Did Your Tenant Default On A Commercial Lease Because Of Covid-19?
What options are still available?
Covid-19 has been an economic tsunami, and the destruction isn't over. Many tenants are failing to make their monthly rent payments. PPP loans helped some of them. But for many tenants these loans didn't do enough or they helped just enough for them to kick the can down the road a little further. New waves of defaults have not yet crested. You’re a commercial landlord and it's time to explore some alternatives? Here are some ideas.
- Explore Creative Solutions with Your Tenant
- Partial Rent Abatement.
- Increase Rental Rate After a Specific Period of Time.
- Structure Abated Rent Payments to Metrics.
Whether you are a landlord or a tenant, you should at least try to keep open lines of communication in order to explore the best possible solutions. That being said, if you are a landlord the success of this option may depend as much on your open communication as it will on the character of your tenant. Each tenant may have unique circumstances that led to that missed rent payment. Some tenants may approach their landlords proactively. With honest intent they may plead for leniency and ask about negotiating temporary or long term lease modifications. Other tenants may not communicate with you at all. This leaves you to guess – not only about the cause of non-payment of the rent, but also whether the tenant has a reasonable business plan. Maybe the tenant's silence is ther result of counseling with a bankruptcy attorney. You just don’t know.
Current demand for retail and office spaces was already falling. It’s getting worse now. As a landlord, you do not want to be left having to find new tenants to fill newly-vacated space. If that’s you, consider modifying the lease. This might offer a better solution than simply terminating a lease. A word of caution. Many tenants are requesting complete rent abatement for the near future in order to weather the current storm. This is rarely a workable solution for most landlords.
Partial rent abatement is generally better for a landlord than full rent abatement. A partial reduction in rent for a specific period of time may be enough to allow a tenant’s business to survive. Consider adding an additional term at the end of the lease (at a higher rental rate) to help reduce the impact of rent abatement.
Another option might be to increase the rental rate once full rent recommences.
An alternative work-around would be to include abated rent payback provisions that are tied to certain operating metrics. These provisions would allow a landlord to receive make-up payments that are tied to a tenant’s revenue or profitability once business returns to normal.
The option you select may depend on your relationship with your tenant. So start there. Usually, you will want to condition any abatement on continued economic difficulty. This will be important to ensure that your tenants are not receiving a windfall and you do not miss out on rent that you should otherwise receive.
Caution: Review Your Financial Obligations
Before you can agree to make any lease modifications with a tenant at a location that is subject to financing, you will need to consider the impact this will have on the your ability to meet your financial obligations to your lender. You should also understand the requirements in your loan documents with any lenders. Most loan documents require lender approval over lease modifications (at least for any major tenants). As a result, lenders will likely play a pivotal role in deciding whether and to what extent a lease can be modified.
There are significant legal issues that need to be considered when doing a lease modification. Properly structuring a lease modification is important in order to make sure that a landlord preserves its rights relating to current lease defaults, does not waive any rights that might need to be enforced in the future, and does not violate any loan covenants.
DisclaimerWhile this article accurately describes applicable law on the subject covered at the time of its writing, the law continues to develop over time. Accordingly, caution should be taken before relying upon this article, and you should verify that the law described herein has not changed.
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