Within some commercial leases are provisions which create exceptions to performance under the lease, including the demand for continuous operation or rental payments under force majeure or government taking theories.

LEASE PROVISIONS

Force Majeure
The most common definition of a force majeure event is an “act of God.” Black’s Law Dictionary defines an act of God as “an overwhelming, unpreventable event caused exclusively by forces of nature, such as an earthquake, flood, or tornado.” Simply put, under the force majeure doctrine, “No man is responsible for that which no man can control.” Cal. Civ. Code § 3526.

A force majeure clause in a contract essentially renders contractual performance too difficult or even impossible where an event (or series of events) triggers a force majeure clause, thus suspending, deferring, or releasing a party of their duties to perform without liability. See Cal. Civ. Code § 3531 (“The law never requires impossibilities.”).

In a commercial lease, if a force majeure clause is present, it will generally describe circumstances outside a party’s control that upon occurrence will excuse or delay a party’s performance, for instance, an act of terrorism, earthquake, flood, epidemics, and government action. Depending upon the language in the particular lease, the force majeure clause may permit either the landlord or tenant to terminate or suspend performance, if force majeure is applicable, for a period of time.

Insurance Provisions
In many commercial leases, insurance is required by the landlord, tenant or both. Other considerations landlords and tenants should understand is whose party’s insurance is triggered by closures or disruptions arising from COVID-19. Whose insurance (the landlord’s insurance, the tenant’s insurance or both policies) is triggered may depend on the specific language of the lease.

Additionally, although most businesses interruption coverage does not cover infectious disease, it is important to check with your insurance provider to see if you do have applicable insurance coverage. Due to the increasing time for processing claims and to meet notice requirements from insurance companies, it is strongly encouraged that clients promptly discuss their coverage polices with their insurance providers.

Condemnation/Eminent Domain
Under an eminent domain theory, many tenants and landlords may argue they are entitled to rent relief. Some tenants may contend that government action requiring businesses to close temporarily to prevent the rapid spread of COVID-19 effectively converts leased spaces for “public use” or a benefit to the public, requiring government compensation. Similarly, landlords may file their own eminent domain action to recover if the government has “taken” the property indirectly, because their tenants are impacted due to government action.

If an eminent domain provision is present in a lease, it will often provide the landlord or tenant with the right to terminate the lease in the event of a permanent taking. If government closures related to COVID-19 are deemed takings and last only for a short duration, many tenants may pursue rent abatements under the language of their particular leases.

Doctrine of Frustration of Purpose and Impossibility In the absence of a force majeure clause in a lease, there are other legal theories that may support a defense for nonperformance. The common law doctrine of impossibility may be raised to excuse contractual performance. The doctrine of impossibility is where, “after a contract is made, a party’s performance is made impracticable without fault by the occurrence of an event, the non-occurrence of which was a basic assumption on which the contract was made….” See Restatement (2d) Contracts § 261.

When invoking discharge of performance on a theory of impossibility, the courts will first look to the lease for guidance for any terms or conditions that may limit the use of this doctrine. The courts may also look to the lease to see whether the purpose of the lease is able to be fulfilled, even though the unforeseeable event has occurred.

Frustration of purpose is another similar common law defense to excuse contractual performance. The doctrine of frustration of purpose is available as a defense where contractual performance remains feasible but has become pointless. See Second Restatement of Contracts § 265. To succeed in asserting a frustration defense, the purpose or contemplation of both parties for which the lease was entered into must be frustrated.

Although both doctrines depend on the specific terms of the lease the difficulties presented by COVID-19, along with the associated government actions, these doctrines offer options to parties of a lease where a force majeure clause is not expressly stated in the lease.

As your business confronts the challenges of COVID-19, we are here to help. The following online resources are helpful address and answer questions concerning the impacts of COVID-19. Click on each topic to learn more:

Santa Barbara Public Health

Santa Barbara County Ready – Economic Recovery

California Coronavirus Response

Alcoholic Beverage Control COVID-19 Updates

Regulatory Tools and Policies

– Fundamentally review/revamp zoning and permitting process to be more flexible to accommodate market and changing retailer and customer dynamics.

– Prioritize Economic Development within the City and work with other business organizations to clarify their roles.

– Identify beneficial retail categories and streamline permit process.

– Provide easy permits for temporary Pop-Up users.

– Facilitate infill housing or live/work space in back of vacant buildings along State Street.

– Incentivize a blend of residential, office, and hotel reuse of vacant commercial buildings.

– Expand community outreach efforts to get broad feedback on land use issues.

– Consider Specific Plan for zoning strategy/higher density on targeted sites.

– Facilitate development of new workforce housing, including micro units, between Chapala St. and Anacapa St. and utilize surplus parking spaces in City parking structures to meet onsite requirement and reduce development costs

– Encourage more creative office uses along State Street (e.g. Impact Hub, The Sandbox, and cowork zones).

– Work with MTD to expand evening bus services for State Street workers and visitors.

– Encourage window displays to avoid dead zones with 100 feet of frosted glass.

– Encourage UCSB to open a satellite campus downtown.

– Establish an Adaptive Reuse Zone with less restrictive building permit rules.

– Facilitate outdoor dining permits to yield major increase in restaurant sales.

– Encourage rooftop public dining areas along State Street.

– Provide process to allow for live music/amplified sound after 10 PM to attract customers in evenings.

Infrastructure Investment

– Provide free waterfront shuttle service on State Street.

– Improve image through public infrastructure improvements.

– Consider creation of pedestrian mall for 2-3 blocks on State Street, requiring closure of portion of State Street to vehicular traffic.

Marketing and Outreach

– Increase special events – facilitate and standardize the event permit process.

– Educate residents, City Council, and jurisdictional bodies on importance of State Street’s economic health to generate revenue for critical public services – +5 years of declining sales can cause a snowball effect, creating blight throughout the entire State Street corridor.

– Educate landlords/businesses and City on experiential, destination, and omni-channel retail trends and blended use so City can resolve “anti-business” reputation and image through marketing/branding and implementation.

– Increase local Santa Barbara resident patronage through special events and promotions.

– Consider concept of monthly or more frequent community events in Downtown (Consider using De la Guerra Plaza and other public spaces to host arts and music events).

– Create more experiences for shoppers (e.g. “Pop Ups”, entertainment, breweries, etc.).

The Kosmont team will present their findings to Council and the community at a public hearing on Thursday, July 25 at 4 PM at City Hall, Council Chambers, followed by public comment and Council discussion.

CLICK HERE to view the full report from santabarbaraca.gov.

CLICK HERE to view Santa Barbara Independent’s article on Kosmot Companies recommendations:  “Report Describes Santa Barbara Unfriendly to Business, Suffocated by Red Tape.” 

Gross Lease: In this type of lease, the rent is all-inclusive. The landlord will pay for most expenses that are associated with the property from the rent that he/she receives from the tenants. This typically will include taxes, insurance, maintenance, janitorial services and sometimes utilities. It is important for the potential tenant to inquire what type of janitorial services will be provided and how often, as well as what utilities are provided. Also, if any utilities will be billed back to the tenant in the case of excessive consumption. If so, a cap should be clarified on the lease. In a gross lease the tenant will still be responsible for their own insurance and taxes.

This is a great lease for the tenant as it allows them to budget each month without having any unforeseen costs arise. The landlord focuses on the building so that their tenants can focus on managing and growing their businesses.

Net Lease: In a net lease, the landlord charges a base rent for the space plus additional cost for building maintenance and operations which may include: real estate taxes, property insurance, common area maintenance, utilities, landscaping, parking, etc…

Triple Net Lease: The most popular type of Net Lease is a Triple Net (NNN) where the tenant pays the base rent plus all or part of the three “nets” associated with the building – property taxes, insurance and common area operating expenses. The tenant is also responsible for paying for their own utilities, insurance and taxes.

Triple Net Leases tend to be more landlord friendly which is why it is important for the tenant to carefully review all fees and work to negotiate caps on the amounts that they can be billed annually.

The benefits to a Triple Net Lease are that the building expenses are made transparent to the tenants, and the base rent tends to be lower than in a gross lease as the tenant is responsible for more of the building operating costs.

Absolute Triple Net Lease is a more binding and strict NNN lease. Tenants carry all of the risk for the building such as costs of rebuilding after a natural disaster or continuing to pay rent even if a building has been condemned. The tenants have ultimate responsibility for the building regardless of circumstances.

When evaluating and negotiating options for a commercial lease be sure to compare the different lease options with all expenses in mind. While a NNN Lease may seem more appealing because of the lower base rent, the additional building operating costs will determine the true monthly rental rate. Market forces should however tend to even out leases across similar spaces, regardless of their type. Be sure to read over your lease carefully and clarify what expenses you will be responsible for so that you can have a more accurate idea of how much to budget for each month. Any potential additional charges should be identified and caps negotiated, whenever possible.

Contact us for assistance with lease negotiation and execution.

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inquiry@compassfirst.com