Does COVID-19 Business Disruption Excuse Tenants’ Lease Duty to Pay Rent?

Q: If a major disaster that’s totally unforeseen and beyond anybody’s control, like a hurricane or perhaps the worldwide outbreak of a virulent virus, interferes with a tenant’s ability to use leased property for its intended business purpose, does the tenant still have to pay rent?

A: For so many commercial landlords and tenants, this has clearly become the question of the moment. As fate would have it, a new case posing this very question has just been decided. And while the case comes from Louisiana and involves Texas law and hurricanes, its general principles apply in other locations and to other disasters, including the current coronavirus pandemic.

Disaster Strikes a Tenant

The case began when Hurricane Harvey swept through Houston and did horrifying damage to life and property. One of the victims was a restaurant tenant that had to shut down its operations temporarily as a result of major flooding. The tenant completed the repairs and tried to re-open about two months later. But the disaster wasn’t over for the tenant. The downtown theater district in which the restaurant was located was still a mess and remained a ghost town. As a result, the tenant incurred substantial business losses and stopped paying rent.

Tenant Claims Hurricane as Excuse Not to Pay Rent

Naturally, the landlord still had operating costs to pay and demanded over $500,000 in unpaid rent interest and late fees. The tenant acknowledged not paying rent but claimed the hurricane was an excuse not to perform its obligations under the lease. Spoiler alert: The tenant lost.

No Force Majeure Clause, No Excuse

The tenant’s first argument was based on act of God—that is, “an occurrence caused directly and exclusively by the violence of nature, without human intervention or cause, and which could not have been prevented with reasonable foresight or care.”

The clear consensus among the courts of Texas is that Hurricane Harvey qualified as an act of God. And in a few states, that might have gotten the tenant off the hook. The tenant’s problem is that in most states, including Texas, the act of God isn’t an automatic excuse for not performing contract obligations; it applies only if the parties expressly provide for it, typically by including a so called “force majeure” clause in the contract.

But the lease in this case didn’t have a force majeure clause. And even if it did, it wouldn’t have applied because the tenant’s nonpayment actually began two months before Hurricane Harvey.

No Frustration of Purpose

Next, the tenant tried frustration of purpose, a.k.a., “commercial impracticability,” which excuses performance on the basis of an unforeseen event that nullifies the parties’ assumptions about what would happen when they signed the lease and makes performance impossible, including the destruction or deterioration of a thing necessary for performance, the death or incapacity of a person necessary for performance, or a change in law that makes performance illegal.

But the court didn’t buy the argument that Hurricane Harvey damage to the downtown district frustrated the purpose of the lease by destroying the tenant’s profitability. There was no evidence that going into the lease, the parties assumed that the tenant would be profitable and wouldn’t suffer any disruption. Nor was there any evidence supporting the tenant’s assertion that its revenue losses after the hurricane made it impossible to pay rent [Bayou Place Ltd. P'ship v. Alleppo's Grill, Inc., 2020 U.S. Dist. LEXIS 43960].

Three Takeaways for COVID-19

Collecting rent is hard enough during normal times. The task will become even more challenging when tenants start losing revenues as a result of COVID-19 disruption. Many of these tenants will claim COVID-19 as an excuse not to pay rent, just as the tenant in Bayou Place case did with Hurricane Harvey. And while each case is different and rules vary slightly from state to state, there are three things landlords and tenants can take from the case:

  1. Act of God isn’t an automatic excuse and applies only if the lease includes an express force majeure clause;
  2. Act of God and force majeure clauses don’t excuse rent non-payments occurring before the COVID-19 business disruptions began; and
  3. Lost revenues and erosion of profitability isn’t enough to prove frustration of purpose.