Force Majeure & COVID-19: New Case Offers 4 Key Pointers
Can a tenant who can’t operate due to a COVID-19 public health emergency order rely on the force majeure clause of its lease to forgive its obligation to pay rent?
This has been perhaps the biggest question in all of commercial leasing law ever since the pandemic began. And now for the first time, a court has actually addressed the question. And the answer is not one that landlords are going to like. Here’s a look at the so-called In Re Hitz case and what it portends for other landlords with force majeure clauses in their leases.
The Hitz Case: What Happened
The Hitz case actually came out of federal bankruptcy court where an Illinois landlord was seeking permission from the usual Chapter 11 limitations to evict a bankrupt tenant for not paying its “post-petition rent.” The tenant, a restaurant chain that had to close down due to a Governor of Illinois Executive Order suspending all on-premises consumption of food and beverage, claimed that it didn’t have to pay rent because of the force majeure clause in its lease. It was then up to the federal bankruptcy court to interpret the clause and decide whether it applied to the situation.
The clause at issue was a fairly standard one, providing that:
Landlord and Tenant shall each be excused from performing its obligations or undertakings provided in this Lease, in the event, but only so long as the performance of any of its obligations are prevented or delayed, retarded or hindered by . . . laws, governmental action or inaction, [or] orders of government . . . Lack of money shall not be grounds for Force Majeure [emphasis added].
The tenant cited the “orders of government” language contending that the Executive Order constituted a force majeure. The landlord countered by citing the clause’s “lack of money” limitation.
Executive Order = Force Majeure Event
The court sided with the tenant. It was clear that the tenant’s performance was “hindered.” But it was hindered not due to “lack of money” but to the Executive Order itself, the court reasoned. Accordingly, the “lack of money” limitation didn’t apply and a force majeure event occurred. Needless to say, that kind of narrow and literal interpretation of “lack of money” is quite disconcerting to landlords whose own force majeure clauses may contain similar language.
The court also dismissed the landlord’s argument that the tenant could have gotten the money to pay rent by applying for a Small Business Administration loan because the lease didn’t require the party affected by a government action to apply for such a loan.
The Court Splits the Baby
But it wasn’t a total loss for the landlord. The court noted that the Executive Order applied only to on-premises consumption and still permitted curbside pickup and delivery services. Relying on the tenant’s assertion that the Order rendered 75 percent of the restaurant space unusable, the court reasoned that it could have dedicated the remaining 25 percent for curbside pickup and delivery. Result: The force majeure clause excused only 75 percent of its post-petition rent, and the tenant had to pay the 25 percent balance [In re Hitz Restaurant Group, No. BR 20 B 05012, 2020 WL 2924523 (Bankr. N.D. Ill. June 3, 2020)].
THE 4 THINGS YOU CAN DO TO PROTECT YOURSELF
Even though it’s just the first of many cases to come, landlords should go to school on Hitz to shore up their own force majeure clauses. Here are four takeaways to consider in interpreting/amending your current clauses and drafting new ones for future agreements.
1. Shutdown Orders = Government Action
Force majeure clauses typically list “government action” as a triggering event. Hitz confirms what many probably suspected—namely, that stay-at-home and shutdown orders issued by state governors and local governments in response to COVID-19 will be deemed government actions.
2. Potential for Proportionate Rent Reduction Attributable to Limited Uses
The Hitz court’s approach of vetting the lease force majeure clause carefully against the terms of the particular state or local shutdown order is one all courts are likely to adopt. One implication is that force majeure may not be all or nothing. Courts may consider not just what part of the tenant’s business was impaired but also what activities it could have pursued under the terms of the order in determining what, if any, portion of the rent the order excuses. For example:
- Ban on on-premises consumption doesn’t excuse percentage of restaurant rent on space that could have been used for curbside pickup and delivery; and
- Ban on foot traffic and in-store sales doesn’t excuse percentage of store rent on sales that could have been generated online.
3. The ‘Lack of Money’ Limitation Blindspot
One key insight from the Hitz case is in demonstrating the wrong way to draft the typical limitation purporting to carve out of the force majeure clause a tenant’s failure to pay. In this case, the clause specified that “lack of money” wasn’t a force majeure event. The underlying assumption was that “lack of money” and inability to make money meant the same thing. But the court read them as being two separate things. And since the problem was that the Executive Order prevented the tenant from making money, the “lack of money” limitation was irrelevant.
Bottom Line: The tenant’s failure to pay rent due to “lack of money” should be expressly excluded from the force majeure clause, even where such “lack of money” arises from another source, like a government shutdown order.
4. Tenant’s Duty to Seek Financial Assistance Must Be Spelled Out
The final moral of the Hitz case is that courts may find tenants entitled to force majeure relief even if they could have continued to perform their lease obligations by applying for Payroll Protection Program or other government assistance. In other words, simply assuming that a tenant’s obligation to seek available government relief so it can pay rent is implied in the lease is highly risky even in normal times—let alone in a COVID-19 environment in which courts are so willing to bend the rules to protect tenants.