introduction to real estate distressed leases: negotiations

Klehr, Harrison, Harvey, Branzburg & Ellers LLP 260 S. Broad Street • Philadelphia, PA 19102-5003 • Tel: 215.568.6060 • Fax: 215.568.6603 • www.klehr.com Copyright © 2008, Gregory G. Gosfield. All Rights Reserved. PHIL1 806808-2 11/12/2009 10:11 AM Introduction to Real Estate Distressed Leases

INTRODUCTION TO

REAL ESTATE DISTRESSED LEASES:

NEGOTIATIONS, RESTRUCTURINGS AND

TERMINATIONS

Gregory G. Gosfield, Esq. Klehr, Harrison, Harvey, Branzburg & Ellers LLP 260 S. Broad Street • Philadelphia, PA 19102-5003 • Tel: 215.569.4164 • Fax: 215.568.6603 [email protected]

I. INTRODUCTION

Consensual restructuring of a lease occurs when one of the parties seeks a privilege which is not addressed in the agreement. For example, if a marginally profitable tenant is being acquired by a private equity fund, the tenant may need landlord to consent to the assignment of the lease as an asset or to the change of ownership, control and management of the tenant in an assignment of the securities. In the case of a troubled commercial property, a prospective purchaser may need the consent of tenants to reconfigure the common areas to allow more occupancy, or to introduce an occupant who would otherwise violate use restrictions. Alternatively, restructuring may arise from conflicts between the parties, or the failure of the location to provide the anticipated benefits. Some disputes may arise from sight-specific issues such as inconvenient location, insufficient parking, poor views or site lines, exposure to disturbing weather or environmental hazards. Disputes may arise due to changes in the financial wherewithal of either party, changes in the marketplace, or changes in other circumstances, such as a tenant’s need to move or a landlord’s need to reposition the development of the location. The parties will instigate disputes with the goal either to terminate the moving party’s obligations or to compel the adverse party to perform its obligations to pay or work, or to consent to change. In some instances, the change is consensual and worked out through agreement. In other instances it is compelled by commercial litigation or bankruptcy. This paper will address some of the alternative responses to resolving those troubles.

II. DEFAULTS

A. Classes and Grades of Disputes.

Though at a very simple level disputes will arise when one parties desires or expectations are thwarted, in lease agreements the disputes can be classified in several ways. The most obvious and usually the only ones considered, are those based on defaults. Parties usually classify defaults as payment or performance defaults, and provide notice and cure periods according to the grade of the default. There can also be disputes arising from tortious actions, such as interference by one party with the other party’s business relationships, misconduct outside of the lease agreement such as one party instigating the misconduct of the other party’s competitor, or breach of statutory standards such as one party violating state fair business practice requirements or perpetrating a crime against the other party. Even among lease agreement defaults there are subclassifications for those that are considered willful and usually are not qualified for notice or cure periods, such as an assignment in violation of the contract provisions. There may be some that are considered within the knowledge and control of a party and therefore may be entitled to a cure period but not a pre-conditional notice, such a becoming subject to a bankruptcy or insolvency proceedings. There may be some that may not necessarily be within the knowledge and control of a party, but in allocating risk, the aggrieved party will not be further impaired by a requirement to provide notice of the default, such as a failure to pay rent, which may be subject to a cure period but no notice. Even if a default or dispute arises, there may be gradations that define the remedies. For example, a diminimus or unintentional default such as failing to provide the other party with a required notice of change of insurance carrier may not entitle the other party to extreme remedies such as termination. On the other hand, an event which results in a material adverse change or effect to a party may by itself be a default, whether willful or even outside the reasonable control of the party. A fundamental

PHIL1 806808-2 11/12/2009 10:11 AM Introduction to Real Estate Distressed Leases

change in a party, even if not a material adverse change, would also be considered appropriate as an event of default without a notice or cure period.

B. Contract Principles Not Fully Applicable to Lease Law.

A lease is recognized as composed of both contract rights and real property rights. Therefore, one would reasonably expect that all of the issues relating to contract terms would as well apply to lease contracts: breaches of promises to pay money, breaches of promises to perform acts, breaches of representations and warranties, breaches of conditions precedent and subsequent, breaches to defend and hold harmless. But the correspondence between the lease and the contract is not a perfect match. In some instances, there are contractual concepts related to default that have not yet been imported successfully into lease law.

1. Independent Covenants. For example, the concept of independent covenants remains deeply embedded in lease law. The doctrine of dependence-of-promises proposes that when two parties have made significant reciprocal inducing covenants, then failure to perform one party’s covenant provides the other party a defense to perform its reciprocal covenant.1 If the covenants are independent, the breach by one party has no effect on the obligation of the other party. As a drafting rule, covenants are deemed dependent unless the contract expressly provides otherwise.2 In the context of a lease, one respected commentator has posited that the independent nature of lease covenants has been one of its key distinctions when compared to contract.3 Thus, the ancient common law rule has been that the rent obligation for land continues after the destruction of a building. The basis of the theory was that because rent is derived from the issues out of the land, as long as the tenant continues to lease land, then the

1 RESTATEMENT (SECOND) OF PROPERTY, Landlord & Tenant § 7.1 (1977): § 7.1 Nonperformance of Landlord’s Promise – Remedies Available. Except to the extent the parties to a lease validly agree otherwise, if the landlord fails to perform a valid promise contained in the lease to do, or to refrain from doing, something on the leased property or elsewhere, and as a consequence thereof, the tenant is deprived of a significant inducement to the making of the lease, and if the landlord does not perform his promise within a reasonable period of time after being requested to do so, the tenant may:

(1) terminate the lease in the manner prescribed in § 10.1 and recover damages to the extent prescribed in § 10.2; or

(2) continue the lease and obtain appropriate equitable and legal relief, including: (a) the recovery of damages to the extent prescribed in § 10.2; (b) an abatement of the rent to the extent prescribed in § 11.1; (c) the use of the rent to perform the landlord’s promise to the extent prescribed

in § 11.2; and (d) the withholding of the rent in the manner and to the extent prescribed in

§ 11.3 until the landlord performs his promise. 2 “Absent a contrary agreement, the tenant’s obligations were not independent of the landlord’s promise under the noncompetition clause. When a noncompetition clause is breached by the landlord, a tenant may abate the rent in an amount proportionate to the rent which the fair rental value, after the landlord’s breach, bears to the fair rental value prior to the breach. It is permitted until the default is eliminated or the lease is terminated. Other remedies include termination, damages, use of the rent to perform the landlord’s promise and withholding rent.” Teodori v. Warner, 415 A. 2d 31, 35 (Pa 1980). 3 “The rule that covenants in a lease are independent, rather than mutually dependent, can hardly be overemphasized. It is the distinguishing feature between lease and contract.” FRIEDMAN ON LEASES, §1.2.2, pages 1-17 (5th Ed.).

PHIL1 806808-2 11/12/2009 10:11 AM 2 Introduction to Real Estate Distressed Leases

subject of the lease continues. But the common law has been evolving from an agriculturally based economy, and by contrast, in the case of the lease of a building and not the land, at least one authority concludes that under common law the rent obligation is excused upon destruction of the building.4 If the parties do not expressly address the issue of dependent covenants, they can be deemed to apply to the lease. This is also the policy of a minority of jurisdictions.5

2. Anticipatory Breach. Another contract doctrine that parties have sought to import but which has not yet enjoyed great traction is anticipatory breach. 6 7

3. Mitigation of Damages. A third contract principle which is making incursions is the duty to mitigate damages upon acceleration of rent (discussed below).

4. Forfeiture. Another example of the cross-over of contract law concepts into lease law is the adoption of the principle of forfeiture. Forfeiture or termination of the estate before its maturity is an extreme result and one not lightly approved by courts.8 Immaterial breaches of a lease will not support forfeiture, and accordingly, a landlord will not be able to eject a tenant where the breach was immaterial, nor will a tenant claim a right of termination of the lease.9 Material breaches by the landlord or the tenant could provide grounds for ejectment or termination of the lease. The breaches in the following cases have been held to constitute grounds for forfeiture and ejectment:

a. Failure to pay rent.10

b. Tenant disclaimer of Landlord’s title.11

4 “In the case, on the other hand, of the lease of a building alone, without the land, or of merely certain rooms in or parts of a building, if the building, or the part thereof which is the subject of the lease, is destroyed, it has been usually held in this country that nothing remains from which the rent can issue, and that consequently the liability therefore immediately ceases.” (footnotes omitted) Tiffany §905, page 569. 5 “In this case, we abandon the common-law rule of independent covenants in commercial leases in favor of the modern rule of mutually dependent covenants as reflected in the Restatement (Second) of Property (Landlord and Tenant) §7.1 (1977). In applying the rule of mutually dependent covenants to the facts present in this case, we conclude that a landlord’s failure to keep the roof of his building in good repair deprived the tenant of a substantial benefit significant to the purpose for which the lease was entered. Consequently, the tenant had the right to terminate the lease and recover reasonable relocation costs.” Wesson v. Leone Enterprises, Inc, 774 N.E. 2d, 611,613 (Mass. 2002). 6 2401 Pennsylvania Avenue Corp. v. Federation of Jewish Agencies, 319 Pa. Super. 228, 466 A.2d 132 (1983), aff’d, 507 Pa. 166, 489 A.2d 733 (1984). 7 In 2401 Pennsylvania Avenue the court found no anticipatory repudiation by tenant where no proof that (1) the tenant disavowed the lease; (2) the tenant repudiated its duties under the lease; (3) the tenant absolutely and unequivocally refused to perform; (4) the lease contained an obligation for Tenant to occupy the premises; and (5) the existence of an implied-in-law duty for Tenant to occupy the premises. 8 Barraclough v. Atlantic Refining Company, 230 Pa. Super. 276, 326 A.2d 477 (1974) “when a party has honestly and faithfully performed all material elements of its obligation under a contract, but has failed to fulfill certain technical obligations, causing no serious detriment to the other party, it would be odious and inequitable to compel forfeiture of the entire contract.” 9 See Barraclouqh v. Atlantic Refining Company, supra (accidental payment of rent to bank previously, holding satisfied mortgage instead of to Landlord did not justify eviction since breach was a minor technical breach and Tenant attempted to remedy its error) Brown v. Brown, 164 Pa. Super; 350, 64 A.2d 506 (1949) (inadvertent and unintentional failure. to sign rent check could not work forfeiture). 10 Burgess v. Cleary, 153 Pa. Super. 566, 34 A.2d 265 (1943); Rostan v. Chookagian, 69 Pa. D&C 2d 255 (1974).


c. Violation of restrictions on assignment or subletting.12

d. Violation of restriction on alterations.13

e. Violation of restriction against removal of personal property14

C. Lease Law Principles Not Applicable to Contract Law.

But not only is lease law in some instances narrower than general contract law, in other instances it is broader having generated from a different source and evolved to solve different problems. The practitioner should also remain aware of real property issues, special to leases and unimagined by contract law, can be implicated as sources of disputes, and they usually revolve around issues of possession.

1. Tenant Defaults. A tenant may be in default for failure to take possession, for failure to remain in possession, for a prohibit transfer of possession by assignment or subletting, for a surrender of possession, or for a failure to timely surrender possession. The remedies are different based on the violation.

a. Failure to Take Possession. A tenant who fails to take possession is usually liable for damages, not for accelerated rent, under the principle of interesse termini15. This is a tenurial concept based on the unity of tenancy and possession, though its force has been eroded by developing case law. Under that principle the tenant may have the right to an estate, but because it lacks possession from the holder of the estate, it is not entitled to quiet enjoyment, and can be terminated without being deemed evicted.16 It may be based on the expectation that an absentee tenant cannot expect the landlord or third parties to respect the existence and continuation of its estate.

b. Failure to Retain Possession. A tenant who fails to remain in possession may be subject to various claims for failure to continuously operate. This can be a very serious problem in a retail property if rent is pegged to a percentage of revenue, or if other leases have co-tenancy conditions and can be terminated if the tenant in question is out of possession. An absence of possession can presage other breaches including a risk that the tenant

11 Jones v. Stiffler, 137 Pa. Super. 133, 8 A.2d 455 (1939) 12 O’Brien v. Bunn, .5 Pa. D&C 552 (1924). 13 Goenner V. Glumicich, 81 Pa. Super. 521 (1923). 14 Waldman v. Baer, 81 Pa. super. 390 (1923). 15 In all likelihood this was because at common law a lessee who had not entered into possession was not thought to have an estate in land. Rather, such a lessee was said to have an ‘interesse termini’, or an interest in a term. Co. Lit. 46b; 2 Blackstone, Commentaries *144. Soffer v. Beech, 409 A.2d 337, 341 (Pa. 1977). 16 Because no livery of seisin is necessary to a lease for years, such lessee is not said to be seised, or to have true legal seisin of the lands. Nor indeed does the bare lease vest any estate in lessee; but only gives him a right of entry on the tenement, which right is called his interest in the term, or interesse termini: but when he has actually so entered, and thereby accepted the grant, the estate is then, and not before, vested in him, and he is possessed, not properly of the land, but of the term of years; the possession or seisin of the land remaining still in him who hath the freehold. 2 WILLIAM BLACKSTONE, COMMENTARIES *144.


will permit waste to occur to the estate, or that the improvements will be uninsurable because of the vacancy.

c. Abandonment or Surrender of Possession. Vacating by the tenant may or may not be abandonment or surrender. Abandonment implies the tenant has forsaken the estate. To establish an abandonment there must be found (1) an intention to abandon and (2) conduct by which the intention is carried into effect.17 It is generally assumed that the landlord bears the burden of proof to establish abandonment. Where abandonment is found, the landlord can repossess property and exclude the tenant.18 Surrender implies that the tenant has returned the estate to the landlord19, If the landlord accepts the surrender, then the leasehold estate is terminated along with tenant’s continuing obligation to pay rent.

d. Failure to Return Possession. If the tenant refuses to give possession after the leasehold is terminated, then it may be either a trespasser, a tenant at sufferance or at will, or a renewal tenant.

2. Landlord Defaults. As with the framework to an analysis of a tenant default, all of the incidents of a breach of contract would apply to the landlord. And as with the tenant analysis, the significant distinguishing elements of landlord default are those that apply to the unique nature of the real property right, the right of possession. So a landlord defaults for failures to provide possession or to sustain the right of possession.

a. Failure to Provide Possession with Quiet Enjoyment. The concept of tenure dates back to Norman military feudalism. The grants of tenure reinforced the vassal’s fealty and submission. The force of arms that won the right to the land remained a dominant force in qualifying the relationship between the feudal king and his barons, at least as long as there were threats of war which could only be met by a volunteer army. And similarly, the duty of the barons to their tenants, and them to theirs, was that the lord of the tenant had the duty to preserve the quiet possession of the land for those holding from the lord. The tenant’s hold of the land, his tenure, from his lord was founded on the fealty of lord to tenant and the duty to render in return by the tenant to his lord. Royal feudal practice from the time of the Conquest allowed the enfeiffed holder, as tenant, to hold his feudal interest in the land with the exclusive lifetime right for occupancy and to benefit from its issues and profits. The right of tenure was conditioned on complicated rules relating to the type of rent rendered by the tenant, whether military service by knights (chivalry), spiritual service by clergy (frankalmoign), personal service by the King’s retinue (serjeanty), or economic service by freeholders (socage which later became fixed rent).20 However, at the same time, underlying Anglo-Saxon leases perpetuated

17 Turnway Corporation, supra; Eckel v. Eiswerth, 371 Pa. 490, 92 A.2d 1974 (1952). 18 Id. 19 Foureal Company v. National Molding Corp., 344 N.Y.S. 2d 598 (1973) in response to landlord’s allegation that it had the right to terminate the lease because the tenant had vacated or deserted the demised premises, the court held as a matter of law that where the tenant moved out of the leased premises, but continued to pay rent, kept the location under lock and key, and maintained trade fixtures at the leased premises, the tenant had not vacated the leased premises and therefore the landlord was not entitled to recover possession. Reeves v. McComeskey, 32 A. 96 (1895). 20 Tiffany, THE LAW OF REAL PROPERTY at Sections 12 and 13.


multi-generational rights which ultimately changed into perpetual rights21. The principles of quiet enjoyment, quiet possession, and non-disturbance all flow from the same spring.22 The concepts of quiet enjoyment and quiet possession are so intrinsic to the meaning of the property rights of possession that a number of jurisdictions have held them to be self-evident covenants, implicit if not explicit.23 The breach of the right of quiet enjoyment, whether it is considered a covenant or a warranty, is not conditioned on an absolute deprivation, but a substantial decrease in the tenant’s enjoyment of the premises due to landlord’s acts or omission.24

b. Failure to Sustain Tenant’s Possession. The dispossession of the tenant by landlord, whether direct or indirect, is eviction. Blatant eviction was a termination of the lease. But where the lease was silent on rent abatement, and the tenant lost the use of the premises, in some jurisdictions, the tenant had to argue that it has been constructively evicted from the space to avoid liability for rent.25 Conduct that does not result in the actual eviction of the Tenant from the leased premises does not constitute a constructive eviction.26 The tenant must prove the acts of landlord caused the tenant to be prevented from using the premises. If the landlord is not the cause27 or the tenant has not actually abandoned the premises28, there is no eviction.

21 “The late Saxon leases had been granted for three lives only and the lines of inheritance specified in some of Oswald’s leases (those made in favour of members of his own family) were varied, not necessarily allowing the land to pass from father to son. The post-Conquest fiefs seem to have been heritable so that the lands became, in Bloch’s phrase, ‘the patrimony of the vassal’.” Christopher Dyer, LORDS AND PEASANTS IN A CHANGING SOCIETY: THE ESTATES OF THE BISHOP OF WORCESTER, 680-1540 (1980) at 48. 22…Oxford English Dictionary, “Disturb, 3. b. Law To deprive of the peaceful enjoyment or possession of. See Disturbance 4. *** [1292 Britton II., xxv. Section i. Ceux qi de commune sount engittez ou destourbez. transl. Those who are ejected or disturbed of their common.” “ “…A person is likewise disseised from the time that he or his family is disturbed in the enjoyment of his peaceable seisin by another, who by such disturbances claims freehold therein, either as to the whole or part, and either in the principal or in the appurtenances.*** So likewise is he disseised, who is disturbed in such manner that he cannot freely enter into his fee and distrain for arrears of services due from the tenement, of which services the lord has been seised.*** A person is also disseised at what time another disturbs and deforces him of his freehold, and does not deliver it up after our command to deliver it.” Francis Morgan Nichols M.A., BRITTON: THE FRENCH TEXT CAREFULLY REVISED WITH AN ENGLISH TRANSLATION INTRODUCTION AND NOTES, (1865), Ch. XI, Sections 6,7. See also “The writ forbidding a lord unjustly to vex his tenant. “The king to S., greeting. I prohibit you from unjustly vexing H., or permitting him to be vexed, in respect of his free tenement which he holds of you in such-and-such a will, or from demanding, or allowing to be demanded, customs and services which he is not bound to do for you, or which his ancestor neither did nor were bound to do in the time of King Henry my grandfather. If you do not do this the sheriff will, that he need no longer complain for default of justice in this matter. Witness, etc.” GLANVILL at Ch. XII, Section 10, page 141. 23 “There is an implied covenant of quiet enjoyment in every lease of real property. The covenant is between lessor and lessee. Any wrongful act of the lessor that interferes with the lessee’s possession, in whole or in part, is a breach of the covenant of quiet enjoyment.” Branish v. NHP Property Management, Inc., 694 A.2d 1106, 1107 (Pa. Super. 1997). 24 Checker Oil Co. v. Harold H. Hogg, Inc., 251 Pa. Super. 351, .380 A.2d 815 (1977). 25 Walnut-Juniper Co. v. McKee, Bereer & Mansueto, Inc., 236 Pa. Super. 1, 344 A.2d 549 (1975). 26 Chelten Ave. Bldg. Corp. v. Mayer, 316 Pa. 228, 172 A. 675 (1934). 27 It is unclear whether a Tenant may argue constructive eviction based on the actions of other tenants. The cases throughout the country are split on the issue, see Friedman, §29.301, and Pennsylvania case law, is no exception. See Kuriger v. Cramer, supra (actions of third parties may form basis for claim); Lott v. Guiden, 113 P.L.J. 175,


D. Remedies

1. Tenant Default. Landlord’s traditional real estate remedies for breach of the lease contract were to either terminate the lease and tenant’s right to exclusive possession, or accelerate rent and preserve tenant’s right of possession, or re-enter and accelerate rent while attempting to re-let the premises on tenant’s behalf. A Landlord must carefully consider the remedy it chooses to exercise. Depending on the jurisdiction, after a landlord has elected to deem the tenant either as a holdover or as a trespasser, the landlord can not change that election.29

a. Lease Termination.

(i) Trespass. The landlord can characterize the tenant as a trespasser and have him removed by the sheriff or police as any trespasser would. The tenant would be liable for damages which could include: the value of space during the possession and rent accrued to the time of ejectment.30, or rent during the period between the termination of the lease and the time the landlord elects to treat the tenant as trespasser31, then the recovery against the trespasser would be “damages” not “rent.”32 ;the loss to landlord of the ability to improve the space and engage a new long term tenant; the loss of “mesne profits”;33 damages to the land by waste or otherwise; and, consequential damages related to landlord liability to third parties, such as the new tenant who has been delayed and displaced during the trespass, landlord’s lender who may require additional collateral or default the mortgage loan due to the failure to install the new higher rent-paying tenant timely.

(ii) Tenant at Will. In most jurisdictions, a landlord can deem the tenant to be a tenant at will or at sufferance. Essentially they tenant remains in possession on a month to month basis with all of the attendant real property rights and duties of a tenant: for example, rights to quiet enjoyment and duty to prevent waste.

(iii) Hold Over. The landlord can deem the tenant a holdover tenant who extends the maturity date of the current lease under all of its terms and provisions. 34

b. Rent Acceleration Depending on the jurisdiction, acceleration of rent clauses can be valid and enforceable. But they are frequently viewed as a penalty in favor of the landlord, rather than a true payment of declared rent. Some states allow landlords to sue for

aff'd, 205 Pa. super 519, 211 A.2d 72 (1965) (actions of third party may not form basis for claim); Nadler v. Hatton, 16 Beaver 164 (1954) (actions by third parties may not form basis for claim). 28 See Kuriger v. Cramer, 345 Pa, Super. 595, 498 A.2d 1331 (1985) (no constructive eviction where Tenant remained in possession and withheld rent); Lindstrom v. Pennswood Village, 612 A.2d 1048, 1052 (Pa. Super 1992) re-iterating Kruger test for constructive eviction, but omitting intent. 29 Emery v. Metsner, 191 Pa. Super. 440, 442, 156 A.2d ,627, 631,(1.959). 30 Mack v. Fennell, 195 Pa. Super. 501, 171 A.2d 844 (1988). 31 Mack v. Fennell, supra. 32 Williams v. Ladew, 171 Pa. 369, 33 A. 329 (1895); Mack v Fennell, 195 Pa, Super. 501, 171 A.2d 844:(1968). 33 Doyle v. Goldman, 407 Pa. 269, 180 A. 2d 521 (1979), aff’d, 496 Pa. 336, 437 A. 2d 381 (1981) 34 See, Pittsburgh v. Charles Zubik & Sons, Inc., 404 Pa. 219, 223, 171 A.2d 776, 778 (1961); Kaplan v. Bankers Securities Corp., 340 Pa. Super. 579, 583, 490 A.2d 932, 935 (1985).


rent installments as they come due35 but not acceleration.36 Such clauses are not, however, self- operative and the landlord must exercise them to be effective.37 Re-entry In many jurisdictions, upon default, if the lease provides, the Landlord can accelerate for future rent accruing under the lease or eject the Tenant, but not both38. The theory is that if rent is accelerated, then the tenant has paid for the right of possession, on the other hand, if the tenant is dispossessed, then it has no duty to pay rent because rent is the consideration for the right of possession.

c. Duty of Mitigation. Traditionally, the landlord was entitled to “permit the premises to remain idle and recover for the balance of the entire term.”39 But there is a duty to mitigate under contract law.40 A party cannot recover damages from a defaulting defendant which could have been avoided by the exercise of reasonable care and effort is applicable to all types of contracts.41 Different jurisdiction have different requirements about the duty to mitigate.42 Some states expressly reject the duty to mitigate.43 Some states impose a

35 Cal. Civ. Code § 1951.4; Fla. Stat. Ann. § 83.595(1)(c); Vt. Stat. Ann. tit. 9 § 4462(b); Pennsylvania – Onal v. BP Amoco Corporation, 275 F.Supp.2d 650 (E.D. Pa. 2003); Alabama – Bowdin Square, L.L.C. v. Winn-Dixie Montgomery, Inc., 873 So.2d 1091 (Ala. 2003); Weingarten/Arkansas, Inc. v. ABC Interstate Theaters, Inc., 306 Ark. 64, 811 S.W.2d 295 (1991); Kimber v. Towne Hills Development Co., 156 Ga. App. 401, 274 S.E. 2d 620 (1980); Lamb v. Decatur Federal Savings & Loan Association, 201 Ga. App. 583, 411 S.E. 2d 527, motion for reconsideration denied, 201 Ga. App. at 587, 411 S.E. 2d 531 (1991). CB Institutional Fund VIII v. Gemballa U.S.A., Inc., 566 So.2d 896 (Fla. Dist. Ct. App. 4th Dist. 1990). in the absence of a clause providing for accelerated rent, rent is only available in installments – National Advertising Co. v. Main Street Shopping Center, 539 So.2d 594 (Fla. Dist. Ct. App. 2d Dist. 1982) 36 Peterson v. P.C. Towers, L.P., 206 Ga. App. 591, 426 S.E.2d 243 (1992). accelerated rent provisions within leases are area permitting and not valid liquidated damages unless (1) the injury caused by breach of the lease is difficult or impossible to estimate accurately, (2) the parties intend to provide for damages rather than a penalty, and (3) the stipulated sum is a reasonable pre-estimate of the landlord's probable loss; however, if these requirements are not met, then the accelerated rent provision fails as a penalty. States holding that rent acceleration is enforceable: where amount reflects what landlord could expect to suffer, but must use present value – HealthSouth Rehabilitation Corp. v. Falcon Management Co., 799 So.2d 177 (Ala. 2001); Aurora Business Park Associates, L.P. v. Michael Albert, Inc., 548 N.W.2d 153 (Iowa 1996). Parrish v. Toth, 553 N.E.2d 369 (Ind. Ct. App. 3d Dist. 1990); Landlord may recover present worth of future rent less present worth of reasonable rental value of premises – Emrich v. Joyce’s Submarine Sandwiches, Inc., 751 P.2d 651 (Colo. Ct. App. 1987); Fifty States Management Corp. v. Pioneer Auto Parks, Inc., 46 N.Y.2d 573, 415 N.Y.S. 2d 800, 389 N.E.2d 113 (1979); GAB Management, Inc. v. Blumberg, 226 A.D.2d 499, 641 N.Y.S.2d 340 (2d Dep’t 1996). States holding rent acceleration as an unenforceable penalty:·– Justine Realty Co. v. American Nat. Can Co., 745 F. Supp. 1943 (E.D. Mo. 1990), judgment rev’d 976 F.2d 385 (8th Cir. 1992); if no discount to present value – Heller Financial, Inc. v. Burry, 633 F. Supp. 706 (N.D. Ill. 1986); too broad – IPC Retail Properties, L.L.C. v. Oriental Gardens, Inc., 32 Kan. App. 2d 554, 86 P.3d 543 (2004); Ricker v. Rombough, 120 Cal. App. 2d Supp. 912, 261 P2d 328 (1953). 37 See, Pierce v. Hoffshot, 211 Pa. Super. 380, 236 A.2d 828 (1967); Moretti v. Zanfino, 127 Pa. Super. 286, 193 A. 106 (1937). 38 Matovich v. Gradich, 123 Pa. Super. 355, 187. A. 65 (1936). 39 Ralph v. Deiley, 293 Pa. 90, 95, 141 A. 640, 643 (1928); General Tire & Rubber Co. v. General Tire & Sales Co., 93 Pa. Super. 173, 1975 (1927); but see Ralph v. Dailey that cautioned that “a Landlord should be reasonably diligent in securing a desirable Tenant for the best rent obtainable to minimize the first lessee’s loss.” 40 Gaylord Builders v. Richmond Metal Mfg. Corp., 186 Pa. Super. 101, 140 A.2d 358 (1958). 41 Henry_ Shrank Co. v. Erie Co., 319 Pa. 100, 109, 178 A. 662, 666 (1935). 42 Some states have no duty to mitigate: Virginia - Ten Braak v. Waffle Shops, Inc., 542 F.2d 919 (Va. Ct. App. 4th Dist. 1976); District of Columbia – Cohen v. Food Town, Inc., 207 A2d 122 (D.C. Ct. App. 1965); Alabama - Ryals v. Laney, 338 So.2d 413 (Ala. Ct. App. 1976); Illinois – Reget v. Dempsey-Tegler & Co., 70 Ill. App. 32, 216 N.E.2d 500 (1966) – no duty to mitigate, but must accept suitable subtenant if offered; Florida – Fla. Stat. Ann. § 83.595(1)(c); Vermont – Vt. Stat. Ann. tit. 9 § 4462(b); Pennsylvania – Onal v. BP Amoco Corporation, 275 F.Supp.2d 650 (E.D. Pa. 2003); New York – In re Andover Togs, Inc., 231 B.R. 521 (Bankr. S.D.N.Y. 1999).


duty only if the landlord re-enters.44 The modern view appears to be to impose a duty to mitigate, tending away from classic property principles and closer to contract law.45 The manner of the duty is also subject to different results. Some states posit that it cannot be waived46, some that it can be waived.47 If mitigation is required, states differ on whether tenant48 or the landlord has the burden of proof.49 Some objective tests of meeting the duty of mitigation include (a) putting a “For Lease” sign, (b) advertising for several month, (c) hiring a leasing broker for several months. The tenant’s position50 for mitigation is for landlord to be given the leasing risk and simply exclude from accelerated rent the fair rental value for such period. Nevertheless, for a tenant, this is not always a panacea, and sometimes is only a placebo, becauseit is hard to prove that no effort at mitigation has occurred. The tenant has the initial burden of proof of landlord’s failure to mitigate damages.

the

in matters of real estate law, concluded a duty of mitigation existed in Pennsylvania, but was

51 Ordinarily, if the tenant tenders proof, then landlord has to show it has acted appropriately to mitigate its damages.52 Symptomatic of the shifting positions, Pennsylvania’s lower court, which is usually considered more experienced

53

43 Browne v. Dugan, 189 Ark 551, 74 S.W.2d 640 (1934); Rau v. Baker, 118 Ill. App. 150 (1905); Jordan v. Nickell, 253 S.W.2d 237 (1952). 44 Welcome v. Hess, 90 Cal. 507, 2 P 369 (1891); Enoch C. Richards Co. v. Libby, 136 Me 376, 10 A2d 609 (1940); Deschenes v. Congel, 149 Vt. 579, 547 A.2d 1344 (1988). International Trust Co. v. Weeks, 203 U.S. 364, 51 L. Ed. 224 (1964); Condor Corp. v. Arlen Realty & Development Corp., 529 F.2d 87 (Minn. Ct. App. 1976); JCBC, L.L.C. v. Rollstock, Inc., 22 S.W.2d 197 (Mo. Ct. App. W.D. 2000); Circuit City Stores, Inc. v. Rockville Pike Joint Venture Ltd. Partnership, 376 Md. 331, 829 A.2d 976 (2003); McIntosh v. Gitomer, 120 A.2d 205 (Mun. Ct. App. Dist. Colo. 1956) 45 Friedman v. Colonial Oil Co., 236 Iowa 140, 18 N.W.2d 196 (1945); Lennon v. U.S. Theatre Corp., 920 F.2d 996 (D.C. Cir. 1990); Drutman Realty Co. Ltd. Partnership v. Jindo Corp., 865 F.Supp. 1093 (S.D.N.Y. 1994); In re New York City Shoes, Inc., 86 B.R. 420 (Bankr. E.D. Pa. 1988)(applying Pennsylvania law); In re Blondheim Modular Mfg., Inc., 65 B.R. 856 (Bankr. D.N.H. 1986)(applying New Hampshire law) Austin Hill Country Realty, Inc. v. Palisades Plaza, Inc., 948 S.W.2d 293, (Tex. 1997); Mar-Son, Inc. v. Terwaho Enterprises, Inc., 259 N.W.2d 289 (N.D. 1977). 46 An example of states that provide either through case law or statute that mitigation Drutman Realty Co. Ltd. Partnership v. Jindo Corp., 865 F. Supp. 1093 (S.D.N.Y. 1994); Maryland through Md. Real Prop. Code Ann. § 8- 207(d); and Texas via statute in Tex. Prop. Code Ann. §91.006(b). 47 North Carolina in Sylva Shops, Ltd. Partnership v. Hibbard, 623 S.E.2d 785 (N.C. Ct. App. 2006) and Ohio in New Towne, L.P. v. Pier 1 Imports (U.S.), Inc., 113 Ohio App. 3d 104, 680 N.E.2d 644 (6th Dist. Lucas County 1996). 48 Arizona - Stewart Title & Trust of Tucson v. Pribbeno, 129 Ariz. 15, 628 P.2d 52 (Ct. App. Div. 2 1981); California - Polster, Inc. v. Swing, 164 Cal. App. 3d 427, 210 Ca. Rptr. 567 (2d Dist. 1985);Colorado – Del E. Webb Realty and Management Co. of Colorado v. Wessbecker, 628 P.2d 114 (Colo. Ct. App. 1980); District of Columbia – Norris v. Green, 656 A.2d 282 (D.C. 1995); Georgia – Lamb v. Decatur Federal Savings & Loan Association, 201 Ga. App. 583, 411 S.E. 2d 527 (1991); Missouri – Superior Outdoor Advertising Co. Snadon, 965 S.W.2d 421 (Mo. Ct. App. S.D. 1998); Nebraska – Hillard v. Robertson, 253 Neb. 232, 570 N.W.2d 180 (1997); Hawaii – Marco Kona Warehouse v. Sharmilo, Inc., 7 Haw. App. 383, 768 P.2d 247 (1989); North Dakota – Ruud v. Larson, 392 N.W.2d 62 (N.D. 1986) – tenant has burden of proof. 49 Seventh Circuit - St. Louis North Joint Venture v. P&L Enterprises, Inc., 116 F.3d 262 (7th Cir. 1997); Iowa – J.M.Grimstad, Inc. v. Scangraphics, Inc., 539 N.W.2d 732 (Iowa Ct. App. 1995); New Jersey – McGuire v. City of New Jersey, 125 N.J. 310, 593 A.2d 309 (1991). 50 Which is adopted by some jurisdictions –check Indiana 51 In re New York City Shoes, Inc., supra. 52 Id. 53 __________________________________________________________________


overruled by the Pennsylvania Supreme Court54 which reaffirmed the traditional common law doctrine.55

d. Re-entry. So long as landlord has only reentered, and has not relet, or, relets on tenant’s behalf, the tenant can remain liable for costs.56 If the re-entry by landlord is deemed the acceptance of a tenant surrender, the landlord may have unintentionally terminated the lease and the landlord’s future right to rents.57 Careful drafting should avoid that.58 Inspection, repair, advertising and other incidents of a reletting are not of themselves a re-possession by landlord or an eviction of tenant that would discharge tenant from its duty to pay rent.59 Any rents collected from re-letting must be credited to the rental amounts owed by the defaulting Tenant, after accounting for the landlord’s expense in reletting.60

e. Confession of Judgment. This remedy is a summary action which permits entry of judgment without notice and hearing for the defendant. Some consider it a procedure which is unconstitutional on its face, and it is frequently challenged on public policy. Various jurisdictions have similar summary actions, though most do not eliminate an opportunity for notice and hearing. The action may be for either damages or for possession61 and neither one pre-empts the other. Under Pennsylvania law, a written lease or contract which authorizes a party to confess judgment must be clear and explicit. Such provisions are strictly construed.62 A confession of judgment clause will be upheld where the evidence shows that the tenant 54 Stonehedge Square Ltd. Partnership v. Movie Merchants, 714 A.2d 1082 (Pa. 1998) 55 Auer v. Penn, 99 Pa. 370 (1882). 56 Absent a specific lease provision, a landlord's right to rent and damages terminates upon termination of the lease. See generally Circuit City Stores, Inc. v. Rockville Pike Joint Venture Ltd. P'ship, 829 A.2d 976, 989 (2003). The lease provided “[N]otwithstanding any entry by [the landlord], whether by termination or otherwise, [the tenant] remained liable for and agreed to pay amounts equal to the installments of rent and other charges reserved in the lease, as if the lease had not been terminated, whether or not the premises remained vacant. If the property was re-let by [the landlord], [the tenant] would be entitled to a credit equal to the net amount of rent received by [the landlord], after deduction of all actual and reasonable expenses incurred in the re-letting, including any remodeling costs.” 57 RESTATEMENT (SECOND) OF PROPERTY, Landlord and Tenant § 12. 1, comment i (1977). 58 To achieve landlord protection for collecting rent after tenant abandonment, or even lease termination, could include the following language: “notwithstanding a termination of this Lease (i) Landlord may declare all rent which would have been due under this Lease for the balance of the term to be immediately due and payable, plus the percentage rent for the entire term, based on the average monthly percentage rent earned during the three (3) prior Lease years, immediately due and payable at once whereupon Tenant shall be obligated to pay the same to Landlord, together with all loss or damage which Landlord may sustain by reason of such termination and re-entry, or (ii) Landlord may re-let all or any part of the demised premises for a term different from that which would otherwise have constituted the balance of the term of this Lease and for rent and on terms and conditions different from those contained herein, whereupon Tenant shall immediately be obligated to pay to Landlord as liquidated damages the difference between the rent provided for herein and that provided for in any lease covering a subsequent re-letting of the demised premises, for the period which would otherwise have constituted the balance of the term of this Lease, together with all of Landlord’s costs and expenses for preparing the demised premises for re-letting, including all repairs, Tenant finish improvements, broker’s and attorney’s fees, and all loss or damage which Landlord may sustain by reason of such termination, re-entry and re-letting, it being expressly understood and agreed that the liabilities and remedies specified in clauses (i) and (ii) hereof shall survive the termination of this Lease.” 59 Wilson Laundry Co. v. Joos, 200 Pa. Super. 595, 599, 189 A.2d 917, 920 (1963). 60 Auer v. Penn, 99 Pa. 370 (1882); Fitzpatrick v. Rogers, 75 Pa, Super. 273 (1920). 61 Federman v. Pozzonyi, supra. 62 Scott Factors, Inc. v. Hartley, 228 A.2d 887 (Pa. 1967); Fourtrees Co. v. Sterling Equip. Co. 242 Pa. Super. 199, 205-206, 363 A.2d 1229, 1232 (1976).


knowingly, voluntarily and intelligently waived his due process rights and agreed to theconfession of judgment provision.

elerated

f. Self-Help

63 Confession of judgment clauses may be used for accand for back rent due, including from a holdover tenant because he is subject to the same terms and conditions of the lease as existed prior to the holdover.64

. “Self-help” usually means that action is taken without the order or co

a

g. Distress

lor of legal supervision refers to actions taken without resort to legal process. Self-help evictions are extremely difficult to implement, because if the tenant objects there is high likelihood that a landlord action over the objection of the tenant would be equivalent to a breach of the peace which is generally a criminal violation. In addition, jurisdictions generally provide that the statutory procedures pre-empt self-help, steering the landlord to seek under the applicable landlord and tenant Act and the applicable states rules of civil procedure.65

. One form of self-help developed under the extra-judicial process of dis

y of

tress. It was deemed to be a right arising in conjunction with rent service, in parallel with the feudal oath to martial or ploughing services. It entitles the holder of the reversionary interest to take personalty out of possession of the wrong-doer into the custodthe party injured, to procure a satisfaction for the wrong committed.66 In Pennsylvania, the Superior Court confirmed that distraint67 is unconstitutional. In this instance, a Pennsylvaniacourt was given the opportunity to give distraint its final rites after a series of federal court decisions had been slowly confining its power.68 The common law remedy of distraint wascodified in the Pennsylvania Landlord and Tenant Act of 1951.69 In the Allegheny case, thecourt briefly reviewed a sequence of federal court decisions which sequentially narrowed the right of distraint,

to be 70 invalidated the sales provisions of the Act for failing to provide for the

tenant’s right to prior notice and hearing; but, the other provisions of the Act were not heldunconstitutional.71 The Allegheny court pointed out that a then recent United States Supreme Court decision blurred the focus of these courts as to the constitutional issue by inducing them to

63 . Jordan v. Fox, Rothschild, O’Brien & Frankel, 20 F.3rd 1250 (CA 3 1994); Federman v. Pozzonyi, 365 Pa. Super. 24, 529 A.2d 530 (1987), citing O.H. Overmeyer Co. v. Frick Co., 405 174 (1972). 64 Charles Zubik & Sons, Inc., supra. 65 See Kuriger v. Cramer, 345 Pa. Super. 595, 607-08 n. 14, 498 A.2d 1331, 1337, n. 14 (1985); Wofford v. Vaureck 22 D&C 3d 444, 450-52 (C.C.P. Crawford 1981); Lenair v. Campbell, 31 D&C 3d 237, 242 (C.C.P. Phila. 1984). 66 2 Blackstone Com. R42. 67 provided under the Pennsylvania Landlord and Tenant Act of 1951. 68 Allegheny Clarklift, Inc. v. Woodline Industries Pennsylvania, Inc., A.2d 606 (Pa. Super. Ct. 1986). 69 Sections 250.302 through 260.404. 70 Santiago v. McElroy, 319 F.Supp. 284 (E.D. Pa. 1970). 71 In Gross v. Fox, 349 F.Supp. 1164 (E.D. Pa. 1972), reversed on other grounds, 496 F. 2d 1153 (3d Cir. 1974), the district court held that all of the distraint provisions of the Act were “unconstitutional on their face because they permit a landlord to levy on the property on a tenant’s premises without prior notice or hearing in violation of the Fourteenth Amendment’s due process clause.” (Id. at 1168); the Third Circuit’s reversal on appeal and refusal to address the constitutional issue was considered by the Allegheny court to compromise the position taken by the district court. Earlier cases were characterized as holding that no state action was present in distraint when posting and seizure was performed by a private party rather than a sheriff and, therefore, in the absence of state action, no constitutional issue emerged. SMI Industries, Inc. v. Lenard & Axilbund, Inc., 481 F.Supp. 459 (E.D.Pa. 1979) and Luria Brothers & Company, Inc. v. Allen, 452 F.Supp. 732 (W.D.Pa. 1978), reversed in part, 672 F.2d 347 (3d Cir. 1982).


avoid it when no state official is clearly involved in the procedure.72 The Allegheny court distinguished the conclusion and the effect of those other cases73 The Allegheny court concluded that the appropriate rule is that “the state having once authorized private action in conjunction with its own officials, must insure at the outset that the procedural scheme to be followed is beyond (constitutional) reproach.”.74 Based on that test, it found that the distraint provisions of the Act are invalid. Interestingly, in the absence of distraint, the power of the landlord’s lien75 in Pennsylvania may be in jeopardy as well because the landlord’s lien arises only upon distraint under the Pennsylvania Landlord and Tenant Act. Under prior law, such lien, if perfected, could take priority over a Uniform Commercial Code security interest perfected earlier.76 Similarly, the landlord’s preference in the proceeds of an execution sale may be eliminated by the abolition of distraint because the preference is based on the property taken being “liable to the distress of the landlord”77. Under prior law, that preference in distributions would be superior to an execution and sale brought by a prior perfected secured party. Thus, landlords should be wary of relying on the possible benefits of a landlord’s lien or a landlord’s preference because Pennsylvania law now condemns these creatures of statute to extinction.78

2. Landlord Default.

a. Lease Termination. Tenants retain the right of termination either upon a breach of the covenant of quiet enjoyment or upon actual or constructive eviction. In some jurisdictions there may also be rights based on theories of dependent covenants, anticipatory breach, and forfeiture

b. Offset/Setoff: The tenant has no specific common law right to reimbursement for payments made to cure landlord defaults. If the tenant has the contractual right to pay for what the landlord is obligated to perform but fails to perform, sometimes the tenant is entitled to set off, escrow, or suspend the cost against rents next due. On the one hand, this could be a direct threat to a mortgagee’s cash flow. On the other hand, if the mortgage lien absorbs the expected collateral value in a foreclosure, and if the landlord is a single purpose entity, the tenant would have no meaningful right of recovery for its expenses. Some compromise can be found if the tenant spends only on items that improve the collateral value for the mortgage and the mortgage has advance approval rights.

c. Windfall Claims. The doctrine of unjust enrichment is a doctrine used by courts to rebalance equities where no contract otherwise protects the injured party.

72 Flagg Brothers, Inc. v. Brooks 436 U.S. 149 (1978). 73 Flagg Brothers decision from that of Lugar v. Edmonson Oil Company, Inc., 457 U.S. 922 (1982), stating that Lugar interpreted and clarified Flagg Brothers by holding that “the procedural scheme created by the state statute is the product of state action”73 and thus in Lugar, the prejudgment attachment provisions of the Virginia Code were properly held to be unconstitutional. 74 Allegheny, 514 A.2d. at 609. 75 Pa. Stat. Ann. Tit. 68, §322 (1986). 76 In re Einhorn Bros., Inc., 272 F.2d 434, 440-41 (3rd Cir. 1959). 77 Pa. Stat. Ann. Tit. 68 §321 (1986). 78 As other writers have suggested before the Allegheny decision, instead of depending on these special statutory powers, the most prudent course of action for a landlord is (1) to have a provision in the lease grant a security interest in the tenant’s fixtures and inventory at the demised premises and (2) to file financing statements to perfect it.


Though in simple terms it is intended to prevent someone from wrongfully reaping a windfall paid for by the injured party, some courts, such as those in Pennsylvania, have been using it to compel innocent enriched parties to repay foolish volunteers.79 The cases are residential cases where tenants improved landlord’s property unilaterally to their own detriment. In those cases, the courts essentially wrote contracts, “quasi-contracts”, that had not previously existed.

III. VOLUNTARY LEASE TERMINATION AGREEMENTS

Both the Landlord and the Tenant may sense opportunities and benefits in an early termination agreement.

A. Landlord Advantages

Landlord advantages can cover a number of areas. Removing defaulting tenants consensually avoids the administrative effort of managing a chronically difficult landlord-tenant relationship and the legal costs for eviction. It allows a landlord greater flexibility in repositioning space for new development or higher use tenant. It can allow landlord to comply with expansion rights which other tenants may need. If the rent is below market, it can prevent a loss of value if the tenant were to file bankruptcy and sell its leasehold interest.

B. Tenant Advantages

Tenant advantages can also cover a number of areas. It can eliminate continuing expense by closing an underperforming location. It can release tenant from obligations relating to covenants for continuous use or continuous occupancy. It can avoid the imminent expense for major upgrades or replacements related to “net” lease liabilities. It can complete the disengagement and mutual release between landlord and tenant for collateral or ancillary disputes. It can eliminate disputes over landlord consent to assignability or subleasing.

C. Diligence

To prepare for the negotiation of a termination agreement, both sides should perform sufficient diligence to understand what their respective rights and liabilities are, and what third party consents and approvals are needed. Both sides will need to review all existing lease documents including lease agreement, amendments, deed restrictions, estoppels, guaranties, SNDAs and recognition agreements, recorded memoranda. Each party would require reciprocal cooperation to secure copies of any expert reports, such as environmental and engineering studies, which the other party may have generated or obtained. The parties would analyze the effect of termination on subtenants, creditors, and their assignees, because they may prevent the desired termination. In the same vein, the parties would need to analyze requirements for third party consents, such as guarantors, investors, lenders, easement beneficiaries, governmental agencies.

The parties should together inspect, investigate and video the physical condition of the premises to establish a stipulated record of the physical condition. The inspection could include engaging experts if conditions are in dispute as to whether they require repair, when tenant’s 79 Chesney v. Stevens, 644 A.2d (Pa. Super. 1994); Zvonik v. Zvonik, 435 A.2d 1236, 1239-40 (1981).


liability is for repair not replacement. Frequent subjects of that dispute include roof, parking lot, and building systems, and sometimes bearing columns in warehouses.

D. Survival

The parties would need to analyze whether any obligations arise or are to be completed upon surrender as a factor in the cost and timing of the terms of termination. Common obligations relate to physical condition, removal or transfer of tenant trade fixtures and rights of third parties at the time of surrender. The parties would also need to analyze whether any obligations survive surrender and termination to properly quantify the effect of releases and the potential future costs in valuing the termination. Common surviving obligations include environmental liability, brokerage commission, holdover damages’, rights to insurance proceeds or condemnation awards. Surviving obligations may need to be reflected expressly or by reference in a document of record.

E. Covenants and Conditions

The termination agreement would reconfirm compliance with or violations of conditions precedent and subsequent for alterations, and any improvements constructed by Tenant. The parties would also need to create procedures to assign third party support documents such as guaranties, warranties, credit enhancements, bonds, development agreements, if assignable.

F. Representations and Warranties

Based on the scope of investigations and studies, the parties would negotiate whether the lease termination agreement will include representations, warranties, estoppel, waiver and indemnity provisions from tenant, or whether instead it would drive landlord to rely on third party reports and investigations, or whether the parties agree to a middle ground where landlord will receive limited representations, warranties and indemnities from tenant.

The estoppel component would reiterate standard certifications to prevent a subsequent defense that the lease agreement could not have been modified because it was already defaulted, defective, or otherwise unenforceable. There is also commonly a reliance provision, as in a formal estoppel, so that the parties, and their partners in interest can acknowledge their reliance for the benefit of and as a defense for the other party in trying to prove enforceability. Tenant will frequently be required to release landlord from known or unknown pre-existing claims, but not those arising after the termination agreement. If landlord releases the tenant when the release of tenant is based on tenant’s financial distress, the landlord would also expect to see financial statements to support releases and evidence solvency.

G. Posture and Protocol

Concepts and documentation relating to notice of default, settlement negotiations and forbearance could be adapted from similar language in the context of distressed debt. Upon determining that termination must be imposed, the steps and documentation follow lines similar to that of the conveyance in lieu of foreclosure, in this case a conveyance in lieu of eviction.


H. Maturity and Recapture

The Termination Agreement would describe the effective date of the termination of the Lease, or sequence of dates if there will be phased components or different survivals. The effect of termination can be an acceleration of the maturity date, or a mid-lease term termination. The former would act to preserve survival of warranties and indemnities that would have survived upon a maturity of the Lease by its terms. The latter would act to end all continuing liabilities. The negotiation could distinguish which provisions of the lease remain in effect, as well as which accrued obligations must be satisfied.

The lease termination date may be fixed for a future time, typically 11:59 PM on a stated date; but, the lease termination date may be triggered by another event, such as relocation and re-opening by the Tenant, sale of the business, and final settlement of a continuing dispute, or lease transfer and substitution by a new tenant. Sometimes the landlord will purchase a unilateral recapture right, exercisable upon prior notice.

I. Surrender Terms

The Termination Agreement should provide the dates and milestones of surrender by tenant for tenant to physically vacate the leased premises on or before the termination date. Surrender should be free and clear of all subtenancies or rights of use, occupancy or possession, free of liens or claims of liens (whether filed before or after the surrender of the Leased Premises), and free of all other claims by third parties of interests granted by Tenant such as options or rights of first offer or referral.

J. Holdover

The holdover of tenant after the termination date is a major risk for the landlord. It could prevent re-marketing the premises, or cause damages by blocking the entry of a new tenant. A conservative landlord with a suspect tenant may seek a letter of credit to back-stop collection for damages from holdover. In the case of a creditworthy tenant, the landlord would seek a right to reinstate the lease in the event of holdover. In the case of a tenant with suspect credit, the landlord would look to create a process for summary eviction including by confessed or unanswered claim for eviction, or by conversion of the lease to a license with a limited right to use but without rights of possession.

K. Surrender Condition of Property

The surrender condition of the premises is usually an issue for negotiation. Landlord wants the surrender to be in good condition, subject to wear and tear. Tenant seeks to surrender the premises in an “as is” condition or “as is” but free of waste, including waste caused by tenant’s negligence or by insurable casualty. One compromise is for the condition to be “as good as at commencement, reasonable wear and tear, insured casualty and condemnation excepted.” The less apparent problem with measuring against the commencement day condition is how to agree today to what that condition might have been at commencement, if there is no contemporaneous record.


The process of surrender also includes separating two classes of property, that which is to remain and that which is to be removed. Sometimes the confirmation is done by a walk through of the premise by the parties with color coding decals to distinguish the two classes. It frequently covers more than just moveable compared to non-movable personalty. The landlord usually expects the tenant to remove alterations which landlord cannot put to a second or subsequent use. If the landlord is not relying on remarketing the space because, for example, it will demolish or substantially remodel or rehabilitate premises, the parties will frequently agree that tenant must remove only its alterations which would add to the landlord’s demolition cost.

Another area of frequent contest is whether a defect in the condition at surrender is one that requires repair or replacement. Because landlord rather than tenant, is commonly responsible for replacement, tenant contests that surrender with a leaking roof or pot-holed parking lot is compliant with the covenant. A walk through prior to surrender usually sets the framework for these discussions.

L. Transfer of Property

The termination agreement should expressly provide for the extinguishment of Tenant’s leasehold estate and for Tenant transfers and releases to Landlord of all interest in the non-leasehold property, including any buildings, furniture, fixtures, equipment, personal property and appurtenances sought by the Landlord. Careful landlords will frequently exclude and disclaim the acceptance of any transfer of environmentally sensitive items, such as underground storage tanks and similarly high-risk property. As with the underlying lease, the Termination Agreement should anticipate that if tenant fails to timely remove its property then landlord has the right to retain or dispose of the abandoned property at Tenant’s cost. The abandoned property need not be accepted by landlord. The accepted property should be free and clear of all liens, encumbrances, and rights of others.

M. Options

The termination agreement should expressly terminate any of tenant’s ancillary rights and options to extend, renew, expand, or purchase. It should also terminate ancillary rights relating to off-site amenities such as parking, fitness clubs, childcare, and the like.

N. Restrictions and Conditions

As a general rule, the termination agreement should terminate restrictions and limitations contained in accompanying documents such as restriction and easement agreements that may affect exclusive, non-compete and prohibited uses that otherwise may still be applicable. Exceptions to the rule, such as non-competes to prevent Tenant from opening within a restricted radius.

O. Releases

Parties typically exchange mutual releases and/or covenants not to sue effective as of the termination date in the same fashion as in a settlement agreement for debt. Tenant remains liable for those arising during its tenure and landlord for those arising during landlord’s ownership before and after tenant’s tenure. Until the effective date of termination the parties should be


obligated to continue to make all payments and perform all obligations. Thus, releases in termination agreement should not apply to representations, warranties and agreements under the termination agreement itself or defaults under the lease prior to the effective date of the termination agreement. Continuing default of the termination agreement could allow the parties summary remedies. The termination agreement could also extinguish releases or covenants not to sue.

P. Representations and Warranties

In negotiating representations and warranties the parties will have similarities of interests in some cases, and dissimilarities in others. Both parties will have mutual desires to confirm the status, existence and authority of the other party, and its due execution and delivery of the Agreement and related documents. Both parties would also have mutual desire to confirm the transaction does not conflict with, violate, or cause a default under any requirements to get permissions, consents, and approvals by governmental or third parties.

The tenant may seek to narrow, and the landlord to broaden, tenant’s warranties about the status of the physical condition of the leased premises, and any events which may have triggered further disclosure requirements under statutory or “commercially reasonable” standards. Along these lines, landlord may seek tenant’s representation that there are no written notices of existing violation of law, code or ordinance or other legal requirements including environmental laws with respect to the leased premises. In some instances, where tenant may otherwise be a potentially responsibility, due to landlord’s acts tenant may seek reciprocal representations from landlord.

When a tenant has constructed the improvements or is leaving behind its trade fixtures, the landlord would seek a warranty as to title, so it will not be subject to claims by either tenant’s secured parties or purported purchaser of tenant’s assets.

If either party is willing to give warranties, it would ordinarily seek to qualify them by knowledge of certain designated individuals whose scope of work would include that activity, but without independent investigation or inquiry. The warrantor would seek to limit survival period.

Q. Taxes

An analysis would need to be made of any potential transfer taxes in the case of transfers back of taxable assets. Similarly, bulk sales taxes, and other accrued but unpaid tax liabilities would need to be analyzed.

The parties would also attempt to focus on the tax consequences, and their ability to report independently but consistently between them. Payments on account or in lieu of rents would normally be treated as ordinary income to landlord and expenses to tenant. Landlord would generally prefer capital gains treatment if it is justified. If the facts warrant capital gains treatment may be appropriate, for (i) payments that represent compensation to Landlord for damages to leased premises, (ii) diminution in value to the property or good will to Landlord’s business, or (iii) payment for release of existing restrictive covenants, might result in a more favorable treatment.


IV. BANKRUPTCY ISSUES

A. Background

The rights of parties in a dispute is frequently tested against the outcome if the adverse party, whether landlord, tenant or subtenant, were to file bankruptcy. The Bankruptcy Code80 provides rights and liabilities differently upon the filing for bankruptcy protection by the landlord or tenant. In analyzing the concept of a lease in the context of the bankruptcy of a party in interest, some courts have promoted a theory separating the lease property rights from the lease contract rights. They postulate that a foreclosure may terminate a leasehold estate, but the lease agreement covenants may survive, and the breach of them may remain actionable.81 This concept plays out in the context of bankruptcy in various ways. As a general matter when either the landlord or the tenant is the subject of a bankruptcy proceeding, an automatic stay is imposed82 to prevent any change in the status of the estate by exercise of remedies by an adverse party. Consequently, the so called ipso facto clauses that provide for automatic default with right of termination upon filing of a bankruptcy are stayed upon filing of a bankruptcy.83

B. Tenant Bankruptcy

1. Assumption Generally. If a tenant is in bankruptcy, the debtor or the trustee as debtor-in-possession can assume or reject its unexpired lease if it is not in default. A lease that expires by its terms is not protected by the automatic stay.84 If the tenant is in default under the lease, the trustee cannot assume the lease unless: (i) it cures the defaults or provides “adequate assurance” that the default will be cured promptly, (ii) it compensates landlord for any damages or provides adequate assurance it will provide such compensation; and , (iii) provides adequate assurance for future performance of the lease85. “Assumption” of an unexpired lease makes it a binding obligation of the tenant’s bankruptcy estate. A subsequent breach of the lease would allow a claim for damages against the Tenant’s estate that would qualify as an administrative expense priority, currently limited to 2 years of rent.86 Under the 2005 Bankruptcy Amendments87 of the Bankruptcy Code an unexpired lease of nonresidential real property shall be deemed rejected if the trustee or debtor-in-possession does not assume or reject it within (i) 120 days after the commencement of the bankruptcy case or (ii) the date of the entry of an order confirming a plan of reorganization. Prior to the expiration of the 120-day period, the

80 11 U.S.C. Section 101 et seq. 81 Consolidated Realty Group v. Sizzling Platter, Inc., 930 P.2d 268 (Utah App. 1996), holding that a foreclosure of a prior mortgage terminated the tenant’s interest in the property under a subsequent lease; but “…although it appears that Hewlitt [the tenant] could have brought action against Compark [the landlord] for any damages it may have suffered because of First Security’s [senior mortgagee’s] foreclosure, the lease as a property interest was terminated.” Id. at 272. The court went on to quote with approval a prior case for precedential authority. “See P.S.G. Ltd. v. August Income/Growth Fund, 115 N.M . 579, 855 P.2d 1043, 1048 (N.M. 1993) (‘A lease may be terminated in a foreclosure, and as a result, the lease provisions relating to the property rights are extinguished. However, the independent contract provisions relating to the liabilities of the parties may survive.’)” Id. 82 11 U.S.C. Section 362(a). 83 11 U.S.C. Section 365(e). 84 11 U.S.C. Section 362(b)(10). 85 11 U.S.C.A. § 365(b)(1) (Supp. 2005). 86 11 U.C.C. 503(b)(7). 87 U.S.C. § 365(d)(4)


court may extend the period for assumption or rejection for no more than 90 days. The court may grant a subsequent extension only upon the prior written consent of the lessor in each instance.

2. Assumption of a Shopping Center Lease. Because of the special qualities of a shopping center, the Code further elaborates that “adequate assurance” for shopping center leases must include : (i) the source of rent and other charges due; (ii) percentage rent will not substantially decline; (iii) the lease remains subject to the core restrictions as to use, exclusive use, location, and radius restrictions; and, (iv) the assumption will not upset the natural Tenant mix or balance.”88

3. Rejection Generally. “Rejection” of an unexpired lease constitutes a breach (a repudiation) of the Lease under state law. Once the lease is rejected, the tenant’s estate has no further obligation to perform under the lease. The Code gives the landlord of a debtor tenant a claim for rejection damages that is deemed to be a prepetition obligation of the tenant’s estate.89 Of course, if the tenant is in bankruptcy and rejects the lease, the issue of what is “rent” also directly affects the calculation of landlord’s damages.

4. Landlord Damages. The landlord typically has three types of claims against a bankrupt tenant. One is prepetition arrearages for rent and other charges accruing but unpaid prior to the bankruptcy case. Prepetition arrearages are treated as general unsecured claims except to the extent that such amounts can be recovered from any security held by the landlord, such as a security deposit. A second is a post-petition administrative expense claim for rent and other charges accruing but unpaid after the commencement of the case. These administrative claims are unsecured claims, again except to the extent that the landlord chooses to resort to its security deposit to pay that claim. The third is the claim for rejection damages arising from Tenant’s breach of contract subject to the follow limits: (i) the future rent for the greater of one (1) year, or 15%, not to exceed three (3) years, of the remaining term of the lease, following the earlier of the date of the bankruptcy case or the tenant’s surrendered the property (“Landlord Damages Limit”); plus (ii) any past due unpaid rent due under the lease.90 Some believe this provision of the Bankruptcy Code treats landlords worse than other creditors, because even though the Code compels the landlord to perform its contract, if a lease is rejected by a tenant, has strong limitations on damages. On the other hand some commentators believe the landlord is in a much more favorable position to other creditors because it ends up recovering a valuable asset without claims of third parties attaching to it, giving them a chance to mitigate damages. In the case of rent reserved damages claims by the landlord, if “rent reserved” includes those items of additional rent payable to third parties it would increase the landlord’s claim.91 Some hold the test is: (i) it must be identified as rent or “additional rent”; (ii) it must be related to the value of the property or lease; and, (iii) it is in the nature of rent because it is a charge which is fixed, regular, and periodic.92 There is some uncertainty as to whether amortized tenant

88 11 U.S.C. Section 365 (b) (3). 89 11 U.S.CA §§ 365(g)(1), 502(g)(l) (Supp. 2005). 90 11 U.S.C.A. § 502(b)(6). 91 One current analysis for determining whether the payments are “rent reserved” is whether they meet a three part test: (1) is designated as rent or otherwise as tenant’s obligation, (2) is related to the value of the property or the lease, and (3) the charge is fixed, regular, or periodic. See In re McSheridan, 184 BR 91 (9th Cir. BAP 1995) 92 In re McSheridan, 184 B.R. 91, 99-100 (9th Cir BAP 1995).


improvement costs paid to landlord are rent.93 However, if the trustee or debtor assumes a lease and later rejects it, the landlord is entitled to administrative priority for its resulting claim for damages.94 If the defaults are not curable, the tenant’s estate need not cure.95 If the lease falls into default after the order for relief is issued, then the landlord may cease providing it

96services.

5. Assignment and Designation. A properly assumed lease may thereafter beassigned if adequate assurance of future performance by the assignee is provided.

d

e a

will

dlord may not get the full benefit of the heightened “adequate assurance of future performance.”

97 In the case of a shopping center lease, the assignee must prove similar financial condition as the tenant anits guarantors at the time the lease was entered into.98 Any general anti-assignment clause is unenforceable.99 Similarly, landlord recapture clauses are held generally unenforceable. Onclease is assigned in accordance with the Bankruptcy Code, the Tenant’s estate has no further liability for any breach of the Lease occurring after the assignment.100 One valuable outcome to the tenant and its other creditors is that the debtor tenant can sell the right to designate whobe the assignee of the lease sales of such designation rights, which commonly include the holder’s obligation to pay lease costs, can be a significant contribution to the tenant’s estate. Consequently, in a retailer bankruptcy, the lan

6. Post-Petition Obligations. In addition, as to nonresidential leases, the Tenant’s estate is also required to comply with all its obligations under the Lease arisincommencement of the bankruptcy case. The court may extend, for cause, the time for performance of any obligation that arises within the first 60 day

g after the

s of the case but the time for compliance may not be extended beyond the 60-day period.101

7. Lease Modification for Termination or Recapture. One effect of the uncertainty of outcome is that if a lease is amended to incorporate a recapture or termination agreement, or a separate termination agreement is entered into, it may be an executory contract. If the landlord paid a termination fee and the termination agreement was rejected as an executorycontract, the landlord would forfeit the fee. One shield would be to advance the terminatioas a loan until the termination occurs, secured by a lien against tenant’s personalty. If the termination agreement is deemed executory or otherwise frustrated, the fee, as a loan musrepaid and the landlord acquires the character of a secured party at least to the extent the collateral has value in excess of what tenant may have granted its revolver lender or its landlord. If the landlord is a single purpose entity, this solution may require the use of an affiliate to

n fee

t be

avoid

93 See, In re Gantos, Inc., 181 Br. 903 (Bankr. E.D. MI 1995) disallowing recovery of the construction allowance because it did not constitute rent reserved pursuant to the terms of the statute. But see, In re Blatstein, 1997 WL 560119 (E.D. Pa. 1997) wherein the District Court held that the Amortized Improvement Cost was rent under the lease and was, therefore, includable in the landlord’s rejection damage claim. 94 11 U.S.C.A. § 365(g)(2) (Supp. 2005). 95 11 U.S.C. § 365(b)(1)(a) 96 11 U.S.C. Section 365(b)]. 97 11 U.S.C.A. § 365(f)(2)(b) (Supp. 2005) 98 11 U.S.C. Section 365 (b)(3). 99 11 U.S.C. §§ 365(e) and (f). 100 11 U.S.C.A. § 365(k) (Supp. 2005). 101 11 U.S.C.A. § 365(d)(3) (Supp. 2005).


violating the single purpose prohibition against entering in to debt relationships with third parties.

C. Landlord Bankruptcy

1. Generally. The Bankruptcy Code contains special protections for the 102holders of interests in real property. If the landlord’s estate as debtor rejects an unexpired

lease o lease

f real property, the landlord’s estate is excused from further performance under thewith some exceptions. The consequences that the lease is deemed breached by the landlord.103

2. Tenant Termination or Possession. In the case of rejection by the Landlord in bankruptcy, the Tenant may respond to such deemed breach either (i) deem the Lease terminated or (ii) if the term of the Lease has “commenced,” the Landlord’s estate mupermit the Tenant to retain its “rights” under the Lease, including the amount and timing of payment of rent and other amounts payable by the Tenant and the right of use, possession, quiet enjoyment, subletting, assignment or hypothecation, that are “in or appurtenant” to the real property for the balance of the term of the Lease and for any renewal or extension of such righto the extent that such rights are enforceable under applicable nonbankruptcy law. If the Tenanelects to remain in possession, the Tenant may offset future rent payable under the

st

ts t

Lease against the value of any damages caused by the Landlord’s nonperformance of affirmative covenants after the date of rejection; but the Tenant will not have any other right against the Landlord’s estate for damages occurring after the rejection date from such nonperformance.

3. Realty Covenants Compared to Contract Covenants. The dynamic and stress embedded in these concepts are akin to the difference in a lease agreement between its contracts rights and its property rights. Because the term “lease” is used casually, it can denote an interest in the estate for years (the leasehold), the grant of that estate (the conveyacovenants that are realty covenants or personal covenants contained in the document essential tthe lease relationship (lease contract), or the documentary evidence of the estate, its conveyanceand the related covenants (lease instrument). Interpreters are put to the hard task of distinguishing the appropriate meaning from the context. It is generally agreed, however, thatsome covenants, including rental obligations can exist independently of other lease obligatioand can be transferred independently of the leasehold estate.

nce), the o

ns

rd’s

enant. Under statutes descended from Henry VIII’s dissolution of the monasteries, transfers of the fee estate are deemed to transfer the covenants running with the

104 In keeping with the distinctionbetween the landlord’s lease covenants and privity of contract, as compared to the landloestate in reversion and privity of estate, when the landlord’s estate in reversion is assigned, privity of estate is broken as between the assignor and its tenant, but is instituted between the assignee and the t

8. “An assignment of all of the income

102 11 U.S.CA § 365(h) (Supp. 2005). 103 11 U.S.C. §502(g) 104 Tiffany, LAW OF REAL PROPERTY, Section 113 at page 178, fn.under a lease does not operate or pass the reversion or any rights under the lease except that of receiving the rents.” Ward v. Commissioner of Internal Revenue, 58 F.2d 757, 760 (1932).


land. Even a sheriff’s deed out of foreclosure has been held to transfer those covenants runwith the land.

ning 105

4. Assignment of Rents. The mortgagee of a bankrupt landlord may attempt to assert rights to collect rents or to divest the lease by foreclosure.

106But the automatic stay

should prevent the prosecution of these actions. The mortgage may seek relief from the ot adequate protection of the mortgagee’s interest,107 or (2)

landlord has no equity interest in the property andautomatic stay if (1) there is n

the property is not necessary for an effective reorganization. as 108 The mortgagee asserting the right to rents must prove its interest in rents wperfected prior to the filing of the petition or granted absolutely.109

D. The Sublease

1. Subtenant Risks. The relationships are further stressed and confused when there is a sublease involved. Then, if the paramount tenant is in bankruptcy, it has the power to reject the paramount lease.110 111 Rejection may cause a termination of the sublease, though termination is not always the outcome. The language of the paramount lease and the sublease, and the conduct of the parties,112 can affect the determination. Prior to such termin s rights

tion, e

ation, the paramount landlord retains the right of reversion and the subtenant retainof possession under local law.113 To overcome the risk of divestiture by sublandlord’s rejecthe subtenant would negotiate for a recognition and attornment agreement to trigger a direct leaswith the paramount landlord.

2. Sublandlord Powers. Instead of rejecting the paramount lease the paramount tenant in bankruptcy has the power to assume the paramount lease.114 Then the paramount tenant, as sublandlord, can either reject or assume the sublease.115 If the paramotenant as sublandlord rejects the sublease, and the subtenant elects to retain possession, then the paramount tenant as sublandlord may not be able to nor want to pay rent under the paramount lease, especially if the subtenant exercises set off rights for curative advances. If the sublandloassumes the paramount lease and rejects the sublease, the rejection of the sublease may not

unt

rd

105 “The person held entitled to sue as transferee [of a real covenant] in Hayes v. New York Gold Min. Co. (1874) 2 Colo. 273, took title under a sheriff’s deed, having been mortgagee of the lessor.” 34 A.L.R. at 791. 106 11 U.S.C. § 362(a). 107 11 U.S.C. § 362(d)(i). 108 11 U.S.C. § 362(d)(2). 109 Commerce Bank v. Mountain View Village, Inc., 5 F.3d 34 (3rd Cir. 1993). 110 11 U.S.C. § 365(a). 111 “Rejection of a non-residential lease results in termination of the lease. Once the underlying lease is terminated, leasehold mortgagees or sublessees retain no interest that can be pursued in bankruptcy court or state court.” 6177 Realty Assoc. Inc., 142 B.R. 1017, 1019 (Bankr. S.D. Fla 1992) 112 “Here, since Peram [prime landlord] made no allegations that Chumash [subtenant] was not fulfilling its obligations as a sublessee, under the lease Peram was not entitled to evict or eject Chumash from the subleased premises, either because of Newton’s [prime tenant] surrender of his lease in bankruptcy or his nonpayment of rent.” Chumash Hill Properties, Inc. v. Peram, 46 Cal. Rptr. 2d 366, 369 (1995) 113 See Chaltos Sys., Inc. v. Kaplan, 147 B.R. 96 (D. Del. 1992), aff’d, 998 F.2d 1005 (3d Cir. 1993); In re Dial-A-Tire, Inc., 78 B.R. 13 (Bankr. W.D.N.Y. 1987); and In re Storage Technology Corp., 53 Bankr. 471 (Bankr. D. Co. 1985). 114 11 U.S.C. 365(a). 115 Id.


disposhe

l performance once the sublease is rejected but the subtenant retains possession under the Bankruptcy Code.

3. Subtenant Bankruptcy

sess the subtenant but does prevent the subtenant from enforcing personal covenants against the sublandlord. One key covenant is the one that empowers the subtenant to enforce tprime lease, whether by the assignment of subtenant’s rights or by a grant of a power of attorney to perform in sublandlord’s name. If the paramount landlord fails to adequately perform, the subtenant may have no independent right to compe

. If the subtenant is in bankruptcy, it can assume or reject th

e e sublease. What is interesting is that at least one reported case116 concluded that the

automatic stay in a subtenant bankruptcy prevented the paramount landlord from terminating thparamount lease because it would cause the subtenant to be dispossessed notwithstanding the absence of any formalized relationship of privity.

E. Letters of Credit as Security Deposits

1. Landlord Collateral. Many leases call for the tenant to deliver a security deposit to landlord to cover unpaid tenant liabilities such as for repairs to the Premises, unpaid rent, or other damages the landlord may bear. Traditionally, those funds belong to the tenant and are par

matic stay prevents the Landlord from exercising its rights against the security deposit

for damages. Landlord is staid from applying the deposit to a prepetition or post-petition default withou

t of its bankruptcy estate even though the funds remain in the landlord’s possession.117 Landlord’s possession perfects its security interest in that collateral upon tenant’s bankruptcy. The landlord is deemed to hold a secured claim based upon the security deposit. 118 However,the auto

t first obtaining authorization from the bankruptcy court.119

2. Overages. As a general matter, the Landlord may not retain any security deposit amount that exceeds the sum of its prepetition arrearages, plus any unpaid post-petitrent, plus the full amount of the Landlord Damages Limit. The excess is paid to the Tenant’s estate.

3.

ion

Letter of Credit. If a letter of credit instead of cash is used to fund the security deposit, the proceeds are not property of the tenant, unlike cash posted by the tenantThe current logic then unfolds that apply to the autom

. atic stay will not prevent the landlord from

drawing under the letter of credit. Conflicting principles have created some uncertainty to bankrupt tenant is entitled to recover

future rent from a lease guarantor who is not in bankruptcy without Landlord Claim Limits. have held that a landlord may apply the proceeds of the security

deposit letter of credit to the rejection damages but only up to the Landlord Claim Limits. The

landlord’s rights. The general rule is that a landlord of a

Nevertheless, courts generally

116 “…the landlord’s actions [terminating the prime lease] were intended to obtain for it by indirection that which it recognized it could not obtain directly -- recapture of the premises in which 48th Street [the subtenant in bankruptcy] had an interest. But that effort cannot be allowed to succeed, for [Bankruptcy Code] section 362(a)(3) stays not only acts to obtain “property of the estate” but acts to obtain “property from the estate” and the attempt to wrest possession of property away from a debtor without the imprimatur of bankruptcy court is therefore proscribed.” 48th Street Steakhouse, Inc. v. Rockefeller Center, Inc. et. al, 61 B.R. 182, 189 (1986) reported in Hargreaves-Heald. 117 11 U.S.C.A. § 541 (Supp. 2005). 118 11 U.S.C.A. §§ 506(a), 553 (Supp. 2005). 119 11 U.S.C.A. § 362(a) (Supp. 2005).


logic being, it is merely a substitute for cash, not really a guaranty by the issuing bank, and therefore should be treated as the equivalent of cash.

V. DISPUTE RESOLUTION ALTERNATIVES

A. Arbitration.

1. Benefits. The perceived benefit is that costs are saved in attorneys’ time because it is more informal than litigation. There is no jury, much less discovery, agreed upon scope of issues and damages, shielded from public scrutiny, binding and non-apealable. There is also a belief that arbitrators can be selected who are more seasoned and sensitive to the specialty issues in dispute than a civil law judge.

2. Detriments. The perceived difficulties are that it lacks the protections afforded by the laws of the judicial system: not all parties in interest can be compelled to submit

e arbitration clause; selecting arbitrators is time ms costs is more expensive than court costs;

there i governing

to the order; court order may be needed to enforcconsuming, paying for the arbitrators and their foru

s no subpoena power to obtain information; there are no rules of civil procedurediscovery; and there is no enforceability for remedies other than money damages. Arbitrators tend to “split the baby” to force the appearance of fairness. Litigation tends to reward only one side.

B. Mediation.

1. Benefits. The benefit is the parties’ consensual effort to reach compromise. The expenses of time and money are considered much lower than in litigation. The setting is more relaxed because the outcome is clearly unenforceable, which encourages the parties to be more creative in seeking settlement.

2. Detriments The difficulties are all the same as with arbitration, and, in addition, is not designed to impose enforceability upon a resistant party.


introduction to real estate distressed leases: negotiations

Documents