Rent Acceleration Clauses: Discount to Present Value

Rent acceleration clauses in commercial real estate leases are often the subject of contentious negotiations between the parties, and increasingly, the subject of review by courts when enforcement is challenged by tenants and guarantors.

Rent acceleration clauses protect the owner by providing it with the ability to demand immediate payment of all future rents outstanding upon default by the lessee. They provide an obvious benefit to the owner, but will give rise to demands by the prospective tenant.

Enforceable Damages Provision or Unenforceable Penalty?

The standard applied by courts in assessing the enforceability of a rent acceleration clause will vary by state, but in two recent cases where an owner retook possession of the premises, the courts, in assessing whether the clause was an enforceable liquidation damages provision or an unenforceable penalty, took into consideration whether the accelerated rent was discounted to present-day value to reflect the owner’s actual loss.

Case #1: At issue in a New York case was a nine-year lease extension to a one-year lease for premises used as a student dormitory. The lease extension included the addition of a guarantor. Several months into the lease extension, the owner sent the tenant a notice to cure for its failure to maintain the premises. The tenant failed to cure, vacated the premises, and ceased paying rent. The owner sued for rent arrears and an amount equal to the future remaining rent owed on the lease.

The lease included an accelerated rent, which as set forth in the decision provided:

“…that upon the tenant’s default the landowner may terminate the lease, repossess the premises, and shall be entitled to recover, as liquidated damages, a sum of money equal to the total of . . . the balance of the rent for the remainder of the term.”

The provision also stated that:

“[i]n the event of Lease termination Tenant shall continue to be obligated to pay rent and additional rent for the entire Term as though th[e] Lease had not been terminated.”

The lower court granted the owner summary judgment on the issue of liability and referred the case to a Referee to determine damages. But the court denied the tenant and guarantor request for discovery on the basis that under New York law, the owner was entitled to collect full rent due under the lease with no obligation or duty to relet or attempt to relet to minimize damages.

Upon the parties’ stipulation the court entered judgment for the owner in the amount consisting of the rent remaining due under the lease, reduced by the amount of rent the owner was able to collect by re-letting the premises for a period of approximately two and a half years, plus interest.

The decision was affirmed by the Appellate Division, which found that the tenant and guarantor had failed to raise a triable issue of fact as to whether the liquidated damages constituted an unenforceable penalty. The tenant and guarantor then appealed to the Court of Appeals, which modified the order to provide for a hearing at which the tenant could present evidence that the undiscounted accelerated rent amount is disproportionate to the owner's actual losses, notwithstanding that the owner had possession, and no obligation to mitigate.

Whether a provision in an agreement is an enforceable liquidation of damages or an unenforceable penalty is a question of law, giving due consideration to the nature of the contract and the circumstances. The court expressly held that an acceleration clause is not per se invalid merely because the owner terminated the lease and the tenant is no longer in possession. However, the tenant and guarantor should have been permitted to present evidence in support of their contention that the undiscounted acceleration of all future rents constitutes an unlawful penalty.

The court reviewed the prior case law and distinguished the facts in the case before it from those cases holding that a landlord cannot claim accelerated rental payments when the landlord terminates the lease and retakes possession. Similarly, as the tenant had committed a material breach of the lease, the court distinguished cases holding that acceleration clauses that are applied to breaches of any of the lease terms irrespective of how trivial or inconsequential are likely to be considered an unconscionable penalty [172 Van Duzer Realty Corp. v. Globe Alumni Student Assistance Assn., Inc., December 2014].

Case #2: In a 2016 decision by a Georgia appellate court, where the owner was allowed to retake possession, the court found that an acceleration provision was in the nature of an unenforceable penalty where there was no reasonable estimate of the difference between the rent due under the lease and the actual value of the premises of the remaining term [Bostick v. CMM Props., July 2016].

Editor’s Note: For a complete rent acceleration strategy and model lease language, see “Use Three Key Lease Sections in Rent Acceleration Strategy,” available on CommercialLeaseLawInsider.com.