LEASE SURRENDER ISSUES

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1 LEASE SURRENDER ISSUES I. The Cast of Clauses: The following clauses should be reviewed in analyzing a Tenant s obligation to return the leased premises to Landlord upon the expiration or earlier termination of the lease. A. Initial construction: This provision typically obligates the tenant to construct leasehold improvements and install trade fixtures and leasehold improvements within the leased premises, and generally states that leasehold improvements will be the property of the landlord upon attachment or, alternatively, upon expiration of the lease. B. Alterations: This provision typically restricts/governs the types of alterations which the tenant is permitted to be make during the term of the lease. C. Maintenance: This clause typically requires the tenant to repair and maintain the leased premises in a certain condition during the term of the lease. It may also include the obligation to maintain items of personal property in a certain condition. 1. The condition of the leased premises required to be maintained by Tenant can range from good condition and repair to the same condition as existed at the time the Lease was entered into. 2. The maintenance clause may have exceptions such as reasonable wear as determined by Landlord or ordinary wear and tear, which may or may not be consistent with the exceptions contained in the restoration/surrender clause. D. Compliance With Laws: The provision can require the Tenant to undertake certain types of alterations for the leased premises if such work is necessary to cause the leased premises to comply with legal requirements for occupancy and/or use purposes. This provision may also make the Landlord responsible for making certain types of improvements necessary to cause the leased premises to be in compliance with the law. E. Restoration/surrender: This provision typically provides the leased premises must be restored to a certain condition at the time the lease expires or terminates. 1. The restoration/surrender clause may have exceptions such as ordinary wear and tear or reasonable wear and tear. 2. Absent an express covenant, there is an implied covenant on Tenant s part to return the leased premises in substantially the same condition as received, subject to ordinary wear and tear. [Friedman On Leases 18.1 pp ].

2 F. Removal: This provision may require the tenant to remove items of household improvements, trade fixtures, and/or personal property upon expiration of the lease term or lease termination. This provision may also give the landlord the option to designate at a later time the particular items which must be removed by the tenant at the end of the term. G. Holdover: This provision typically provides for the type of tenancy (usually month to month) and amount of rent (usually higher) which will be payable if the Tenant fails to timely vacate the leased premises at the end of the lease term. This provision rarely defines what constitutes a holdover with any clarity. II. Interplay Between the Clauses: Each of the above clauses acts independently of the other absent clear intention in the Lease to the contrary. If a party intends one clause to apply to another clause, or modify the meaning of another clause, the Lease should expressly so state. A. Initial Construction Clause vs. Restoration/Surrender Clause: Can the restoration/surrender clause automatically require the Tenant to remove the initial Tenant improvements made to the leased premises and required by the Landlord? 1. Generally speaking, absent a provision to the contrary, if a tenant is required to make certain improvements or alterations to the premises as part of the initial construction required by the landlord, the tenant will not be obligated to remove the changes. Fisher Properties, Inc. v. Arden-Mayfair, Inc., 726 P.2d 8, (Wash. 1986). B. Alterations Clause vs. Restoration/Surrender Clause: Can the restoration/surrender clauses automatically require the Tenant to remove alterations made by Tenant during the lease term? 1. Whether the Tenant will be required to remove alterations made during the lease term probably depends on whether the Lease clearly provides this, even if the alterations were made with the Landlord s consent. In Duvanel v. Sinclair Refining Co. the Landlord sued the Tenant for failure to remove alterations made by the tenant to the leased realty, including gas tanks and a pump station, at the time of surrender. The lease gave the Tenant the right to make alterations, but did not require the Tenant to remove the alterations. The court ruled that the Tenant did not have an obligation to remove the alterations because the lease did not require the Tenant to return the premises in their former condition. 170 Kan, 483, 227 P.2d 88 (1951). See also U.P.C., Inc. v. R.O.A. General Inc., 990 P.2d 945, 955 (Utah App. 1999).

3 2. If a Landlord is aware that the Tenant is making alterations and fails to object, the Tenant may not be required to remove the alterations absent a removal clause in the lease. In Lamonica, the court found that the Landlord impliedly consented to the Tenant s alterations because Landlord had knowledge of the alterations and did not object. The court held that since the alterations were made with the landlord s implied consent the tenant was under no obligation to remove the alterations at the end of the term. 398 P.2d 216 (NM 1964). On the other hand, if alterations are made without the landlord s consent, and the tenant did not otherwise have the right to make such alterations pursuant to the provisions of the Lease, the tenant is usually obligated to remove the alterations upon surrender. Leventhal v. 128 West 30 th St. Corp., 158 N.Y.S.2d 398 (Sup. 1956). C. Maintenance Clause vs. Restoration/Surrender Clause: 1. What is meant by ordinary wear and tear? In Miller v. Belknap the court held that when lease provisions require the tenant to maintain and repair the property, and also to return it in good condition, wear and tear due to reasonable use excepted, a fair construction of the lease is "that the defendants undertook to keep the property during the term, and to surrender it at the end of the term, in as good condition as when received, but not to make good any depreciation thereof due to reasonable use for the purposes contemplated by the lease." 75 Idaho 46, 266 P.2d 662 (1954). See also Empire Lumber Co. v. Thermal-Dynamic Towers, Inc., 971 P.2d 1119 (Idaho 1998). 2. If the restoration/surrender contains an exception for ordinary wear and tear, but the maintenance clause does not contain the same exception, then can the restoration/surrender clause automatically cancel out the maintenance clause once the term is over? A surrender clause which has an exception for reasonable use and natural wear will not necessarily absolve the tenant of his responsibility under the lease to maintain the leased premises in good order and condition during the term if the maintenance covenant in the lease does not have an exception for reasonable use and natural wear. Nadler v. American Motor Sales Corp., 764 F.2d 409 (5th Cir. 1985). In Nadler, the court found that it was illogical to read the surrender clause, which contained an exception for reasonable use and natural wear, to modify the repair covenant, which required Tenant to keep an HVAC system in good order and condition during the term. In Nadler, it was held (depending on the factual determinations to be made by the trial court following a remand) that the Tenant could be held liable for the cost of a new HVAC system where the original HVAC system had deteriorated to an inoperable condition by the end of the 20 year lease term.

4 3. Might the result had have been different in Nadler if the surrender clause had not provided an exception for ordinary wear and tear?; or if the repair clause had provided an exception for ordinary wear and tear?; or if the repair clause had been subject to the restoration/surrender provisions of the Lease? 4. Is the length of the lease term relevant in construing what work the restoration/surrender clauses should require on the theory that the restoration/surrender clauses should require the Tenant to perform greater restoration where the Tenant had the benefit of long term, and should require the Tenant to perform less restoration where the Tenant had the a short term? This principle does govern the extent of Tenant s maintenance obligations during the lease term. [see Friedman on Leases, 10.8]. 5. A lease should indicate whether the repair covenant includes a duty to replace. The case law appears to be inconsistent on the issue when the lease does not contain specific replacement language. D. Restoration Clause vs. Holdover Clause: 1. If the Tenant fails to restore the leased premises at the end of the term, can it be deemed a holdover Tenant until restoration is complete? One court stated that a tenant who has vacated the premises but breached covenants to repair cannot be held liable for holdover rent while the repairs are made and the premises unleased. Arnot Realty Corp. v. New York Telephone Co., 245 A.D.2d 780, 665 N.Y.S.2d 478 (NY App. 1998). On the other hand, the court in SDR Assoc. v. ARG Enterprises, Inc. held that a tenant was liable as a holdover tenant for failing to return the property to its original condition at the end of the term, as required by the lease. 170 Ariz. 1, 821 P.2d 268 (Ct. App. Div. 1, 1991). The landlord was granted damages for loss of rent during the time necessary to restore the premises. 2. If the Tenant fails to remove his property from the leased premises at the end of the term, can he be deemed a holdover Tenant until the property is removed? In theory, a Tenant could be held liable for holdover rent if Tenant vacated the leased premises but left enough of his property in the leased premises so as to making it impractical for the Landlord to remove it and deliver possession of the leased premises to a new occupant. Courts have been willing to make such a ruling after examining factual circumstances such as the amount of rent paid by Tenant, the value of the premises leased, the value of the personal property left behind, and the intent of the party leaving the property. Lordae Realty Corp. v. Montefiore Medical Center, 648 N.Y.S.2d

5 598 (App. Div. 1996); Mott Pipe & Supply Corp. v. Blue Ridge Coal Corp., 146 N.Y.S.2d 607 (N.Y. Mun. Ct. 1955). 3. A lease should indicate that consequential damages are a possible remedy if the Tenant fails to surrender the premises consistent with the condition indicated in the lease. In Chemical Bank v. Stahl, the court refused to award lost rental income and financing costs associated with extensive restoration work since the parties agreement did not provide for the award of such consequential damages but only for the recovery of the reasonable cost of restoring the premises to the covenanted condition. 255 A.D.2d 126, 679 N.Y.S.2d 386 (N.Y.A.D. 1 Dept. Nov 10, 1998). 4. If the holdover provision does not govern, the Tenant can nonetheless be liable for actual loss of rent damages to Landlord, and even consequential damages. See the discussion set forth below under Damages. It is conceivable that loss of rent damages alone could exceed the amount of holdover rent under a holdover provision. III. Damages: Damages recoverable by Landlord for Tenant s failure to return the leased premises in a certain condition may include: A. Cost of Repair As a general rule, a landlord may recover damages from the tenant equal to the reasonable costs and expenses of restoring the leased premises if the tenant fails to surrender the leased premises in the condition required by the lease. Collins v. Windsor, 505 So.2d 1205 (Ala 1987). 1. Absent a provision in the lease, the tenant will usually be granted a reasonable amount of time to restore the leased premises after expiration of the lease term or termination of the lease. Friedman On Leases 18.1 p B. Diminution in value of the leased premises Although repair costs are the most common form of damages, a landlord may only be entitled to recover an amount equal to the diminution in value of the leased premises resulting from the tenant s failure to comply with the maintenance or surrender clause of the lease if such amount is less than the cost of restoring the premises. Diminution in value is measured by the difference in value of the leased premises had the tenant surrendered them in the condition which the lease required compared with the actual value which the leased premises had at the time of surrender. Fisher Properties, Inc. v. Arden-Mayfair, Inc., 726 P.2d 8, (Wash. 1986).

6 C. Consequential Damages Consequential damages may be recovered by the Landlord under certain circumstances if the particular damages were either contracted for under the express terms of the lease or reasonably foreseeable by Tenant at the time the Lease was entered into. But a Landlord is not automatically entitled to recover damages such as lost rental income, and the financing costs of extensive restoration work which the Tenant failed to undertake upon its surrender in violation of the lease, if the parties lease provided only for recovery of the reasonable cost of restoring the leased premises and did not mention any consequential damages. See Chemical Bank v. Stanley Stahl, 255 A.D.2d 126, 679 N.Y.S.2d 386 (N.Y.A.D. 1 Dept. Nov 10, 1998). A jurisdiction which follows the rule in Hadley v. Baxendale, 9 Ex 341, 156 Eng. Prep. 145 (1854) will not award consequential damages unless such damages were provided for in the lease or were within the contemplation of the parties at the time the lease was entered into. See General Electric Company v. Leslie Paper Company, 1993 WL (N. Dist. IL). D. Landlord may not be entitled to any recovery at all if the value of the leased premises at the time of Tenant s surrender is greater than what the value of the leased premises would have been had the leased premises been restored as required by the terms of the lease. However, some courts consider it irrelevant what happens to the premises after they are surrendered by a breaching tenant. The court in SDR Assoc. held that it a landlord is still entitled to the cost of repairs even if the premises are scheduled to be demolished. 170 Ariz. 1, 821 P.2d 268 (Ct. App. Div. 1, 1991). E. Several states have statutes which award treble damages to a Landlord if the Landlord can show that the Tenant purposely committed waste at the leased premises. [Washington State: RCW ; New Jersey; Title 2A:65-2, 65-3, 65-4; Missouri: Chapter ; Utah: Code Section ]. Such commissive waste is distinguished from instances where the Tenant negligently, or through his own inaction, allowed the waste; treble damages are not available in the later instances. F. Whether the Landlord can recover holdover rent based upon the Tenant s failure to restore the leased premises to the condition required in the Lease is a factual issue that seems to have as much to do with whether the Tenant retained access to or control of the leased premises after expiration of the lease term as it does with the actual condition of the space at the time of surrender. See 13 ALR 5 th 169, 4(a). G. Landlord s failure to mitigate its damages resulting from Tenant s failure to return the leased premises in the required condition may reduce the amount of Landlord s award depending upon whether the jurisdiction in question requires

7 that the Landlord mitigate its damages following a default by Tenant. Most states now require some form of mitigation [see discussion in Grant; First Class Condition: Responsibilities, Rights and Remedies Respecting the Condition of Commercial Leasehold Premises Real Property Probate and Trust Journal, Vol. 29, Number 4 (Winter 95)].

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