Mar 27, 2020
COVID-19: Practical lease considerations, what you need to know
By: Darrell Gold and Rachel Puma
Published in renx.ca
| March 26, 2020
We have been in the midst of a “pandemic” since March 11, 2020 when the COVID-19 outbreak was declared as such by the World Health Organization.
It is at a time like this that it is prudent to have access to legal advice on business-related issues given COVID-19’s direct and indirect effect on business relationships and contractual obligations.
At Robins Appleby we are closely monitoring announcements from all levels of government, tracking and summarizing announcements to effectively advise clients and assist them in thinking strategically about the changing legal landscape. Click on this link to our website for more information.
This article raises a number of points for consideration for those involved in commercial leasing as landlord, tenant and property manager.
Each case is fact specific so when you review your existing or future business leases, consult with your lawyer for advice on how to proceed. For leases being entered into in the near future, now is the time to turn your mind to these issues so you can address them in your negotiations and leases.
Some general and practical advice
- Timely Dialogue – Do not wait to contact those that you have contracted with and discuss the situation, your own circumstances, and whether there is any relief being sought/offered (including the nature and duration of the relief). Give notice of any issues to the other parties as soon as you are aware of them and explain how you plan to deal with them to try and avoid or mitigate the damage and what relief you are seeking or may need. Discuss options to deal with the issues as they unfold. We are in uncharted waters.
- Tone – Be empathetic. Landlords, tenants, builders, suppliers, employers, and employees must work together and be sensitive to how each is affected, which is of course subjective. Hard decisions have been made already and will continue to be made. Rent and payment concessions along with extensions of timelines will be sought.
- Learn – There will be many takeaways from this COVID-19 pandemic. Learn from them – and incorporate into your future leases where applicable.
- Follow Regulatory Directives – Stay current on the law. For those businesses which are governed by a regulatory body, (ex. lawyers, brokers) make sure you are in regular communication with it.
Limitation Periods for Making a Claim and Court Proceedings
I have recently written about the limitation periods affecting a plaintiff’s ability to bring a claim for real estate related matters under the Limitations Act, Ontario and the Real Properties Limitations Act, Ontario. The periods range from the general 2 years (which applies to most claims and commences when a person knew or ought to have known about the claim), to an outside date of 15 years. For example, there is a 2-year limitation period for tenants to claim for rent adjustments whereas landlords have a 6-year limitation period for retroactive rent adjustments.
The Ministry of the Attorney General has advised that an Order in Council has been made under s. 7.1 of the Emergency Management and Civil Protection Act suspending limitation periods and procedural time periods for the duration of this emergency. The suspension is retroactive to March 16, 2020. The Order in Council can be viewed here. As a result, for potential claims that have already arisen but for which the limitation period has not expired, and for claims that may arise after March 16, 2020, the limitation period is suspended until further notice.
Force Majeure/Unavoidable Delay Clauses in Agreements
A “force majeure” event is an unforeseeable circumstance that prevents someone from fulfilling a contract. If a party is unable to perform its contractual obligation due to unforeseen events that are beyond its control, a force majeure clause may be triggered to validate the non-performance. Force majeure clauses can suspend the timeliness of obligations and are a matter of negotiation. Review your agreement for timelines such as completion and delivery dates that are or will be affected by the pandemic.
Most leases contain a force majeure clause. The clause will typically provide that if any of the described events occur, which significantly affects a party’s ability to perform a contractual obligation, the party will not be required to perform said obligation, either for as long as the event continues or permanently. However, in commercial leases, they almost always exclude the payment of rent and the surrender date from the suspension.
Force majeure clauses are narrowly interpreted, which means the words used to identify the triggering event are narrowly construed. For example, consider the difference between an “epidemic” and a “pandemic”, the latter being greater in scope.
To be relied upon, a force majeure clause must both (i) be in the lease and (ii) explicitly address the event causing the inability to perform or the delay in performance. Absent a force majeure clause, it will not be implied into the agreement by the common law.
For an event to be considered a “force majeure” event, it must (i) be unforeseen, (ii) render performance of the obligation “impossible” (not merely more costly or difficult, unless cost or difficulty are expressly referenced) and (ii) be the actual and direct cause of your inability to meet your obligations(s) (as opposed to merely being incidental to it).
Many force majeure clauses obligate a party wishing to rely on the clause to give notice to all parties that the “event” is or will result in a failure to meet one or more obligations under the agreement (such as maintenance and repair obligations). Such notice allows the other party or parties to take steps to mitigate, if possible.
The notice must be given in accordance with the notice provisions. The notice may need to be given on a rolling basis as events and situations unfold and circumstances change. If you are faced with a claim from a non-performing party or you are the non-performing party, consideration must be given as to whether there are any steps to take to mitigate the effects of the event as mitigation
For a more in-depth review of force majeure/unavoidable delay clauses, please click here.
The Doctrine of Frustration of a Contract
If there is not a force majeure clause in the lease, a party is not necessarily without a remedy for an unforeseen event that causes a party to be unable to perform its obligations under the lease.
The doctrine of frustration provides that where the occurrence of an event results in a contract becoming fundamentally different in character from what the parties originally intended, the contract may be terminated without liability. However, a higher threshold must be met for the doctrine to apply, and its application means that the contract will be terminated (and not merely suspended for the duration of the event). Frustration will only apply where the event or circumstance was unforeseeable and not the fault of either party.
Most provinces and territories in Canada have legislation concerning frustrated contracts. In Ontario, this legislation is the Frustrated Contracts Act (the “FCA”). The FCA deals with the adjustment of rights and liabilities between the parties when a contract has been frustrated. For example, money paid or payable under a frustrated contract is recoverable or no longer payable; yet, some or all of that money may be retained or recoverable by the party receiving the money to cover expenses.
“Health Emergency” Clauses and Operation of Building and Control of Common Areas
“Health emergency” clauses allow a property owner and landlord to limit or control access to the building if required or recommended by the authorities. This type of clause became more popular after the SARS outbreak, and will surely become even more popular in response to the COVID-19 outbreak.
Similar to a force majeure clause, a health emergency clause provides that where there is a triggering event (which is typically described with a non-exhaustive list of “epidemic”, “pandemic”, “disease”, “contagion”, etc.), the landlord will have increased control over the common areas and will be permitted to create new rules and regulations regarding the operation of the building.
These clauses may permit a landlord to close the building (or parts of the building), control the individuals who are permitted to access the building and permit a landlord to draft and deliver a set of health related regulations which the tenant and its employees and invitees must follow.
These clauses may also provide for how additional services for the building are to be paid. For example, we are seeing increased cleaning services by virtually all landlords or property managers that have responded to the pandemic. The cost of these cleaning services may already be passed on to tenants through additional rent or operating cost provisions; however, if they are not, a health emergency clause may permit the landlord to charge back these costs to the tenants.
Finally, these provisions may have a “force majeure” element in that, if the health emergency exists, the landlord will not be in default if it does not comply with its maintenance and repair obligations until after the health emergency.
Commercial Insurance Considerations:
Virtually all leases contain insurance obligations. There are many types of insurance that must be considered in light of COVID-19’s effect on the world and businesses. You should be in contact with your insurance broker now to discuss your coverages and applicability to your contractual arrangements and COVID-19 as a failure to notify them could result in the insurer voiding the policy coverage for a claim:
- Business Interruption Insurance. This insurance covers losses arising from a party’s reduced income (in a lease, this form of business interruption insurance for a landlord is called “rental income insurance”) as a result of damage to insured property. Typically, these policies require “physical damage” to the property in order for coverage to apply. Where there is a physical emergency/pandemic (i.e. flood, fire, earthquake, etc.), there will be clear physical damage to the property and the coverage will likely come into effect.
However, where there is a health-related pandemic (such as COVID-19), whether this coverage will come into effect will depend on the specific policy the party has obtained.
Review your policy coverages to determine whether business interruptions due to health-related events are covered or not. Landlords should ensure they have reviewed the certificate of insurance or policies that they have received from their tenants to ensure the type, extent and amount of insurance coverage in place is what the lease requires and whether the landlord are on the lease as an additional insured or loss payees in order to obtain proceeds applicable to the rent obligations.
- Civil Authority Insurance. Civil authority insurance covers losses arising from a government order preventing access to the insured property. Of course, for this coverage to come into effect there must be a governmental order. Neither governmental recommendations, nor private party decisions (i.e. closing office space), will meet this threshold. However, they can be addressed in a force majeure clause.
- Liability Insurance. In virtually all commercial leases, both parties are required to obtain liability insurance which covers losses arising from “third-party” claims. In the insurance context, a “third-party” is anyone not insured under the policy and could include the landlord or the tenant. It is unclear whether any liability will arise from third-parties contracting COVID-19 from or while on an occupier’s premises. However, these policies will come into effect for defending such claims as they arise.
How the above can impact your lease
Lease terms impacted by the above considerations include:
* dates to meet an obligation such as – completion of landlords’ or tenants’ work, expiry dates, damage and destruction time periods;
* an operating covenant obligating a tenant to stay open for business – as the Ontario government just issued an order to close all non-essential businesses, a tenant may be a forced to close or the landlord may have to close its building;
* the obligation to comply with all laws – with orders and legislation being issued by all levels of government, the parties need to be aware of the changes, landlord’s control of the project including possible partial or full closure;
* force majeure/unavoidable delay clauses;
* landlord and tenant insurance clauses.
This article is obviously not exhaustive on the issues for the commercial real estate industry to consider and address during the COVID-19 crisis; however, we hope it serves to make you aware of a number of business considerations that you may not otherwise have known about.
Darrell Gold, Rachel Puma and other lawyers in our office — are available to speak with you if you need legal advice on the matters contained in this article or that are otherwise of concern to you with respect to your business and its operation during this very challenging time.
Disclaimer: This article is for general information purposes only and not intended as or to be relied upon for legal advice. Consult with a lawyer for your unique situation.