Cotati Alliance for Better Housing v. City of Cotati

• Decision Date: 24 October 1983
• Docket Number: No. A012146,A012146
• Citation: 148 Cal.App.3d 280,195 Cal.Rptr. 825
• Parties: COTATI ALLIANCE FOR BETTER HOUSING and William Plummer, Plaintiffs and Respondents, v. CITY OF COTATI, City Council of the City of Cotati, the Rent Appeals Board, Defendants and Appellants. Civ. 53178.
• Court: California Court of Appeals Court of Appeals

Page 825

195 Cal.Rptr. 825

148 Cal.App.3d 280

COTATI ALLIANCE FOR BETTER HOUSING and William Plummer, Plaintiffs and Respondents, v. CITY OF COTATI, City Council of the City of Cotati, the Rent Appeals Board, Defendants and Appellants.

No. A012146.

Civ. 53178.

Court of Appeal, First District, Division 5, California.

Oct. 24, 1983.

Hearing Denied Dec. 28, 1983.

Burch Fitzpatrick, Miller, Starr & Regalia, Oakland, for plaintiffs and respondents.

Myron Moskovitz, Berkeley, Jeffrey A. Walter, Santa Rosa, for defendants and appellants.

Stephen L. Jones, Latham & Watkins, Los Angeles, Joseph R. Austin, William C. Schweinfurth, David B. Babbe, Tuttle &amp Taylor, Inc., Los Angeles, for amicus curiae on behalf of respondents.

Robert M. Myers, City Atty., Stephen S. Stark, Asst. City Atty., Karl M. Manheim, Deputy City Atty., Santa Monica, Michael Heumann, Senior Atty., Stephen P. Wiman, Staff Atty., Santa Monica, for amicus curiae on behalf of appellants.

KING, Associate Judge.

In this case we are asked to define the constitutional limits of economic regulation in the field of rental housing. We hold that a local rent control ordinance which requires that landlords receive a fair and reasonable return on their investment is constitutionally valid on its face as a form of economic regulation reasonably related to the furtherance of a legitimate governmental purpose. Further, we hold that provisions of the ordinance fixing the maximum rent which can be charged are reasonably calculated to eliminate excessive rents and, at the same time, provide landlords with a just and reasonable return on their property as that terminology was utilized by the California Supreme Court in Birkenfeld v. City of Berkeley (1976) 17 Cal.3d 129, 165, 130 Cal.Rptr. 465, 550 P.2d 1001. On its face the ordinance is not unconstitutionally confiscatory since it does not have a necessary effect of lowering rents more than could be reasonably considered to be required for its stated purpose.

On November 13, 1979, the City Council of the City of Cotati approved and adopted an ordinance entitled "Cotati Rent Stabilization Ordinance." Cotati Alliance for Better Housing (landlords), a group of Cotati landlords, filed a complaint for injunctive and declaratory relief against the City of Cotati, the Cotati City Council and the Cotati Rent Appeals Board (Cotati) challenging the validity of the ordinance. The complaint alleged that the ordinance was invalid on its face because it used an investment-based standard for determining rent adjustments. Landlords obtained a judgment on the pleadings, the trial court ruling that the ordinance was unconstitutional because due process guarantees require a value-based standard for determining rent adjustments. The trial court enjoined enforcement of the ordinance. Cotati appeals and, for the reasons stated, we reverse the judgment. ¹

The ordinance in question is a comprehensive rent control ordinance which creates a Rent Appeals Board (Board), requires that landlords register each rental unit and pay an annual registration fee to the Board, establishes base rent ceilings, provides for annual general adjustments and individual adjustments of rent ceilings, prohibits evictions except for specified reasons, and prescribes remedies for violations of its provisions. We emphasize that the only issue before this court is the facial validity of those provisions of the ordinance providing for annual general adjustments and for individual adjustments of rent ceilings, and we limit our decision to those issues. Although other provisions of the ordinance appear to raise constitutional issues, they were not challenged by the parties and are not properly before the court in this appeal.

Section 4 of the ordinance sets forth the procedures for establishing a base rent ceiling. Section 5 ² provides for general rent adjustments and section 6 ³ for individual adjustments of the ceiling on allowable rents.

Section 5 of the ordinance mandates that the Board in determining annual adjustments "shall consider all relevant cost factors affecting rent control units including but not limited to" seven enumerated factors, one of which is "The landlord's rate of return on investment." Section 6 provides that the Board in determining individual rent adjustments "shall consider all of those factors in order to guarantee landlords a fair and reasonable return on their investment." Clearly, "those factors" as stated in section 6 refers to all relevant cost factors, both listed and unlisted, as mentioned in section 5.

In Birkenfeld v. City of Berkeley, supra, the California Supreme Court held that rent control is a proper exercise of local government's police power if it is "reasonably calculated to eliminate excessive rents and at the same time provide landlords with a just and reasonable return on their property. However, if it is apparent from the face of the provisions that their effect will necessarily be to lower rents more than could reasonably be considered to be required for the measure's stated purpose, they are unconstitutionally confiscatory." (17 Cal.3d at p. 165, 130 Cal.Rptr. 465, 550 P.2d 1001 (emphasis added).) ⁴ The Birkenfeld court did not discuss appropriate standards for determining what constitutes a just and reasonable return on "property." Landlords contend the phrase means "exactly what it says" and that the trial court properly ruled the Cotati ordinance is unconstitutionally confiscatory (i.e., denies due process) because it does not require a return to the landlord based upon the present fair market value of property, i.e., a "return on value" standard. ⁵ Cotati contended at oral argument that its ordinance was constitutional even if interpreted as restricting the landlord's return to a return on historical investment. However, after oral argument we vacated submission of the case to receive a concession by Cotati that the term "fair and reasonable return on their investment" may reasonably be interpreted to permit the Board to consider and allow for any decrease in the purchasing power of the dollar due to inflation.

The facial validity of sections 5 and 6 of the ordinance, the only issue before us in this appeal, must be determined by answering whether "a fair and reasonable return on their investment," i.e., a "return on investment" standard, meets the Birkenfeld mandate that landlords be afforded a "just and reasonable return on property."

Landlords argue that the Supreme Court in Birkenfeld cited decisions demonstrating its apparent awareness that other jurisdictions have approved the return on investment standard, yet did not mention that standard, thus implicitly rejecting it. But the Supreme Court chose to cite Hutton Park Gardens v. Town Council (1975) 68 N.J. 543, 565-671, 350 A.2d 1, 13-16 for the proposition that rent control provisions must assure a just and reasonable return on "property." (17 Cal.3d at p. 165, 130 Cal.Rptr. 465, 550 P.2d 1001.) The court in Hutton applied to the rent control field the general rule that "price controls which do not permit an economically efficient operator to obtain a 'just and reasonable' return on his investment are deemed confiscatory." (350 A.2d at p. 14 (emphasis added).) Further, the Birkenfeld court chose not to cite Troy Hills Village v. Township Council (1975) 68 N.J. 604, 350 A.2d 34, 43, decided by the New Jersey Supreme Court on the same day that it decided Hutton; the Troy Hills decision stated that value-based factors must be considered in determining whether a rate of return is just and reasonable. (The New Jersey court subsequently repudiated the return on value approach in Helmsley v. Borough of Fort Lee (1978) 78 N.J. 200, 394 A.2d 65.) If anything is to be concluded from the selective citation in Birkenfeld, it is that our Supreme Court approved the application of the investment-based standard in Hutton but not the use of value-based criteria as mandated in Troy Hills.

Complications will undoubtedly arise in the application of a return on investment standard. The extent of a landlord's "investment" may not be readily apparent. For example, the landlord may have obtained the property by gift or inheritance, purchased it with no down payment, converted investment into debt through refinancing or improved the property years ago with pre-inflation dollars. (See Note, Rethinking Rent Control: An Analysis of "Fair Return" (1981) 12 Rutgers L.J. 617, 647-648.) Landlords contend that these complications demonstrate the confiscatory effect of the investment standard, which unfairly restricts landlords to a return on their "initial cash investment."

The ordinance is not, however, drawn as restrictively as landlords suggest. Nowhere in the ordinance do the terms "initial" or "cash" modify the word "investment." The ordinance does not exclude forms of investment such as mortgage payments toward principal, cash invested in later improvements in the property, a landlord's labor in making building improvements, and other possible contributions to the premises which could be considered as investments in the property. (See World Wide Realty v. Boston Rent Control Adm'r (1979) 7 Mass.App. 327, 387 N.E.2d 598, 601 ["While the term 'investment' has not been defined, a return on investment need not mean a return on purchase price ...."].) The ordinance does not define "investment," nor need it do so. It is invalid on its face only if "its terms will not permit those who administer it to avoid confiscatory results in its application to the complaining parties." (Birkenfeld v. City of Berkeley, supra, 17 Cal.3d at p. 165, 130 Cal.Rptr. 465, 550 P.2d 1001.)

We reject landlords' contention that a "return on value" standard is mandated in order for a rent control ordinance to pass constitutional muster. The fatal flaw in the return on value standard is that income property most commonly is valued through capitalization of its income. Thus the process of...