The COVID-19 pandemic has wreaked havoc on industries across the globe. Emergency and shelter-in-place orders designed to slow or stop its spread have disrupted peoples’ lives and livelihoods. Non-essential businesses across the country have been forced to close. These restrictions have impacted every sector of the economy. The commercial leasing space is no exception. Despite almost nationwide moratoria on evictions and suspensions of police eviction enforcement activities, on April 1, 2020, approximately $81 billion in rent payments came due. Landlords can expect a surge in delinquent and defaulting tenants this month and in the months ahead.
This article discusses some components of the Coronavirus Aid, Relief, and Economic Security (CARES) Act and highlights some common lease provisions and other legal concepts that landlords and tenants alike should be familiar with as they plan measures to combat the economic and legal fallout from COVID-19.
CARES Act
An historic $2 trillion economic relief package President Trump signed into law last month, CARES offers various relief options to help individuals and small businesses navigate the next few months while avoiding layoffs. The Paycheck Protection Program (PPP) sets aside $350 billion in government-backed funds available for emergency loans that can be forgiven to the extent the proceeds are used to maintain payroll costs, pay mortgage interest, rent, utilities, and additional wages on tipped employees. CARES also expands funds available for the Small Business Administration’s (SBA) Economic Injury Disaster Loans (EIDL), provides tax benefits like an employee retention tax credit, offers delayed payroll tax payments, relaxes limitations on net operating losses and expands carry-back treatment, and accelerates Alternative Minimum Tax credits. It is important to note that if loan proceeds are used for anything other than a covered cost, those amounts may not be forgiven. The CARES application process for SBA-approved lenders opened for small business and sole proprietors on April 3, 2020 and on April 10, 2020 for independent contractors and the self-employed. PPP or EIDL benefits may help certain businesses meet their rent obligations in the days ahead.
Whether a landlord or tenant, if you think you or your business could benefit from CARES, you should contact a qualified legal or tax professional to assist you.
Lease Provisions to Know
- Force Majeure
Whether your lease contains a “force majeure clause” should be a first consideration. Force majeure clauses excuse a party’s nonperformance when unforeseen circumstances outside the party’s control prevent it from meeting its obligations. Depending on the specific language of your lease, events like pandemics, epidemics, contagious diseases, government acts and orders, and civil emergencies or unrest may qualify. Difficult market conditions, financial difficulty, or events that could or should have been anticipated usually do not.
The trend has been for commercial leases to omit force majeure clauses altogether. And even for those that do contain them, the obligation to pay rent is typically excluded from relief under a force majeure clause.
If your lease contains a force majeure clause, it is important to comply with any and all notice requirements for claiming a force majeure event as an excuse for failure to perform any lease obligation.
- Permitted Use
Premises typically must be used only for a specific purpose. In these trying times, tenants operating essential retail and commercial businesses as well as their landlords are likely to find themselves in a better position than those leasing premises dedicated for non-essential uses. But even essential businesses could see a sharp decline in sales from more limited operations (capacity restrictions, take-out or delivery only, etc.). If commercially feasible and permissible under the lease, obtaining landlord consent to change or modify the permitted use may allow a tenant who otherwise would have to close continue its operations.
- Continuous Use or Operation
It is common that commercial leases require the tenant to timely open and continuously operate during normal business hours. Failure to do so can result in penalties or liquidated damages to the landlord. Many leases, however, acknowledge that when a tenant’s failure to open or operate is due to a force majeure event, like a pandemic or governmental order, penalties or liquidated damages will not be assessed. Tenants, especially non-essential retail tenants that have been forced to close under a governmental order or regulation concerning customer or employee safety, should timely notify their landlords. Even essential businesses that must modify their services or adjust their hours of operation could be out of compliance under a strict interpretation of their lease terms. If you have questions about how a governmental action in response to COVID-19 might affect your rights or responsibilities under your lease, you should contact a legal professional.
- Repairs, Damage, Casualty, and Eminent Domain (Takings)
Landlords are typically responsible for structural repairs and remediating damage from a fire or other casualty event. Often leases call for rent abatement during any period such events cause a tenant’s business to close. Additionally, where a governmental action can be seen as depriving the owner of the reasonable use or value of the leased property, the lease as well as other applicable law may consider such action a taking or an exercise of the government’s eminent domain powers. Depending on the facts of your case, such governmental actions could raise due process concerns and entitle the landlord to compensation. The tenant, too, could be entitled to rent abatement or other relief if its right to occupy and use the premises is disrupted (more on quiet enjoyment below).
Whether the damage, casualty, or takings provisions of your lease will apply to governmental acts concerning the COVID-19 pandemic will depend on the specific facts of your case, the language of your lease, and the laws in your jurisdiction. During these uncertain times, it is important to be familiar with your lease provisions and discuss any questions you have about your legal rights with a qualified attorney.
- Quiet Enjoyment
Nearly all leases provide that tenants have the right to quiet enjoyment of the premises during lease term. This means that the tenant’s occupation and use of the premises must not be disturbed or interrupted, so long as the tenant is otherwise in compliance with its obligations. In normal circumstances, an action by the landlord that interferes with this right would be considered a breach. The COVID-19 crisis may change that analysis under certain circumstances where the landlord must act to comply or ensure the tenant’s compliance with a governmental order or in the interest of public health. Landlords would be well-advised to consult with an attorney before taking any action that might be construed as a breach of the tenant’s right to quiet enjoyment.
- Surrender Requirements
With non-essential businesses forced to close or drastically limit operations, it may be difficult for tenants whose leases are expiring to find moving companies to move or facilities to store their personal belongings. Furthermore, many office buildings and shopping centers have imposed freezes on new tenant applications, so transitioning from one space to another could be significantly more challenging than it was just a few weeks ago. Leases often provide for holdover rent or other damages to the landlord for a tenant’s failure to timely surrender the premises or completely remove all its personal property.
Any tenant who anticipates a problem complying with any aspect of a lease’s surrender requirements should address them as soon as possible with their landlord and, if necessary, legal counsel. Planning ahead and keeping the lines of communication open have never been more important. They may be your best hope to head off a move-out problem before it becomes a legal one.
Common Law Defenses
Even if a given lease does not contain a force majeure clause, landlords can expect tenants to raise various common law defenses as an excuse for non-performance, including a failure to pay rent. The most common of these are impossibility, commercial impracticability, and frustration of purpose. While these defenses are fact-specific, they generally require the tenant prove that performing is physically or legally impossible, that performance has become so expensive as to be financially or commercially impractical, or that an event that both parties were counting on not to occur has in fact occurred. Historically, these theories rarely have excused a mere failure to pay rent. Whether that trend will hold in the post-COVID-19 legal environment will depend on the specific facts of your case and the laws that govern them.
Business Interruption Insurance
Landlords and tenants should immediately review their commercial insurance policies for business interruption coverage. Although most policies require physical damage to the property, depending on your industry, some may cover interruptions caused by epidemics, pandemics, communicable diseases, infections, governmental acts or orders, and social unrest or commotion. If you believe you have a claim for business interruption or any other insured loss, it is important to comply with all notice requirements under the policy, including the time period in which the claim must be made, what information your claim should contain, and how and where your claim should be submitted.
Considerations for Future Leases
Landlords may want to consider omitting force majeure clauses altogether. This of course may be especially unpalatable to commercial tenants in light of recent circumstances. But landlords and tenants both will want to be sure any force majeure clause that is included in their lease is drafted carefully and with an eye toward clearly delineating what constitutes a force majeure event and what each party’s rights are in the event a force majeure event occurs.
Though rare in the past, in this radically changed environment, tenants may find some success negotiating early termination rights if they are willing to provide substantial notice and pay a not insubstantial early termination fee. Depending on the business and location, this could mean at least three months’ notice and six months to a year in additional rent and other monthly charges. Though it would come at significant cost, tenants might find it worth the comfort of being able to end a lease early in a less and less certain world.
Landlords also should consider requiring a larger security deposit at the inception of new leases or renewals of existing leases. This may be even more unpalatable to many tenants. And for others, it might not be feasible. But in either case, for landlords, obtaining more cash up front provides valuable added security against a future default, whatever the underlying cause.
