association v. City of San Jose, the California Supreme Court held that an inclusionary housing ordinance that required, among other things, 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 did not impose an exaction “upon the developers’ property so as to bring into play the unconstitutional conditions doctrine under the takings clause of the federal or state Constitution.” And therefore, because the inclusionary housing ordinance was reasonably related to the city’s interest in promoting the health, safety, and welfare of the community, the challenge to the ordinance failed.

After the ordinance was enacted in 2010, the California Building Industry Association (CBIA) filed a lawsuit alleging that the ordinance was invalid because the city failed to provide substantial evidence demonstrating a reasonable relationship between “any adverse impacts caused by or reasonably attributed to the development of new residential developments of 20 units or more and the new affordable exactions and conditions imposed on residential development by the Ordinance.” In other words, CBIA alleged that the conditions imposed by the inclusionary housing ordinance amounted to an unconstitutional exaction. The California Supreme Court rejected this contention.

In the decision the Court walked the parties through a number of takings cases, including Koontz v. St. Johns River Water Management District and Sterling Park v. City of Palo Alto. The Court distinguished both of these authorities.

With respect to Koontz, the Court stated that there was nothing in the decision to suggest the “essential nexus” and “rough proportionality” standards “apply where the government simply restricts the use of property without demanding the conveyance of some identifiable protected property interest (a dedication of property or the payment of money) as a condition of approval.” And in CBIA v. City of San Jose, the Court found that the inclusionary housing ordinance was simply a use restriction, as it restricted how the developer may use its property by limiting the price of some of the units.

With respect to Sterling Park, the Court stated that the decision “left open the question whether” the California Mitigation Fee Act applied when a developer was not required to convey a property interest to the public agency or pay a fee, and because CBIA had alleged a facial challenge, it would not be addressing that issue now.

After distinguishing these authorities, as well as a handful of others, the Court found that because there was a reasonable relationship between the land use restriction and the public welfare, the facial challenge failed.

While the decision is clearly a momentum killer, the decision does not necessarily foreclose future challenges by developers. As noted above, the Court declined to address whether a Mitigation Fee Act challenge could be asserted, and so that remains an open question. Additionally, the Court left open the possibility of an as applied constitutional challenge. For example, the decision states that while price controls that deny a property owner a “fair and reasonable return on its property” would be unconstitutional[,]” in this case the ordinance has not yet been applied to any proposed development. Similarly, the concurrence by Justice Chin notes that if an ordinance required a developer to provide subsidized housing, “for example, by requiring it to sell some units below cost, [that] would present an entirely different situation. Such an ordinance would appear to be an exaction and I question whether it could be upheld as simply a form of price control.”

As such, and because there are more than 170 counties and cities in California that have adopted inclusionary housing ordinances, you can expect that more litigation is on the horizon.