Estop, Subordinate and Listen: Understanding the Role of SNDAs and Tenant Estoppel Certificates in Commercial Real Estate Transactions

For those of us that practice in the world of commercial real estate financing transactions, the fact pattern is a tale as old as time: the Bank is making a term loan secured by real estate largely based on leases on the property generating sufficient rent for the owner/borrower to service the loan and adequately maintain and operate the real estate, which already is fully occupied and leased to commercial tenants. Perhaps some of the leases are subject to a memorandum of lease that has been recorded in the real estate records of the clerk’s office in the jurisdiction in which the real estate is located. The Bank’s loan will be secured by a standard Deed of Trust and Assignment of Rents.

The Bank is trying to determine whether to require the owner/borrower to obtain a subordination, non-disturbance and attornment agreement (an “SNDA”) from each of the tenants, or whether a tenant estoppel certificate will suffice. In order to analyze that question, we must understand the distinction between an estoppel and an SNDA, as well as what protection the SNDA is going to provide the Bank that is not afforded by the Deed of Trust and Assignment of Rents.  

An estoppel certificate is a representation as of a particular moment in time as to the status of the lease. It does not contain any ongoing obligations and/or covenants by the tenant or the Bank, but rather just certifies as to certain facts and circumstances as of the date of execution. The estoppel certificate may confirm items such as: (1) the named tenant is the current tenant under the lease; (2) the lease is in full force and effect; (3) no default has occurred under the lease; (4) no advance rent has been paid; (5) the tenant has no charge, lien or claim of offset under the lease; and (6) there are no bankruptcy proceedings pending against the tenant. The purpose of the estoppel certificate is limited in scope: first, it gives the Bank comfort that it is not financing a property that is subject to a slew of landlord defaults or problem tenants, and second, it prevents – or estops – the tenant from trying to impose any liability on the Bank for a pre-existing default under the lease that was not disclosed to the Bank prior to loan closing. As estoppel certificates only speak as of the date of they are signed, the Bank should be sure to obtain them at or just prior to closing (generally no more than 30 days in advance). In addition, the Bank should get an estoppel certificate even if it is also getting an SNDA from a tenant (although sometimes the estoppel provisions might be built into the SNDA itself so that the tenant only has to deliver one document for closing).

The critical components of an SNDA are as follows:

1. Subordination of Lease – the “S” in SNDA.  First and foremost, an SNDA subordinates the lease and the rights of the tenant under the lease to the lien and rights of the Bank under the Deed of Trust. The Bank will be senior to those tenants who otherwise would have a senior and superior interest because of a previously recorded memorandum of lease.  This enhances the ability of the Bank to take control of the real estate if problems arise with the loan.
2. Attornment of Tenant to the Bank – the “A” in SNDA.  If the Bank has to foreclose on its Deed of Trust and becomes the owner of the property, the tenant agrees to “attorn” to (i.e., agree to be a tenant of) the new owner as the landlord even though, but for the SNDA, the tenant might not be legally obligated to do so.  This provision also can protect the new owner as landlord from obligations and liabilities the original owner might have incurred that, but for the SNDA, could have become obligations and liabilities of the new owner. For instance, the Bank will want to ensure that it is not liable for any acts or omissions of any prior landlord, subject to any offsets or defenses that the tenant might have had against a prior landlord, liable for the return of any security deposits not actually received by the Bank, or bound by any accelerated rent payments or modifications to the lease terms made without the Bank’s consent. These liability limitations are a common point of negotiation between the tenant and the Bank, as the tenant may seek to expand the conditions under which the Bank would have additional liability to the tenant, and the Bank will of course want to keep those conditions as limited as possible.
3. Non-Disturbance of Tenant – the “ND” in SNDA.  It’s important to recognize that the SNDA is not a unilaterally beneficial document that solely protects the Bank. The tenant gets an important protection as well in exchange for its agreement to subordinate and attorn to the Bank in the form of the nondisturbance provision, which provides that, so long as the tenant does not default in the performance of its obligations under the lease, the Bank will not terminate, disturb or otherwise adversely affect the rights of the tenant under the lease, including the right to possession and enjoyment of the leased premises. In addition to the core “S”, “A” and “ND” provisions, there are several other important protections that might be afforded under an SNDA:
4. The Bank’s Right to Collect Rent.  Although the Deed of Trust and Assignment of Rents give the Bank the right to collect the rent directly from the tenant, the tenant is not a party to those instruments and could take the position the tenant has no obligation to pay rents directly over to the Bank. The SNDA provides a direct, contractual relationship between the tenant and the Bank. When the tenant signs the SNDA and agrees that the Bank has the right to directly collect the rents, the tenant no longer can take a contrary position on that point.
5. Notice of Default/Right to Cure. The Bank will require the tenant to give notice to the Bank of any default by the owner/borrower under the lease and provide that the Bank shall have the right (but not the obligation) to cure that default in order to preserve the lease if the Bank decides it does not want to lose the tenant, such as an anchor tenant. This is a critical provision because it prevents the tenant from terminating the lease without the involvement of the Bank.
6. No Modification of the Lease without the Bank’s Consent.  The SNDA will also provide that the tenant is prohibited from agreeing to modifications of the lease with the owner/borrower without the Bank’s prior written consent. Again, this is a common point of negotiation between the tenant and the Bank, as the Bank will want a broad scope of modifications that would require Bank consent, and the tenant will want to narrow the scope of modifications that for which it needs the Bank’s approval.
7. Agreements Regarding Rent Prepayments. The Bank will want to ensure that the tenant agrees not to prepay rent more than one month in advance, to avoid a situation in which the tenant front-ends a significant amount of the rent payments, which would then jeopardize the ability of the owner/borrower or the real estate itself (after a foreclosure by the Bank) to service the debt and repay the loan. 
8. Insurance and Condemnation Proceeds. The SNDA may provide further clarification regarding the Bank’s and tenant’s respective rights in any proceeds of hazard insurance carried by the owner/borrower on the leased premises or any condemnation proceeds with respect to the leased premises. The best case scenario is that the SNDA will clarify that any rights the tenant has in such proceeds will be subject to the rights of the Bank under the Deed of Trust to take and apply those proceeds against the loan – however, this is a point that can be subject to heavy negotiation from the tenant.
9. Subordination of Rights of First Refusal or other Options. Though the SNDA will of course contain an umbrella subordination of the terms of the lease to the terms of the Deed of Trust, if there is an express right of first refusal, right of first offer, or purchase option in the lease, the SNDA should clearly address that right and clearly subordinate it to the Bank’s lien under the Deed of Trust – the Bank does not want a first refusal right in favor of the tenant to delay its foreclosure process or potentially diminish the marketability of the property.
10. Recordation of the SNDA. If the underlying lease (or a memorandum thereof) is recorded in the land records, then the Bank will absolutely need to record the SNDA as well – this is what gives the Deed of Trust lien priority over the lease, and prevents the lease from being a B-II exception in the Bank’s mortgagee policy of title insurance.

The foregoing provisions and the other provisions of the SNDA not only protect the Bank during its involvement with the real estate as a lien holder or as an owner through foreclosure or deed-in-lieu thereof, but also protects any third party succeeding to ownership of the real estate though the Bank’s foreclosure or subsequent sale of the real estate. In addition to creating a predictable set of rights and remedies between the Bank and the tenant – which is always critical in a default or workout environment – it can also enhance the marketability of the real estate to third parties knowing they will have the benefits of the SNDA. As a general rule of thumb, the Bank should strongly consider getting SNDAs with respect to all major commercial leases for which the rental income factors into the underwriting decision and approval of the loan.