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Friday, May 16, 2014

City's Demolition Tax is a Tax, Not a Fee or Fine


The City of Evanston, Illinois imposes a demolition tax in the amount of $10,000 per residential building, or $3,000 per residential unit, whichever is greater.  The tax proceeds are used to fund the City's Affordable Housing Fund, which helps low and moderate income residents find and keep affordable housing.  The owners of a single family residence in the City claim that the sale of their home fell through when the potential buyer became aware of the $10,000 demolition tax.  

Plaintiffs filed their initial lawsuit against the City, its mayor and nine aldermen, claiming that the demolition tax violated their civil rights through the 5th and 14th Amendments to the U.S. Constitution, among other claims. The district court dismissed that first lawsuit, holding that the Tax Injunction Act prohibits federal courts from interfering with the imposition or collection of a tax.  The Seventh Circuit reversed the district court's decision on the TIA, finding that based on a multi-factor test, the demolition tax was not a tax, but a regulatory device, because it provided an effective deterrent against the demolition of residential buildings.  Kathrein v. City of Evanston, 636 F.3d 906 (7th Cir. 2011) (Kathrein I) The case was then remanded back to the district court.

While the district court proceedings were pending, the City filed another motion to dismiss based on a more recent decision by the Seventh Circuit that rejected the multi-factor approach to identifying a tax that it used in the 2011 decision.  The district court agreed with the City's arguments that the demolition tax was an "exaction designed to generate revenue," as opposed to a fine that was "designed...to punish" or a fee that compensates "for a service that the state provides to the persons or firms on whom...the exaction falls."  

The case again made its way back to the Seventh Circuit on appeal of the district court's dismissal of the plaintiffs claims against the City.  Kathrein v. City of Evanston, (7th Cir. May 15, 2014) (Kathrein II). This time, the Seventh Circuit ruled in favor of the City that the demolition tax was, in fact, a tax.  The Court applied its new "test" for determining whether a particular exaction is a tax, fine, or fee, finding that the demolition tax was not designed to punish owners for demolishing buildings nor does the tax compensate for a service to the owners who are taxed.  Instead, the demolition tax is imposed in order to generate revenue to fund the City's affordable housing program. 

Because the demolition tax is, in fact, a tax, the Court next determined that the TIA bars the plaintiffs' challenge in federal court. The Court rejected the plaintiffs' argument that the TIA is unconstitutional, finding that they had no standing to pursue that claim and waived the claim. 

The Court's analysis on whether a particular exaction is a tax, fee, or fine is worth reading as it provides some guidance to municipalities when they draft exaction ordinances to ensure they include the appropriate recitals and findings to support their establishment of a new exaction.

Post Authored by Julie Tappendorf, Ancel Glink

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