Assigning A Commercial Lease: What Assignors, Assignees And Landlords Should Know

A commercial lease assignment involves a transfer of a commercial tenant's (the "Assignor") rights and obligations to a new tenant (the "Assignee"), where the Assignee agrees to assume the Assignor's rights and obligations under the original lease with the landlord. The parties to an assignment of lease must ensure compliance with the terms in both the assignment of lease agreement and the original lease.

There are many reasons for entering into a lease assignment. Assignors may be selling their business, restructuring or looking to exit their current lease prior to its expiry. Assignees may prefer the particular location and existing lease terms, while landlords may allow an assignment of the lease (provided certain conditions are met) to ensure a steady stream of rent if the current tenant is having financial troubles.

Most commercial lease assignments involve the negotiation and signing of an assignment and assumption agreement as between the Assignor and Assignee, and a consent to assignment of lease agreement as between the Assignor, Assignee and the landlord.

Each of the Assignor, Assignee and landlord must carefully review the terms of such agreements as they relate to its particular interests. Retaining legal counsel for such matters is highly recommended, as such agreements can be complex and result in unintended liability.

Assignors (Current Tenants)

Consent Requirements

Commercial leases typically include an assignment clause, which requires the landlord's written consent to the assignment and sets out specific terms that must be complied with before any assignment can become effective. While specific terms may vary, s.23(1) of the Commercial Tenancies Act provides that consent to an assignment of lease is not to be unreasonably withheld, unless an express provision is made to the contrary.

What constitutes unreasonably withholding of consent depends on the facts of each case. To determine reasonableness, the court will look at the information available to, and the reasons given by, the landlord at the time the landlord neglected or refused consent (Rabin v. 2490918 Ontario Inc., 2023 ONCA 49 ("Rabin")). The lease may note factors that the landlord may consider in making its determination to grant or not grant its consent to assignment (e.g., that the Assignee has the financial ability to fulfill the terms and obligations under the lease, that the Assignor has regularly complied with its obligations under the lease, that the intended use of the leased premises by the Assignee will not increase the risk of environmental contamination or damage to the premises, etc.).

The Assignor must ensure it obtains the landlord's written consent before entering into any assignment and assumption agreement with the Assignee, or risk being deemed in default of the lease by the landlord.

Notwithstanding the general requirement for landlord consent, there are times when a landlord can be persuaded to allow for certain assignments of the lease without requiring their consent, but with prior written notice (e.g., if the lease is being assigned to a subsidiary, parent or affiliate of the tenant).

Continuing Liability

It is important to review the assignment provisions in a commercial lease for any requirement that the Assignor remains jointly and severally liable with the Assignee under the original lease upon any assignment if the Assignee defaults under such lease. This requirement carries significant risk for Assignors as it imposes liability on the Assignor for the default of the Assignee, even though the Assignor no longer carries on business at the leased premises nor has any control over the conduct of the Assignee following the lease assignment. This liability may extend beyond the original term if the Assignee exercises a renewal option, unless the Assignor negotiates a specific release from the landlord.

Accordingly, when obtaining consent to assign a lease from a landlord, Assignors should attempt to negotiate a release from such continuing liability with the landlord (including a release of any personal guarantee, if applicable). If such a release cannot be negotiated, the Assignor should ensure that the Assignee agrees to indemnify and hold the Assignor harmless for and against any claims, actions, suits, demands, etc. that the Assignor may suffer as a result of the Assignee's breach under the lease. For this reason, it is also generally prudent for the Assignor to conduct some due diligence against the Assignee to ensure the Assignee has the financial means to meet all its obligations as the new tenant under the lease.

Security Deposit

A security deposit paid by the Assignor to the landlord is unlikely to be returned by the landlord upon an assignment; rather, the landlord will continue to hold such security deposit on account of the new tenant (Assignee). It is therefore important that Assignors ensure that they are able to recover these deposit amounts from the Assignee by including a term in the assignment and assumption of lease whereby the Assignee agrees to reimburse the Assignor for such amount as a condition to the assignment.

Costs

There will typically be requirements in the assignment provisions regarding the Assignor being responsible for the landlord's legal and administrative costs associated with reviewing and granting its consent to assignment. These costs can include the landlord's legal fees for drafting or reviewing the consent documentation, as well as internal administrative charges. Such costs will be borne solely by the Assignor as part of the landlord's conditions for the assignment, unless the Assignor negotiates with the Assignee to share such costs.

Assignees (New Tenants)

Due Diligence

Assignees must be cautious when assuming a lease where they are not the original tenants. They should inspect the leased premises to ensure it is or can (with permitted alterations) be suitable for their intended use. They must consider not only their rights and obligations under the assignment documentation, but also their rights and obligations under the original lease and any amendments thereto. As an Assignee, it is essential to review the entirety of the existing lease, including any amendments and extensions related thereto. Besides reviewing the obvious provisions such as Rent obligations, Assignees should also become familiar with any renewal options, use provisions, maintenance and repair obligations, leasehold improvement provisions, end of lease obligations, and various other terms and conditions that any prudent tenant of such space should consider before entering into a commercial lease. Additionally, Assignees should review any exclusivity clauses granted to other tenants in the building or plaza, as these could limit their intended use.

If the Assignee has strong negotiating leverage, there may be an opportunity to negotiate with the landlord for amendments to the original lease that are favourable to the Assignee as tenant. Some common amendments include revisions to the "Use" provision (if necessary) to allow for the Assignee's intended use of the leased premises, and providing for an option to renew (if the existing term will be expiring shortly).

Existing Defaults

It is critical for the Assignee to determine whether the existing lease is in good standing and that no defaults (by either the Assignor or Landlord) have occurred or are continuing. It would be highly unfortunate for an Assignee who is unaware of an existing default by the Assignor to have then assumed such default upon the effective assignment of lease. In most instances, the landlord will require any current defaults by the Assignor to be remedied as a condition of granting its consent to assignment. However, in the event of a previous default by the Assignor that has since been remedied, what is the implication of such default? For example, many tenant rights, such as renewal rights, are dependent on the tenant never having been in default under the lease; as such, if there has been a previous default by the Assignor, the Assignee may no longer have the benefit of its tenant renewal right under the lease. It is therefore prudent that Assignees include a representation and warranty from both the landlord and Assignor in the assignment documentation that confirms that the lease is in good standing and there are not, and have not been, any defaults.

Landlords

Control Over Tenancy

If the lease provides for an assignment, Landlords must contemplate when consent can and cannot be unreasonably withheld. The court in Rabin noted that when faced with an assignment request from a tenant, landlords must consider both the economic realities of the marketplace and the financial impact of the assignment to the landlord. Landlords should ensure the original lease provides grounds to inspect the Assignee's financial documents to properly assess the financial impact of the assignment. It is also common for landlords to restrict the Assignor's ability to advertise the leased premises unless the text and format of such advertisement is first approved by the landlord (and does not include reference to the rental rate).

Maintaining Flexibility

When negotiating assignment clauses in a lease, it is important to maintain flexibility. Landlords may wish to include the right to terminate the lease if they do not consent to the assignment. This gives landlords an exit option if they do not wish to accept the Assignee.

Protecting from Risk of Tenant Default

The greatest risk to landlords when consenting to a lease assignment is the Assignee's default. This can include monetary default (e.g. failure to pay rent) or non-monetary default (e.g. failing to maintain the property as agreed).

Some strategies for landlords to protect themselves in the event of such Assignee defaults include: (a) having the Assignor continue to be jointly and severally bound with the Assignee on the lease, at least for the remainder of the existing term (but ideally for any renewal terms as well); (b) ensuring there is a personal guarantor(s) who guarantees the obligations of the Assignee (if the Assignee is a corporation) under the lease; and (c) obtaining an additional security deposit be paid and held by the landlord as security for the Assignee's performance of its obligations under the lease.

Each of the above strategies should be contemplated and could then be carefully drafted into the assignment documentation as conditions precedent to the landlord's consent to the assignment.

Change in Control of the Tenant

What is a Change in Control

A change in control in the lease context refers to changes to the structure of ownership or control of a tenant who is a corporation or a partnership. This can include internal transfers of ownership due to amalgamations, reorganizations, or transfers of voting shares, rights or interests (e.g., changes to voting rights among existing shareholders or partners of the tenant), as well as external transfers of voting shares, rights or interests (e.g., the sale of all the issued shares of the corporate tenant to a third party, as part of the sale of the tenant's business). These transfers, while not resulting in an assignment to a new tenant/Assignee, can have the same effect as an assignment because there are now new persons in control of the existing corporate tenant. Accordingly, most landlords will deem such change in control scenarios as effectively being assignments/transfers of the lease, which would therefore be subject to the same terms and conditions related to an assignment of lease, subject to the terms of the lease. It is crucial that landlords include such change in control provisions in the lease to avoid any ambiguity as to whether such a change in control should effectively be treated as an assignment of lease.

Practical Implications

A change of control clause will typically trigger the same requirements as an assignment. Generally, the landlord's consent to such change in control is required. The same considerations regarding consent for an assignment ought to be considered in the context of change in control. Specifically:

• Consent not to be unreasonably withheld;
• Imposing joint and several liability on new and previous owners;
• Requiring guarantees from new owners;
• Continuing liability for the previous owner;
• Landlord's right to inspect financial documents.

It is important that tenants and landlords consider the language in a change of control clause to ensure that the definition of what constitutes a change in control of the tenant is clear (e.g. a transfer of more than 50% of voting shares, or changes to the directors, depending on the lease's specific language).

Tenant Considerations

As a tenant, consideration must be given to the type of transaction that would constitute a de facto assignment. Often, lawyers can assist in negotiating carve-outs in the lease so that transfers within a corporate entity for estate or tax planning purposes are not considered changes of control.

Conclusion and Practical Tips

Well-drafted commercial lease assignment documentation provides all parties with a common understanding regarding their rights, obligations and liabilities. The following are key considerations for each party when entering into an assignment of lease arrangement:

This blog was co-authored by articling student Jason Corry.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.