Courts Take Dim View on Retailers' Right to Pandemic Rent Relief

New York State has become something of a national laboratory of commercial leasing litigation testing the rights of retail and restaurant tenants that couldn’t meet their lease rental obligations due to COVID-19 shutdowns. A brand-new case brought by upscale retailer Hugo Boss is particularly compelling because it involves most of the leading theories for COVID-related rent relief. Your assignment: Figure out which, if any, of those theories the court found as justifying Boss’s failure to pay rent in this case.  

SITUATION

It’s a familiar story. In 2012, Hugo Boss signed a 13-year lease for 15,000 square feet to operate “a first-class, high-quality store” at the posh indoor mall known as The Shops at Columbus Circle in Manhattan. By the time the pandemic hit, Boss was paying $692,026.07 per month in rent. In March 2020, the landlord had to shut down The Shops in response to orders issued by New York’s governor, effectively barring the access of Boss’s employees and delivery personnel from the premises. Boss paid rent for April but “reserved all rights and remedies available under the Lease” to postpone or abate rental payments if the landlord didn’t soften its stand on no future abatements.

Neither side backed down. Boss remained in the lease and The Shops reopened in September. But business was less than 50 percent of what it was before the pandemic. After paying full rent in May, Boss paid partial rent starting in June. The landlord sued for over $5 million in unpaid rent and attorney’s fees.

WHAT THE LEASE SAYS

While the parties had negotiated for certain accommodations in the event government restrictions affected their respective performance obligations under the lease, they didn’t provide for rent abatement. As a result, Boss had to fall back on what back in 2012 was pretty much thought of as boilerplate provisions, including:

• A casualty clause giving Boss 90 days to terminate if the premises were “rendered wholly or substantially untenantable, or damaged as a result of any casualty” not covered by the landlord’s insurance; and
• A force majeure clause covering “causes beyond the claiming party’s reasonable control (other than causes delaying the payment of money due and payable hereunder). . . including, without limitation. . . order or regulations of or by any governmental authority. . . .”

In addition to these lease provisions, Boss raised common law defenses that it claimed excused its failure to pay, including frustration of purpose, impossibility, and mutual mistake, recission, and the right to reformation of the lease.  

QUESTION

Which, if any, did the court say excused Boss’s failure to pay full rent? (select ALL that apply)

A.            The casualty clause

B.            The force majeure clause

C.            The frustration of purpose rule

D.            The impossibility rule

E.            The rule of mutual mistake, recission, and reformation

F.            None of the above

 

ANSWER

F. The court ruled that none of the above excused Boss’s failure to pay.   

EXPLANATION

Although all cases are different, the ruling in the Boss case is not only comprehensive but also consistent with the way other courts have ruled on tenant COVID-related rent nonpayment defenses both inside and outside New York [Hugo Boss Retail v. A/R Retail, 2021 N.Y. Misc. LEXIS 2580, 2021 NY Slip Op 50458(U), 2021 WL 2006877]. So, let’s go through them one by one.

A. COVID Closure Order Not a Casualty Event

Ruling: The court found that the pandemic wasn’t a casualty event under the lease, noting that the lease uses the term “casualty” to describe physical damage to the premises. In addition to the phrasing of the clause, the court pointed out that the surrounding lease provisions talk about the repair and restoration that would be needed in the event a casualty event were to occur. This supported the view that "casualty event" was intended to refer to physical damage.

Takeaway: As the court itself noted, this view accords with other cases that have concluded that the pandemic isn’t a “casualty” as that term is generally used in commercial leases.

B. COVID Closure Order Not a Force Majeure Event

Ruling: The closure orders did qualify as “order or regulations” of a governmental authority triggering the force majeure clause. But that still didn’t excuse Boss’s failure to pay full rent in this case because the clause expressly carved out the duty to pay money due under the lease.

Takeaway: Many commercial leases also carve the parties’ rent and other money-paying obligations out of the force majeure clause. Unlike the situation with casualty clauses, there’s been no consensus among courts on how money carve-outs affect the rent payment obligations of retail and restaurant tenants affected by COVID-19. The first court to address this issue, the federal bankruptcy court in an Illinois case called In Re Hitz Restaurant Group, ruled that a “lack of money” qualification didn’t apply because the shutdown order itself was the force majeure event [Bankruptcy No. 20 B 05012, 2020 WL 2924523 (N.D. Ill. June 3, 2020)]. Since then, courts have been divided on this issue, with the majority rejecting the Hitz approach and giving effect to the carve-out, the way the court in the Boss case did.

C. COVID Closure Order Doesn’t Frustrate Purpose of Lease

Ruling: Turning to the common law defenses, the court rejected Boss’s frustration of purpose argument. Frustration is a narrow doctrine that applies only when the unforeseen external event destroys the basis of the contract so completely as to render it pointless to proceed, the court explained. The classic example and the case that invented the concept occurred in 1903 when a gentleman rented space in an apartment overlooking the route the new King Edward VII was expected to travel en route to coronation. But when the king got ill and they cancelled the procession, it frustrated the contract’s purpose and rendered it unenforceable.

The pandemic wasn’t that kind of event, the court explained. The closure orders made life difficult, but they didn’t destroy The Shops or the leased premises. Besides, the parties had foreseen the possibility of government restrictions—albeit not the particular COVID-19 closure orders—and had contracted provisions addressing what would happen if they occurred. That’s what the force majeure clause was all about.  

Takeaway: The Boss court ruling is totally consistent with other cases. So far, we’re aware of only one case where a court ruled that COVID-19 closure orders frustrated the purpose of a commercial lease. And that was a narrow ruling based on the fact that the tenant leased space for the sole and express purpose of running an indoor, in-person café and couldn’t make any real money on outdoor service, takeout, or delivery [UMNV 205-207 Newbury, LLC v. Caffé Nero Americas Inc., Mass. Super. Ct. 2084CV01493-BLS2, Feb. 8, 2021].

D. COVID Closure Order Doesn’t Make Lease Impossible to Perform

Ruling: For impossibility to excuse a party’s performance, the subject matter of the lease must be destroyed such that performance becomes objectively impossible. The same things that did in the frustration claim doomed Boss’s impossibility defense in this case:

• The pandemic didn’t destroy the property; and
• The parties did foresee and addressed the impact of regulatory restrictions on the performance of their lease obligations.

Takeaway: Tenants that argue frustration almost invariably assert an impossibility defense as well. And they almost invariably lose. That’s what happened in Boss. At least half a dozen courts have rejected impossibility as a defense to paying rent in the COVID-19 context, all of them from New York.

Strategic Pointer: The impossibility defense might still work if the COVID-19 disruption to tenant’s business operations is caused not by government orders but actual infection that renders the premises physically unusable over a period of time.   

E. COVID Closure Orders Not Grounds for Lease Recission and Reformation

Ruling: Another crusty old rule of contract law that tenants have trotted out in response to COVID-19 is recission and reformation for mutual mistake. The theory is that when the parties make a substantial mistake when they enter into a contract, the contract can be done over to give effect to their true intentions.

Example: A dairy farmer discovers that the cow he just bought is actually a bull. Whether the seller committed deliberate fraud or an innocent mistake, the farmer is entitled to recission and reformation of the contract so he can buy the cow he thought he was getting.

Boss sought to rely on mutual mistake to excuse its rent nonpayment. Neither of us knew the pandemic was going to happen and we should be allowed to reform the lease so that its terms reflect the real deal intended when we signed the agreement, it argued. But the court said no dice.

Takeaway: Knowing why the Boss court rejected this defense may help you assess your own potential vulnerability if one of your nonpaying tenants raises it. The first thing to note is that the defense may be subject to a statue of limitations that begins to run when the lease is made. As in most states, six years is the statute of limitations in New York. And since the lease was signed in 2012, Boss’s reformation claim was too late.

However, the court continued, even if it had been timely, the claim would have failed. That’s because Boss didn’t produce any “extrinsic evidence” showing what the parties’ true intentions were back when they signed the lease, let alone how the pandemic caused those intentions to go awry. Boss’s assertion that the sides would have abated the rent had they known what COVID-19 would do to the tenant’s business was “conclusory and entirely speculative and at odds with” with other parts of the lease, including the tenant’s “unconditional obligation to pay rent” and a force majeure clause that identified the risk of government closures but didn’t provide for relief from obligations to pay rent.

According to the Boss court, the unavailability of recission and reformation remedies is a “harsh result, to be sure, but so in its own way would be mass rescission of commercial leases, assigning all risk of the pandemic to property owners who face their own unrelenting expenses and economic burdens.”

Conclusion

Nobody would deny that the pandemic has had a dramatic impact on the businesses of commercial tenants across the country. But in addition to the fact that things have and are improving over time, the Boss case illustrates several legal advantages that landlords have over tenants seeking de facto abatements for the rents they failed to pay in the darkest days of the crisis:

• The fact that the lease doesn’t specifically provide for rent abatements will be evidence that such abatements were never intended;
• The above presumption becomes particularly strong when it’s coupled with a force majeure clause that does provide for government regulatory restrictions impairing performance of lease obligations but doesn’t include rent abatements as part of force majeure relief, including via carve-out;

• Frustration of purpose and impossibility defenses will be extremely difficult for tenants to make out absent some form of actual physical damage to the property; and
• The same absence of express rent abatement language may also undermine a tenant’s ability to rely on mutual mistake and lease reformation.