Commercial Leases and COVID-19
The COVID-19 pandemic has already had dire global consequences. Its full impact, especially on local economies, is yet-to-be seen.
For landlords of commercial properties, the most direct and imminent effect relates to the receipt of monthly rent: In these unexpectedly challenging times, their tenants may be struggling to meet their obligations to pay as required under the lease.
From the perspective of the landlord, the natural question is how the COVID-19 pandemic affects its legal right to receive full rent amounts, and whether a tenant’s obligations still endure even though, for example, its business operations have been ordered closed as part of the Ontario government shutdown of all but essential services. The answer becomes even more unclear where the tenant’s financial constraints arise because it has losed its business or reduced operations for the health or safety of its staff.
Unfortunately there is no single, definitive answer for the moment, since it depends on many legal and fact-specific elements. However, this article will touch upon some of the things that landlords will want to consider.
Commercial Lease as Contract
A commercial lease is a legal contract. While the COVID-19 pandemic may have temporarily halted many businesses’ everyday activities, the contractual underpinnings of those activities – and the corresponding obligations – have not necessarily been put on “pause”. Unless the lease clearly stipulates otherwise or it has been legally frustrated,1 a tenant may still be obliged to pay the landlord the full rent, even if it has been ordered closed by the government or has a drastically-reduced capacity to pay.
1 Under this legal principle, COVID-19 may be deemed a factor that “frustrates” and brings an end to the contract entirely, by making it impossible for one or both parties to perform their end of the bargain. However there are significant legal hurdles that must be met, before a court will deem a contract legally frustrated.That said, there are exceptions. In all cases, the manner in which the global pandemic affects a commercial landlord’s rights will be primarily dictated by the wording of the lease it has negotiated with the tenant.
Leases and Force Majeure Clauses
When reviewing that lease, an important provision to look for is a Force Majeure (or “superior force”) clause. It anticipates the possibility that unanticipated events and disasters, beyond either party’s control, might prevent the contract from being completed. Once triggered, a Force Majeure clause could operate to end the contract, and relieve both parties of any further performance under it – including the tenant’s rent obligations.
However, simply having a Force Majeure clause in a lease does not resolve the matter entirely, because its effect on the parties’ rights is driven by the specific wording used. In some leases, the Force Majeure clause will expressly exclude events like COVID-19; in others, it might encompass a pandemic, but still not relieve the tenant from its rent-payment obligations. It varies from case-to-case.
Examples of Force Majeure clauses appear in some of the Canadian caselaw where a court was asked to determine whether the clause was comprehensive enough to cover the unexpected disaster that one party was relying on to avoid its obligations under a lease. In one such case, the court recites the clause and reflects on its proper interpretation: 240 Despite the stringent nature of these clauses, the lease provides relief to the lessee in certain circumstances. The Force Majeure Clause, for example, provides relief from the need to conduct continuing operations when certain circumstances arise that are beyond the lessee's control. Clause 16 reads:
16. FORCE MAJEURE
(a) If operations are interrupted or suspended or cannot be commenced as a result of force majeure, this Lease shall not terminate during any such period of interruption, suspension or inability to commence caused thereby or for 30 days thereafter.
(b) If the Lessee is unable, in whole or in part, by force majeure to carry out its obligations hereunder, other than any obligation to make payment of any monies due hereunder, then the obligations of the Lessee, so far as they are affected by such force majeure, shall be suspended during the
2 Omers Energy Inc v. Alberta (Energy Resources Conservation Board), [2011] A.J. No. 954, 2011 ABCA 251, 513 A.R. 292, 340 D.L.R. (4th) 443 (Alta. C.A.), which involved the commercial lease relating to a gas well. Continuance of any inability so caused; and the cause of
the force majeure so far as possible shall be remedied with all reasonable dispatch.
(c) Nothing herein shall require the settlement of strikes, lockouts or other labour disturbances except in the sole discretion of the Lessee.
41 Force majeure is defined in Clause 1 as follows:
(c) "force majeure" means any cause beyond the Lessee's reasonable control and, without limitation, includes an act of God, strike, lockout, or other industrial disturbance, act of any public enemy, war, blockade, riot, lightning, fire, storm, flood, explosion, unusually severe weather conditions, government restraints, including road bans, but shall not include lack of
finances; (Emphasis added)
42 The Force Majeure Clause protects the loss of the lessee's investment in
the lease for defined reasons beyond the lessee's reasonable control. The fact that "lack of finances" is excluded as a cause of force majeure supports the clear inference that the parties intended the [lease objective would continue] without regard to lack of finances.
In that case, the court ultimately concluded that the lessee’s “lack of finances” was expressly excluded as an excuse for its non-fulfilment of its obligations and found that the lessee remained liable.
No cases have identical facts and evidence. Therefore, the result will differ. In a broader legal sense, the proper characterization of the coronavirus pandemic is still up for dispute, and it is too early to tell whether courts will universally interpret Force Majeure clauses in a way that preserves commercial landlords’ rights to receive rent under a lease. Plus, all Ontario courts and tribunals have been ordered closed on an emergency basis for the foreseeable future, so it will be some time before a judicial determination on this narrow point can be made.
Considering Concessions
Until the pandemic is under control and businesses can resume their operations, the respective rights of commercial landlords and their tenants may be uncertain, and in flux. Landlords may be facing requests from tenants for rent relief or abatement, or for other concessions. The government is also encouraging landlords to offer tenants options or conciliations in light of their financial predicament.
From the landlord’s standpoint, the proper response will be predicated on numerous elements, starting with the specific terms of the commercial lease. Does it contain a Force Majeure clause? Does it contain an operating covenant that requires the tenant to remain open at all times? Or does the lease permit the tenant to cease or suspend its operations in certain defined conditions? Does it already stipulate consequences for the tenant’s voluntary cessation of operations, or for its unilateral refusal to pay rent?
The landlord will also want to look at the reason for the tenant’s inability to pay. Did the tenant close its business under the provincial government’s order to close non-essential services? Or did it close or reduce its business operations voluntarily? Is the tenant able to pay any rent at all, in the short-term? Is the tenant’s financial situation likely to improve?
Finally, the landlord will want to ask itself some blunt questions about the concessions it might realistically be willing to make. Can the landlord offer a deferral of the basic rent for a period, followed by an increase at a later date (i.e. when COVID-19 crisis hopefully subsides, and the tenant is able to get back on its feet)? Can the landlord offer the tenant the opportunity to pay only a percentage- based rent for a set time-period, until the global crisis starts to settle?
As another option, the landlord may also have some “wiggle room” to offer the tenant around administrative costs, for example by offering a reduced charge for operating costs, management fees, or marketing fees in the short term.
There are many “moving parts” to the equation, and potentially an equal number of customized solutions to the tenant’s economic conundrum. Incidentally, if the commercial landlord is indeed prepared to offer the tenant any kind of concession, it is important to get the terms in writing, and to fix an end-date.
Without Concessions
If the landlord chooses not to offer a compromise solution to a tenant’s breach of the lease, then the usual and traditional legal remedies will be available in response. These may include suing for rent, exercising the right to distrain, or terminating the lease and seeking related remedies, including re- letting the premises and claiming damages. However, this hardline approach also comes with its challenges, the first being that it will be difficult for a landlord to find a replacement tenant in the present crisis, should it choose an option that calls for that measure.
Secondly, it will be difficult for the landlord to avail itself of some legal remedies in light of government-imposed shutdowns. To use one example: In stipulated circumstances, a commercial landlord technically has the right under the Ontario Commercial Tenancies Act3 to repossess the premises within 15 days after the tenant’s failure to pay rent. Ideally, the landlord’s remedy will be reinforced by a court order. However, the Ontario courts have been ordered by the government to remain closed until further notice (except for what are considered “urgent matters”). Any writ of possession the landlord can obtain will be difficult to carry out, because the Sheriff’s Office is also running with limited staff who have been instructed not to enforce these kinds of orders for the time being.
So, while the landlord may want to insist on its strict legal rights, the current crisis may make it difficult – if not impossible – to do so. The best course of action might therefore start with a unique solution, resolved through negotiation between landlord and the tenant.
What’s the Bottom Line?
This is a difficult time for commercial landlords, and tenants. There are many financial pressures generated by province-wide mandatory shutdowns, and many uncertainties around how the rights of landlords, and the duties and obligations of tenants, are impacted. The proper characterization of the COVID-19 in the context of Force Majeure clause remains unclear, and it is too early to predict how courts will rule on that issue.
There are no clear answers at the moment, and many variables and challenges still to be revealed. For all these reasons, it is vital to obtain legal advice that is tailored to the specific situation.