COVID-19: Effect on Obligations Under Real Property Agreements

COVID-19
March 27, 2020
 

As of late on March 23, 2020, Ohio is under an order issued by the Ohio Department of Health that, with limited exceptions for essential businesses and activities, requires all Ohioans to stay at home through at least April 6, 2020, in order to prevent the spread of COVID-19. Numerous other states, counties and municipalities also have issued orders – some using different terminology and with varying restrictions – all of which have brought us to the same result: Millions of Americans have been told not to go to work and companies are suspending operations, at least temporarily.

Although commerce has, to a large extent, ground to a halt, obligations under real property agreements are alive and well. Buyers and sellers, landlords and tenants, lenders and borrowers must now address a myriad of issues arising from the COVID-19 emergency, construing provisions that most likely did not contemplate a pandemic when the agreements were entered into. Here are some of the novel questions that could arise under existing real estate agreements going forward (by no means an exhaustive list):

Leases


Does an epidemic or pandemic allow the parties to excuse performance under the contract’s force majeure clause until the situation is resolved?

Force majeure (or unavoidable delay) clauses may excuse a party from fulfilling its contractual obligations during the duration of an event that was unforeseeable or outside of the party’s reasonable control that renders performance impossible or impracticable. Force majeure provisions tend to be specific and vary extensively from contract to contract as to the circumstances that allow parties to excuse performance. Thus, such provisions should be carefully examined and analyzed.

Depending on the particular lease, monetary obligations may not be excused on the basis of force majeure. On the other hand, tenant obligations to remain open for certain hours, or to perform certain repairs or complete tenant improvements, very well may be excused on the basis of force majeure. In any event, any party that wishes to maintain that performance was excused due to force majeure should thoroughly document and provide notice to the other party regarding the nature, extent and impact of the delay.

In contracts that were recently entered into, the parties may wish to enter into an addendum to extend time frames for certain aspects of party performances that are affected by a stay-at-home order or business or governmental closures.

If the lease’s force majeure clause is not particularly clear in terms of forgiving performance of lease obligations during a pandemic and governmental orders to stay at home (or if the lease does not contain a force majeure provision), can the tenant request some sort of relief/standstill from rental obligations?

In this situation, a party still may be able to excuse performance under doctrines of impossibility or impracticability to perform under the contract as a result of the current conditions. As noted above, in contracts that recently have been entered into, the parties may wish to enter into addendum to the contract to allow an extension of time frames for certain party performances that are impacted by a quarantine or closure of government offices.

Prior to approaching the landlord, the tenant should fully review its lease and any provision that might come into play (e.g., force majeure, landlord’s obligation to provide access/services/utilities, any distinctions between payment and “other covenant” performance, and related excusable interruptions, etc.) and understand its own obligations to continue to deliver goods or services as an essential business. It also would be helpful to know if there is a mortgage on the property as, ultimately, the decision may be the lender’s.

If the landlord is really a sublandlord, the master landlord also may have a say and need to be party to an amendment. A tenant should have an understanding of related insurance obligations. For example, which party’s insurance is triggered by closures/disruptions of this nature? Either party or both parties could have business interruption coverage.

Is a landlord obligated to offer or accept a tenant’s proposed rent abatement given the current COVID-19 environment? If a landlord is willing to work with a tenant on a rental reduction how should that be dealt with?

Like tenants, landlords should carefully review the force majeure provisions in their leases to determine if there is applicable language that would govern abatement of rent payments or other rent obligations during the pendency of the pandemic and governmental orders. If the leased property is subject to a mortgage, the landlord also should review its loan documentation to determine if there are any force majeure provisions dealing with this type of situation. It also should be noted that some loan documentation prohibits amendments of leases without obtaining the lender’s consent. If a landlord is willing to entertain any rental abatement, the parties should appropriately memorialize such agreements by written lease amendments (again, where permissible by a lender, if necessary).

Are there different types of relief available to a tenant that is an essential business under government guidelines, as opposed to a tenant that is not? If the tenant is an essential business, is the landlord taking appropriate measures to allow for limited access to the building/premises (even if the employees have been instructed to work remotely)?

If employees are required to work remotely, an essential business may need access to its premises to obtain equipment, records and accept deliveries, for example. In either scenario (essential or not), a tenant should evaluate if it can rely on the common law doctrine of “frustration” as a way to obtain relief due to an unforeseen event that renders contractual obligations impossible or substantially frustrates a party’s principal purpose for entering into the contract.

If the tenant’s business operation is temporarily suspended as a result of a government-imposed quarantine or stay-at-home order, can the tenant rely on business interruption insurance?

This is dependent on the coverage provided in the tenant’s specific insurance policy and what is included and excluded in the policy. Some insurance policies contain express exclusions from coverage for business interruption and therefore, will not provide business interruption coverage for COVID‑19. The tenant should promptly contact its insurance provider directly to confirm what is covered under the policy.

Purchase and Sale Agreements


I am under contract to purchase property, and we are scheduled to close next week. Can I do so?

There are some practical, logistical issues impacting upcoming closings. As a buyer, you should contact the title company that is assisting you in the transaction to determine if the local recorder’s office in the county where the property is located is open and accepting documents for recording and if so, the method by which such documents will be accepted.

As expected, this afternoon (March 27, 2020), Ohio Governor DeWine signed a COVID-19 relief bill (HB 197) that includes a provision requiring that county offices in Ohio, critical to conducting title searches and recording documents, stay open while the period of the emergency declared by the Governor is in effect. The law permits such county offices to limit the hours and duration of access and to impose restrictions in the interest of public health. At the very least, delays should be anticipated.

In many other parts of the country, county recorder’s offices are closed, and while it may be feasible to effect recordation electronically or by mail, the larger issue is whether title can be examined, insured as current, and diligence completed. Even if a title commitment was issued before closures were effectuated, title companies may have limited or no access to current records to downdate title for intervening liens. Title companies may have issues with issuing standard owners and loan title insurance policies without containing exceptions for the inability to perform updated title searches at closing. Thus, they are seeking indemnifications from the parties and including newly created exceptions to coverage that may not be acceptable to a buyer or its lender.

If a buyer is under contract with a time-limited diligence period and faces the potential loss of earnest money, it may want to now seek a written agreement of extension until the recording office in the closing jurisdiction reopens so as to be in a position to close with clear title. The fact that the extent of closure of recorder’s offices (from totally shuttered to working with limited personnel to accepting e-filings only) vary not only from state to state but from county to county, closing multi-state transactions will require significant advance diligence and planning for alternatives.

I have entered into an exchange agreement in order to effectuate a l031 like-kind exchange of real property. Have the identification or acquisition deadlines been extended?

As of now, no extensions have been announced to the deadlines for identifying the replacement property (within 45 days of closing) and completion of acquisition of the replacement property (within 180 days of closing or before the taxpayer’s next return is due) under Section 1031 of the Internal Revenue Code, so plan ahead.

Key Takeaways


Read your agreement. In all cases, the rights and obligations of the parties are dependent on the specific language that they have agreed to as memorialized in the governing agreement.

  • Clear communication early and often – landlord/tenant, buyer/seller and lender/borrower – is essential, subject to the caveat below.
  • Handshake agreements should be avoided. Any agreement to forebear on contractual requirements or otherwise modify the terms that the parties previously agreed to should always be documented in writing.

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