Tax Injunction Act Bars Challenge to Local Demolition Tax

by Franczek Radelet P.C.

Recently, the Seventh Circuit Court of Appeals denied a challenge to a municipal tax on the demolition of real estate based on the strict enforcement of the Tax Injunction Act. This decision reinforces long-standing principles that prevent litigation in federal courts over assessments of taxes at the state level.

In Kathrein v. City of Evanston, the plaintiff sought to challenge the constitutionality of Evanston’s Affordable Housing Demolition Tax, a tax designed to provide affordable housing to homeowners in need by directing the proceeds of the tax on the demolition of residential property to the City’s Affordable Housing Fund. The plaintiffs filed suit in federal court, alleging that their constitutional rights were violated because the sale of their house fell through after a prospective buyer lowered his bid to reflect the cost of the Demolition Tax. However, their claim was dismissed before the merits were litigated due to the Tax Injunction Act.

The Tax Injunction Act forbids federal courts from “enjoining, suspending, or restraining the assessment, levy or collection of any tax under state law” so long as there exists “a plain, speedy and efficient remedy” in state court. Since the plaintiffs were challenging the validity of a state tax, the district court granted the City’s motion to dismiss. The plaintiffs then appealed, asserting that their claim should survive because the Demolition Tax was not a tax, but rather a regulatory device. In the first appeal, the plaintiffs were successful. The Court found the Demolition Tax fit into an exception to the Tax Injunction Act because it was a deterrent to a specific type of activity that generated relatively little revenue. The Court then remanded the case to the district court for a determination of whether plaintiffs suffered any actual injury. On remand, the district court once again found plaintiff’s claim barred by the Tax Injunction Act because the Demolition Tax was designed to generate revenue rather than to fine or punish those who decide to demolish their homes.

When this claim reached the Seventh Circuit Court of Appeals for a second time, the Court heard the case en banc (in front of the entire bench). In this second appeal, the Court affirmed the district court’s decision, holding that the Demolition Tax was a tax as defined under the Tax Injunction Act because it generates funds used to subsidize low income homeowners. As such, the Seventh Circuit Court of Appeals dismissed the claim pursuant to the Tax Injunction Act. The Court noted that this decision was appropriate because it furthers a healthy respect for federalism by preventing federal courts from interfering with the vital state function of collecting taxes.

The decision is a reminder that challenges to the validity of state taxes in federal court can be successful only in rare circumstances. Federal courts consistently bar such claims requiring that they instead be brought in state court, which provides a measure of financial security to school districts and other units of local government.

* Jamel Greer is a recent graduate of Loyola University Chicago School of Law.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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