The Roof Caved In - Now What?

BY SERENA SCHOURUP
Special to the Journal

Most tenants leasing space in commercial premises carefully review the "deal points" of their lease -- rent, common area charges, term and tenant improvement allowance.

"What if" provisions in a lease are often not reviewed or negotiated. Damage, destruction and insurance provisions are boilerplate clauses which often make all parties in the lease transaction, including many attorneys, glaze over. After all, what is the chance that major damage to the building will occur during the lease term?

As we saw vividly during the year-end storm, major damage, when it occurs, can be devastating to both the landlord and the tenant. After such a casualty the often-ignored boilerplate in the lease becomes crucial in sorting out the landlord's and the tenant's rights.

Consider a hypothetical situation involving a tenant in a regional shopping center. Our tenant, a gourmet kitchen store, is located in freestanding premises within the shopping center.

When employees arrived for work one winter day, the roof of the premises had completely collapsed. Worse, snow and accumulated water had further damaged the interior of the premises and all of the tenant's inventory and personal property.

In such an instance, after a casualty occurs, the landlord and the tenant will call their insurance carriers to find out what damage is covered by their policies. The parties will then turn to the lease to determine their respective obligations.

Many shopping center leases obligate the landlord to repair the structure and require the tenant to repair its fixtures and replace personal property. Unless the tenant has conformed its insurance coverage to the requirements in the lease, the tenant may discover that it does not have coverage to pay for the repairs that it is required to make under the lease. Fortunately, our hypothetical tenant brought its insurance coverage into line with its repair obligations under the lease.

If the lease contains both a total and a partial damage or destruction provision, the next question will be which clause applies. A total damage and destruction provision may give the landlord or tenant the right to terminate the lease; rarely does a partial damage or destruction clause allow the tenant to terminate the lease unless, for example, the repair cannot be completed within a certain number of days, or the damage occurs in the last year of the lease term.

The test to determine a total versus a partial destruction may be tied to the percentage of damage to the entire shopping center, not to individual (even freestanding) premises. Due to the lack of bargaining power, this is the case for our tenant. There was not sufficient damage to the entire shopping center to permit our tenant to terminate the lease.

A partial destruction clause generally will provide that the damage must be repaired within a certain period of time from the date of the casualty, and will be conditioned upon the landlord receiving insurance proceeds sufficient to cover the cost of all such repairs.

Leases typically require the landlord to notify the tenant as to its intention to repair within 90 days after the casualty. In the event a landlord cannot or does not restore the premises within the agreed-upon time frame, or does not receive sufficient insurance proceeds, the landlord can terminate the lease. If the landlord notifies the tenant that it has received the insurance proceeds, but the repairs will require a longer period than agreed to in the lease, the tenant will generally have the right to terminate the lease.

Therefore, our tenant will have to wait a maximum of 90 days to be notified if the landlord intends to repair the building or to terminate the lease.

If the landlord elects to repair, the landlord will have six months to complete the repair under our lease. During this time our tenant may not be able to operate its business, or may be forced to relocate to temporary space in order to remain open for business.

Rent payable under the lease will either not abate, but will be paid by the tenant's business interruption insurance, or will abate and the landlord will carry insurance for such interruption. The cost of the insurance is included in the tenant's common area charge.

A tenant is generally not entitled to any compensation or damages for loss of the use of the whole or any part of the premises. Therefore the tenant's insurance coverage will be critical to the tenant's ability to conduct its business and to meet its lease obligations during the repair period.

After a casualty, a tenant may be in the unenviable position of not having a space to operate its business and having insufficient insurance to pay its obligations under the lease. So remember: there are several clauses which, if carefully addressed during a lease negotiation, can help ensure that the tenant's business will survive a casualty.