Who Should Write Settlement Agreements? The Courts?

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Today’s Ruminations is triggered by a court decision that may not have reached the “correct” result. If that suspicion is correct, then why do we promulgate its holding? There’s a simple answer. Had more talent been employed in negotiating the agreement dissected by the court, there would have been no court involvement. There would also be a different blog posting today.

The facts appear to be somewhat simple. They might be simpler had the court shown more of the actual agreement in its written decision. Instead, it gave us its characterization. Normally, when courts do so, they do it in a way that tilts the “story” to support its decision. So, we’ll assume that the characterization is the strongest the court could write to support the outcome. Enough with the mystery – here’s the story.

A fitness center leased space. The lease was subsequently amended, at which time the tenant’s owner signed a personal guaranty. The document was denominated as a limited guaranty, but the only “limitation” was its dollar amount cap. Otherwise, it appears to have been what we call a “come heck or high water” obligation. [Some would give it a different, but similar nickname.] The guaranty expressly said that the guarantor’s liability was “co-extensive with that of” the tenant.

The other terms we are told about are that the guaranty could only be waived, modified or terminated by way of a written document signed by the landlord. There’s no surprise there. It was stated to be “absolute and unconditional.” The guarantor’s liability was to be joint and several with that of the tenant. The tenant’s bankruptcy or insolvency would not release the guarantor. Lastly, the document contained the following provisions:

[T]he liability of [the guarantor] hereunder shall in no way be affected, modified or diminished by reason of . . . any consent, release[,] indulgence or other action, inaction or omission under or in respect of the [l]ease, or . . . any dealings or transactions or matter or thing occurring between [the l]andlord and [the t]enant.

[a]ll of [the l]andlord’s rights and remedies under the [l]ease and under this [g]uaranty, now or hereafter existing at law or in equity or by statute or otherwise, are intended to be distinct, separate and cumulative and no exercise or partial exercise of any such right or remedy therein or herein mentioned is intended to be in exclusion of or a waiver of any of the others.

Well, that’s a lot of detail about the guaranty (and there are no surprises; that’s how guaranties read). So, what is Ruminations saying when it wrote that the court didn’t tell us much about what was in the agreement? Read on.

The tenant defaulted. [Ruminations: I am shocked- shocked- to find that [defaulting] gambling is going on in here!] The landlord sued for eviction. A settlement agreement was signed by the landlord and the guarantor, not in his role as guarantor, but in his capacity as president of the tenant. Rather than re-characterize that settlement agreement and engage in hearsay on hearsay, here is how the court described the agreement:

The essence of the agreement for judgment was that the landlord allowed the tenant to occupy the premises for an additional three months, and that the tenant agreed to vacate the premises after that and to make agreed-to monthly use and occupancy payments in the interim. The body of the agreement for judgment included a paragraph through which the tenant expressly (and broadly) released its potential claims against the landlord. Curiously, there is no corresponding provision that addresses what claims the landlord agreed to release. However, in prefatory “whereas” clauses, there is language that could be taken to suggest that the agreement for judgment was intended to resolve the entirety of the dispute between the parties.

OK, we’ve been a little harsh with the court. The decision has a footnote reciting those “whereas” clauses. Here they are:

WHEREAS, by this Agreement, the [landlord] and [the tenant] desire to settle the [District Court summary process action] and any and all of the disputes, if any, arising out of [that action];

WHEREAS, by this Agreement, the [landlord] and [the tenant] also desire to settle any and all of the disputes, if any, arising out of the [l]ease, whether or not such disputes could have been raised by the [tenant] within this court proceeding;

WHEREAS, the [landlord] and [the tenant] have agreed that it is in their mutual interest to resolve fully and finally all of the disputes which were, have been, or could have been raised in connection with the [summary process action] and/or [the l]ease, whether or not such disputes could have been raised by the [tenant] within this court proceeding.

After settling the eviction case, the landlord sued both the tenant and the guarantor for money, namely the unpaid rent. A lower court summarily dismissed the claim against the tenant relying on its interpretation of those recitals, essentially holding that the agreement to resolve all claims subsumed all monetary claims as well. It, however, would not dismiss the case against the guarantor.

A second lower court heard the guarantor’s claim that once the tenant was found not to be liable, then it was obvious (to the guarantor) that the guarantor would have no liability. After all, “the liability of the guarantor cannot exceed the liability of the debtor.” Isn’t that what it means for the guarantor’s liability to be co-extensive with that of the debtor? It summarily ruled against the guarantor, holding that the guarantor would owe the money even if the tenant no longer did so.

The guarantor appealed. [The landlord did not appeal the tenant’s victory.]

To begin with, the appellate court would not re-visit the first court’s holding that the settlement agreement released the tenant from financial liability, though it suggested it might have ruled to the contrary. So, it was left with the question as to whether a guarantor could ever be liable if the underlying obligation could not be collected by the landlord. We all know that the answer is: “Yes, it can.” To begin with, the purpose of a guaranty is to allow collection from someone when the tenant doesn’t pay. Guaranties almost always recite that even if the tenant’s bankruptcy relieves it of its obligation to pay the underlying obligation, the guarantor still needs to belly up to the bar.

Here, as the courts read the settlement agreement, the landlord told its tenant, “It’s OK, I won’t pursue YOU for the back or future rent.” Where we think the courts got it wrong was that they didn’t find that the settlement agreement terminated the lease. After all, the continuing three-month tenancy was going to be in accordance with a “use and occupancy” agreement, not the lease itself. Basically, the ongoing right of possession granted to the tenant was no longer under the lease. So, its right of possession under the lease must have been extinguished, meaning the lease had been terminated – consensually. This is different from having the lease terminated by a court by reason of the tenant’s default, in which case, the landlord would be entitled to recover “future rent,” not as rent, but as damages. Here, there was no judicial finding of damages and the settlement agreement made no reference to any monies still owing by reason of the lease.

But if the appellate court was only “tagging” the guarantor with liability for past rent, we have another question, a closer one. What did the settlement agreement actually do? Did it eliminate the underlying obligation, i.e., the tenant’s obligation to have paid the back rent or did it only say that the landlord would not pursue its claim against the tenant. If it only meant that the landlord would not chase the tenant, then the guarantor had agreed it would remain liable even if the landlord released the tenant from liability.

Here’s where Ruminations is compelled to drift off. The appellate court’s decision (readable by clicking: HERE) doesn’t analyze the intent of the landlord and its tenant. Perhaps the back rent was disputed in amount or even in its totality. We aren’t told. Clearly, the parties settled any back rent dispute. The landlord traded its claims for something in return –three months of further occupancy, payment for those three months, the end of litigation and related expenses, and a clear agreement to end the tenant’s possession. If that is the case, then didn’t the landlord agree that the tenant’s liability for back rent was extinguished, traded for, by what the tenant was paying going forward? It seems to us that this was a distinct possibility and, if so, it wasn’t just that the tenant no longer had to pay what it owed; instead, there was nothing owed.

So, what are the bottom lines here? Yes, guarantors beware! Expect that “Come heck or high water” guaranties are intended to be absolute and if the underlying liability continues to “exist” even if the tenant no longer has the personal obligation to pay it, you will still have that obligation.

Another point, often made here, is that the parties could have avoided this dispute had their settlement been thoughtful – had they paid attention to the details. They needed to use more talent when it came to writing the settlement agreement. How simple would this situation have been had their settlement agreement said what it meant and meant what it said?

And, this is a common situation with settlement agreements when they are written by lay people. Shamefully, this also happens a lot when litigators write them, even when not under the pressure of standing in a courtroom. How about having “real property” savvy people craft these kinds of settlement agreements? After all is said and done, those who write leases and guaranties in the first place have a better understanding about how to terminate or modify those agreements.

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