Earlier this month, the U.S. District Court for the Southern District of West Virginia declined to dismiss a Section 1983 challenge against a West Virginia County in Grady v. Wood County. This ruling comes in the wake of the United States Supreme Court’s landmark decision in Tyler v. Hennepin County, No. 22-166 (May 25, 2023), in which held that government retention of surplus proceeds after a tax foreclosure constitutes an unconstitutional taking under the Fifth Amendment. Although the federal court’s opinion concludes that the Supreme Court’s reasoning in Tyler applies to West Virginia tax sales, the case may not have long-lasting implications for the State given the Legislature’s recent amendment of the tax sale statutes; however, the opinion will present issues for previous tax sales falling within the statute of limitations.[1]
Overview of Tyler v. Hennepin County
In 2023, the U.S. Supreme Court ruled in Tyler that the forfeiture of a Minnesota property for nonpayment of taxes resulted in a governmental taking without just compensation because the forced collection recovered more than what was owed to the government—to Caeser. The Supreme Court did not address the question of what amount of just compensation had to be paid in that case. It also did not address who had to pay that just compensation because the only party involved in the unconstitutional taking was the county government.
Background: The Facts of Grady v. Wood County
Plaintiffs Anastasia Reutelshofer and Kenneth S. Grady owned a home in Wood County, West Virginia. After falling behind on property taxes, the county auctioned a tax lien for $3,467.79, in on Nov. 10, 2020, based on the taxpayers’ original tax debt of $1,282.41. Although the taxpayers tried to redeem the lien, a clerical error resulted in the misapplication of their payment. As a result of the clerk’s error, the County issued a tax deed to TASHPA for the home on April 29, 2022, terminating Plaintiffs' right of redemption and divesting Plaintiffs of their interest in the property. The property was alleged to be worth in excess of the tax lien, and the taxpayers claimed they were at risk of losing roughly $150,000 in equity without any compensation paid to them.
The plaintiffs sued under 42 U.S.C. § 1983, alleging that West Virginia’s tax sale statutes in effect in 2020 caused an uncompensated taking in violation of the Fifth and Fourteenth Amendments. They also claimed that the tax sale created an excessive fine in violation of the Eighth and Fourteenth Amendments. In response, the Wood County Commission moved to dismiss the lawsuit.
The Federal Court’s Analysis in Grady
The Grady court’s ruling draws heavily from Tyler and subsequent lower court decisions. Applying Tyler, the District Court determined that the taxpayers plausibly alleged an uncompensated taking. Specifically:
- The County’s auction of the tax lien for an amount exceeding the debt created surplus equity.
- The plaintiffs retained a protected property interest in that surplus equity.
- The subsequent issuance of a tax deed to the bidder without compensating the taxpayers violated the Takings Clause.
The Court rejected the County’s argument that its actions were insulated by the procedural opportunities to redeem and otherwise challenge the tax sale that state law afforded to the taxpayers. Echoing the Supreme Court’s opinion in Tyler, the Court emphasized that procedural compliance does not negate the substantive constitutional requirement to provide just compensation for taken property. In so doing, the Court relied on the Nebraska Supreme Court’s recent opinion in Continental Resources v. Fair, 311 Neb. 184 (Neb. 2024) (issued after remand from the United Supreme Court shortly after it issued its opinion in Tyler) and the Sixth Circuit Court of Appeals’ decision in Hall v. Meisner, 51 F.4th 185, 194 (6th Cir. 2022). The District Court explained that it saw “few differences between the present case and the strict foreclosure and tax processes described in Hall and Fair,” so it reasoned that the case should survive the motion to dismiss and proceed to discovery.
Implications for Tax Lien Foreclosure Systems
The decision in Grady illustrates how Tyler is reshaping the legal landscape for tax-lien foreclosures of all shapes and sizes. Although West Virginia’s tax-lien process was not an absolute forfeiture procedure like was employed in Minnesota, the process reached a similar result—the loss of an interest in the property in excess of the amount of taxes, penalties, and interest. Courts around the country are increasingly scrutinizing surplus equity retention practices, even in cases involving private purchasers. This trend may prompt municipalities and private investors to reevaluate their procedures to mitigate potential liability.
But Grady also highlights the unresolved complexities in applying Tyler. For example, the Court in Grady will next have to address (following discovery):
- Who bears ultimate responsibility for just compensation in cases involving third-party purchasers?
- How should courts calculate just compensation for surplus equity?
These questions remain largely unanswered following Tyler, creating uncertainty for stakeholders in the tax lien industry.
The Limited Impact of Grady in West Virginia
Despite its significance, the Grady decision may have a limited practical impact in West Virginia due to recent legislative reforms. In 2022, West Virginia overhauled its tax lien and foreclosure process to modernize and address issues similar to those raised in Tyler and Grady. The new framework ensures greater transparency and provides mechanisms to return surplus proceeds to property owners who apply to receive those funds.[2]
Under the updated system, counties must account for surplus funds generated through tax sales and return them to the property owner after satisfying the tax debt and associated costs. These reforms align West Virginia’s process with the constitutional principles articulated in Tyler, potentially insulating the state and its counties from future litigation based on similar claims.
Conclusion
The Grady decision underscores the evolving legal standards governing tax lien foreclosures and the retention of surplus equity. While the case reinforces the importance of adhering to the constitutional protections established in Tyler, its practical impact in West Virginia is likely diminished by the state’s proactive legislative reforms. As other jurisdictions grapple with these issues, West Virginia’s updated framework may serve as a model for balancing efficient tax collection with property owners’ rights.
Key Takeaway: While Grady highlights the risks of surplus equity retention in tax foreclosure systems, recent changes to West Virginia law—including the enactment of 2022 W. Va. Acts 2361—position the state as a leader in modernizing these processes. As such, stakeholders in West Virginia may find that the Grady ruling has limited implications for their operations.
[1] See our related client alert about the Supreme Court’s opinion in Tyler here, along with our other client alerts discussing how state courts and legislatures are reacting to the opinion in Nebraska, Michigan, Massachusetts, and elsewhere.
[2] See W.V. Code § 11A-3-65, which allows property owners to claim surplus proceeds within two years of the tax sale.
