Contract Clause

“Law” Defined

The Contract Clause provides that no state may pass a “Law impairing the Obligation of Contracts,” and a “law” in this context may be a statute, constitutional provision,1 municipal ordinance,2 or administrative regulation having the force and operation of a statute.3 But are judicial decisions within the clause? The abstract principle of the separation of powers, at least until recently, forbade the idea that the courts “make” law and the word “pass” in the above clause seemed to confine it to the formal and acknowledged methods of exercise of the law-making function. Accordingly, the Court has frequently said that the clause does not cover judicial decisions, however erroneous, or whatever their effect on existing contract rights.4 Nevertheless, there are important exceptions to this rule that are set forth below.

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References

This text about Contract Clause is based on “The Constitution of the United States of America: Analysis and Interpretation”, published by the U.S. Government Printing Office.

[Footnote 1] Dodge v. Woolsey, 59 U.S. (18 How.) 331 (1856); Ohio & M. R.R. v. McClure, 77 U.S. (10 Wall.) 511 (1871); New Orleans Gas Co. v. Louisiana Light Co., 115 U.S. 650 (1885); Bier v. McGehee, 148 U.S. 137, 140 (1893).

[Footnote 2] New Orleans Water-Works Co. v. Rivers, 115 U.S. 674 (1885); City of Walla Walla v. Walla Walla Water Co., 172 U.S. 1 (1898); City of Vicksburg v. Waterworks Co., 202 U.S. 453 (1906); Atlantic Coast Line R.R. v. Goldsboro, 232 U.S. 548 (1914); Cuyahoga Power Co. v. City of Akron, 240 U.S. 462 (1916).

[Footnote 3] Id. See also Grand Trunk Ry. v. Indiana R.R. Comm'n, 221 U.S. 400 (1911); Appleby v. Delaney, 271 U.S. 403 (1926).

[Footnote 4] Central Land Co. v. Laidley, 159 U.S. 103 (1895). See also New Orleans Water- Works Co. v. Louisiana Sugar Co., 125 U.S. 18 (1888); Hanford v. Davies, 163 U.S. 273 (1896); Ross v. Oregon, 227 U.S. 150 (1913); Detroit United Ry. v. Michigan, 242 U.S. 238 (1916); Long Sault Development Co. v. Call, 242 U.S. 272 (1916); McCoy v. Union Elevated R. Co., 247 U.S. 354 (1918); Columbia Ry., Gas & Electric Co. v. South Carolina, 261 U.S. 236 (1923); Tidal Oil Co. v. Flannagan, 263 U.S. 444 (1924).

Evaluation of the Contract Clause Today

It should not be inferred that the Contract 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,5 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,6 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.

More about Evaluation of the Contract Clause Today

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 that were not as considerate of creditor's rights, were set aside as violating the Contract Clause.7 “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.” 8 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 found 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.” 9

Evaluation of the Contract Clause Today: Developments

In the meantime, the Court had sustained New York State legislation 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.10 “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.” 11

Other Aspects

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.

Other Issues

“[T]he Contract Clause remains a part of our written Constitution.” 12 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.13 A finding that a contract has been “impaired” in some way is merely the preliminary step in evaluating the validity of the state action.14 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.” 15

More

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.” 16 Having determined that a severe impairment had resulted in both cases,17 the Court moved on to assess the justification for the state action.

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In United States Trust, the Court ruled 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 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.18

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.19

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.” 20

Resources

References

This text about Contract Clause is based on “The Constitution of the United States of America: Analysis and Interpretation”, published by the U.S. Government Printing Office.

[Footnote 5] See Edwards v. Kearzey, 96 U.S. 595 (1878); Barnitz v. Beverly, 163 U.S. 118 (1896).

[Footnote 6] 290 U.S. 398 (1934).

[Footnote 7] W. B. Worthen Co. v. Thomas, 292 U.S. 426 (1934); W. B. Worthen Co. v. Kavanaugh, 295 U.S. 56 (1935).

[Footnote 8] 295 U.S. at 62.

[Footnote 9] East New York Bank v. Hahn, 326 U.S. 230, 235 (1945), quoting New York Legislative Document (1942), No. 45, p. 25.

[Footnote 10] Honeyman v. Jacobs, 306 U.S. 539 (1939). See also Gelfert v. National City Bank, 313 U.S. 221 (1941).

[Footnote 11] 313 U.S. at 233-34.

[Footnote 12] 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.

[Footnote 13] 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.

[Footnote 14] 431 U.S. at 21; 438 U.S. at 244.

[Footnote 15] 431 U.S. at 22-26; 438 U.S. at 248.

[Footnote 16] 438 U.S. at 245.

[Footnote 17] 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).

[Footnote 18] 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.)

[Footnote 19] 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).

[Footnote 20] 438 U.S. at 242 (emphasis by Court).

Tables of Contents

• Contract Clause and other Topics in the Contents – Article 1 of the U.S. Constitution
• U.S. Constitutional Law Category
• List of amendments to the U.S. Constitution
• Contract Clause and other Topics in the Constitution Contents
• Interpretation of the U.S. Constitution (Table of Contents)
• Clauses of the Constitution (Table of Contents)