IOLTA Litigation Update:
Fifth and Ninth Circuit Courts Issue Decisions
by Bev Groudine
This article was originally published in the Winter 2002 issue of Dialogue.
On October 15, 2001, a three-judge panel of the U. S. Court of Appeals for the Fifth Circuit held that the Texas IOLTA program violates the Fifth Amendment of the United States Constitution and that the plaintiffs-appellants were entitled to declaratory and injunctive relief. Thirty days later, on November 14, 2001, the U.S. Court of Appeals for the Ninth Circuit issued an en banc decision, holding that the Washington State IOLTA program does not violate the Fifth Amendment. While the facts of the two cases differed, the underlying legal issues were the same. The two courts reached these conflicting decisions based upon very different views regarding the proper analysis of a Fifth Amendment takings claim as applied to IOLTA programs.1
The Fifth Circuit decision
In a 2-1 decision, the Fifth Circuit panel reversed the district court's ruling, following a bench trial, that no taking of property had occurred and that the plaintiffs had suffered no monetary loss as a result of the Texas IOLTA program. The Fifth Circuit held that, as administered in Texas, the IOLTA program amounted to a taking of client property and entitled the plaintiffs to declaratory and injunctive relief.2 The court remanded the case to the district court for the entry of an order consistent with the decision.
In reaching the decision that a taking had occurred, the court applied a per se takings analysis rather than a "regulatory" or ad hoc takings analysis. The court reasoned that because the state had permanently appropriated the plaintiff's interest income against his will, instead of merely regulating its use, there was a per se taking.
To find a per se taking, the court need only determine that a physical invasion of property has occurred or a regulation has denied a property owner all economically beneficial or productive use of land.3 Courts, however, have generally not extended the per se analysis beyond the permanent physical invasion of real property, especially when dealing with the "taking" of money. By contrast, the "regulatory" or ad hoc takings analysis requires the court to weigh three factors: the degree of interference with complainant's investment-backed expectations; the severity of the economic impact on the complainant; and the nature of the government's action.4
After finding that the Texas IOLTA program had engaged in a per se taking of client property, the court declared that ".once a taking is found, the question becomes what amount of, not whether, just compensation is due."5 The court made no attempt to quantify the amount of "just compensation" due. Instead, it noted that because the defendants have Eleventh Amendment immunity, only prospective declaratory and injunctive relief was being sought.
The court held that declaratory and injunctive relief was appropriate on two alternative grounds. First, the court found that defendants had conceded that they were "subject to prospective injunctive claims." Alternatively, the court found that the plaintiffs were not required to seek compensation from the State of Texas because, in the court's view, "[I]f the interest earned on client funds were available as just compensation for the client, the very purpose of the program would be thwarted; therefore, it would defy logic, to say the least, to presume the availability of a just compensation remedy."6
Judge Wiener dissented, focusing on the majority's failure to address whether any just compensation was due. He pointed out that the just compensation test was "the crux of the case" and that the majority ignored the district court's factual findings, following a bench trial, that the plaintiffs had suffered no monetary loss as a result of the Texas IOLTA program.
On October 29, 2001, the Texas IOLTA program and the Texas Supreme Court filed a petition for rehearing en banc, which stayed the decision. The Texas IOLTA program remains fully operational as it awaits a decision on the petition for rehearing en banc.
The Ninth Circuit decision
In a 7-4 decision, an en banc panel of the Ninth Circuit Court affirmed the district court's decision upholding the constitutionality of the Washington State IOLTA program under the Fifth Amendment.7 The en banc decision effectively reversed the January 10, 2001 decision of a three-judge panel of the Ninth Circuit, which had held that the Washington IOLTA program engaged in a per se taking of client property and remanded the case to the district on the issue of whether any just compensation was due. The November 14, 2001 decision of the en banc court found that there was no Fifth Amendment violation and remanded the case to the district court for consideration of the First Amendment claims.
In reaching its decision, the Ninth Circuit provided a comprehensive analysis of all three prongs of the Fifth Amendment test: 1) Is there a property interest? 2) Was the property "taken" by the state? and 3) Is just compensation due? The court found that the Phillips decision was controlling as to whether a property interest existed and held that the client had a property interest in the funds generated from the IOLTA account.
Regarding the takings question, the court found that no taking had occurred. In reaching this conclusion, the Ninth Circuit determined that the proper analysis to apply was the regulatory or ad hoc takings test, rather than the per se takings test. This decision was based, among other factors, upon the fact that prior cases in which the per se test was applied involved real property. Given the monetary nature of the property involved, the public nature of the IOLTA program and the highly regulated nature of the banking industry, the court concluded that the ad hoc analysis was the better approach.
In applying the ad hoc test to the Washington IOLTA program, the court found that there was no direct economic impact on the plaintiffs because no interest would have been earned on their principal, absent the IOLTA program. Similar reasoning was applied to find that there was no loss of any reasonable investment-backed expectation of the plaintiffs. Regarding the character of the government's action, the Ninth Circuit determined that the government did not act unfairly.
Rather, as participants in the legal system, the client-plaintiffs were simply required to place their money in IOLTA accounts that generate funds at no cost to them and that expanded access to the legal system from which they benefit. The court next determined that even if property had been taken, there would be no just compensation due. This finding was based upon a long line of cases holding that just compensation requires placing the property owner in the same position pecuniarily as if the property had not been taken. The issue is not affected by what the state might gain from its use of the property. While recognizing that at most the property owners would have had the right to keep their property from earning interest, the court found the loss of that right had no economic value.
The dissent argued that the per se takings analysis should be applied because in its view, the regulatory takings test applies only where the government does not take the property outright, but rather regulates its use. It stated that the three-judge panel decision of January 10, 2001 set forth the proper analysis. As a result, that decision, which held that per se taking had occurred but remanded the case to the district court on the issue of what amount, if any, just compensation was due, was adopted in full as part of the dissent.
What's next?
In the Fifth Circuit litigation, the parties are awaiting a decision on the petition for rehearing en banc. If that is denied, the Texas IOLTA program has indicated that it will file a petition for a writ of certiorari with the U.S. Supreme Court. In the Ninth Circuit litigation, if the plaintiffs decide to seek certiorari, that petition must be filed within 90 days of November 14, 2001. As Dialogue went to press, there had been no further action in either case.
Endnotes
1 In both cases, First Amendment claims were also raised against the IOLTA programs. Because it found the Fifth Amendment violation, the three-judge panel in the Fifth Circuit did not reach the issue. The Ninth Circuit remanded the issue to the District Court.2 Washington Legal Foundation vs. Texas Equal Access to Justice Foundation, 270 F.3d 180 (5th Circuit 2001).
3 Lucas v. South Carolina Coastal Council, 505 U.S. 1003, 1015 (1992).
4 Penn Central Transportation Co. v. City of New York, 438 U.S. 104, 124 (1978).
5 Washington Legal Foundation v. Texas Equal Access to Justice Foundation, 270 F.3d at 189.
6 Id. at 193.
7 Washington Legal Foundation v. Legal Foundation of Washington, No. 98-35154, __F.3d__, 2001 U.S. App. LEXIS 24405 (9th Cir.2001) (en banc). In this case, the plaintiffs challenged the application of IOLTA to Limited Practice Officers (LPOs) - non-lawyer legal professionals licensed to complete documents associated with real estate closings in the State of Washington.
Bev Groudine is staff counsel to the ABA Commission on IOLTA.
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