A dispute over the designation of a struggling Colorado mall as “blighted” might serve as testing ground for how much recourse commercial property owners have against the power of eminent domain.

The City of Westminster, Colo., is attempting to seize the land belonging to the owners of Westminster Mall in order to make way for a transit-oriented mixed-use project. And legal experts say that the case illustrates how cities may attempt to evade laws put in place in recent years to prevent the use of eminent domain for the purpose of economic development.

Typically, eminent domain has been used to seize property in order to make way for government or other public use. Less frequently, municipalities have tried to use the power for economic development. That is precisely what occurred in New London, Conn., where the city, following a controversial Supreme Court ruling, used the power of eminent domain to seize private residences to make way for a commercial redevelopment.

Many saw that decision as an erosion of property rights. And property owners voiced concerns that other cities might try to seize homes or small commercial properties—even healthy ones—to make way for larger commercial projects that could deliver higher tax revenues. In the wake of Kelo, many states, including Colorado, put in laws banning the use of eminent domain for the purpose of economic development.

But blight has always been an exception. That designation gives cities more power to seize private property. In the case of the Westminster Mall, if the Jefferson County District Court agrees with the city’s take it would give Westminster the power to take control of the property and move ahead with its redevelopment plans without the current owner’s consent.

So the question at play in Westminster is whether the mall, which is unquestionably struggling, is truly blighted or whether the city is pushing the boundaries of the definition in order to seize a property that it otherwise would be unable to take.

The mall owner, Westminster Mall Co., thinks the blight designation stems from the fact that the municipality is dissatisfied with the decline in tax revenue generated by the mall. The owner has filed a lawsuit to stop the process. The court’s decision in the case might help determine just how flexible cities’ eminent domain rights are.

Since the Kelo case, state courts have been trying to vet blight studies more carefully to make sure blight is not used as a pretext for unlawful condemnation, says Kenneth Bley, partner in the land use department of Los Angeles-based law firm Cox, Castle & Nicholson LLP. Some state legislatures, including California’s, where Bley practices, have made an effort to define “blight” more narrowly.

Yet overall, the criteria for a blight designation in many states remains vague, says Garrett L. Hanken, partner in the real estate group of Greenberg Glusker, a Los Angeles-based law firm. And courts generally defer to municipalities, he says. That means that even if Colorado law prohibits the seizure of private property for the purposes of economic development, it might not offer the mall’s owners much protection.

“It’s kind of beside the point because if the state finds that the area is blighted, it can put the site for another use,” Hanken notes. “The consequence will be the same. It may be a fine point of labeling, rather than a fine point of real substance.”

Ultimately, it’s up to the discretion of individual judges to make final determinations.

“It’s difficult, because the law says these factors have to be present, but it doesn’t say such and such percentage,” Bley notes. “It’s up to the judge to decide whether they are present or not.”

Troubled or blighted?

The 33-year-old, 1.2-million-square-foot Westminster Mall used to be a regional powerhouse throughout the 1980s and 1990s, but has suffered setbacks in recent years because of increased competition from newer centers and department store consolidations and closures.

Today, much of the mall sits vacant, with occupancy hovering as low as 30 percent, by the city’s account. Westminster Mall Co. concedes that the property has lost a large number of retailers in recent years, but says the city and its condemnation proceedings are partly to blame for scaring off prospective tenants and giving existing tenants occasion to demand rent concessions.

When tenants hear the city has enacted an urban renewal plan in respect to the property, they assume that the mall is going to close down, says Leslie A. Fields, partner with Denver-based law firm Faegre & Benson LLP. Fields is representing the mall’s ownership in the case.

Westminster’s efforts to redevelop the site go as far back as early 2000s. In 2002, the city hired Portland, Ore.-based Leland Consulting Group to study the property and the surrounding area. The study resulted in a blight designation. But Westminster decided not to seize the mall at the time.

But the designation, along with the subsequent development of several new retail properties in the vicinity undertaken with the city’s help, made it more difficult for Westminster Mall to attract new tenants. In 2009, Leland completed a second study and again found the site met the definition of blight.

“Under Colorado law, there is a specific procedure that needs to be followed to meet a finding of blight and those conditions have been met,” says Westminster City Manager Brent McFall.

Westminster would like to use the site to create a mixed-use development of approximately 4 million square feet that will combine residential, retail, office and entertainment uses. It is in the final stages of negotiations with Columbus, Ohio-based Steiner + Associates to be the designated redeveloper and hopes to start construction in late 2012 or early 2013.

Westminster Mall Co., however, claims the designation is bogus, as the mall does not meet the unsafe and unsanitary criteria normally used for the finding of blight. Rather, the mall owners feel Westminster officials would like to improve the revenue stream from the site, which has reportedly fallen 70 percent between 1999 and 2009.

“The city is taking the private property of the mall because it’s unhappy with its economic performance,” says Fields. “We don’t see how you can apply any definition of blight to this property; it’s not unsafe or abandoned. It’s our position that if the city prevails in this case, it is putting the property rights of every property owner in Colorado at risk.”

Hanken adds that what might give Westminster Mall Co. leverage in the case is the fact that the city’s redevelopment plan calls for a use that is similar to the existing property. In such cases, municipalities often partner with existing owners to redevelop sites, legal experts say. Securing an outside developer is unusual unless that developer has a better track record or is willing to work on the project for less money.

In fact, according to the mall owners’ version of events, prior to conducting the second property study in 2009, Westminster officials met with the mall owners to reassure them that they would be part of the redevelopment process, according to Fields. But as real estate market conditions deteriorated, the city initiated a formal RFP process and chose Steiner as the developer. Even though the mall owners responded to the call for RFPs, the city turned their proposal down, she notes.

(The city’s change of heart might have to do with the fact that in a depressed real estate environment, the mall’s owners might be entitled to a smaller compensation package if the property is seized. The property’s value in such cases is often calculated based on market conditions on the date of possession or the date of trial, notes Hanken, although there are exceptions).

Westminster has to file a response to the case in the next 60 days. It usually takes anywhere from one to two years for such cases to be resolved.