As we head into the second full month of social distancing and "shelter at home" orders, many tenants may find it even more difficult to make rent payments than they did in April. With those difficulties will come an increasing number of requests from tenants that their landlords modify the lease terms to defer or modify rent obligations.
As has been mentioned in this forum previously, making accommodations with tenants may be in the best long-term interests of landlords. Nearly every tenant has been impacted by the COVID-19 pandemic in some way, and landlords do not want to lose good tenants solely because of the extraordinary circumstances that exist in the world today. It is critical, however, that landlords consult their loan documents, and probably their lenders themselves, before entering into any modification of a tenant's lease obligations. For many non-recourse loans, an attempt to accommodate a tenant could inadvertently trigger recourse liability for the landlord and its principals.
The loan documents for most non-recourse real estate financings contain certain exceptions that provide for recourse to landlord borrowers and guarantors. Some of these carve-outs make the loan obligors personally liable for the losses to the lender attributable to certain actions; others automatically make the entire loan recourse. Initially, these exceptions were intended to prevent certain bad behaviors by the landlord; hence, they became colloquially referred to as "bad boy" guaranties. Over time, however, the list of these exceptions has grown to a dizzying array of complicated provisions, varying from lender to lender on some of their specifics, but not as to their complexity. Where once a landlord, as borrower, might have been able to anticipate the kinds of behaviors that would create recourse, now a careful review of its loan documents is necessary before taking almost any action outside of the normal course, to be sure that none of the carve-outs has been triggered.
Enter our landlord trying to find a way to keep its good tenants through the current pandemic. Before entering into any modifications to its leases, the landlord must review the implications of such a step under its loan documents. Any amendment, especially one affecting the rent, for any "major lease," will likely require lender consent. Securing such consent, even under the unprecedented circumstances we now find ourselves in, may be no easy task. Even if a landlord's lender might be inclined to consent, quickly getting the ear of someone with the authority to do so, especially for loans sold into a securitization pool, can be difficult at best. To proceed without that consent, however, will likely at least be a loan default, and may give rise to recourse liability.
Under some financing documents, simply modifying the lease without lender consent -- particularly amendments or concessions with respect to rent obligations -- may create carve-out liability. But even if not expressly stated as an exception to the non-recourse nature of the loan, such an amendment or concession can trigger personal liability under a different provision.
Recourse carve-outs almost always include transfer of the secured property. This would certainly seem to make sense -- the disposition of the lender's primary means of recovery should be near the top of any list of bad boy behaviors. But the definition of what constitutes a "transfer" is typically lengthy and complicated, going far beyond simply the conveyance of the real estate collateral. Documents will often provide that a transfer does not include a lease or lease amendment entered into in accordance with the terms of the financing agreements. Since those agreements likely mandate lender consent, at least with respect to modifications of any major lease, then an amendment without such consent fails to comply with the loan documents and may constitute a transfer under the terms of those documents. Our accommodating landlord now finds itself staring at a fully recourse loan obligation.
One bright spot during the present pandemic is that many lenders, like many landlords, recognize the unique circumstances we are all in, and are responding to borrower inquiries reasonably. A landlord in the situation described above may be able to seek reasonable accommodations from its financing party. But in any event, a landlord must consider the effects under its loan documents before granting tenants any concessions, including whether recourse might be triggered. Otherwise, a landlord trying to be helpful may find itself being a "bad boy."
Shipman & Goodwin attorneys possess the knowledge and experience to assist landlords and tenants navigate leases, including issues involving lease guaranties, with functional and pragmatic solutions during these uncertain times. We will endeavor to analyze and explain the relevant law in these areas and related considerations, and update our Coronavirus Resource Center (specifically, the Real Estate Leasing page) periodically to include relevant Connecticut, New York, federal and local laws, rules and regulations that are enacted during this crisis, as well as court filings and relevant precedent or other topical information, which are being circulated on these matters.
Article originally published on 6 May 2020
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