BY TEGAN SCHLATTER
Based upon experience representing both landlords and tenants in commercial lease disputes, I have found there to be a common theme–planning. You must take time when you are documenting a lease to draw clear boundaries around the parties’ rights and obligations, and landlords need to plan carefully when dealing with a default by a tenant. An aspirin a day may not help in this situation, but taking a few extra steps before you sign the lease might. If you are already taking these steps, feel free to pat yourself on the back as you read along.
A. Monetary DefaultsYour tenant has stopped paying rent, is paying here and there, or is paying rent, but not paying triple nets or other charges as required. Where do you draw the line and start the evictions process? Most leases allow a landlord to collect a debt, even if the tenant is still in the space. But if the tenant cannot afford to make payments as required, will you be able to successfully collect?
Check your tenant’s credit.Experience shows once tenants get $10,000 in default, they quickly get $20,000 in default and are in over their heads. A tenant struggling to make payments is going to struggle to make back payments as well. Send out a default letter sooner rather than later.
Ask to see your tenant’s books and current income. Check your guarantor’s credit.Your tenant isn’t paying, but you don’t have another tenant lined up either. At least your tenant keeps the space occupied, which can be better for the surrounding businesses (especially in retail situations). Maybe they are consistently behind on rent, but are still managing to cover the utility costs which you would otherwise be paying. Still, send out the default letter while you continue to look for a replacement tenant. Your lease terms should allow you to do this; make sure they do.
Draft the notice.The lease terms should clearly set out what you need to do to notify your tenant of the default and when you can evict the defaulting tenant. If the lease doesn’t set out these steps, additional work is required to be sure you can evict.
Ask for some security.If your tenant wants to work it out, ask for a security interest, such as a lien on inventory or real property, or cash and letters of credit for security deposits. Be aware that your lien may be behind several other lien holders. Depending on how behind your tenant is and their prospects for recovering and operating successfully (which you determined in the steps above), you may be comfortable with a junior lien or you may not.
If you’re still not reassured, it may be time to consider evicting. Ideally, you can help your tenant find someone else to take over the space, help them find a space they can afford, or give them a break in the rental amount. In any event, you are not helping yourself or your tenant by letting the number and magnitude of defaults pile up.
Rewind.Taking the four steps listed above before entering the lease can help avoid a monetary default later.
B. Non-Monetary DefaultsAre neighboring tenants up in arms, calling you about the loud music or toxic smell coming from the nail salon or electronics shop next door? The offending tenant is paying rent on time, but you can’t afford to lose all your other tenants to a tenant who isn’t neighborly.
What does your lease say about non-monetary defaults?Non-monetary defaults can vary widely and can include being excessively loud, threatening other tenants, violating safety, environmental, or health regulations, or not maintaining the premises as required. Read the default provisions of your lease carefully. What notice is required? Do you need to allow time for the tenant to cure the default before proceeding with an eviction?
Draft and send the notice.Follow the notice provision, and the language in the lease (to the extent possible), when drafting and sending the notice. Negotiating with a good, long-standing tenant is often a good idea. If the tenant can cure, set out the time limits in the lease for curing the default. Of course, you will want to take other tenants into consideration and understand how long curing the problem will take. Be sure to set time limits and be detailed about what the tenant must do and when, and set out that failure to cure or to begin curing the default under the lease within the required time limits will be a default and no further notice will be given (unless a second notice is required in the lease). Be clear that communications will not be a cure for the problem, only the cure required by the lease to abate the default will cure the problem. The tenant can call you and talk to you, but that does not change the lease terms and does not require another notice to be given.
Rewind.Having the lease spell out exactly how the tenant can use the space and what they can use the space for is essential. If it is a commercial lease, don’t assume you don’t need the same provisions for neighborliness that are in residential leases–all quiet after 10 p.m., no littering, no waste, and follow all environmental regulations. Anticipate non-monetary defaults by ensuring the lease requires compliance with all laws and regulations. That way, even though you didn’t think the beauty salon would start serving wine and mixed drinks, your lease requires that it obtains the proper certifications before it starts serving.
It’s easy to let the immediate need for a paying tenant override these concerns, but if your focus is on long-term stability, it’s worth taking a short-term hit to ensure that your property is stable and profitable years from now.