It is not surprising that under the current circumstances, restaurants are seeking help to understand their lease obligations. Can they close their restaurant? Can they stop paying rent? The short answer is possibly yes, but not in every instance.
Each case is different, so it is important for restaurant owners to consult with a real estate attorney about their own particular situation. This article will present some ideas to consider in that evaluation.
Review The Lease
Start with the lease. The lease applicable to the subject premises may contain clauses that allow the tenant to close its business and stop paying rent; or, in circumstances where the business is required to be closed, cease rental payments upon that event. Additionally, applicable case law may also support your ability to close your business and/or stop paying rent.
The terms force majeure and “Acts of God” appear frequently in articles, newsletters and other publications as more and more businesses are looking for ways to freeze performance under their lease or perhaps, terminate the lease altogether.
What is a Force Majeure Clause?
A force majeure clause, which typically includes a reference to “Acts of God,” is one that permits a party to a contract to be relieved from performing under that contract during a time when, due to some event outside of its reasonable control, the party’s ability to perform is impeded, hindered or prevented.
Generally speaking, there is a high bar for the invocation of a force majeure clause and whether or not it will apply will depend on the exact language of the contract and the law of the jurisdiction set forth in the contract. In the context of a commercial lease, if the lease contains a force majeure clause that specifically relieves performance in the event of a pandemic or similar event, a tenant may be permitted to close and stop paying rent.
However, force majeure clauses can often be a frustrating dead end because: (i) courts apply them very strictly; (ii) lease language frequently applies force majeure only to more limited circumstances such as delays in construction; (iii) very few leases actually reference pandemics; and (iv) many leases specifically do not permit force majeure to forgive payment of rent. If the lease in question originated with a landlord with multiple properties and a strong landlord lease, there is a good chance the force majeure clause will specifically not forgive the payment of rent.
That landlord will expect the tenant to insure against that risk. In any event, if there is any chance of making a claim for rent relief under the force majeure clause, the tenant should examine the lease for landlord default provisions or the notice clause to be certain that appropriate notice of tenant’s position is sent to the landlord. Otherwise there is a risk of tenant’s rights being waived.
Other potential avenues for relief also turn on the exact language of the lease. If the tenant’s obligation to pay rent is conditioned on the landlord’s ability to deliver to the tenant initial or continued access to the premises, it would reasonable to conclude that rent can be excused while the premises cannot be accessed. Again, each lease needs to be read carefully to determine what arguments can be made.
Read Insurance Provisions
It is additionally essential that the tenant review its insurance provisions to determine if there is any coverage for interruption of business or rent insurance. Some leases require business interruption or rent insurance for the landlord’s protection. Tenant can make that claim to its carrier. The insurance company may then contest coverage on the basis that rent isn’t due because of the concepts discussed in this article.
In many jurisdictions case law (also known as the common law) may provide a stronger argument than any language in the lease for relief, including possibly permitting a tenant to close its business and/or stop paying rent. Two relevant doctrines found in case law are the: (i) discharge by supervening impracticability; and (ii) prevention by governmental regulation or order.
As to the former, a supervening event (such as a pandemic) may allow a tenant to close and/or stop paying rent if an event occurs, the non-occurrence of which was a basic assumption upon which both parties made the contract. The event must have been unforeseeable. The standard is high. It is not enough that the business has been made difficult or unprofitable, it must have been rendered impracticable, which means incapable of being performed.
In the context of a lease, if customers are legally restricted from visiting a restaurant due to unforeseen circumstances (a pandemic lockdown), a court may find that (i) the parties assumed that such an event would not occur in making the contract; (ii) the event was unforeseeable; and (iii) as a result of the event the contract cannot be performed. In the case of a restaurant, for instance, even if the restaurant can open, there are no customers to sell to because of stay at home orders and social distancing requirements. These findings should be sufficient under the supervening impracticability doctrine to permit the tenant to close and stop paying rent.
Prevention by governmental order is self-explanatory and much easier to prove. As in the case of the recent orders by the Governors of New York, California and Illinois, among others, if a business is simply prohibited from operating due to unforeseeable circumstances, which prevents it from operating according to the terms of its lease (the business is prohibited from operating in the premises), then the party may be excused from performance (in the case of a tenant, remain open or pay rent).
The businesses that were targeted in the original Governor’s Orders in New York, such as restaurants, certainly can argue they fall into this category. They have been mandated to close their doors. Under the doctrine of prevention by governmental order, those tenants argue that their obligations to perform under the contract are excused because the government prevents them from opening.
There is a gray area in that restaurants are permitted to partially operate through takeout and delivery. Whether their level of operation is enough to make their businesses legally “operable” will probably have to be tested in court, but those owners can argue that the limited operation is not what they bargained for and was only undertaken to survive and for the community’s benefit. They should not be penalized for that.
Stop Paying Rent?
Assuming for a moment that applicable law does not permit the tenant to close its business and/or stop paying rent, many businesses will make the practical decision to do just that anyway. What repercussions may follow from that will likely be specified in the lease and subject to state/county/local municipality mandates.
Many jurisdictions have already announced moratoriums on commercial evictions. New York has ordered all but essential actions to cease for 90 days. So even if a tenant’s position is unclear, a tenant could make the economic decision to stop paying rent and know that, while the landlord may send them a default notice, there is no legal action that can be taken against them, including an eviction proceeding, for at least 90 days.
It is important for business owners to know that many of the legal principles discussed above that offer an avenue for tenants to close and/or stop paying rent under a lease may also be applied to other contracts, including force majeure, doctrine of supervening impracticability, prevention by government regulation as well as others including frustration of purpose. Again, whether performance can ultimately be excused will depend on the exact language of the agreement and the applicable jurisdictions. However, this may offer relief in claims by vendors and other creditors.
We are urging clients to review their leases and contracts for the types of clauses that we highlighted above. With a proactive approach and open dialogue with the other party (whether your landlord, supplier or other contracting party), you may be able to develop a plan of action that gives you relief now and provides for the continuation of your business after things normalize.