Regulatory Takings in Real Property: Fact or Fiction?

We are constantly changing the fundamental character of property ownership in this country.  Nowhere is this more evident than in the real property arena. As the past few years have shown us, real estate has morphed from a long-term, stable investment to become a hugely derivative enterprise, which has diversified and become interconnected with other sectors of the economy as never before.  The argument has been made that real estate has lost its original character and that it has become commoditizedRegardless of one’s position on this question it is clear that because of this continual transformation, takings law is constantly pressured to look at situations where the new concept of economic devaluation of property must be reconciled with the traditional notion of the bundle of sticks, and the state’s inability to render that bundle obsolete by legislative action, without compensation. Herein lies the basic regulatory takings conundrum that perplexes not only first year property students, but students, professors and practitioners in the fields of land use, urban planning, real estate development, and constitutional law. 

Justice Scalia in his opinion in the groundbreaking case, Lucas v. South Carolina Coastal Council, spoke of the inherent difference in reasonable expectations from real property vs. personal property, specifically to owners of investment property.  Lucas v. South Carolina Coastal Council, 505 U.S. 1003 (1992).  He explained that, “by reason of the State’s traditionally high degree of control over commercial dealings, [the property owner] ought to be aware of the possibility that new regulation might even render [] his property economically worthless.”  Id.  He refused, however, to place this standard on real property, explaining that for real property the State can only regulate and forbid uses when, “the logically antecedent inquiry into the nature of the owner’s estate shows that the proscribed use interests were not part of his title to begin with.” Id.  This line of reasoning is consistent with the jurisprudence of the Supreme Court up to this point.  As we look at cases like Pennsylvania Coal v. Mahon and Penn Central we see that the Court has continually approached this problem by affording to the real estate investor the same regard and same standing as the homesteader who is purchasing property with a conventional understanding of his rights in that parcel.  Pennsylvania Coal v. Mahon, 260 U.S. 393 (1922); Penn Central Transportation Co, et al. v. New York City et al., 438 U.S. 104 (1978)

However, as the market continues to incentivize real estate investors to use real property as more and more of a short term investment rather than a long term store of wealth, and as advocates of this process continue to press Congress and State legislatures to promote this use in the tax codes and other regulation, does the argument weaken for a distinction between real property and commodities in the regulatory takings analysis involving a developer or commercial owner of real estate? Put another way, does the principle that similarly situated properties be treated similarly apply here as well? 

As we continue down this path, the goals and purposes of real estate developers’ property ownership are rapidly diverging from those of the homeowner. Developers are in the business of developing land to manage or sell and make a profit with an increasingly shorter time horizon for recouping investment and recognizing this profit. The tax code treats their activities differently from those of principle residence real property owners and affords different advantages to each according to their situation, so should the courts. See, IRC §§ 121 and 1231 (detailing how to treat the gains on property held as a principal residence versus those on property used in one’s trade, business, or as investment.)

This is not a completely new idea.  In Penn Central, the Court did develop a balancing test, however, the question focused on economic value and its relationship to the taking question.  Economic value should be analyzed when determining fair compensation but should only be used once the Court has found a taking.  The base line for those who are engaged in the real estate business should be different than those who own land in a traditional sense, just as it is in the tax code.  This would allow judges to look at the purpose of ownership and possibly the use of the property to determine whether a regulation has affected in a way that is inconsistent with the way government regulates the market.  This treatment would place speculators and developers in a position to take the same risk with real estate that they would take with other commodities, a market where the government is constantly regulating and influencing value, yet where the proposition of a regulatory taking is laughable. 

Perhaps this would also protect the residential home buyer and the residential market as a whole from the ups and downs of the financial and commercial markets which are much more speculative.  It would make the takings analysis easier because it would create a clearer federal standard.  The states would still have the ability to decide property law as far as what sticks are in the bundle.  The federal standard would simply establish which types of clients are similarly situated.  This could also alleviate the overburdened docket of the Supreme Court.  No longer would they be dealing with cases where business speculators are presenting arguments and asking to be treated as if they were homesteaders losing their property.  They would have to argue from their true position, that of the commodity owner whose cash cow got slimmer because of a new law.