Determining Scope of Arbitration Clause
Q: I rented space to a tenant under a lease that contained an arbitration provision. The provision specified that all items except for those pertaining to rent—specifically, nonpayment of rent—must be arbitrated. The tenant violated the terms of its lease by refusing to: (1) pay for the space during a holdover period; (2) pay to have its fixtures removed; and (3) pay to repair damage to its space. I’m suing the tenant, rather than pursuing arbitration, but it argues that the claims fall within the scope of the arbitration clause in the lease because they aren’t rent-related. Is the tenant right that my claims fall under the scope of arbitration?
A: It depends on the “carve-out” in your arbitration clause. Not all claims for payment from a tenant related to its lease default are considered “rent.” So if your arbitration clause has a carve-out that allows litigation for only rent-related claims, but not other types of payments, you could be out of luck.
A New Jersey appeals court recently had to determine the scope of an arbitration clause that’s similar to yours. That case dealt with a carve-out allowing the owner to file a lawsuit that was limited to rent payment issues.
There, alease granted to the owner several alternative remedies in the event of the tenant’s default or other breach of the agreement. It preserved the owner’s right to sue in court, as well as to declare default and insist that the tenant cure—that is, fix a violation—without suing or terminating the lease. A separate provision of the lease, however, provided for mandatory arbitration of certain types of disputes.
As the end of thelease term in April approached, the tenant wasn’t ready to vacate the premises. It was notified that the owner wouldn’t consent to an extension of the lease term and that it would be required to pay double the monthly base rent as a holdover tenant,as specified in the holdover terms in the lease. From April through July, the tenant made the required holdover payments. It also issued a check for the August rent, but it later stopped payment on the check and moved out in the middle of the month.
The owner sued the tenant, asking for base rent and additional rent for August, and base rent, additional rent, and late fees for September through January of the following year, saying that it would take that long for damages to the space to be repaired before another tenant could move in. The owner also sued for the cost of repairs to the space. The total amount owed, according to the owner, was over $224,000.
The tenant asked the court for a judgment in its favor, citing the mandatory arbitration clause of the lease, which stated: “All disputes under this Lease, other than those relating to the payment of rent or other charges by Tenant, must be submitted to arbitration.” The owner asserted that all its listed monetary claims were excluded from mandatory arbitration by the carve-out language in the clause for “the payment of rent or other charges by Tenant.” In response, the tenant argued that, with a minor exception for the August rent, the owner’s claims were not “rent or other charges” but were “damages” for breach of the lease agreement that arose after the termination—and therefore not eligible for a lawsuit.
The trial court agreed with the tenant, reasoning that the arbitration clause and its carve-out language were intended to preserve theowner’s right to bring a lawsuit in the event of the tenant’s failure to pay rent or other related monthly charges. The court concluded that “complex litigation,” such as this case, is subject to mandatory arbitration under the lease. The court dismissed the case. The owner appealed, arguing that the trial court erred in “attributing an intent or purpose of the parties beyond the express, unambiguous words of the carve-out language.”
Appeals Court Upholds Ruling in Favor of Tenant
The appeals court said that it had to interpret the meaning of “rent and other charges” in the arbitration clause. In this case, the arbitration clause first stated that “all disputes under thelease” are subject to arbitration. A party to the lease may decline to participate in arbitration only if disputes fell within the terms of the exception carved out for “the payment of rent or other charges by tenant.” The appeals court considered whether any of the owner’s claims were for “rent.”
Except for the month of August, the appeals court couldn’t categorize any of the owner’s damage claims as including “base” or “fixed" rent within the meaning of thelease. The section of the lease with the subheading “rental” defined “base” or “fixed" rent with reference to a rate per square foot of space and it contained a table with actual dollar amounts per month of base rent, increasing from year to year during the potential 10-year term of the lease.
The holdover provision of thelease, upon which the owner made its claim for rent due from August through January, increased the base rent to twice the amount of the last month of the lease term. Because this provision made rent payable in advance for the entire month on the first day of the month, the owner’s August claim for the entire month may appropriately be categorized as “rent” payable by the tenant, said the appeals court. But the claims for September to January were not correctly designated as “rent,” it said. Instead, they were claims for damages arising from the tenant’s alleged breaches of the lease.
First, the holdover provision didn’t explicitly state that thetenant must pay “rent” for any additional months that it stayed in the space past its lease term. Second, as the tenant argued, the “normal meaning” of the term “rent” is “consideration paid by a tenant for the use or occupation of property.” Because the tenant didn’t use or occupy the property after August, the amounts potentially due for months after it vacated the premises weren’t “rent” within the usual meaning of that term, the appeals court concluded.
Third, after thetenant vacated the premises, the owner hada duty to mitigate its losses by attempting to re-rent to a replacement tenant. If the owner had been successful in finding a replacement tenant that began paying rent as of Sept. 1, it wouldn’t be entitled to collect the same amount of “rent” from the breaching tenant. If the owner failed to re-rent the premises, the “rent” it would have received is a fair measure of its losses, but its September to January claims are actually for post-tenancy damages for the alleged breach of the lease agreement, subject to the owner’sduty to mitigate those damages, said the appeals court.
While the owner’s claims for September to January rent and late charges constitute damages arising from breach of thelease and not “rent” or “additional rent,” the August rent claim was actually for rent, said the appeals court. The tenant argued that the August claim should be included with the other arbitrable claims “in the interest of fairness and economy,” rather than being litigated.
The appeals court noted that a court can compel arbitration “to avoid piecemeal litigation and to recognize the interests of efficiency and fairness to all parties.” Although the owner’s August rent claim falls at least in part within the exception carved out of the mandatory arbitration clause, it is properly included in the order to arbitrate, determined the appeals court [175 Broad Street, L.L.C. v. The Nead Organization, Inc., et al., January 2013].