Elected leaders from Boston, Los Angeles, Minneapolis, New York City, Philadelphia, Portland, San Francisco, and Seattle have called on governors, federal legislators and the Trump administration to provide some measure of relief for tenants and homeowners on their residential and commercial rent and mortgage payments, some going so far as to suggest mandated rent abatement. And while New Orleans has halted all eviction proceedings and foreclosures, it remains uncertain what legal relief will be available after this crisis subsides and past rent remains due. Landlords would be ill-advised to take a hard line approach to tenant defaults because it could be six months or more before court intervention is even feasible and it's anyone's guess what the posture of courts will be under the circumstances.
Rent Deferment vs. Rent Abatement
Many tenants simply do not currently have the income stream to meet their rent payment obligations. In a recent survey of real estate professionals, most expect at least some of their tenants to seek rent reduction or relief this month due to the COVID-19 and are likewise employing a number of strategies to work with them on the issue. This relief usually takes the form of a rent abatement or a rent deferment.
One option for landlords to consider is to abate rent for the period of time that a tenant is unable to operate its business due to government-mandated “stay-at-home” orders or the like, with the tenant having no obligation to repay the abated sum, unless it otherwise defaults under the terms of the lease.
This form of relief may be more appropriate for tenants for whom repayment would, as a practical matter, be impossible even after the virus subsides and normal business operations resume. Businesses like restaurants and retail outlets that have tight profit margins fall squarely within this category. For these businesses, one or two months of abated rent may go a long way towards withstanding these unprecedented times and re-opening for business once governments lift their orders mandating closures. Regardless, each business should be considered on a case by case basis. If the likelihood that the business' operations will not return to normal even after the orders are lifted, due to prior financial distress or other circumstances, rent abatement might just prolong the inevitable.
On the other hand, relief in the form of rent deferment requires the landlord and tenant to negotiate not only the period of time during which rent will be deferred, but also the period of time that the tenant will have after the deferment period to repay the deferred amount. To the extent possible, the frequency of repayment (e.g., monthly, bi-monthly, or in one lump-sum), and whether interest will be charged on the deferred amount, should be agreed upon in writing at the outset. Whether the rent abatement or rent deferment approach is selected, landlords should set clear expectations with respect to the following:
- How much rent is being abated or deferred? In some cases, landlords may feel the need to abate or defer 100% of rent payable, while other landlords may feel comfortable abating or deferring 50% or some other percentage of the rent payable. A combination of abatement and deferral is also an option.
- In the context of a triple-net lease, what rental obligations are being abated or deferred? While a landlord may be amenable to an abatement or deferment of fixed, minimum base rent, it may not be amenable to extending the same relief to a tenant's obligations with common-area expenses, taxes, or insurance, as the landlord will need to continue to keep its property in a good and safe condition, pay its property taxes, and keep its buildings and other improvements insured (whether or not its tenants are open for business).
- What remedies are available if there is a separate and distinct default by the tenant under the lease during the period that rent is being abated or deferred? What remedies are available if, in the context of a rent deferment arrangement, a tenant fails to make any regularly scheduled repayment installment? Most landlords will want to include some sort of option to accelerate the sums abated or deferred, if nothing else as a continued incentive to its tenant to remain current on its overall lease obligations.
In the event a landlord agrees to abate or defer the payment of rent, to what extent can a landlord rely upon a security deposit to make itself whole? The answer to this question depends in large part on the language of the lease. Many leases provide that a landlord may draw upon a security deposit in the event that the landlord incurs costs to cure a tenant default. In these situations, landlords should take caution in drawing upon a security deposit, particularly if the agreement reached with a tenant does not characterize the tenant's payment of a lesser amount of rent (or, in the case of a complete rent abatement, tenant's option not to pay any rental amounts at all) as a payment default acknowledged, but waived, by landlord. If the Landlord does intend to use the Security Deposit to cure the default, make sure the Lease is amended to provide for such draw and any requirement that the tenant replenish the security deposit in the future.
Ratification of Lease Terms
In exchange for providing relief, commercial landlords should consider whether to require a commercial tenant to ratify the terms of a lease and acknowledge that no default by the landlord currently exists under the lease. While it is vitally important that we, as an industry, find creative and practical solutions to help both landlords and tenants weather this storm, the relief requested in many instances is substantial, and, accordingly, landlords should use the relief provided to protect themselves from future claims by tenants.
Business Interruption Insurance
A common requirement in many Louisiana commercial leases (due to Hurricane Katrina) is the requirement for the tenant to procure a business interruption insurance policy (BI). But both landlord and tenants are stunned to find out that insurance companies have deemed such losses as uncovered because COVID-19 is not accompanied by the type of physical damage required to file a successful claim, and/or the policy contained exclusions for losses in connection with viruses that they assert are ironclad. The legality of such denials is not, however, as certain as insurance companies would have insureds believe. At a minimum Landlords should require tenants to file a claim under their BI policy to protect their rights in the future and this should be made as a precondition to receiving rent abatement or rent deferral.
Finally, and perhaps most importantly, landlords should ensure that the agreement for relief reached with their tenants is reduced to writing and otherwise complies with the terms of the lease. Most Lease agreements require that amendments must be in writing and signed by all parties to the Lease. An email between the landlord and tenant setting forth the changes will most likely not suffice. Whether in the form of an amendment, letter, or other instrument, there are several major documentation goals that landlords should keep in mind:
- Any relief agreed upon with your tenant should be reduced to writing, and that writing should be signed by both landlord and tenant. If a landlord desires to deliver its terms to its tenant in a letter, that letter should, at a minimum, (i) provide a space for tenant to sign, acknowledging its agreement to the terms of the letter, and (ii) include a time period by which landlord will require tenant to acknowledge and return the letter (e.g., tenant must sign and return the letter within two business days after receipt thereof).
- The letter should include clear integration language, providing that any prior discussions, negotiations, or understandings, either oral or written, have been reduced to what is set forth within the four corners of the letter.
- Landlords should review the notice provisions of each lease carefully to ensure that any documentation is delivered in strict compliance with what the lease provides. For many leases, electronic delivery of notices is not an option; this would not prohibit the delivery of a courtesy notice by e-mail, but landlords should nonetheless deliver any letter or other documentation by whatever means is required by the terms of the lease. Please note, however, that this requirement should be distinguished from what the letter provides as a means of acceptance. It is prudent for a landlord to include language within the letter or other documentation providing that the tenant's acknowledgment may be returned to landlord via e-mail; while that does not alleviate any hassle with respect to the initial delivery of the letter, it surely creates a more efficient means to ensure that tenant's acceptance of your offer of relief is secured in a timely fashion.
- Landlords should include a requirement that Tenants file a proof of loss under any available BI policy and provide evidence of such claim.
- Finally, landlords should consider adding language prohibiting tenant from sharing the existence, terms, amount, conditions, provisions, and details of any agreement for relief with other tenants. While it is the case that the current crisis has permeated every corner of society, landlords will want to do their best to address these requests for relief on a case-by-case basis, and do not want to lose leverage with one tenant based on the deal they negotiated with that tenant's neighbor the day before.
Similar to the Letter of Intent (LOI) that is signed by the parties prior to the original draft of a commercial lease, preparing a simple LOI for your attorney to reduce the lease modification to writing is the most cost efficient way to ensure your rights and remedies under the commercial lease remain intact.