Limit Tenant's Access to Your Nonbuilding Assets if It Wins Judgment
Issue to Negotiate
If a tenant wins a judgment against you in a lawsuit, should it be able to go after your assets—other than your interest in the tenant's space and/or the building or center—to collect on the judgment?
Owner's Perspective
Like most owners, your lease probably includes an “exculpatory” clause (also known as a “limited liability” clause) that protects you from open-ended liability to a tenant. A typical exculpatory clause limits your liability to your interest in the tenant's space or, if the tenant has some negotiating power, to your interest in the building or center. In other words, if the tenant wins a judgment against you because you defaulted under the lease and the tenant can't collect enough money to cover the judgment, its only recourse is to place a lien on the value of its leased space or your building or center, less any mortgage. The tenant can't go after any of your other assets. This exculpatory clause is crucial for you. Without it, your entire business could be destroyed if a tenant wins a major lawsuit against you.
Tenant's Perspective
Most tenants lack the clout to get an owner to delete an exculpatory clause. But if you're negotiating against a strong and savvy tenant, it may demand that you do so. The risk to the tenant is that your building or center may be so heavily leveraged that any judgment it wins against you would be virtually worthless. For example, if you have a mortgage on the building for 95 percent of its value, your equity in the building is only 5 percent of its value. That may be too little to satisfy even a small judgment against you. But the tenant may have no other way to collect.
Compromise: Give Tenant Limited Access to Your Nonbuilding Assets
If you're faced with a strong tenant and your exculpatory clause threatens to kill the deal, you can suggest the following compromise, says New Jersey attorney Steven A. Weisfeld: If the tenant wins a judgment against you because of your lease default and can't collect, give it limited access to certain of your other assets—such as condemnation awards, insurance proceeds, financing (and refinancing) proceeds, and proceeds from the sale of the building or center. Though this compromise isn't ideal for you, it stops the tenant from getting free rein over your assets and helps you avoid losing a crucial deal, says Weisfeld. And this compromise provides a way for the tenant to collect if your interest in the building or center is too small to cover the judgment against you.
Because a typical exculpatory clause limits the tenant's recourse to the “Landlord's interest in the Property,” you'll set up the compromise by adding a definition of “Landlord's interest in the Property.” The definition will include not only your interest in the tenant's space and the building or center but also the following:
Condemnation awards and insurance proceeds not needed to restore building. A savvy tenant will want access to all of your condemnation awards or insurance proceeds relating to the building or center. But that's unreasonable. You may have gotten those awards or proceeds because the building or center was dilapidated or damaged. And you'll need most or all of those awards or proceeds to pay for the repair or restoration work, notes Weisfeld. So when you give the tenant access to your condemnation awards and insurance proceeds, exclude any amounts that you need to repair or restore the building or center, he advises.
Sales, financing, and/or refinancing proceeds that you got recently. The tenant will want access to your sales, financing, and/or refinancing proceeds from the building or center, regardless of when you got them. But the problem is that you may have already spent that money in connection with other projects, says Weisfeld. That's especially likely if you got those proceeds several years before the tenant started its lawsuit. You don't want to be forced to hold on to those proceeds for years. So don't let the tenant have access to any sales, financing, and/or refinancing proceeds that you got more than, say, 12 months before the tenant started its lawsuit, says Weisfeld.
To get those compromises, add the following definition of “Landlord's interest in the Property” to your lease's exculpatory clause: CLLI0102
Model Lease Language
The term “Landlord's interest in the Property” shall include, without limitation:
a. Landlord's interest in the Premises and the [Building/Center] of which the Premises is a part;
b. Condemnation awards and insurance proceeds payable to or received by Landlord, excluding any proceeds required by Landlord to restore the Premises and/or [Building/Center]; and
c. Sales, financing, refinancing, or similar proceeds payable to or received by Landlord, but only to the extent that such proceeds are received by Landlord within [insert #, e.g., 12] months prior to the filing of Tenant's litigation or arbitration proceedings against Landlord.
Practical Pointer: You'll probably need your lender's approval to give a tenant access to any of your assets besides your interest in the tenant's space or your building or center, says Weisfeld. It's a good idea to check your loan documents to be sure.
CLLI Source
Steven A. Weisfeld, Esq.: Beattie Padovano, LLC, 50 Chestnut Ridge Rd., P.O. Box 244, Montvale, NJ 07645-0244; (201) 573-1810; SWeisfeld@beattielaw.com.