A Different Take On Whether Consent To An Assignment Or Subletting Can Be Unreasonably Withheld

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What happens if a lease states merely that a tenant may not assign it or sublet the leased premises? What happens if it says the tenant may do so, but only with the landlord’s consent? A majority of jurisdictions (states), perhaps even a substantial majority, do not require a landlord to be reasonable. Even though there is such a “majority rule,” negotiators need to adapt to the minority view if the leased space is in such a jurisdiction. More importantly, the winds of “do I have to be reasonable” law are shifting. That’s because, little by little, the implied covenant of good faith and fair dealing is encroaching on the grounds where “sole discretion” used to reign. So, in jurisdictions that have required that a party act in “good faith,” even where a landlord has reserved the right to deny its consent for any reason or for no reason at all, it will not be permitted to deny its consent if doing so will defeat its tenant’s reasonably expected benefit of the bargain. Basically, the covenant, as is increasingly being interpreted, prevents a party from using a given contract right as a sword when it was intended to be a shield.

Even if at the time a lease is signed the law in a given place is pretty clear that, absent a lease saying that a landlord has to be reasonable, it can act arbitrarily, that law can change during the lease’s term. Therefore, it makes good sense, in every lease, to define the “rules” for giving or withholding consent even where you think the law is settled.

That’s not even close to the end of the story because even if a lease or a jurisdiction’s particular case or statutory law requires a landlord to be reasonable, there is still a lot of room, perhaps even a hi-rise building’s worth of rooms, to argue: “reasonable as to what?” The character of the new occupant’s use? The character of the new occupant’s ownership or management? Its financial strength? The landlord’s business prejudices? The availability of other empty space at the property? A deleterious effect on the expected percentage rent?

Jurisdictions are all over the place on this issue and the law is far less than clear even where there is law. Further, as we wrote above, the law changes over time.

One more point: even where a landlord is not permitted to act unreasonably, local law may place the burden of proving unreasonableness on the party who didn’t expect that it would have to do so.

Can we sum up the reasons why a lease should clearly set forth the standard for giving or withholding consent? Sure – here it is: “Absent some serious public policy problem, courts respect the agreement struck by the parties to a lease, but if the lease is silent, the courts will fill the gap.”

Is it possible to grant consent and not even know that you’ve done so? Yes. For example a landlord can inadvertently grant consent to a lease assignment by its acceptance of rent from an otherwise ineligible assignee if the landlord knew or should have known of the assignment. And, as Ruminations has warned many times before, courts often ignore broad “no waiver” provisions in an agreement. Courts are far less likely to ignore a topic-specific non-waiver provision like: “Accepting rent from a party other than Tenant does not constitute Landlord’s consent that any person or entity other than Tenant may occupy or use the Leased Premises.”

Even where a lease requires that a tenant obtain its landlord’s consent for an assignment or subletting, it is far from clear what happens if it goes ahead without getting that consent. Leases can be made very specific in that regard, but few do. Here are some of the questions that can come up.

Let’s assume for discussion purposes that a particular lease prohibits assignments or subletting without the landlord’s consent and the tenant assigns the lease or sublets the leased space without getting that consent. Is that assignment or subletting void or voidable as between the tenant and its landlord? Is it merely a default, giving rise to a right on the landlord’s part to terminate the lease? If the landlord terminates the lease as a result of the unauthorized assignment or subletting in a jurisdiction where a landlord has a duty to mitigate a tenant’s damages, has the landlord breached its mitigation obligation by throwing the assignee or subtenant out?

“OK,” you say: let’s make the lease provide, by its terms, that it terminates automatically upon a prohibited assignment or subletting. Can a tenant use this to avoid future liability? Probably not because this would bring about an illogical result, but it could place bargaining power in the tenant’s hands where none previously existed based on the uncertainty of result.

Perhaps the worst that can happen to the landlord who wrongfully denies its consent to a lease assignment or a subletting is that it loses the tenant and cannot collect damages or the balance of the rent under the lease. Or, perhaps the landlord is not that lucky and its tenant is awarded damages from the landlord as compensation for the tenant’s losses when its assignee or subtenant walked away from a fight over whether the consent-denial was proper. A lease can limit a tenant’s remedies, and if a landlord wants to be protected, it can negotiate for such limitations.

Some leases allow a landlord to “recapture” the entire leased space or part of the leased space upon an actual or proposed assignment or subletting. Let’s say a tenant only requests its landlord’s consent to a transfer and the landlord exercises its right to recapture. Is that the result the tenant expects? That’s why one sees the following, somewhat strained request made by tenants: “Landlord, WHAT WOULD BE YOUR RESPONSE if we, your tenant, asked you for your consent to the following possible assignment?” Yes, that’s not a request for consent because it only poses a hypothetical question.

Lastly, now that the horse is taking its dying breaths, suppose a tenant purportedly assigns its interest in the lease when its lease says it cannot do so. Is that a breach of the lease that permits the tenant to attempt a cure and avoid a lease termination and consequent eviction? Or, is the purported transfer ineffective and therefore not even a breach of the lease because “it didn’t take place in the first place.” Depending on how you answer that question, perhaps it is easiest to ask forgiveness instead of ask permission. Perhaps the new tenant or subtenant will be there long enough so as to undercut any argument that it is an unacceptable party or that it doesn’t “fit” at the property. Or, the new tenant may be there long enough that injunctive relief may not be available because it becomes clear that there is no irreparable harm.

Most of what we’ve already presented today constitutes a warning to landlords and gives tenants some bargaining power when it comes to getting consent from landlord or even when bypassing a lease’s “consent required” provision. If you have the energy to read on, you’ll see that a tenant who has negotiated for even the most liberal “permission” to assign or sublet provision is far from off the hook. Impediments to assignments or sublettings don’t have to be listed in the Article titled: “Assignment and Subletting.” Roadblocks can be hidden throughout the rest of the lease.

Yes, even a lease that lets a tenant freely assign or sublet to another person or entity can have hidden restrictions. Perhaps those who negotiated the lease for the tenant addressed some obvious impediments. Care may have been taken to allow for any lawful use. There may be no continuous operation provision. There may be no trade name restrictions and no signage problems. But, what about some otherwise innocuous lease terms? By way of example, a lease might require the tenant to submit copies of its public filings, but the assignee, otherwise qualified, is not a reporting company? What if the lease contains a net worth or shareholder equity threshold that would permit consent-less assignment and the proposed assignee, while owned by a qualifying parent company, doesn’t meet that test? That’s easy to overlook, but the consequences could be distasteful. Certainly the assignee’s parent company could take the lease directly, but what if, for legitimate business or taxation reasons, it didn’t want to do business in the jurisdiction where the leased premises are situated? Planning ahead when a lease is drawn can avoid this dilemma.

Speaking of continuous operation provisions in a lease, it might be noted that in a lot of situations it is difficult to change tenants without closing down the business operation at the leased premises. Left unaddressed, that could be a show stopper.

Generally, a landlord is under no obligation to give its tenant an estoppel certificate unless the lease requires such. So, an incoming assignee or subtenant may be stepping into a hornet’s nest without first being able to see inside.

The tenant’s interest in its lease can be mortgaged by the tenant absent a restriction in the lease to the contrary. But, what good would a leasehold mortgage be if an unexpected lease termination, such as by reason of the tenant-borrower’s default, would leave the lender with a terminated, valueless lease as collateral? A well-crafted lease will make it financeable in the hands of a tenant. Otherwise, that is not the case.

Again, to a bottom line: Tenants, be aware that just because you can assign your lease or sublet the leased space without the landlord’s consent (or do so because it is very difficult for the landlord to deny its consent), failing to address other lease provisions that have the practical effect of impeding an assignment or subletting will have the same effect as a landlord denying its consent.

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Comments

  1. Good article. One other consideration as part of any assignment negotiation is what happens to any existing original tenant personal or corporate guarantees.

    From my previous Property and Asset Management experience, we would allow tenants to assign their leases to another tenant without too much difficulty, but would not release the original personal or corporate guarantees until the current lease term expires. Plus, we would require the incoming tenant that assumes the lease to provide additional personal or corporate guarantees as well.

    Best wishes for the holidays.

  2. Ira, I agree with your comment about reasonableness and good faith. One should not equate the concepts of “reasonableness” with “good faith” (i.e., an honest belief in one’s motives), nor the concepts of “unreasonableness” with “bad faith”. A landlord can be deemed unreasonable (i.e., subjective) in the context of considering whether to approve an assignment but not be guilty of bad faith. However, one who is guilty of a bad faith refusal of consent is always unreasonable. Bad faith goes beyond unreasonableness: it has been likened to being subjective plus lacking a moral or ethical quality. When a landlord contracts for the right to be unreasonable in approving an assignment (which it has the right to do), this does not mean that it is also contracting for the right to act in bad faith.

  3. Ira, among others not yet listed in this conversation, a few other lease provisions that have the practical effect of impeding (or, at a minimum, devaluing) an assignment opportunity are: (i) a prohibition against assignment of renewal options (making options “personal” to the Tenant.); (ii) requiring that the net worth of the assignee be equal to or greater than that of the assignor as it exists at the time of the assignment; (iii) in acquisition of a specialized business – such as a dental office – requiring that the assignee have experience in operating the type of business that it is acquiring (when most dental practices are purchased by (relatively) new practitioners who, although they may have been associating at a practice for many years and presumably have developed good clinical skills, may have never before owned and managed a dental “business” and, therefore, have no “experience”.)

    Landlord’s have every right to control what goes on in their buildings. And tenants have the right to attempt to establish reasonable conditions under which they may be able to capitalize on a business they have built by selling it and assigning the lease. Having worked both sides of the landlord/tenant fence, my experience is that few attorneys, nonetheless tenants, know enough about this (or any other) lease provision to navigate to a safe ground.

  4. Great article. One road block to assignments has gone away now that we have cheap or free on-line legal research and compact electronic libraries. Years earlier, a Minneapolis court ruled that a landlord was reasonable in witholding consent to an assignment by a law firm to another business. The lease required the tenant to maintain a complete law library for use by all lawyers in the building. That library required a substantial investment in capital, labor and rent. On-line research was new, pricey, and limited to recent cases. Access to a full set of reporters, digests and annotated statutes helped attract smaller law practices to the building.

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