Commercial Landlord Must Wait Until End of Lease to Recover from Defaulting Tenant Says Supreme Judicial Court

Westborough OfficeAs we reported previously here, the Massachusetts Appeals Court ruled last year in 275 Washington Street Corp. v. Hudson River International, LLC that, in the absence of specific lease language to the contrary, “the bright-line rule remains that a landlord must wait to collect damages until the end of the original lease term.”  The Supreme Judicial Court (SJC) has now weighed in and affirmed the Appeals Court.  The SJC’s ruling (available here) is another reminder to landlords:  if you neglect to negotiate appropriate liquidated damages and indemnity provisions into your leases, you do so at your own peril.

Tenant Abandons Lease One Year Into 12-Year Term

Hudson River International, LLC, the tenant, entered into a twelve-year commercial lease for a dental office on Washington Street in Boston.  Under the lease, the landlord had the right to re-enter and take possession of the premises and terminate the lease if the tenant defaulted.  The lease also included an indemnification clause stating, “Tenant shall indemnify Landlord against all loss of rent and other payments which Landlord may incur by reason of such termination during the remainder of the term.”  Importantly, the lease did not grant the landlord an accelerated rent or liquidated damages remedy or any other remedy apart from indemnification.  The lease did include a cumulative remedies clause stating that “no remedy or election hereunder shall be deemed exclusive but shall, whenever possible, be cumulative with all other remedies at law or equity.”

In May 2007, a little more than a year into the lease, Hudson River closed its dental office.  It continued to make rent payments for another year but then notified the landlord that it would not make further rent payments.  The landlord defaulted the tenant and terminated the lease.  In March, 2010, the landlord signed a new 10-year lease with a replacement tenant.  The new lease extended beyond the termination date of the original lease although at a lower rent.

The landlord brought suit in the Superior Court to recover its damages.  On cross-motions for summary judgment, the Superior Court ruled that the landlord could immediately recover the loss of future rents and costs based on the indemnity provision of the lease.  The Appeals Court reversed a key element of the Superior Court’s ruling and held that the landlord could not recover future rents until the end of the lease term in April 2018.

The SJC’s Rationale:  The Parties Should Choose the Appropriate Damages Provisions

As the SJC noted, the well-settled law in Massachusetts is that “when a landlord terminates a lease following the default of a tenant, the tenant is obligated to pay the rent due prior to the termination but has no obligation to pay any rent that accrues after the termination unless the lease otherwise provides.”  Consequently, the significant majority of commercial leases in Massachusetts (and in other states) contain some form of liquidated damages or indemnification to the landlord, or both.

“A liquidated damages provision,” as the SJC described, “contractually obligates a tenant to make a specified series of payments to the landlord in the event of a breach.”  While an indemnification clause does not provide for rent acceleration or liquidated damages, it does require a defaulting tenant to reimburse the landlord for actual losses resulting from the termination of the lease.  If drafted as such (which it wasn’t in this case), the indemnification is due upon termination of the lease.  As such, a liquidated damages provision or an appropriately-drafted indemnification clause accelerates the tenant’s obligation to compensate the landlord for lost rents.

Here, the landlord implored the SJC to recognize an exception to this general rule where the landlord found a replacement tenant for the remainder of the original lease period.  The landlord argued that such an exception should exist because the landlord’s damages are reasonably ascertainable – the difference between the total rent payments during the original lease term minus the anticipated rent payments by the new tenant during the same period.  The Court declined the landlord’s invitation noting that various uncertainties remained, including the possibility that the premises could be destroyed by fire, a replacement tenant could default and vacate, or the landlord could sell the property.

The SJC had no inclination to upset the well-settled common law rule requiring landlords to wait until the end of the lease period to recover from a defaulting tenant.  “In short, … we do not find this common-law rule to be broken and therefore see no reason to fix it.”

The Court also dispensed of the landlord’s remaining two arguments.  It ruled that the “cumulative remedies” provision in the lease did not create any new remedies but rather preserves the available remedies to the landlord.  Finally, the Court held that the guarantor’s liability under the lease is no greater than that of the tenant itself.

The Lesson:  Carefully Drafted Damages Provisions Are a Must

The lesson for Massachusetts landlords is clear:  insist on a rent acceleration or liquidated damages provision, or an adequate indemnity provision (or both) in any commercial lease.  A landlord who does otherwise will have to wait until the end of the lease term to collect damages when the former tenant could be bankrupt or dissolved and the prospects for recovery have grown dim.

For more information on this case or questions regarding leasing disputes, please contact David McCay, an experienced Massachusetts real estate litigator at Mirick O’Connell at (508) 791-8500.

About David McCay

Dave is a partner in the firm’s litigation and land use groups where he assists clients in the resolution of complex real estate, environmental and business disputes. He also represents property owners and developers in local land use permitting matters. Dave is active in the Boroughs+ region serving as the Chair of the Southborough Economic Development Committee and as immediate Past Chair of the Marlborough Regional Chamber of Commerce. He is also a member of the Board of Directors of the 495/MetroWest Partnership, the Advisory Board of the MetroWest Economic Research Center at Framingham State University, and the Marlborough Economic Development Corporation. Dave lives in Southborough with his wife and two sons.
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