California Court Affirms Strict Proportionality Requirement for Water Rates Under Proposition 218

07.29.2024

On July 15, 2024, a California Court of Appeal issued a ruling in Coziahr v. Otay Water District, ___Cal.Rptr.3d___ (2024 WL 3408627) (“Otay”). The Court affirmed that water service rates subject to Proposition 218 (Cal. Const., art. XIII D, § 6, subd. (b)(3).) (“Prop 218”) must strictly adhere to the proportionality requirement in developing and adopting water rate structures, including tiered structures. The Otay decision underscores the necessity for water agencies subject to the limitations of Prop. 218 to base their rates on the actual cost of providing service to each parcel, rather than utilizing conservation goals or other non-cost-based factors as part of setting water rate structures.

Mark Coziahr, a customer of Otay Water District (“OWD”), challenged OWD’s adoption and use of a tiered water rate structure for residential customers on grounds that the rate structure violated Prop 218, specifically, its requirement that a property-related fee or charge “shall not exceed the proportional cost of the service attributable to the parcel.”

The lower court found that OWD’s tiered rates were not compliant with Prop 218. The court determined that the rates and rate structure promoted water conservation efforts, rather than reflecting the actual cost of service, leading to a substantial refund award for overcharged OWD customers.

The Court emphasized that OWD’s use of conservation as a factor in structuring its water rates was impermissible under Prop 218. The Court noted that while promoting water use conservation is an important state goal, it cannot be the basis for setting rates that exceed the proportional cost of service. This aligns with legal precedent, specifically Capistrano Taxpayers Assn., Inc. v. City of San Juan Capistrano (2015) 235 Cal.App.4th 1493 and City of Palmdale v. Palmdale Water Dist. (2011) 198 Cal.App.4th 926 (“Palmdale”), which generally held state conservation objectives do not allow water districts to charge disproportionate fees.

The Court also rejected the use of equity arguments, such as the ability to pay, in formulating water rates. The Otay decision articulated that water rates must be strictly proportional to the cost of service, regardless of a customer’s financial status, reaffirming the principle established in Palmdale, where it was determined that financial considerations unrelated to the cost of service cannot be factored into rates or rate structures.

The Court further noted that OWD’s justification for its tiered rates based on “peaking costs” was flawed. The analysis for peaking costs was based upon assumptions rather than actual data, and that there was no evidence showing cost differentials between peak and non-peak service hours because OWD did not have the ability to collect actual peaking use from residential customers during peaking events. The Court underscored the need for accurate and verifiable data, as opposed to utilizing assumptions, in justifying rate structures.

Finally, the Court found that while the lower court was correct in awarding damages to the overcharged customers, the method used to calculate the refund amount was unreasonable. Specifically, the Court noted that the lower court employed a class wide approach to estimate the refund, which included all water charges rather than isolating the overcharges directly attributable to the unconstitutional tiered rates. The Court found this broad method did not accurately reflect the individual variations in overcharges among the different customers affected. Consequently, the Court remanded the case for a new trial to determine a more accurate and justifiable refund calculation.

The Otay decision has potentially significant implications for California water agencies subject to the limitations of Prop. 218 as it reinforces the necessity of aligning water rates and rate structures with the actual cost of service to ensure compliance with Prop 218.

Special thanks to Sevana Zadorian, our FCPPG law clerk, for her extensive work on this alert.