TAKING AN INTEREST IN THE UPCOMING SUPREME COURT CASE ON LAWYERS' TRUST ACCOUNTS: The Just Compensation Clause and Monetary Confiscation

On December 9, the Supreme Court will hear oral argument in yet another case involving so-called "regulatory takings." ("Regulatory takings" issues arise when, under the Fifth Amendment's takings provision, a property holder claims the government is required to compensate him because of allegedly over-intrusive regulation).

It seems that almost every year, the Court grants review in a regulatory takings dispute. For instance, last Term, the Court handed down an important decision involving a building moratorium around Lake Tahoe. And the Term before last, the Court dealt with regulation of coastal wetlands.

But this year's case, Washington Legal Foundation v. Legal Foundation of Washington, is quite different, and potentially more significant, for two reasons. First,

it doesn't involve "property" of the kind we normally think of - lakefront plots, wetland landfills and the like. Instead, it involves cold, hard cash. And arguments that the government violates the Fifth Amendment when it confiscates our money are, to say the least, tricky.

Just the Facts: How This Term's Takings Case Arose

The plaintiffs in the case currently before the Court challenge Washington State's so-called Interest on Lawyers' Trust Account (IOLTA) program. This program, like similar ones in most other states, uses the interest generated from lawyers' trust accounts - in which lawyers hold monies in trust for their clients - to fund public interest legal organizations that serve the poor, like Legal Aid.

To appreciate how this program works, some historical background is necessary. Before 1980, a lawyer who was given monies to hold for his clients would typically pool together a number of clients' funds and place them into a noninterest-bearing federally insured checking account. Although the accounts received no interest (for the client or anyone else), the funds in the account were federally insured and completely liquid - that is, available on demand. Only if a lawyer were handling quite large client sums would he put the clients' funds in an interest-bearing savings account; the account would have to be quite large for the small interest generated to outweigh the lack of instant liquidity.

In 1980, however, Congress for the first time allowed federally insured banks to pay interest on certain liquid demand accounts, called Negotiable Order of Withdrawal (NOW) accounts. But there was a condition: the accounts had to "consist solely of funds in which the entire beneficial interest is held by" a non-profit entity.

Although for-profit organizations cannot establish NOW accounts for their own benefit, the Federal Reserve Board (which oversees the regulation of funds that are federally insured) has decided that for-profit organizations may have their funds placed in NOW accounts as long as the "exclusive right to the interest" is enjoyed by charitable organizations.

That is where the states have come in. Washington, like others, through its IOLTA program has required the lawyers it has licensed to practice to pool together and place client trust funds held for short periods of time into NOW accounts. Unless the lawyer and the client designate some other permissible nonprofit beneficiary, Washington then takes the interest generated from those NOW accounts and uses it to help fund legal aid organizations doing public interest legal work in the state.

This funding mechanism is what is being challenged as an unconstitutional taking in the pending Court case. The stakes are high: As other federal and state governmental funding for legal aid has dwindled over the past 20 years, the IOLTA monies have become increasingly important in keeping legal aid alive.

Deja Vu All Over Again: IOLTA Has Come Before the Court Before

If those who watch the Supreme Court have a vague sense they've been here before, perhaps they should. For the present case is the second time in the last five years the Court has taken up the intersection of IOLTA programs and takings. In the first case, the 1998 Phillips v. Washington Legal Foundation ruling, the Supreme Court considered a similar challenge brought by the same litigation group.

Importantly, however, the Court explicitly declined to address what it characterized as two additional and distinct questions it believed were better left for another day - namely, whether the IOLTA programs "take" the property of the clients, and if so, what "just compensation" requires. Those are the two questions that the Court will presumably take up next week.

Just What Property, Exactly, Has Been Taken, and What Compensation is Just?

On the one hand, these seem like easy questions. To be sure, the state has confiscated and used (for its legal aid program) monies that the Court already said, in Philipps, are the clients' property. Thus, simple logic would seem to require the State to give the interest monies to their owners - the clients.

But this simple logic fails to account for the fact that if the interest weren't being used for a charitable purpose like legal aid, it wouldn't be going to the client either. So although there is "property" here, is it really being "taken"?

Remember, under federal law, NOW accounts can pay interest only if the recipient of the interest is a not-for-profit. Thus, in some meaningful sense, the clients whose monies are generating the interest are no worse off than they would be if the IOLTA program did not exist. And this is true even though the state and its legal aid programs are clearly beneficiaries of the clients' funds.

In short, there is no "zero sum" quality to the equation here - the state wins without the clients really losing. Under these circumstances, "just" compensation might be zero compensation, in which case the Fifth Amendment is not being violated at all. (Remember, the Fifth Amendment does not forbid takings; it forbids only takings that have not been accompanied by "just compensation.")

The Argument That There Has, Indeed, Been A Taking Here

There are a few rejoinders to this suggestion, however. First, the property holder clients are perhaps being deprived of their decision not to have their property used for any charitable purpose. As even Justice Breyer acknowledged in his dissent in Phillips, the IOLTA programs do inhibit a client's right to keep his "principal sterile, a right to prevent the principal from being put to productive use by others."

Second, perhaps takings law should care less about harm to the individual and look more at unjust gain to the government. This has not traditionally been the way takings have been analyzed - in part perhaps because the Constitution speaks of "just compensation" rather than "just restitution" - but the current case may offer a chance to revisit all this.

If one agrees with this last argument, then the present case may not be so different from an earlier Supreme Court decision, the Webb's Fabulous Pharmacies case. There, the Court required compensation under a scheme where one state law required a party to place funds contested in litigation into a special account, and another state law unjustifiably authorized the county to take the interest on that account for itself.

The State of Washington, of course, would try to distinguish Webb's on the ground that in the present case the federal limitations on NOW account beneficiaries are reasonable. They are reasonable, the state suggests, because that the federal government has no obligation to provide insurance for the NOW account funds: limitations on the beneficiaries are simply the price one pays for insurability.

Take the Money and Run? Cash And the Takings Clause

Beyond these issues, some bigger questions may have to be explored when the Court resolves this case. They involve how the takings clause operates in the context of money altogether.

The Supreme Court has drawn distinctions in its takings jurisprudence between real property (for example, land) and personal property (that is, stuff), but has yet to really address money as property. One big reason why alleged takings of money are complicated is that government confiscates money all the time - we call it taxation. (Indeed, think about federal and state tax "withholdings," which Webster's defines as "taking out or deducting.")

The line between permissible taxation and impermissible taking without just compensation has always been fuzzy, but has turned on notions of generality and prospectivity. Taxes are more general and more forward looking, whereas takings are more narrowly targeted and more retrospective. But it would be odd to strike down as a takings something that could be easily be reconfigured as a permissible taxation.

Imagine, for instance, that Washington did not confiscate IOLTA interest monies at all. Instead, imagine that it told lawyers and clients that whenever clients give money to lawyers to hold for them, the state would consider that a taxable "transaction" which requires a payment of a small percentage of the amount held by the lawyer. How high the percentage is turns, under the state tax scheme, on the length of time the fund is held.

Ordinarily, states do not have to explain the purpose of a tax or identify where the revenues raised by a tax are spent. But even if such explanation and/or identification were required, suppose Washington said that these tax revenues are used to fund the system of law and lawyers itself, and to make that system accessible to poor people through programs like legal aid. Private consumers of the legal system (that is, clients) should, the state says, pay for the maintenance of the legal system more generally. (That, by the way, is similar to the theory behind filing fees and other court fees.)

Under these circumstances, it would be hard to think that the hypothetical tax, progressive and redistributive though it may be, would not be general or prospective enough to be labeled a tax. And yet, is the current IOLTA program really any different?