Default and Remedies in a Commercial Lease

Leases usually separate monetary defaults, such as unpaid rent, from non-monetary defaults, such as failing to keep insurance in place or making alterations without consent. Many forms add further events: abandoning the space, an assignment without consent, or insolvency. Read the list closely, because some landlord forms contain items that a tenant could trip over without meaning to.

• Failing to pay rent or any other charge, however small.
• Failing to deliver an estoppel certificate, a financial statement or an insurance certificate by a deadline.
• Vacating the space, even if you keep paying rent, if the lease requires continuous operation.
• Bankruptcy or insolvency events involving the tenant or a guarantor.
• A default under another lease or agreement with the same landlord, known as a cross-default.

Ask your attorney to review the list and to take out anything that could be a default on day one or without warning.

An article on lease default language by Peter Segal in WealthManagement.com says that most leases require notice and a chance to cure before a tenant is in default. It adds that a tenant can lose its cure period if it does not follow the lease’s procedures when responding to a default notice. So the fine print on how notices work matters as much as the length of the cure period.

• ✓Is there written notice and a cure period for monetary defaults, and how long is it?
• ✓Does the cure period for non-monetary defaults extend as long as we are diligently working on a problem that cannot be fixed quickly?
• ✓Can a landlord skip notice for repeat late payments? If so, how many times, and within what period, before that happens?
• ✓Must notices go to a specific person, with a copy to our attorney? Is our notice address kept current, especially after a move?
• ✓Do we have to take a specific step, such as responding in writing within a set time, to keep our cure rights?
• ✓Do late charges and interest begin immediately, or after a grace period?
• ✓Does a guarantor have its own notice and cure rights?

Put every lease notice address on your critical-dates list. A default notice sent to the suite you left, or to a person no longer with the company, can run out the cure period before anyone reads it.

Remedies are set by the lease and limited by state law. Segal’s article describes a familiar set, which your lease may combine.

• Terminate the lease or, in some forms, end your right to possession while keeping the lease alive, so that rent obligations continue.
• Recover the space through the legal process in your state. Do not assume what a landlord can or cannot do without a court; ask your attorney.
• Sue for past-due rent, late fees, interest and the costs of reletting, such as brokerage commissions and improvements for a new tenant.
• Accelerate rent, by demanding the remaining rent for the term at once.
• Draw on the security deposit or letter of credit and pursue any guarantor. Segal notes that guaranties may cover payment, performance or both.
• Assert a lien on your goods and fixtures. Segal notes that many jurisdictions give landlords a statutory lien, some require the lease to create it, and the lease may subordinate it to your lender or equipment vendor.
• Recover restoration costs and attorneys’ fees, if the lease provides for them.

Acceleration turns a missed payment into a claim for the balance of the lease. Segal notes that leases often cap it at the present value of the remaining rent. Check that yours does, what discount rate it uses, and whether you get a credit for what the landlord could earn by reletting.

Here is why those details matter. This example is hypothetical, for illustration. A tenant with 36 months left at $20,000 a month faces a claim of $720,000 before any discount or credit. A clause that discounts to present value, credits the rent from a replacement tenant or the fair rental value, and requires the landlord to prove its costs yields a far lower number than one that simply demands the full amount. The wording decides which of those you have.

Enforceability differs by state and may depend on the structure of the clause, so have your attorney review it.

Whether a landlord must try to reduce its losses after your default depends on state law and on the lease. Do not assume it.

Illinois is one example, and it shows how a general rule can have limits. The Illinois statute, 735 ILCS 5/9-213.1, says a landlord or its agent shall take reasonable measures to mitigate the damages recoverable against a defaulting lessee. A Buchalter article on Illinois commercial leases explains that courts treat compliance as a question of fact decided case by case. It also reports that in Takiff Properties v. GTI Life (2018), an Illinois appellate court held that a commercial tenant can waive the duty by contract. Buchalter adds that a landlord has no duty to mitigate until it takes possession, and that mitigation is generally irrelevant when the lease contains an enforceable liquidated damages provision.

So a form lease may quietly give this protection away. Look for language saying that the landlord has no duty to relet, or that it may relet in its sole discretion. Other states have different rules. Confirm with an attorney licensed in the state where the space sits.

1. Lengthen and clarify the cure periods, with extended time for non-monetary problems that take longer to fix.
2. Require a written notice for every default, or limit the exceptions to a stated number of repeat late payments.
3. Remove defaults you cannot control or that are not serious, and narrow cross-defaults.
4. Limit acceleration: present value at a stated discount rate, with a credit for reletting income or fair rental value.
5. Require the landlord to use commercially reasonable efforts to relet, and do not sign away mitigation by accident.
6. Exclude consequential and punitive damages, and ask that the same protection run both ways.
7. Ask for a mutual attorneys’ fee clause, so that the side that loses pays, in place of one that only helps the landlord.
8. Subordinate any landlord lien to your lender, or remove it, particularly if you have equipment financing.
9. Add a landlord default clause with notice, cure and a remedy for you, since many forms mention only tenant defaults.

Tenant Advisory Group negotiates the business points of these clauses for tenants alongside the economics, and your real estate attorney handles the language. If you are already in trouble, read the notice, confirm the deadlines and call your attorney first. Early conversations often leave more options than a default that has already run its course.