Coronavirus and the Commercial Tenant: A Guide to Dealing With Your Landlord During the COVID-19 Pandemic
As much of New York’s economy grinds to a halt, businesses of all kinds are asking how they will pay their rent. The answer, if you have good legal advice, may be that you don’t have to.
Under Governor Cuomo’s recent executive orders, most physical business locations—from stores to restaurants to offices—have been ordered shut. For businesses that rely on a physical location, like restaurants and retail stores, the economic impact is direct and immediate. For others that can still sell their services remotely, like professional-service providers, the impact is indirect but just as significant—as many professionals struggle to collect from clients whose own businesses are struggling or completely shut down.
But whether a business will be able to avoid, or at least defer, some of its rent obligations during this period depends on the terms of the business’s lease, how significantly the coronavirus outbreak and government-ordered shutdown has affected the business, and what the government will do over the coming days and weeks.
Check Your Lease for a “Force-Majeure” Clause
The first step is to look at your lease. While many commercial leases are drawn from standard forms, each lease is different, and clauses you haven’t thought about since signing your lease may become important.
Some commercial leases include “force majeure” clauses, which excuse a party’s performance under the lease in the event of improbable events outside a party’s control, like war or a natural disaster. If your lease’s force-majeure clause lists “pandemic,” “contagion,” “disease outbreak,” or “government-ordered closure,” or something like that, a court is much more likely to rule that it applies to the current situation. If not, courts will interpret a force-majeure clause “in light of [its] purpose,” which is to “‘limit damages . . . where the reasonable expectation of the parties and the performance of the contract have been frustrated by circumstances beyond the control of the parties.’” Goldstein v. Orensanz Events LLC, 146 A.D.3d 492, 492 (1st Dep’t 2017) (alteration in original) (citation omitted).
In the First Department’s decision in Goldstein, the court held that a force-majeure clause that expressly applied to nonperformance because of a governmental order would not excuse performance when the issuance of the governmental order was foreseeable or within the defendants’ control, since a force-majeure clause must be interpreted “as if it included an express requirement of unforeseeability or lack of control.” Id. at 493. In contrast, a business that must shut because of Governor Cuomo’s executive orders can argue that this shutdown was not foreseeable when the lease was executed and is not within the business’s control.
Unfortunately though, even if it applies to the current situation, most force-majeure clauses expressly exclude rent from the obligations of which the tenant is relieved. So whether this clause helps you will depend on the specific terms of your lease.
Consider Whether a Common-Law Doctrine May Excuse Your Obligation to Pay Rent
The doctrine of frustration of purpose is a defense to nonperformance under a lease when the frustrated purpose is “‘so completely the basis of the contract that, as both parties understood, without it, the transaction would have made little sense.’” Jack Kelly Partners LLC v. Zegelstein, 140 A.D.3d 79, 85 (1st Dep’t 2016) (citation omitted). Courts will generally not apply this doctrine to excuse a party’s nonperformance on the basis of changes in the market—even significant ones. See Twin Holdings of Delaware LLC v. CW Capital, LLC, 906 N.Y.S.2d 784 (Table) (Sup. Ct. Nassau Cty. 2010) (frustration of purpose defense unavailable despite “decline in the real estate market” and “tight credit”) (citation omitted).
But given Governor Cuomo’s shutdown orders, many businesses can argue that the purpose of their lease—to use the leased space to run the business—has been frustrated. This argument will likely be strongest for businesses that depend on a physical location to operate, like a restaurant or a gym, and weakest for businesses whose use of the leased space is less affected—like warehouses or physical locations that remain open—even if business has substantially decreased. Remember, the “frustration” comes from the inability to use the leased space, not the decrease in business. Whether this doctrine applies will likely turn on what the purpose of the lease was, including whether the lease says anything about its purpose.
A business may also argue that its obligation to pay rent is excused by the doctrine of impossibility or impracticability. This doctrine excuses performance when the “‘destruction of the subject matter of the contract or the means of performance makes performance objectively impossible.’” Reed Found., Inc. v. Franklin D. Roosevelt Four Freedoms Park, LLC, 108 A.D.3d 1, 7 (1st Dep’t 2013) (citation omitted). The impossibility must also be produced by an “‘unanticipated event that could not have been foreseen or guarded against in the contract.’” Id. (citation omitted).
This doctrine, however, is less likely to be of use in the current situation. This is because, unlike with frustration of purpose, the circumstance causing the impracticability or impossibility of paying rent is likely to be lack of revenue (not the shutdown orders themselves), and “financial disadvantage” is “not a basis for reliance upon the impossibility of performance doctrine.” Gen. Elec. Co. v. Metals Res. Grp. Ltd., 293 A.D.2d 417, 418 (1st Dep’t 2002).
Keep an Eye on the Pending Legislation
On March 23, 2020, New York State Senate Deputy Majority Leader Michael Gianaris introduced a bill under which any “small business commercial tenant” that has “lost income or has been forced to close their place of business as a result of government ordered restrictions” in response to the coronavirus outbreak “shall have all rent payments suspended for ninety days,” and will not have to make up this unpaid rent.
Under the proposal, a “small business” is one that is “independently owned and operated, not dominant in its field and employs one hundred or less persons.” Further, under the proposal, landlords that face a “financial hardship” for the loss of rent would be entitled to forgiveness on their mortgages.
Whether this bill, currently in committee, will pass in this or a more limited form remains to be seen. But commercial tenants should keep an eye (or consult with counsel that keeps an eye) on changes in the law that could benefit them.
Your Landlord Can’t Evict You, For Now
Even if you are behind on your rent and have no defense, you still have some protection.
On March 20, 2020, Governor Cuomo signed Executive Order No. 202.8, which states that, for 90 days, “[t]here shall be no enforcement of either an eviction of any tenant residential or commercial.” So businesses already behind on their rent can rest assured that no one will be knocking on their doors to throw them out.
Further, on March 22, 2020, the Chief Administrative Judge of the New York State courts issued an administrative order prohibiting all filings in any case—regardless of whether it is a new or pending case, and regardless of whether the filing is done electronically or in hard copy—with the exception of a few “essential” filings. New eviction petitions are not among the defined “essential” filings, so your landlord cannot even bring a new eviction proceeding until “further order” of the Chief Administrative Judge.
Keep in mind, though, that—as further discussed below—this administrative order will not stop your landlord from serving you with a notice of default and declaring the lease terminated based on your nonpayment of rent, if your lease allows this.
Try to Run Into Court, Even Though They’re Mostly Closed
Some leases include clauses stating that, if the tenant does not cure a default (like nonpayment of rent) within a set time after receiving a notice of default, the landlord may “terminate” the lease. This is a powerful tool for landlords, since if a court determines that the landlord was correct in declaring you in default, you won’t be able to cure—or pay back the arrears—when the court decision comes down, because the lease will have already terminated.
To avoid having to choose between immediately curing an alleged default and challenging the landlord’s claim in court, tenants will often seek what is known as a Yellowstone injunction—the purpose of which is to toll the running of the cure period (often only a matter of days) during the pendency of the tenant’s challenge, so the tenant still has the ability to cure after an adverse determination by a court. (Note: courts will generally not issue Yellowstone injunctions to stay an eviction proceeding for nonpayment of rent, since New York statutory law provides separate cure provisions in that circumstance.)
But just like eviction petitions, motions for a Yellowstone injunction are not considered “essential” filings that are exempted from the Chief Administrative Judge’s no-filing rule. If there is diversity, the tenant could seek the injunction in federal court. But if not, the tenant would have to ask a New York State court for permission to file a motion for a Yellowstone injunction. In making this request, the tenant would invoke the catch-all provision of the Chief Administrative Judge’s order allowing a court to permit filings in “any other matter that the court deems essential.” And according to recent guidance from the state court system, to do this, a tenant would have to make an emergency application to the court, including a “detailed explanation” of why the filing is essential. It would then be up to the judge on duty to decide whether to allow the filing.
Practical Advice for Commercial Tenants
If your business has been negatively affected, or shut down altogether, as a result of the coronavirus outbreak, you should strongly consider taking some of, or all, the following steps:
- Try negotiating with your landlord. Your landlord knows that it will be difficult and costly to get you out and replace you with a new tenant, so it may be willing to voluntarily reduce your rent or defer some of your payments. You should strongly consider having counsel deal with your landlord or your landlord’s counsel.
- Don’t start your discussion with your landlord with a refusal to pay rent. Make clear that you are reserving all your rights going forward, but approach the discussion as a means to making the best of a bad situation for both of you. Striking this balance in tone is another reason why it is important to get counsel involved early on.
- Make sure you understand what your lease says and what it doesn’t say. As explained above, this is critical, since your rights and obligations will likely turn on the provisions of your lease. Your counsel can advise you on this and make the legal arguments that work for you based on your lease.
- Leverage your landlord’s inability to bring an eviction proceeding or enforce an eviction against you, but don’t overplay your hand. Indeed, the no-filing rule could be lifted any day. And the moratorium on evictions, if not extended, will end in less than 90 days. So this is a temporary reprieve: treat it like one.
- Beware of fee-shifting clauses in your lease. Many commercial leases have them, and they usually say that the loser will pay the winner’s legal fees. This is a double-edged sword, since it increases the stakes the second a lawsuit is filed.
- Keep an eye on changes in the law. The legal landscape is changing on an hourly basis. Governor Cuomo issues new executive orders on an almost daily basis. And legislation is likely to move quickly through the state legislature. So be on the watch for new laws that may benefit, or harm, you.
- Make sure you avoid having your lease “terminated” for nonpayment of rent. To do this, you should attempt to get a Yellowstone injunction to allow you to cure your nonpayment if the court ultimately rules against you.
- Consult counsel early and often. Many sophisticated business people think this is unnecessary, since they negotiate deals every day. But commercial leases are filled with loaded terms and traps for the unwary. A lot of litigation between commercial landlords and tenants arises because one or both parties don’t fully understand the lease they signed. Avoid this and get counsel involved upfront.