Private Contracts and the Police Power

Private Contracts and the Police Power.—The increasing subjection of public grants to the police power of the States has been previously pointed out. That purely private contracts should be in any stronger situation in this respect obviously would be anomalous in the extreme. In point of fact, the ability of private parties to curtail governmental authority by the easy device of contracting with one another is, with an exception to be noted, even less than that of the State to tie its own hands by contracting away its own powers. So, when it was contended in an early Pennsylvania case that an act prohibiting the issuance of notes by unincorporated banking associations was violative of the obligation of contracts clause because of its effect upon certain existing contracts of members of such association, the state Supreme Court answered: “But it is said, that the members had formed a contract between themselves, which would be dissolved by the stoppage of their business. And what then? Is that such a violation of contracts as is prohibited by the Constitution of the United States? Consider to what such a construction would lead. Let us suppose, that in one of the States there is no law against gaming, cock-fighting, horse-racing or public masquerades, and that companies should be formed for the purpose of carrying on these practices... .” Would the legislature then be powerless to prohibit them? The answer returned, of course, was no.2068

The prevailing doctrine was stated by the Supreme Court of the United States in the following words: “It is the settled law of this court that the interdiction of statutes impairing the obligation of contracts does not prevent the State from exercising such powers as are vested in it for the promotion of the common weal, or are necessary for the general good of the public, though contracts previously entered into between individuals may thereby be affected.... In other words, that parties by entering into contracts may not estop the legislature from enacting laws intended for the public good.”2069

2068 Myers v. Irwin, 2 S. & R. (Pa.), 367, 372 (1816); see, to the same effect, Lindenmuller v. The People, 33 Barb. (N.Y.) 548 (1861); Brown v. Penobscot Bank, 8 Mass. 445 (1812).

So, in an early case, we find a state recording act upheld as applying to deeds dated before the passage of the act.2070 Later cases have brought the police power in its more customary phases into contact with private as well as with public contracts. Lottery tickets, valid when issued, were necessarily invalidated by legislation prohibiting the lottery business;2071 contracts for the sale of beer, valid when entered into, were similarly nullified by a state prohibition law;2072 and contracts of employment were modified by later laws regarding the liability of employers and workmen’s compensation.2073 Likewise, a contract between plaintiff and defendant did not prevent the State from making the latter a concession which rendered the contract worthless;2074 nor did a contract as to rates between two railway companies prevent the State from imposing different rates;2075 nor did a contract between a public utility company and a customer protect the rates agreed upon from being superseded by those fixed by the State.2076 Similarly, a contract for the conveyance of water beyond the limits of a State did not prevent the State from prohibiting such conveyance.2077

But the most striking exertions of the police power touching private contracts, as well as other private interests within recent years, have been evoked by war and economic depression. Thus, in World War I, the State of New York enacted a statute which, declaring that a public emergency existed, forbade the enforcement of covenants for the surrender of the possession of premises on the expiration of leases, and wholly deprived for a period owners of dwellings, including apartment and tenement houses, within the City of New York and contiguous counties, of possessory remedies for the eviction from their premises of tenants in possession when the law took effect, providing the latter were able and willing to pay a reasonable rent. In answer to objections leveled against this legislation on the basis of the obligation of contracts clause, the Court said: “But contracts are made subject to this exercise of the power of the State when otherwise justified, as we have held this to be.”2078 In a subsequent case, however, the Court added that, while the declaration by the legislature of a justifying emergency was entitled to great respect, it was not conclusive; a law “depending upon the existence of an emergency or other certain state of facts to uphold it may cease to operate if the emergency ceases or the facts change,” and whether they have changed was always open to judicial inquiry.2079

2069 Manigault v. Springs, 199 U.S. 473, 480 (1905).

2070 Jackson v. Lamphire, 28 U.S. (3 Pet.) 280 (1830). See also Phalen v. Virginia, 49 U.S. (8 How.) 163 (1850).

2071 Stone v. Mississippi, 101 U.S. 814 (1880).

2072 Beer Co. v. Massachusetts, 97 U.S. 25 (1878).

2073 New York Cent. R.R. v. White, 243 U.S. 188 (1917). In this and the preceding two cases the legislative act involved did not except from its operation existing contracts.

2074 Manigault v. Springs, 199 U.S. 473 (1905).

2075 Portland Ry. v. Oregon R.R. Comm’n, 229 U.S. 397 (1913).

2076 Midland Co. v. Kansas City Power Co., 300 U.S. 109 (1937).

2077 Hudson Water Co. v. McCarter, 209 U.S. 349 (1908).

2078 Marcus Brown Co. v. Feldman, 256 U.S. 170, 198 (1921), followed in Levy Leasing Co. v. Siegel, 258 U.S. 242 (1922).

2079 Chastleton Corp. v. Sinclair, 264 U.S. 543, 547–548 (1924).

Summing up the result of the cases above referred to, Chief Justice Hughes, speaking for the Court in Home Building & Loan Ass’n v. Blaisdell,2080 remarked in 1934: “It is manifest from this review of our decisions that there has been a growing appreciation of public needs and of the necessity of finding ground for a rational compromise between individual rights and public welfare. The settlement and consequent contraction of the public domain, the pressure of a constantly increasing density of population, the interrelation of the activities of our people and the complexity of our economic interests, have inevitably led to an increased use of the organization of society in order to protect the very bases of individual opportunity. Where, in earlier days, it was thought that only the concerns of individuals or of classes were involved, and that those of the State itself were touched only remotely, it has later been found that the fundamental interests of the State are directly affected; and that the question is no longer merely that of one party to a contract as against another, but of the use of reasonable means to safeguard the economic structure upon which the good of all depends.... The principle of this development is . . . that the reservation of the reasonable exercise of the protective power of the States is read into all contracts . . .”2081

Evaluation of the Clause Today.—It should not be inferred that the obligation of contracts clause is today totally moribund. Even prior to the most recent decisions, it still furnished the basis for some degree of judicial review as to the substantiality of the factual justification of a professed exercise by a state legislature of its police power, and in the case of legislation affecting the remedial rights of creditors, it still affords a solid and palpable barrier against legislative erosion. Nor is this surprising in view of the fact that, as we have seen, such rights were foremost in the minds of the framers of the clause. The Court’s attitude toward insolvency laws, redemption laws, exemption laws, appraisement laws and the like, has always been that they may not be given retroactive operation,2082 and the general lesson of these earlier cases is confirmed by the Court’s decisions between 1934 and 1945 in certain cases involving state moratorium statutes. In Home Building & Loan Ass’n v. Blaisdell,2083 the leading case, a closely divided Court sustained the Minnesota Moratorium Act of April 18, 1933, which, reciting the existence of a severe financial and economic depression for several years and the frequent occurrence of mortgage foreclosure sales for inadequate prices, and asserting that these conditions had created an economic emergency calling for the exercise of the State’s police power, authorized its courts to extend the period for redemption from foreclosure sales for such additional time as they might deem just and equitable, although in no event beyond May 1, 1935.

2080 290 U.S. 398 (1934).

2081 290 U.S. at 442, 444. See also Veix v. Sixth Ward Ass’n, 310 U.S. 32 (1940), in which was sustained a New Jersey statute amending in view of the Depression the law governing building and loan associations. The authority of the State to safeguard the vital interests of the people, said Justice Reed, “extends to economic needs as well.” Id. at 39. In Lincoln Federal Labor Union v. Northwestern Iron & Metal Co., 335 U.S. 525, 531–532 (1949), the Court dismissed out-of-hand a suggestion that a state law outlawing union security agreements was an invalid impairment of existing contracts, citing Blaisdell and Veix.

2082 See especially Edwards v. Kearzey, 96 U.S. 595 (1878); Barnitz v. Beverly, 163 U.S. 118 (1896).

2083 290 U.S. 398 (1934).

The act also left the mortgagor in possession during the period of extension, subject to the requirement that he pay a reasonable rental for the property as fixed by the court. Contemporaneously, however, less carefully drawn statutes from Missouri and Arkansas, acts which were not as considerate of creditor’s rights, were set aside as violative of the contracts clause.2084 “A State is free to regulate the procedure in its courts even with reference to contracts already made,” said Justice Cardozo for the Court, “and moderate extensions of the time for pleading or for trial will ordinarily fall within the power so reserved. A different situation is presented when extensions are so piled up as to make the remedy a shadow.... What controls our judgment at such times is the underlying reality rather than the form or label. The changes of remedy now challenged as invalid are to be viewed in combination, with the cumulative significance that each imparts to all. So viewed they are seen to be an oppressive and unnecessary destruction of nearly all the incidents that give attractiveness and value to collateral security.”2085 On the other hand, in the most recent of this category of cases, the Court gave its approval to an extension by the State of New York of its moratorium legislation. While recognizing that business conditions had improved, the Court was of the opinion that there was reason to believe that “‘the sudden termination of the legislation which has dammed up normal liquidation of these mortgages for more than eight years might well result in an emergency more acute than that which the original legislation was intended to alleviate.’”2086

2084 W. B. Worthen Co. v. Thomas, 292 U.S. 426 (1934); W. B. Worthen Co. v. Kavanaugh, 295 U.S. 56 (1935).

2085 295 U.S. at 62.

2086 East New York Bank v. Hahn, 326 U.S. 230, 235 (1945), quoting New York Legislative Document (1942), No. 45, p. 25.

And meantime the Court had sustained legislation of the State of New York under which a mortgagee of real property was denied a deficiency judgment in a foreclosure suit where the state court found that the value of the property purchased by the mortgagee at the foreclosure sale was equal to the debt secured by the mortgage.2087 “Mortgagees,” the Court said, “are constitutionally entitled to no more than payment in full.... To hold that mortgagees are entitled under the contract clause to retain the advantages of a forced sale would be to dignify into a constitutionally protected property right their chance to get more than the amount of their contracts.... The contract clause does not protect such a strategical, procedural advantage.”2088

More important, the Court has been at pains most recently to reassert the vitality of the clause, although one may wonder whether application of the clause will be more than episodic.

“[T]he Contract Clause remains a part of our written Constitution.”2089 So saying, the Court struck down state legislation in two instances, one law involving the government’s own contractual obligation and the other affecting private contracts.2090 A finding that a contract has been “impaired” in some way is merely the preliminary step in evaluating the validity of the state action.2091 But in both cases the Court applied a stricter-than-usual scrutiny to the statutory action, in the public contracts case precisely because it was its own obligation that the State was attempting to avoid and in the private contract case, apparently, because the legislation was in aid of a “narrow class.”2092 The approach in any event is one of balancing. “The severity of the impairment measures the height of the hurdle the state legislation must clear. Minimal alteration of contractual obligations may end the inquiry at its first stage. Severe impairment, on the other hand, will push the inquiry to a careful examination of the nature and purpose of the state legislation.”2093 Having determined that a severe impairment had resulted in both cases,2094 the Court moved on to assess the justification for the state action. In United States Trust, the test utilized by the Court was that an impairment would be upheld only if it were “necessary” and “reasonable” to serve an important public purpose. But the two terms were given somewhat restrictive meanings. Necessity is shown only when the State’s objectives could not have been achieved through less dramatic modifications of the contract; reasonableness is a function of the extent to which alteration of the contract was prompted by circumstances unforeseen at the time of its formation. The repeal of the covenant in issue was found to fail both prongs of the test.2095 In Spannaus, the Court drew from its prior cases four standards: did the law deal with a broad generalized economic or social problem, did it operate in an area already subject to state regulation at the time the contractual obligations were entered into, did it effect simply a temporary alteration of the contractual relationship, and did the law operate upon a broad class of affected individuals or concerns. The Court found that the challenged law did not possess any of these attributes and thus struck it down.2096

2087 Honeyman v. Jacobs, 306 U.S. 539 (1939). See also Gelfert v. National City Bank, 313 U.S. 221 (1941).

2088 313 U.S. at 233–34.

2089 United States Trust Co. v. New Jersey, 431 U.S. 1, 16 (1977). “It is not a dead letter.” Allied Structural Steel Co. v. Spannaus, 438 U.S. 234, 241 (1978). A majority of the Court seems fully committed to using the clause. Only Justices Brennan, White, and Marshall dissented in both cases. Chief Justice Burger and Justices Rehnquist and Stevens joined both opinions of the Court. Of the three remaining Justices, who did not participate in one or the other case, Justice Blackmun wrote the opinion in United States Trust while Justice Stewart wrote the opinion in Spannaus and Justice Powell joined it.

2090 United States Trust involved a repeal of a covenant statutorily enacted to encourage persons to purchase New York-New Jersey Port Authority bonds by limiting the Authority’s ability to subsidize rail passenger transportation. Spannaus involved a statute requiring prescribed employers who had a qualified pension plan to provide funds sufficient to cover full pensions for all employees who had worked at least 10 years if the employer either terminated the plan or closed his offices in the State, a law that greatly altered the company’s liabilities under its contractual pension plan.

2091 431 U.S. at 21; 438 U.S. at 244.

2092 431 U.S. at 22-26; 438 U.S. at 248.

2093 438 U.S. at 245.

2094 431 U.S. at 17-21 (the Court was unsure of the value of the interest impaired but deemed it “an important security provision”); 438 U.S. 244–47 (statute mandated company to recalculate, and in one lump sum, contributions previously adequate).

2095 431 U.S. at 25–32 (State could have modified the impairment to achieve its purposes without totally abandoning the covenant, though the Court reserved judgment whether lesser impairments would have been constitutional, id. at 30 n.28, and it had alternate means to achieve its purposes; the need for mass transportation was obvious when covenant was enacted and State could not claim that unforeseen circumstances had arisen.)

2096 438 U.S. at 244–51. See also Exxon Corp. v. Eagerton, 462 U.S. 176 (1983) (emphasizing the first but relying on all but the third of these tests in upholding a prohibition on pass-through of an oil and gas severance tax).

Whether these two cases portend an active judicial review of economic regulatory activities, in contrast to the extreme deference shown such legislation under the due process and equal protection clauses, is problematical. Both cases contain language emphasizing the breadth of the police powers of government that may be used to further the public interest and admitting limited judicial scrutiny. Nevertheless, “[i]f the Contract Clause is to retain any meaning at all . . . it must be understood to impose some limits upon the power of a State to abridge existing contractual relationships, even in the exercise of its otherwise legitimate police power.”2097

2097 438 U.S. at 242 (emphasis by Court).

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Last modified: June 9, 2014