The Contracts Clause

Government Interference in Private Contracts

Allied Steel Co. v. Spannaus (1978)

438 U.S. 234 (1978)

Decision: Reversed
Vote: 5-3
Majority: Stewart, joined by Burger, Powell, Rehnquist, and Stevens
Dissent: Brennan, joined by White, and Marshall

Justice Blackmun took no part in consideration or decision of the case.

MR. JUSTICE STEWART delivered the opinion of the Court.

The issue in this case is whether the application of Minnesota’s Private Pension Benefits Protection Act to the appellant violates the Contract Clause of the United States Constitution …

In 1974, appellant Allied Structural Steel Co. (company), a corporation with its principal place of business in Illinois, maintained an office in Minnesota with 30 employees. Under the company’s general pension plan, adopted in 1963 and qualified as a single-employer plan under § 401 of the Internal Revenue Code … salaried employees were covered as follows: at age 65, an employee was entitled to retire and receive a monthly pension generally computed by multiplying 1% of his average monthly earnings by the total number of his years of employment with the company. Thus, an employee aged 65 or more could retire without satisfying any particular length-of-service requirement, but the size of his pension would reflect the length of his service with the company. …

In sum, an employee who did not die, did not quit, and was not discharged before meeting one of the requirements of the plan would receive a fixed pension at age 65 if the company remained in business and elected to continue the pension plan in essentially its existing form.

On April 9, 1974, Minnesota enacted the law here in question, the Private Pension Benefits Protection Act … Under the Act, a private employer of 100 employees or more — at least one of whom was a Minnesota resident — who provided pension benefits under a plan meeting the qualifications of § 401 of the Internal Revenue Code, was subject to a “pension funding charge” if he either terminated the plan or closed a Minnesota office. The charge was assessed if the pension funds were not sufficient to cover full pensions for all employees who had worked at least 10 years. The Act required the employer to satisfy the deficiency by purchasing deferred annuities, payable to the employees at their normal retirement age. A separate provision specified that periods of employment prior to the effective date of the Act were to be included in the 10-year employment criterion.

During the summer of 1974, the company began closing its Minnesota office. On July 31, it discharged 11 of its 30 Minnesota employees, and the following month it notified the

Minnesota Commissioner of Labor and Industry, as required by the Act, that it was terminating an office in the State. At least nine of the discharged employees did not have any vested pension rights under the company’s plan, but had worked for the company for 10 years or more, and thus qualified as pension obligees of the company under the law that Minnesota had enacted a few months earlier …

The company brought suit in a Federal District Court asking for injunctive and declaratory relief. It claimed that the Act unconstitutionally impaired its contractual obligations to its employees under its pension agreement. The three-judge court upheld the constitutional validity of the Act as applied to the company … and an appeal was brought to this Court … We noted probable jurisdiction …

In Home Building & Loan Assn. v. Blaisdell, the Court upheld against a Contract Clause attack a mortgage moratorium law that Minnesota had enacted to provide relief for homeowners threatened with foreclosure. Although the legislation conflicted directly with lenders’ contractual foreclosure rights, the Court there acknowledged that, despite the Contract Clause, the States retain residual authority to enact laws “to safeguard the vital interests of [their] people … ”

The most recent Contract Clause case in this Court was United States Trust Co. v. New Jersey, (1977). In that case, the Court again recognized that, although the absolute language of the Clause must leave room for “the essential attributes of sovereign power,’ … necessarily reserved by the States to safeguard the welfare of their citizens,” that power has limits when its exercise effects substantial modifications of private contracts. Despite the customary deference courts give to state laws directed to social and economic problems, “[l]egislation adjusting the rights and responsibilities of contracting parties must be upon reasonable conditions and of a character appropriate to the public purpose justifying its adoption.” Evaluating with particular scrutiny a modification of a contract to which the State itself was a party, the Court in that case held that legislative alteration of the rights and remedies of Port Authority bondholders violated the Contract Clause because the legislation was neither necessary nor reasonable …

In applying these principles to the present case, the first inquiry must be whether the state law has, in fact, operated as a substantial impairment of a contractual relationship …

The effect of Minnesota’s Private Pension Benefits Protection Act on this contractual obligation was severe. The company was required in 1974 to have made its contributions throughout the pre-1974 life of its plan as if employees’ pension rights had vested after 10 years, instead of vesting in accord with the terms of the plan … The result was that, although the company’s past contributions were adequate when made, they were not adequate when computed under the 10-year statutory vesting requirement. The Act thus forced a current recalculation of the past 10 years’ contributions based on the new, unanticipated 10-year vesting requirement …

Moreover, the retroactive state-imposed vesting requirement was applied only to those employers who terminated their pension plans or who, like the company, closed their Minnesota offices. The company was thus forced to make all the retroactive changes in its contractual obligations at one time …

Thus, the statute in question here nullifies express terms of the company’s contractual obligations and imposes a completely unexpected liability in potentially disabling amounts. There is not even any provision for gradual applicability or grace periods … Yet there is no showing in the record before us that this severe disruption of contractual expectations was necessary to meet an important general social problem. The presumption favoring “legislative judgment as to the necessity and reasonableness of a particular measure,” United States Trust Co., simply cannot stand in this case …

This Minnesota law simply does not possess the attributes of those state laws that, in the past, have survived challenge under the Contract Clause of the Constitution. The law was not even purportedly enacted to deal with a broad, generalized economic or social problem … It did not operate in an area already subject to state regulation at the time the company’s contractual obligations were originally undertaken, but invaded an area never before subject to regulation by the State. … It did not effect simply a temporary alteration of the contractual relationships of those within its coverage, but worked a severe, permanent, and immediate change in those relationships — irrevocably and retroactively … And its narrow aim was leveled not at every Minnesota employer, not even at every Minnesota employer who left the State, but only at those who had, in the past, been sufficiently enlightened as voluntarily to agree to establish pension plans for their employees …

It is not necessary to hold that the Minnesota law impaired the obligation of the company’s employment contracts “without moderation or reason or in a spirit of oppression.” But we do hold that, if the Contract Clause means anything at all, it means that Minnesota could not constitutionally do what it tried to do to the company in this case.

The judgment of the District Court is reversed.

It is so ordered.


Exxon Corp v. Eagerton (1983)

462 U.S. 176 (1983)

Decision: Affirmed in part, reversed in part, and remanded.
Vote: 9-0
Opinion: Marshall, joined by Burger, Brennan, White, Marshall, Blackmun, Powell, Rehnquist, Stevens and O’Connor

JUSTICE MARSHALL delivered the opinion of the Court.

These cases concern an Alabama statute which increased the severance tax on oil and gas extracted from Alabama wells, exempted royalty owners from the tax increase, and prohibited producers from passing on the increase to their purchasers. Appellants challenge the pass-through prohibition and the royalty owner exemption under the Supremacy Clause, the Contract Clause, and the Equal Protection Clause …

Appellants in both [cases] have working interests in producing oil and gas wells located in Alabama. They drill and operate the wells and are responsible for selling the oil and gas extracted. Appellants are obligated to pay the landowners a percentage of the sale proceeds as royalties, the percentage depending upon the provisions of the applicable lease … After paying the 2% increase in the severance tax under protest, appellants and eight other oil and gas producers filed suit in the Circuit Court of Montgomery County, Ala., seeking a declaratory judgment that Act 79-434 was unconstitutional and a refund of the taxes paid under protest. The Circuit Court ruled in favor of appellants, concluding that both the royalty owner exemption and the pass-through prohibition violate the Equal Protection Clause and the Contract Clause, and that the pass-through prohibition is also preempted by the Natural Gas Policy Act of 1978 (NGPA) …

We turn next to appellants’ contention that the royalty owner exemption and the pass-through prohibition impaired the obligations of contracts in violation of the Contract Clause.

Appellants’ Contract Clause challenge to the royalty owner exemption fails for the simple reason that there is nothing to suggest that that exemption nullified any contractual obligations of which appellants were the beneficiaries. The relevant provision of Act 79-434 states that “[a]ny person who is a royalty owner shall be exempt from the payment of any increase in taxes levied and shall not be liable therefor.” On its face, this portion of the Act provides only that the legal incidence of the tax increase does not fall on royalty owners, i.e., the State cannot look to them for payment of the additional taxes. In contrast to the pass-through prohibition, the royalty owner exemption nowhere states that producers may not shift the burden of the tax increase in whole or in part to royalty owners. Nor is there anything in the opinion below to suggest that the Supreme Court of Alabama interpreted the exemption to have this effect. We will not strain to reach a constitutional question by speculating that the Alabama courts might in the future interpret the royalty owner exemption to forbid enforcement of a contractual arrangement to shift the burden of the tax increase …

Unlike the royalty owner exemption, the pass-through prohibition did restrict contractual obligations of which appellants were the beneficiaries. Appellants were parties to sale contracts that permitted them to include in their prices any increase in the severance taxes that they were required to pay on the oil or gas being sold. The contracts were entered into before the pass-through prohibition was enacted, and their terms extended through the period during which the prohibition was in effect. By barring appellants from passing the tax increase through to their purchasers, the pass-through prohibition nullified pro tanto the purchasers’ contractual obligations to reimburse appellants for any severance taxes.

While the pass-through prohibition thus affects contractual obligations of which appellants were the beneficiaries, it does not follow that the prohibition constituted a “Law impairing the Obligations of Contracts” within the meaning of the Contract Clause.

Producers Transportation Co. v. Railroad Comm’n of California, (1920), is particularly instructive for present purposes. In that case, the Court upheld an order issued by a state commission under a newly enacted statute empowering the commission to set the rates that could be charged by individuals or corporations offering to transport oil by pipeline. The Court rejected the contention of a pipeline owner that the statute could not override preexisting contracts …

There is no material difference between Producers Transportation Co. and the cases before us. If a party that has entered into a contract to transport oil is not immune from subsequently enacted state regulation of the rates that may be charged for such transportation, parties that have entered into contracts to sell oil and gas likewise are not immune from state regulation of the prices that may be charged for those commodities. And if the Contract Clause does not prevent a State from dictating the price that sellers may charge their customers, plainly it does not prevent a State from requiring that sellers absorb a tax increase themselves, rather than pass it through to their customers. If one form of state regulation is permissible under the Contract Clause notwithstanding its incidental effect on preexisting contracts, the other form of regulation must be permissible as well …

For the foregoing reasons, we conclude that the application of the pass-through prohibition to sales of gas in interstate commerce was preempted by federal law, but we uphold both the pass-through prohibition and the royalty owner exemption against appellants’ challenges under the Contract Clause and the Equal Protection Clause. Since the severability of the pass-through prohibition from the remainder of the 1979 amendments is a matter of state law, we remand to the Supreme Court of Alabama for that court to determine whether the partial invalidity of the pass-through prohibition entitles appellants to a refund of some or all of the taxes paid under protest. Accordingly, the judgment of the Supreme Court of Alabama is affirmed in part and reversed in part, and the case is remanded for further proceedings not inconsistent with this opinion.

It is so ordered.


Energy Reserves Group v. Kansas Power and Light (1983)

459 U.S. 400 (1983)

Decision: Affirmed
Vote: 9-0
Majority: Blackmun, joined by Brennan, White, Marshall, Stevens and O’Connor and in all but Part II-C of which Burger, Powell, and Rehnquist joined.
Concur: Powell, joined by Burger and Rehnquist

JUSTICE BLACKMUN delivered the opinion of the Court.

This case concerns the regulation by the State of Kansas of the price of natural gas sold at wellhead in the intrastate market. It presents a federal Contract Clause issue and a statutory issue.

On September 27, 1975, The Kansas Power & Light Company (KPL), a public utility and appellee here, entered into two intrastate natural gas supply contracts with Clinton Oil Company, the predecessor-in-interest of appellant Energy Reserves Group, Inc. (ERG). Under the first contract, KPL agrees to purchase gas directly at the wellhead on the Spivey-Grabs Field in Kingman and Harper Counties in southern Kansas. The second contract obligates KPL to purchase from the same field residue gas, that is, gas remaining after certain recovery and processing steps are completed. The original contract price was $1.50 per thousand cubic feet (Mcf) of gas. The contracts continue in effect for the life of the field or for the life of the processing plants associated with the field …

Each contract contains two clauses known generically as indefinite price escalators. The first is a governmental price escalator clause; this provides that, if a governmental authority fixes a price for any natural gas that is higher than the price specified in the contract, the contract price shall be increased to that level. The second is a price redetermination clause; this gives ERG the option to have the contract price redetermined no more than once every two years. The new price is then set by averaging the prices being paid under three other gas contracts chosen by the parties …

Each contract states that the purpose of the price escalator clauses is “solely” to compensate ERG for “anticipated” increases in its operating costs and in the value of its gas … Each contract also provides: “Neither party shall be held in default for failure to perform hereunder if such failure is due to compliance with,” … any “relevant present and future state and federal laws.”

In 1977, ERG invoked the price redetermination clause, and the parties agreed on a price of $1.77 per Mcf, effective November 27 of that year. The Commission approved the pass-through of this increase to consumers. KPL paid the new price through 1978 …

On December 1, 1978, the Natural Gas Policy Act of 1978 (Act) … designed in principal part to encourage increased natural gas production, became effective. The Act replaced the federal price controls that had been established under the Natural Gas Act … with price ceilings that rise monthly based on “an inflation adjustment factor” and other considerations …

In direct response to the Act, the Kansas Legislature promptly imposed price controls on the intrastate gas market … Section 55-1404 prohibits consideration either of ceiling prices set by federal authorities or of prices paid in Kansas under other contracts in the application of governmental price escalator clauses and price redetermination clauses. Section 55-1405 of the Kansas Act, however, permits indefinite price escalator clauses to operate after March 1, 1979, to raise the price of old intrastate gas up to the federal Act’s § 109 ceiling price. Section § 55-1406 exempts new gas and gas from stripper wells …

On the parties’ cross-motions for summary judgment, the state trial court held that the Act’s imposition of price ceilings on intrastate gas did not trigger the governmental escalator clause. It also found that the Kansas Act did not violate the Contract Clause, reasoning that Kansas has a legitimate interest in addressing and controlling the serious economic dislocations that the sudden increase in gas prices would cause, and that the Kansas Act reasonably furthered that interest … The Supreme Court of Kansas, by unanimous vote, affirmed …

The constitutional issue is whether the Kansas Act impairs ERG’s contracts with KPL in violation of the Contract Clause …

Although the language of the Contract Clause is facially absolute, its prohibition must be accommodated to the inherent police power of the State “to safeguard the vital interests of its people.” Home Bldg. & Loan Assn. v. Blaisdell, (1934) …

The very existence of the governmental price escalator clause and the price redetermination clause indicates that the contracts were structured against the background of regulated gas prices. If deregulation had not occurred, the contracts undoubtedly would have called for a much smaller price increase than that provided by the Kansas Act’s adoption of the § 109 ceiling …

To the extent, if any, the Kansas Act impairs ERG’s contractual interests, the Kansas Act rests on, and is prompted by, significant and legitimate state interests. Kansas has exercised its police power to protect consumers from the escalation of natural gas prices caused by deregulation. The State reasonably could find that higher gas prices have caused and will cause hardship among those who use gas heat but must exist on limited fixed incomes.

The State also has a legitimate interest in correcting the imbalance between the interstate and intrastate markets by permitting intrastate prices to rise only to the § 109 level …

To analyze properly the Kansas Act’s effect, however, we must consider the entire state and federal gas price regulatory structure. Only natural gas subject to indefinite price escalator clauses poses the danger of rapidly increasing prices in Kansas. Gas under contracts with fixed escalator clauses and interstate gas purchased by the utilities subject to § 109 would not escalate as would intrastate gas subject to indefinite price escalator clauses. The Kansas Act simply brings the latter category into line with old interstate gas prices by limiting the operation of the indefinite price escalator clauses. Finally, the Act is a temporary measure that expires when federal price regulation of certain categories of gas terminates.

The Kansas statute completes the regulation of the gas market by imposing gradual escalation mechanisms on the intrastate market, consistent with the new national policy toward gas regulation.

We thus resolve the constitutional issue against ERG …

The regulation of energy production and use is a matter of national concern. Congress set out on a new path with the Natural Gas Policy Act of 1978. In pursuing this path, Congress explicitly envisioned that the States would regulate intrastate markets in accordance with the overall national policy. The Kansas Natural Gas Price Protection Act is one State’s effort to balance the need to provide incentives for the production of gas against the need to protect consumers from hardships brought on by deregulation of a traditionally regulated commodity. We see no constitutional or statutory infirmity in Kansas’ attempt. The judgment of the Supreme Court of Kansas is therefore

Affirmed.


Keystone Bituminous Coal Association v. DeBenedictis (1987)

480 U.S. 470 (1987)

Decision: Affirmed
Vote: 5-4
Opinion: Stevens, joined by Brennan, White, Marshall, and Blackmun
Dissent: Rehnquist, joined by Powell, O’Connor, and Scalia

JUSTICE STEVENS, delivered the opinion of the Court.

Coal mine subsidence is the lowering of strata overlying a coal mine, including the land surface, caused by the extraction of underground coal. This lowering of the strata can have devastating effects … In short, it presents the type of environmental concern that has been the focus of so much federal, state, and local regulation in recent decades …

Pennsylvania’s Subsidence Act authorizes the Pennsylvania Department of Environmental Resources (DER) to implement and enforce a comprehensive program to prevent or minimize subsidence and to regulate its consequences. Section 4 of the Subsidence Act … prohibits mining that causes subsidence damage to three categories of structures that were in place on April 17, 1966: public buildings and noncommercial buildings generally used by the public; dwellings used for human habitation; and cemeteries … Section 6 of the Subsidence Act … authorizes the DER to revoke a mining permit if the removal of coal causes damage to a structure or area protected by § 4 and the operator has not within six months either repaired the damage, satisfied any claim arising therefrom, or deposited a sum equal to the reasonable cost of repair with the DER as security.

In 1982, petitioners filed a civil rights action in the United States District Court for the Western District of Pennsylvania, seeking to enjoin officials of the DER from enforcing the Subsidence Act and its implementing regulations …

The complaint alleges that Pennsylvania recognizes three separate estates in land: The mineral estate; the surface estate; and the “support estate … ” In the portions of the complaint that are relevant to us, petitioners alleged that both § 4 of the Subsidence Act, as implemented by the 50% rule and § 6 of the Subsidence Act, constitute a taking of their private property without compensation in violation of the Fifth and Fourteenth Amendments. They also alleged that § 6 impairs their contractual agreements in violation of Article I, § 10, of the Constitution …

In rejecting petitioners’ Contracts Clause claim, the District Court noted that there was no contention that the Subsidence Act or the DER regulations had impaired any contract to which the Commonwealth was a party. Since only private contractual obligations had been impaired, the court considered it appropriate to defer to the legislature’s determinations concerning the public purposes served by the legislation. The court found that the adjustment of the rights of the contracting parties was tailored to those “significant and legitimate” public purposes … At the parties’ request, the District Court certified the facial challenge for appeal.

The Court of Appeals affirmed, agreeing that Pennsylvania Coal does not control, because the Subsidence Act is a legitimate means of “protect[ing] the environment of the Commonwealth, its economic future, and its wellbeing.” … In rejecting the argument that the support estate had been entirely destroyed, the Court of Appeals did not rely on the fact that the support estate itself constitutes a bundle of many rights, but rather considered the support estate as just one segment of a larger bundle of rights that invariably includes either the surface estate or the mineral estate …

The court held that the impairment of private agreements effectuated by the Subsidence Act was justified by the legislative finding “that subsidence damage devastated many surface structures, and thus endangered the health, safety, and economic welfare of the Commonwealth and its people.” We granted certiorari …

In addition to their challenge under the Takings Clause, petitioners assert that § 6 of the Subsidence Act violates the Contracts Clause by not allowing them to hold the surface owners to their contractual waiver of liability for surface damage. Here too, we agree with the Court of Appeals and the District Court that the Commonwealth’s strong public interests in the legislation are more than adequate to justify the impact of the statute on

petitioners’ contractual agreements …

Prior to the ratification of the Fourteenth Amendment, it was Article I, § 10, that provided the primary constitutional check on state legislative power. The first sentence of that section provides:

“No State shall enter into any Treaty … coin Money … pass any … ex post facto Law, or Law impairing the Obligation of Contracts, or grant any Title of Nobility.”

U.S. Const., Art. I, § 10 …

Unlike other provisions in the section, it is well settled that the prohibition against impairing the obligation of contracts is not to be read literally. The context in which the Contracts Clause is found, the historical setting in which it was adopted, and our cases construing the Clause, indicate that its primary focus was upon legislation that was designed to repudiate or adjust preexisting debtor-creditor relationships that obligors were unable to satisfy.

In assessing the validity of petitioners’ Contracts Clause claim in this case, we begin by identifying the precise contractual right that has been impaired and the nature of the statutory impairment. Petitioners claim that they obtained damages waivers for a large percentage of the land surface protected by the Subsidence Act, but that the Act removes the surface owners’ contractual obligations to waive damages. We agree that the statute operates as “a substantial impairment of a contractual relationship,” and therefore proceed to the asserted justifications for the impairment …

The record indicates that, since 1966, petitioners have conducted mining operations under approximately 14,000 structures protected by the Subsidence Act … In any event, it is petitioners’ position that, because they contracted with some previous owners of property generations ago, they have a constitutionally protected legal right to conduct their mining operations in a way that would make a shambles of all those buildings and cemeteries …

By requiring the coal companies either to repair the damage or to give the surface owner funds to repair the damage, the Commonwealth accomplishes both deterrence and restoration of the environment to its previous condition. We refuse to second-guess the Commonwealth’s determinations that these are the most appropriate ways of dealing with the problem. We conclude, therefore, that the impairment of petitioners’ right to enforce the damages waivers is amply justified by the public purposes served by the Subsidence Act.

The judgment of the Court of Appeals is

Affirmed.


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