Disruptions from the coronavirus (COVID-19) pandemic will have a lasting impact on industries worldwide. Commercial real estate landlords and tenants are being forced to make difficult decisions to adapt to these sudden changes. Some landlords and tenants face forced closures due to governmental orders. Many tenants are reaching out to their landlords to seek relief. Some have even announced plans to cease paying rent while they are unable, or elect not, to operate their businesses. The following are some considerations for landlords during this crisis.
1. Read The Lease. The primary guide for dealing with the present crisis should be the terms of the Lease itself, as well as related agreements (such as loan documents) and current law. Landlords should maintain dialogue with tenants in order to maintain relationships, but need to exercise caution in responding to tenant requests for accommodations.
2. Do Not Ignore Loan Document Provisions Related to Leasing. Typical commercial real estate loan documents contain provisions that limit the ability of a landlord to amend leases without lender consent. It is important for landlords to keep these restrictions in mind.
3. Pre-Negotiation Agreements. Before entering into discussions with tenants regarding potential accommodations, it is important to confirm that the landlord will not be bound by any statements made during negotiations including those by brokers or other representatives - only by a written lease amendment executed by both parties. While it is preferred to have these agreements executed in writing, given remote working environments, it may be necessary to agree via email to pre-negotiation requirements.
Such agreements minimize the risk that well-intentioned expressions of empathy or vague statements such as “ we understand your pain and we will work something out to assist you” may result in unanticipated legal consequences.
In the lending world, pre-negotiation agreements have long been the standard and landlords consulting their lenders regarding these issues will be asked to sign these agreements.
A formal pre-negotiation agreement may not be necessary in all circumstances. For example, email correspondence may be used to communicate that tenant has requested relief and landlord is willing to enter into discussions, but only a final written agreement will be binding.
4. Force Majeure and Abatement Clauses. From the landlord’s perspective, force majeure clauses may apply to forced closure due to governmental requirements beyond the control of the landlord. Landlords should be careful to comply with the notice and other procedural steps that may be required under the applicable lease in the event of the occurrence of force majeure.
If a tenant asserts that it is not paying rent due to force majeure, the landlord should carefully review the terms of the applicable lease. Most leases do not permit the use of force majeure to excuse monetary obligations, including the payment of rent. However, some leases permit tenants to abate rent and/or terminate the lease if the tenant is unable to access the leased premises under certain circumstances (primarily as a result of casualty or condemnation, but sometimes due to interruptions in utilities and other causes). Again, each lease must be carefully reviewed for its specific meaning and import.
Unless ordered to do so by governmental action, landlords should refrain from directly prohibiting tenants from operating from their leased premises. The tenant would likely have a much stronger case for nonpayment if the landlord prohibits, or interferes with, its tenant from operating.
5. Impossibility of Performance. Mandated government closures may require landlords to shut their facilities, thereby preventing tenants from accessing their premises. Leases often include rights for the tenant to access their premises on a 24/7 basis and such orders may make it impossible for the landlord to satisfy these obligations. As noted above, force majeure clauses may apply to the benefit of landlords. In cases where the lease does not expressly include a force majeure clause, the concept of impossibility of performance may further provide some protection to landlords. We note that the laws on impossibility of performance vary by state but may also offer protection for tenants and should be invoked carefully.
6. Creative Approaches. Most commercial leases clearly exclude payment obligations of the tenant from the definition of force majeure. While some tenants have announced closures and plans to withhold rent, other landlords and tenants are seeking more creative approaches that would provide short term relief, but avoid placing the entire burden on the landlord. These include:
Rent Holiday - Deferred payment of rent for a short period (e.g. 1 to 3 months). Tenant could repay the deferred amount by spreading out smaller payments during the remainder of the lease term. Alternatively, the lease term could be extended for the same length as the rent holiday and tenant could repay the deferred amount at the end of the extended lease term.
Rent Reduction - Payment of reduced rent for a short period. The reduced rental amount could also be repaid by the tenant in the same manner as described for a rent holiday.
CAM Only Payments - Payment of only tenant’s share of common expenses, taxes and insurance for a short period with no payment of base rent.
Security Deposit Application - Application of tenant’s security deposit toward upcoming rent payments without a requirement to replenish the security deposit until the crisis abates.
Guaranties - Deferred payment of rent in exchange for a guaranty of payment in the future.
7. Insurance. Landlords need to consult their insurance advisors and review the specific terms of their policies. Much has been written about the inapplicability of business interruption insurance and rent loss insurance to pandemic outbreaks and the topic is beyond the scope of this summary. However, certain states are considering passing legislation expressly prohibiting insurers from denying claims relating to the pandemic. Such legislation may be subjected to litigation delaying implementation.
8. Tolling Critical Dates. In response to the public health need for social distancing, municipalities are closing functions and limiting staff to only essential services. This has brought the permitting and entitlement process to a standstill in many areas. Moreover, these closures have made it difficult to obtain searches of government records for due diligence purposes. While force majeure provisions likely apply, landlords should be sure to comply with lease provisions requiring notice to tenants of such circumstances. Critical lease deadlines may include:
Due Diligence Periods
Delivery of Possession; Build-Out and Completion Deadlines
9. New Lease Negotiations. With respect to ongoing negotiations of new leases, drafters should discuss with landlords whether they desire to specifically make reference to pandemics as a force majeure event for the benefit of landlords. (Clearly, tenants would request corresponding protections). As this pandemic crises continues, tenants will likely seek relief in the future for similar circumstances and landlords will need to develop responses to these requests, in conjunction with their lenders.
10. Consistency. Landlords, particularly those with multiple locations and many tenants, should try to be as consistent as possible (understanding that various municipalities have adopted differing approaches) when communicating with tenants and attempting to address tenant concerns.
The issues described above are by no means meant to be an exhaustive list. Regardless of the issue, clear and consistent communication is essential for landlords with both lenders and tenants alike.