THE COMPENSATION CONSTRAINT AND THE SCOPE OF THE TAKINGS CLAUSE.

• Author: Merrill, Thomas W.

INTRODUCTION

The idea I wish to explore in this Essay is whether the established methods for determining just compensation can shed light on the meaning of other issues that arise in litigation under the Takings Clause. Specifically, is it possible to "reverse engineer" the Takings Clause by reasoning from settled understandings about how to determine just compensation in order to reach certain conclusions about when the Clause applies, what interests in private property are covered by the Clause, and what does it mean to take such property? (1)

The proposed exercise is positive or descriptive in nature rather than normative. The hypothesis is that the ability to calculate just compensation, using established valuation techniques, is a necessary condition for finding that the Takings Clause applies. That the compensation constraint is a necessary condition for applying the Clause does not establish that it is a sufficient condition. There may be other factors, not addressed here, that enter into any final determination that government action gives rise to liability under the Clause. The Essay is concerned only with whether the ability to determine the amount of just compensation is a limiting principle on the scope of the constitutional right.

1. HOW TO DETERMINE JUST COMPENSATION

   The Takings Clause is unique among constitutional provisions in that it specifies a remedy for its violation: the payment of just compensation. Moreover, by common consensus this is the exclusive remedy for violation of the Clause. (2) As the Supreme Court has observed, the Clause "is designed not to limit the governmental interference with property rights per se, but rather to secure compensation in the event of otherwise proper interference amounting to a taking." (3) The question for consideration is whether this uniquely limited remedy also limits the substantive protection afforded by the Clause.

   The possibility of a compensation constraint gains force when one considers that the approach to determining the measure of just compensation is by far the most settled of the various issues that can arise under the Clause. The reason for this is that most disputes governed by the Clause involve express exercises in the taking of property under the power of eminent domain. (4) The primary contested issue in such cases is the amount of compensation that is owed; as a result, the basic principles that govern the determination of just compensation have been repeatedly adjudicated by courts over a significant period of time.

   When one peruses the leading decisions on the meaning of just compensation and the treatises on eminent domain like Nichols, one learns that the general principle in all cases is that just compensation means fair market value. (5) Fair market value is further defined to mean what a willing buyer would pay a willing seller in an arm's-length transaction. (6) This is obviously an imputed number. By definition, when the government takes property there is no arm's-length transaction: we are dealing with forced exchanges of property, not voluntary exchanges. The determination of fair market value therefore is based on an imaginary transaction of the subject property, and an estimate or guess about the price that would be agreed upon in such a hypothetical transaction.

   These generalities are further particularized by considering a number of methods that are permissible to use in calculating fair market value. The method most commonly used is (1) to examine recent transactions of other property similar to the property taken, making adjustments for differences in the size, age, location, and the quality of improvements. Other techniques that have been used less often include (2) considering recent transactions of the property in question, making adjustments for general changes in market prices since the date of those transactions; (3) estimating the rental value of the property in question, and capitalizing this to generate an imputed purchase price using a rate of return commonly used as a benchmark for investments in similar property; and (4) estimating the replacement cost of the property in question, making adjustments to reflect depreciation due to age and wear and tear of the property in question. (7)

   A critical point to make about the established methods of determining fair market value is that each presupposes that the property in question is of a type that is commonly exchanged in voluntary transactions. This is most obvious with respect to the first method--looking to comparable transactions--which rests on the understanding that the property taken is similar to other properties that have recently been exchanged for value. But it is also true of the other valuation techniques as well. The previous transaction of the subject property method presupposes that there has been at least one recent voluntary transaction of the property in question; the capitalization of rental value method presupposes that similar properties are leased and the rents reflect voluntarily negotiated leases; and the replacement cost method assumes that there is a market for the relevant inputs (typically land and building materials) such as would be needed to create a replacement to the property that has been taken.

   To generalize, all methods of determining just compensation rest on some variation of the understanding that compensation is measured by voluntary transactions for value involving property similar to the property taken. One looks to the money that changes hands when similar property is voluntarily transferred, and this provides the benchmark that fixes the compensation that must be paid when the government compels a transfer of property. Just compensation for forced exchange is fixed by drawing inferences from voluntary exchange.

2. SOME GENERAL IMPLICATIONS

   Let us consider some implications of the general principle that just compensation for takings is based on fair market value as determined by extrapolating from the amount of money that changes hands in voluntary exchanges of similar property. If we take this principle as our Archimedean point of departure, what if any conclusions can be drawn about other, more contested aspects of the law that governs takings of property?

   One very broad implication is that a constitutional right to just compensation for takings of property makes sense only in a society in which voluntary exchange is the norm and forced exchange is exceptional. Imagine, for example, a society that adopts a just compensation clause in which all factories but one are owned and operated by the state. The government decides to eliminate the anomaly by nationalizing the one factory in private hands. How is just compensation for this taking going to be determined? Clearly, there will be no transactions in comparable properties that can be used to estimate what just compensation will be for taking the one non-state-owned factory. Nor will there be a rental market for factory properties from which one can derive a fair rental value and an appropriate rate of capitalization. Conceivably, there will be a transaction involving the seized factory sometime in the past, but this may have occurred long ago and in a different context that gives the transaction little probative value. Replacement cost is another possibility, but unless all the inputs that would go into constructing a new factory, including land and all the materials needed to build a factory, are freely exchanged in competitive markets, the derivation of compensation using the replacement cost method is not likely to work either.

   So one very broad implication of starting from the principles of just compensation is that protection against government takings can exist only in a society that has a market economy. One cannot have something like a takings clause in a hunter-gatherer society where there is no formal system of exchange of goods. Nor, to take the other extreme, does a takings clause make sense in a thoroughgoing socialist economy where the government controls all relevant resources. The simple reason is that in such a system there will be no way to calculate just compensation in return for forced exchanges of resources.

   Another important implication is that the Takings Clause cannot be applied to entitlements that are not exchanged for value--bought and sold. There are a variety of reasons why things are not bought and sold.

   One reason is that they are too plenteous, under current conditions of technology and levels of supply and demand, to generate any kind of exchange of rights. (8) Wind and sunlight might be examples. Both are quite useful, for example, in generating electricity. They definitely have value. But at least under current technology and levels of supply and demand, there is no market for transferring wind and sunlight from one landowner--who is assumed to have the right to capture these resources when they enter the column of space above the land--to other users. This could change. We are beginning to see occasional nuisance suits complaining about neighbors casting shadows on nearby solar collectors or erecting windmills that diminish the flow of air on nearby land. (9) This could conceivably evolve into a general practice of exchanging solar or wind easements for value, in which case the conditions for calculating just compensation for blocking sun or wind might arise. Or a system of government-created exchangeable wind rights or sunlight rights might emerge. (10) But as things currently stand, wind and sunlight are regarded as "free goods" that can be captured by whoever controls the column of space in which these resources happen to enter. These resources thus cannot be valued in monetary terms in such a way as would be required in order to calculate just compensation for their taking.

   Another reason things are not bought and sold is that they are regarded as rights that belong to the public in general. Prime examples...