COVID-19 – Impact on Existing and Prospective Real Estate Transactions

Uncharted waters – we are all sailing in unchartered waters as the effects of COVID-19 impact our health, our business dealings, our government, our net worth, and our daily lives. And none of us knows what might happen from day to day or how long this crisis might last. In our transactional real estate practice, we are already dealing with multiple situations impacted by this new reality. We share the information and observations that follow to offer useful insights to our clients.

Existing Contracts

The overarching word that captures many of the issues spawned by the virus is “deadline.” Whether it is a closing date, the end of a due diligence period, the date by which a contingency such as the receipt of approvals or financing must be obtained, or the date of final delivery of a construction project, deadlines that were negotiated and commercially reasonable when agreed upon may no longer be possible to achieve. Government offices are shut down, and many professionals, consultants, and tradespeople are staying home. Deliveries of supplies are interrupted. In some counties, it is not possible to run title searches or record instruments such as deeds or mortgages due to the closing of recording offices (although e-recording is available in some locales). We believe defaults – and many of them – are virtual certainties.

What can be done to address the inability to meet pending deadlines and similar, but somewhat different, obligations, such as so-called “continuous operating covenants,” in retail leases? We offer the following five suggestions:

• 1. Communicate with Other Parties: We recommend communication with the parties with which you have contracts. Consensual solutions are always the best way to solve any issue. Of course, your counterpart might not be interested in renegotiating. And even if there is mutual interest, consensual solutions might prove quite difficult to craft, given all of the unknowns and uncertainties associated with the virus and various governmental responses to it. We can provide advice to guide you through these negotiations so that each transaction can proceed successfully.
• 2. Review Force Majeure Clauses: You might have contractual protection if your existing contract includes a so-called force majeure clause. A force majeure clause is designed to protect a party against its own failure to perform when non-performance results from causes beyond the party’s control. Terminology varies, and whether you have such a clause, or whether a pandemic is included in the scope of such a clause, will depend on the specific terms of your contract. Also, even if a pandemic is included as a cause beyond a party’s control, it might not protect the party in all instances. For example, a tenant’s obligation to pay fixed minimum rent is routinely carved out from any protection afforded by a force majeure clause included in a lease. Note that many force majeure clauses also require the party relying on it to notify the other contracting party contemporaneously with the event claimed to constitute a force majeure event. So you should be reviewing your contracts and sending out any applicable notices now.
• 3. Review Condemnation Clauses for Potential Effect: Following the September 11 attacks, some condemnation clauses in leases were expanded to include inability to access a building even when the building itself was not taken or harmed. When used, these clauses were sometimes limited to non-access based on government action. We do not believe this concept was widely adopted. Even if it were, the current facts might not be within the four corners of the relevant language within the clauses. However, it is still worth reviewing condemnation clauses to see if they might provide a basis for a tenant to not pay rent. If your current facts allow you to proceed under this clause, then, unlike with the force majeure clause, a tenant is almost certainly entitled to an abatement of rent.
• 4. Consider Potential Insurance Claims: To help you think this through, we refer you to our partner John Wolak’s article on this topic, which you can find here.
• 5. Seek Equitable Relief: Circumstances might dictate that you are left only with the option of seeking equitable relief from the courts. If no other solution presents itself, the last resort is to go into court and take the position that “this simply isn’t fair.” This argument might be couched in various legal terminology, such as impossibility of performance or other theories – but it pretty much comes down to “this simply isn’t fair.” The decision to bring an equitable action and the outcome will depend on the facts and the language in the contract. While many courts are currently closed to trials, this has not stopped courts from holding telephonic or video conferences to address motions and trial practice, and has not closed down the courts where emergent relief is necessary. However, the availability and speed of this approach will be slowed, perhaps materially, because of the virus.

Prospective Contracts

It seems very clear to us that the “new normal” is to address the COVID-19 situation by either adding a clause specifically designed to address the topic or by modifying the force majeure clause to include viral activity and the fallout therefrom (inability to deliver or search title or record or close with a bank, etc.). That is all easy enough to understand. The tricky questions are, for how long may a party be excused from action and what happens if the relevant time period comes to an end? We have seen suggested clauses that last until “the situation is resolved” or words to like effect. We recommend against language along these lines. No one knows how long resolution might take or what, in fact, constitutes resolution. Objective time periods are much easier to understand. But the parties must also agree on what happens should the maximum time period pass – rescission, return of deposits, rights of first refusal? This deserves focus, and does not lend itself to “one size fits all” solutions.

Conclusion

We are all feeling our way forward together. We will continue to monitor legislation and case law to remain abreast of the latest issues and solutions. As always, we stand ready to work through your issues with you and do our best to craft the most cost-effective solutions possible. For more information, please contact Shepard Federgreen.

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