Grossman LLP | Ninth Circuit, Sitting En Banc, Rehears Argument On California Law Requiring Payment of Royalties to Artists Upon Resale of Works
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  • Ninth Circuit, Sitting En Banc, Rehears Argument On California Law Requiring Payment of Royalties to Artists Upon Resale of Works
    01/05/2015
    Last week, an en banc panel of the Ninth Circuit Court of Appeals heard oral arguments in a case examining the constitutionality of California Civil Code § 986, known as the California Resale Royalties Act.  The case has potentially important implications for those collecting or dealing in fine art.

    The California Resale Royalties Act

    The CRRA creates a California version of the droit de suite system practiced in many foreign jurisdictions (including much of Europe), in which fine art creators or their heirs receive a royalty-type fee every time their original artworks are resold.  In contrast, American law generally follows the “first sale doctrine,” under which artists generally control only the initial sale of an original artwork, and do not receive compensation for any subsequent resales of their works; the CRRA, passed in 1976, is currently the exception in the United States.  In recent years, federal lawmakers have entertained the possibility of creating a nationwide droit de suite scheme, but those efforts have not yet succeeded.

    The CRRA requires a seller of fine art to pay a work’s artist five percent of the resale price of a work, as long as the work is either sold in California or offered for sale by a California resident.  Works resold for less than $1000, or for less than the seller originally paid, are excluded.  Artists’ heirs may assert an artist’s rights for 20 years after the artist’s death.

    The CRRA also requires agents of art sellers, such as dealers and auction houses, to withhold the 5% of the sale proceeds, and to locate and pay the artist the required royalty.  If the agent cannot locate the artist within 90 days, the fee goes to the California Arts Council, who will continue the search for seven more years; after that, the funds pass to the Council for “use in acquiring fine art.”  If an agent fails to fulfill its responsibilities under the law, the artist or his heirs can sue the agent.

    The Lawsuit

    In 2011, a group of plaintiffs representing some prominent artists filed proposed class actions against Christie’s, Sotheby’s, and eBay, alleging that the defendants, in auctioning artworks, had systematically violated their obligations to pay royalties owed to the artists pursuant to the CRRA.  The plaintiffs included painter and photographer Chuck Close; artist Laddie John Dill; the heirs of sculptor Robert Graham; and the foundation for painter Sam Francis.

    The District Court Decision

    In May 2012, then-U.S. District Judge Jacqueline Nguyen dismissed the artists’ claims, holding that the CRRA was unenforceable because it violates the Commerce Clause of the U.S. Constitution.  The Commerce Clause gives Congress the power to regulate interstate commerce.  Courts have generally interpreted the clause to have an inverse implication (sometimes called the “Dormant Commerce Clause”) that limits the power of the individual states so as to prevent them from unjustifiably burdening interstate commerce.  Judge Nguyen concluded that the CRRA runs afoul of the Dormant Commerce Clause by impermissibly controlling commerce occurring wholly outside the state’s boundaries; specifically, it requires royalties even in art sales consummated outside California between non-California parties.  See Estate of Graham v. Sotheby’s Inc., 860 F. Supp. 2d 1117 (C.D. Cal. 2012).  She gave the example of a California resident who consigns a painting by a New York artist for auction at Sotheby’s in New York, where it is purchased by a New York resident; under the law’s terms, even though the sale occurs wholly outside California, Sotheby’s must set aside the 5% royalty, and locate and pay the New York artist (or pay the California Arts Council), or else Sotheby’s risks a lawsuit by the New York artist under California law.

    The CRRA contained a severability clause, which provided that if any portion of the law was declared invalid, the remainder of the law should still be enforced.  Pointing to this provision, the artist plaintiffs argued that, even if the CRRA was ruled unconstitutional as applied to certain out-of-state transactions, the courts should preserve the remainder of the law.  In dealing with severability questions like this, courts generally will sever an unconstitutional provision and uphold the rest unless it is clear that the legislature would not have enacted the constitutional provisions independently of the invalid portions.  Here, Judge Nguyen concluded that the CRRA was not severable, reasoning based on legislative history that the state legislature would not have enacted a bill that regulated only art sales that took place in California.  (Indeed, the defendants pointed out that the legislature probably recognized that many art sellers might leave the state in order to avoid paying the 5% royalty.)  The trial court concluded that, since the legislature would not have enacted the CRRA without its extraterritorial reach, the entire law had to be invalidated.

    The defendants had also argued that the CRRA was unconstitutional for two additional reasons: first, that it effects an impermissible “taking” of private property in violation of the federal and state constitutions; and second, that it is preempted by federal copyright law.  The district court’s decision rested solely on Dormant Commerce Clause grounds, and did not address these additional arguments.

    The Appeal to the Ninth Circuit

    Following Judge Nguyen’s dismissal, the plaintiffs appealed to the Ninth Circuit Court of Appeals.  In April 2014, a three-judge panel of federal appellate jurists heard oral arguments; at the time, at least one commentator suggested that the trio (Judges Randy Smith, Ferdinand Fernandez, and Mary Murguia) seemed inclined to agree with the lower court that the law is unconstitutional.  During arguments, the judges expressed skepticism about the plaintiffs’ arguments, and in particular the notion that, even if an artist, a buyer, and a work are all outside of California, the law could permissibly apply as long as the seller was a California resident and the out-of-state company has a presence in California (as Sotheby’s, Christie’s, and eBay do).  The defendants’ counsel, on the other hand, analogized the law to an attempt by California to collect sales tax from a resident who buys cigarettes in Nevada. The plaintiffs’ counsel also had urged that the courts should uphold the severability provision built into the law, but the judges seemed receptive to the defendants’ concern that such a ruling would actually damage the art market in California because people would avoid doing business with California buyers and sellers in order to avoid paying the royalty.  Oral argument also included discussion of whether defendant eBay should have been dismissed from the case because it is not a “seller” under the statute; eBay emphasized that it does not own, take possession of, or transfer title to the items sold on its site.

    Rehearing En Banc

    But the three-judge panel never issued an opinion.  Instead, a few months after oral argument, at the end of August, both sides were ordered to brief the question of whether the case should be reheard en banc to address a possible conflict in Ninth Circuit Dormant Commerce Clause case law. The term “en banc” refers to a procedure where a case is heard by the entire bench of a court.  However, on the Ninth Circuit (the nation’s largest appellate circuit), a case taken en banc is not heard by all 29 active judges on the court, but rather by an expanded panel of eleven judges instead of the usual three.  Generally, this consists of the Chief Judge of the Circuit and ten additional judges drawn randomly from the pool of active eligible judges.

    The artists’ brief argued in favor of en banc review, while the defendants opposed it.  In late October, the Ninth Circuit issued an order stating that, based on the vote of a majority of non-recused active judges on the Circuit, the case would instead be reheard en banc.  Sam Francis Found. v. Christie’s, Inc., 769 F.3d 1195 (9th Cir. 2014).  (Interestingly, Judge Nguyen, who issued the original district court opinion striking down the CRRA, has since been elevated to the Ninth Circuit; the Senate confirmed her appellate post just a few days after she issued the order granting the defendants’ motions to dismiss.  Notwithstanding her new position, though, she did not take part in the vote to hear the case en banc, and is not among the eleven judges who will now decide it.)

    As one report noted, it is somewhat unusual for the Ninth Circuit to take the initiative and vote to rehear the case en banc even before the three-judge panel has issued a decision.  (It is more common for en banc proceedings to ensue after a three-judge panel has ruled and the losing party has asked the full court to reconsider the case.)  Commentators suggest that the Circuit’s decision to skip straight to en banc review was driven by two other recent Ninth Circuit cases (one involving regulation of carbon dioxide emissions and another involving a statute banning products that result from the force-feeding of ducks to make foie gras) that also implicated Dormant Commerce Clause issues in the context of California laws with out-of-state impact; the Circuit may be seeking to ensure a uniform approach to such problems.

    What’s Next

    The eleven judges of the en banc court heard oral arguments for the case on December 16, and the parties now await the decision.  If the CRRA is upheld as enforceable, artists or their heirs may be able to receive compensation for resales, a result that may be particularly lucrative where a work has skyrocketed in value since its creation and initial entry into the market; for their part, if the plaintiffs prevail, dealers and auction houses will need to ensure that their businesses have appropriate mechanisms in place for CRRA compliance.  If the en banc court holds that parts of the law are unconstitutional but severable, California law may find itself in a middle ground where the CRRA only reaches in-state transactions; as the defendants argued, this could create some strange economic incentives in art transactions (and might even harm the state’s art market) if buyers and sellers begin seeking ways to avoid paying the 5% royalty.  And even if the law is invalidated entirely, artists will likely continue to advocate for—and auction houses to lobby against—a federal droit de suite scheme.  We’ll update this blog when the Ninth Circuit issues its ruling.
    ATTORNEY: Kate Lucas
    CATEGORIES: Art MarketLegal Developments