Commercial rentals: The exposure of a backward tenant can be huge

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Commercial leases involve significant risks; Mitigation can be a challenge

Written by Michael Starvage

Mike Starvage
Mike Starvage, Esq.

RCBJ recently reported that Brixmor Property Group, owner of Rockland Plaza at Route 59 in Nanuet, is suing its former tenant, B. Good, for $1.6 million in back rent and future lost income. This potential price tag could bring any business to a halt or become a renter – and for good reason. Standard commercial lease terms can be oppressive and generally enforceable in court. Even more difficult is the potential for personal liability of the business owner when the financial risks are high, as is usually the case in these cases. In this article, I will discuss some of the liability foundations involved in B. Good litigation will hopefully give business owners a better understanding of the exposure involved in commercial leases.

The primary category of damages in a case like B. Good is expedited rent. Under the standard acceleration clause, when a tenant defaults, all rents from that point through the end of the lease term become due immediately. The landlord has a duty to mitigate his damages by attempting, in good faith, to lease the space to a new tenant,[1] With any future rent received offsetting the liability of the defaulting tenant. However, the potential exposure of a defaulting tenant is still significant, especially if the landlord takes a long time to find a new tenant. One way a tenant can counter the potential impact of an accelerated lease is to have an initial manageable period of five years or so, with the option to extend for successive periods of five years. This protects against significant financial liability from precipitating long-term lease obligations while giving the tenant the right to remain in the building at the end of the initial term by exercising their option. Of course, the ability to persuade the landlord to agree to this structure is exclusively one of bargaining power – something not all tenants have.

Good Lease B also includes the “darkness” penalty, which states that the tenant is responsible for tripartite Its normal rent in case it stops working (darkness). The theory behind this type of punishment is that an invalid storefront is bad for optics and foot traffic in a mall or shopping center. It can also depend on a more tangible factor when the lease requires a percentage of the tenant’s revenue to be paid to the landlord. In this scenario, of course, the tenant harms the landlord’s cash flow by halting operations, even if the tenant continues to pay their base rent. Courts sometimes find dark penalties to be overly speculative and do not allow some or all of the damages. However, since courts typically do not protect businesses from oppressive contractual terms as they do individuals, the tenant must assume that the darker punishment will be enforceable.

If there is enough bargaining leverage, the tenant can negotiate a reversal of the dark punishment to avoid exposure of this type. This would be a condition that would allow the tenant to cease operations without consequences as long as they continued to pay their base rent, or perhaps a pre-negotiated booster rent. Again, the availability of such a provision would be a function of the relative leverage of the landlord and tenant during the negotiations.

Another category of liability that a defaulting tenant must bear is attorney fees. In addition to paying their own legal counsel’s fees, commercial leases typically require the tenant to bear the cost of the landlord’s attorney’s fees incurred in enforcing the lease, including any litigation for eviction or rent collection. This, of course, can add significantly to the tenant’s overall liability under the lease and is considered enforceable by the courts.

It’s still more intimidating when a landlord asks a business owner to personally guarantee rental obligations, which is more common than not for small and even medium-sized businesses. The personal guarantee makes the individual guarantor(s) liable for all damages owed by the tenant under the lease agreement. This, of course, greatly increases the risk, as the business owner’s personal assets are at risk and the exposure is likely to be severe. However, one way to limit (not avoid) personal exposure is to negotiate a “good guy” guarantee, in which the guarantor is only liable for the unpaid rent that becomes due while the defaulting tenant remains in occupancy of the building. Once a tenant is evicted, personal liability ends. This is intended to discourage a non-paying tenant from remaining in possession of the building while eviction proceedings in court drag on.

These and other seemingly oppressive commercial lease provisions are, in fact, standard in most forms of lease contracts and should be carefully reviewed and negotiated by the tenant with the help of competent legal counsel.

This article is for general informational purposes only and is not intended to provide individual legal advice.

[1] Landlord costs in insuring a new tenant are often added to the damages to a defaulting tenant under the lease.

Michael Starvagy is an attorney based in Nyack. [email protected]

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