Commercial Tenant’s Waiver of Yellowstone Relief Upheld by Appellate Court

In New York, the Yellowstone injunction is a form of legal relief used by commercial tenants who have been served with a notice to cure by their landlord to obtain an extension from a court to cure the default and prevent the landlord from terminating the lease until the dispute is settled or determined by the court.

The Yellowstone injunction takes its name from the landmark case National Stores, Inc. v. Yellowstone Shopping Center, 21 N.Y.2d 630 (1968). In National Stores, Inc., New York’s highest appeal court ruled that a commercial tenant, after receiving a notice to cure from its landlord, could seek a court injunction preventing the landlord from terminating its lease. Tenants have been filing applications for Yellowstone injunctions ever since.

Most lease defaults require a landlord to serve its tenant with a notice to cure. Generally, after the notice to cure expires, the landlord can then serve a notice terminating the tenant’s lease and then commence a summary eviction proceeding in civil landlord-tenant court which has limited jurisdiction and cannot issue a Yellowstone injunction extending the tenant’s time to cure. As a result, a tenant served with a notice to cure will often preemptively commence an action in the Supreme Court of the county where the property is located because the Supreme Court has the power to extend a tenant’s time to cure via a Yellowstone injunction (unlike the civil landlord-tenant court). County Supreme Courts routinely grant Yellowstone injunctions as long as the tenant can show it received a notice to cure and the time to cure has not expired (and provided there is a valid lease between the parties, and the tenant has expressed the desire and ability to cure the alleged default).

Once a Yellowstone injunction is granted, the tenant’s cure period will not run until the Supreme Court determines whether a default exists and often the cure period will be extended. If a tenant fails to file a Yellowstone injunction and the cure period expires, the tenant risks losing its lease in a civil landlord-tenant court proceeding because this court (unlike the Supreme Court) does not have the equitable power to extend the time to cure, and once a lease is terminated it generally cannot be revived. As a result, the Yellowstone injunction has been an important legal remedy used by tenants to challenge or extend the time to cure lease defaults without risking forfeiture of their lease.

However, recently, an appellate court ruled that a tenant which had a lease provision waiving its right to obtain a Yellowstone injunction could not extend or toll the time to cure its lease defaults for failure to obtain various permits and failure to allow sprinkler inspections by the FDNY. In 159 MP Corp. v. Redbridge Bedford, LLC, 71 N.Y.S.3d 87 (2nd Dept. 2018), the appellate court held that a commercial tenant’s waiver via a lease provision of the right to seek declaratory relief was legally enforceable, and by waiving its right to declaratory relief, the tenant also waived its right to seek a Yellowstone injunction. Further, the lease waiver language dictated that any dispute between the parties must be adjudicated in a summary eviction proceeding in civil landlord-tenant court.

The decision in 159 MP Corp. is significant because although many landlords have waiver provisions in their commercial leases similar to the waiver provision in the lease in 159 MP Corp., courts have been inconsistent in enforcing such provisions. Now, there is clear appellate law precedent making such Yellowstone waiver provisions binding and enforceable. This greatly enhances a landlord’s ability to enforce lease provisions and covenants such as requiring tenants to correct violations, complete alterations properly and maintain required insurance because, once a landlord serves a notice to cure, a tenant has a limited window to cure the default and, should it fail to do so, the tenant may have its lease terminated and then be evicted without the safety net of a Yellowstone injunction to fall back on.

As a result, it is advisable for landlords to include a provision in their leases waiving their tenants’ rights to seek declaratory relief and a Yellowstone injunction and, if a current lease does not have such a provision, it would be beneficial to add one in subsequent lease renewals. On the flip side, if you are representing a tenant, you should try to carve out some ability to obtain a Yellowstone injunction. Going forward, lease provisions affecting a tenant’s right to obtain a Yellowstone injunction will likely become one of the more focused on and important terms in commercial lease negotiations.

Commercial Leasing

Protecting Commercial Landlords Before and After Tenant Bankruptcies

An issue that commercial landlords frequently have to address is tenants falling behind in their rent payments and then filing for bankruptcy protection.  Once a tenant declares bankruptcy, an “automatic stay” goes into effect, which makes it illegal for the landlord to pursue eviction and collection efforts against the tenant except through the channels available through the tenant’s bankruptcy court proceeding.[1] This is problematic because the landlord loses rental income and is also prevented from evicting the tenant and re-letting the space to a solvent tenant.  As a result, it is critical for landlords to take proactive measures prior to a faltering tenant declaring bankruptcy, as well as taking aggressive measures within the bankruptcy proceeding to minimize the potentially negative effects of bankruptcy.

 

SECURITY DEPOSIT MANAGEMENT

Standard commercial leases contain provisions that require tenants to deposit money with landlords as security for the tenant’s performance of the terms and conditions of the lease, including the payment of rent.  The amount of security deposits vary, but they are usually equivalent to several months’ rent.  Although security deposits are seemingly simple safeguards, unfortunately, they are sometimes not utilized to their maximum effect.

First, it is critical that at the time of a lease renewal that the amount of the security be increased to be commensurate with a multiple of the new presumably increased monthly rent and that such increased amount is actually collected. A security deposit collected 5, 10 or 20 years ago will probably not offer a landlord adequate protection for a current rent default.

In addition to making sure that security deposit amounts are up to date, it is also critical that landlords do not delay in applying security deposits against rent arrears.  Although a landlord may hope that a tenant in arrears will eventually get current in its rent payments again, if a landlord delays giving notice to the tenant that it is applying the tenant’s security against a tenant’s rent arrears and fails to make such application prior to the tenant declaring bankruptcy, then the security deposit will become part of the bankrupt tenant’s bankruptcy estate and might not ever be collected by the landlord.  This is because many commercial tenants who declare bankruptcy owe debts to other creditors such as lenders or equipment lessors who are typically secured creditors and would receive repayment priority over landlords whose rent claims are typically unsecured.  Unfortunately, in many bankruptcies there is not enough money to pay the debts of unsecured creditors after the secured creditors have been paid.  As a result, it is a good practice for landlords to ensure that tenant security deposits are always kept current and that landlords do not delay in applying security deposits against rent arrears in order to protect themselves.

 

USING LETTERS OF CREDIT INSTEAD OF CASH SECURITY DEPOSITS

Letters of credit are an attractive alternative to cash security deposits that landlords can use to secure a tenant’s payment obligations under a commercial lease.  The main benefit to landlords is that if a tenant declares bankruptcy, the proceeds of a letter of credit do not become part of the tenant’s bankruptcy estate, and the landlord can collect these funds without violating the automatic stay.[2]

A letter of credit is typically a short two or three page agreement whereby the issuing bank agrees to pay an amount specified in the letter of credit to the beneficiary (landlord)  upon a default by the applicant (tenant) under the lease between landlord and tenant, and the landlord subsequently delivering a payment demand known as a “draft” to the issuing bank.

From a landlord’s perspective, one downside of using a letter of credit is that it may take more than a week for an issuing bank to release funds in contrast to a cash security deposit held in an account controlled by the landlord, which would be more easily accessible.  In addition, issuing banks can be extremely particular and demanding in regard to the manner and format in which the draft and related documents must be presented by landlord in order to draw on a letter of credit.  However, as long as a landlord or its legal counsel is experienced and meticulous when attempting to draw on a letter of credit, the potential inconvenience should be more than offset by the bankruptcy protection that a letter of credit can provide.

 

EXPEDITED LEASE REJECTION

Once a commercial tenant declares bankruptcy, the court appointed bankruptcy trustee has 120 days to decide whether to accept or reject or the lease which leaves the space in a no-man’s land in the interim because the landlord cannot legally relet the space until the lease is rejected.  However, unless the tenant filed a Ch. 11 reorganizational bankruptcy and intends to continue to operate its business out of the space on an ongoing basis or the trustee believes that the lease is valuable and could be sold in order to generate income for the bankruptcy estate to pay off other debts, in most cases the lease will eventually be rejected by the trustee.

As a result, it is usually a good strategy for landlords to have their legal counsel promptly contract the bankruptcy trustee and tenant’s bankruptcy counsel to try to obtain an expedited rejection of the lease in less than 120 days.  This voluntary lease rejection would be embodied in a written agreement, which would have to be approved by the trustee, and whereby the tenant will also surrender possession of the leased space to the landlord, so the locks to the space can be changed and the space can be relet.   This agreement would also address the disposal of any other property left in the space, which might be encumbered by the liens of other creditors.  If a landlord fails to take proactive steps to expedite a lease rejection, such landlord may be sitting with a fully or partially empty space for a long time.

 

LANDLORD’S UNPAID RENT CLAIMS

In addition to attempting to expedite the rejection of a bankrupt tenant’s lease and the surrender of the leased space back to the landlord, landlord’s legal counsel should also submit a proof  of claim with the bankruptcy court for all unpaid pre-bankruptcy petition rent and post-bankruptcy rent owed by the bankrupt tenant to the landlord.  Pre-petition unpaid rent would be classified as unsecured debt, which is given the lowest payment  priority in bankruptcy.  Generally, a landlord’s claim for post-petition rent that accrued prior to the lease rejection would be considered an administrative claim under the Bankruptcy Code, which would be given higher payment priority than unsecured debt, but would still be behind secured creditors.  Lastly, landlord’s legal counsel could file a proof of claim for an unsecured claim for “rejection damages” for the balance of the rent that would have been due under the lease “post rejection” in an amount equal to the greater of one year’s rent or fifteen percent of the rent due for the balance of the lease (not to exceed three years).

In conclusion, there are many proactive measures that landlords can take prior to and after a commercial tenant declares bankruptcy in order maximize the collection of rent and expedite the vacatur and reletting of the bankrupt tenant’s space.

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Pop-up Shops and Other Short Term Use Arrangements : Lease or License?

In recent years, retail pop-up shops have become a growing trend among property owners looking to increase cash flow or traffic to their properties as well as businesses looking to reach new markets or test a new product while limiting their potential long-term lease obligations. This trend started gaining popularity during the depression of 2009 when property owners experiencing high vacancy rates needed to fill spaces and find new sources of cash flow, and has continued due to the increased competition e-commerce has placed on brick and mortar stores.

Because pop-up shops and other short term use arrangements such as shared office space (e.g. WeWork) seem to be a lasting trend, property owners interested in short term use arrangements must understand the differences between a lease and a license, and how a license provides a property owner with better protection in the event it needs to remove a business from its space in an expedited manner as explained below.

The fundamental difference between a lease and a license is that a lease provides the tenant with exclusive and irrevocable possession of the space, while a license merely grants the licensee the non-exclusive privilege to use the space which is revocable at will. As a result, while a lease grants the tenant a property interest in the space and creates a landlord-tenant relationship, a properly drafted license will not create a landlord-tenant relationship and the licensor (landlord) can circumvent the expensive and time-consuming process of a summary eviction proceeding by using self-help in the event the licensor needs to remove a licensee from its space.

Property owners interested in licensing space must be aware of the factors which would make an agreement be a considered a license instead of a lease. Simply naming an agreement a license does not make it so, and a poorly drafted license can have the potential of being interpreted to be a lease.

The main legal analysis and considerations of whether an agreement is considered a lease or a license depends on the access and exclusive control language in the agreement. A good indicator of a license is a provision which states that “the license granted under this license is and shall at all times be a non-exclusive, revocable license which can be terminated at will by licensor, and shall not be deemed to create any tenancy interest in favor of licensee with respect to the space or the related services provided under the license.” As you can see, it is critical that the property owner maintain control over the space, so security measures such as electronic keyfobs and other electronic access methods that can be controlled and turned off unilaterally by the property owner are a strong indicator of a license arrangement. In addition, property owners (licensors) should try to provide all services and furniture for the space with an express provision within the license agreement stating that the services and furniture are the property of the licensor and not the licensee’s property.

For example, in a 2002 lawsuit regarding a dispute over whether an agreement was a lease or a license, the Court ruled against the property owner and determined it unlawfully evicted the occupant of the space who was a tenant and not a licensee. See Nextel of New York, Inc. v. Time Mgmt. Corp., 297 A.D.2d 282, 746 N.Y.S.2d 169 (2002). In the Nextel case, Nextel entered into an agreement labeled as a license with Time Management to install cellular antennas on the roof of Time Management’s building and to occupy 200 square feet of interior space in the building. When Time Management tried to terminate the license and remove Nextel from the space using self-help, Nextel filed a Yellowstone injunction to stop the eviction and sued Time Management for wrongful eviction. The Court agreed with Nextel and found the agreement to be a lease (and not a license), and the self-help eviction to be unlawful. In reaching its decision, the Court looked to the parties agreement which stated that Nextel was to partition off an existing room in the building and install a door in order to create a space for its radio and electrical equipment, Nextel would retain title to the equipment it installed in the newly created space, and Nextel’s employees had exclusive use and unfettered access to the space and found that these provisions were “typical of a lease and conferring rights well beyond those of a license or holder of a mere temporary privilege.”

The bottom line is that no matter what you name the agreement and no matter how temporary the nature of the pop-up shop or other short term occupancy arrangement may seem, there are specific terms that must be included if a property owner wants to take advantage of the benefits conferred by a license such as self-help evictions. Property owners should be aware of the factors (i.e., revocability, control, access, and services) which distinguish a license from a lease agreement, and should have an attorney familiar with license agreements draft or review the license ahead of time to avoid the potential pitfalls of failing to draft a valid and enforceable license.

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Using a Mechanics’ Lien to Collect Unpaid Broker’s Commission for Procuring a Commercial Tenant

In New York a real estate broker or salesperson can use a mechanics’ lien to collect an unpaid commission after procuring a tenant for a commercial landlord pursuant to New York Lien Law § 10.  This statutory right to file a mechanics’ lien against a landlord’s property was enacted in 1982 in order to address the growing problem of landlords refusing to pay commissions to brokers after a tenant was procured.  As a result of New York Lien Law § 10, instead of proceeding straight to potentially costly litigation, a broker has the ability to file a mechanics’ lien against the property (similar to a contractor or laborer), which makes it difficult for a landlord to sell or refinance the property without first paying the broker his or her hard earned commission.  In addition, after the lien is filed the broker can commence a lawsuit to foreclose on the mechanics’ lien and sell the property at auction to recoup the commission if the landlord remains uncooperative.

In order for a broker to file a mechanics’ lien for an unpaid commission, the broker must have (i) procured a commercial tenant for the landlord, (ii) for a lease term of more than three years, and (iii) pursuant to a written brokerage agreement.  The mechanics’ lien must be filed with the County Clerk where the property is located within eight months after the brokerage services have been completed (i.e., a written lease has been executed), and then served upon the landlord within thirty days after its filing.

Because the purpose of a mechanics’ lien is to impair title to another person’s property, and it is filed by the broker without first obtaining a court order or permission, the filing of a mechanics’ lien is a powerful remedy with potentially severe adverse consequences for the broker if not done correctly.  As a result, a broker must be sure to follow the strict filing and service procedures set forth in the statute, must ensure that the contents of the lien are correct, and file the lien against the correct property.  An incorrect filing will be defective, and the broker could be liable for damages if the filing clouds title to the wrong property and adversely affects an unrelated transaction.  Thus, it is best practice for a broker seeking to file a mechanics’ lien to consult with an attorney to ensure the lien is prepared, filed, and served properly.

Once a mechanics’ lien has been filed against a landlord’s property, the broker can use it as leverage to demand payment of the commission from the landlord.  This can be done by sending the landlord a letter demanding payment of the commission and threatening to foreclose on the property if it is not received by a certain date.  In addition, the recording of a mechanics’ lien against the property will protect the broker’s interest by making it difficult for the landlord to sell or refinance the property without satisfying the lien as part of the closing process.

In the event the landlord is uncooperative or refuses to pay the commission, the broker must foreclose on the lien within one year of its filing or renew it by filing a one year extension with the County Clerk pursuant to New York Lien Law § 19, otherwise the lien will lapse.  By foreclosing on the property, the broker will eventually be able to sell the property at auction and recoup the commission if the property has sufficient equity.  However, determining whether such equity exists can be a complex process dependent upon the number and order of creditors which must be paid first from the foreclosure proceeds before the broker gets paid his or her commission.

In order to determine the order in which creditors will be paid from the foreclosure proceeds, New York follows the “first in time, first in right” priority scheme, which means that in general any recorded judgments, liens and mortgages are fully paid at foreclosure in the order in which they are recorded against the property with the County Clerk.  However, the mechanics’ lien is an exception to this rule since its priority is determined either by the date the lien is recorded against the property, or it “relates back” to the date of completion of the brokerage services or the commencement of construction to improve the property.  In other words, a mechanics’ lien for an unpaid brokerage commission filed with the County Clerk within eight months after the date the brokerage services have been completed will take priority over and get paid ahead of other creditors and mortgages[i] that recorded their interests between the date of completion of the brokerage services and the recording of the mechanics’ lien.

In sum, a mechanics’ lien can be a cost-effective way for a commercial broker or salesperson to aggressively pursue a commission owed by a landlord via a lien foreclosure or by compelling payment as part of the closing process if the landlord tries to sell or refinance the property without paying the commission.

 

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[i] In New York, a mortgage containing specific “trust fund” language may maintain its priority over a subsequently recorded mechanics’ lien provided certain statutory requirements are strictly complied with by the mortgagee.

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Commercial Leasing

Commercial Leasing and the “Good Guy” Guaranty

Like other business negotiations, commercial lease negotiations depend on market conditions and the bargaining strength of the parties to the transaction (i.e., the landlord and tenant). Unless a commercial tenant is a bank or fortune 500 company, most landlords require new tenants signing a lease to deposit a sum of money equal to several months rent as a security deposit or that the tenant deliver a letter of credit in lieu of a cash security deposit.

In addition to posting a security deposit, some landlords require that a principal of a corporate tenant without a long track record sign a good guy guaranty. (For example, a hedge fund manager who is one of our clients recently opened a new office for a new fund he formed and the landlord required him to sign a good guy guaranty.) In its most basic form, a good guy guaranty is a personal guaranty for the payment of rent that remains in effect as long as a tenant remains in the rented space.

Similarly to other personal guaranties, a good guy guaranty protects landlords in situations where a corporate tenant stops paying rent by making a principal of the corporate tenant personally liable for the unpaid rent. However, a good guy guaranty is less onerous for tenants than an unlimited personal guaranty because the tenant has the ability to be a “good guy” and vacate the space if the tenant’s business is struggling and thereby eliminate the personal liability of the principal who signed the good guy guaranty. This benefits the landlord too because the landlord can re-rent the space rather than having to commence a non-payment eviction proceeding in housing court, which can often drag on for several months.

Although conceptually in its basic form a good guy guaranty is straight forward, the scope of a good guy guaranty can be expanded to include non-monetary defaults and may even require a tenant to be paid up to date in rent in order for the tenant to have the right to turn over the space to the landlord and have the principal’s personal liability extinguished. In sum, the form of good guy guaranty used for a particular lease transaction varies and will depend on the bargaining strength of the parties as well as their knowledge and the advice they receive from legal counsel.

If you would like to know more about this posting and commercial leasing, please contact Stephen M. Lasser.

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