Know Your Rights When It Comes to Commercial Real-Estate Rental, Reap the Rewards

Teleworking is growing by leaps and bounds thanks to a large-scale process forced upon us by the pandemic. While this could spur sales of standing desks and fancy chairs for the home, it could have the opposite effect on commercial real estate. Many commercial property owners may have to file for bankruptcy to restructure their debt burden due to falling rental income and demand.

As a tenant, how should you protect yourself against a possible bankruptcy of the landlord?

Before the fall

If your landlord is likely to get into financial trouble, it is time to look at your rental agreement. What you may find is a clause relating to “ornament”. This clause is often required by the landlord’s lender and states that if the lender is foreclosing the property for non-payment by the landlord, if the lender is foreclosing on the property, you agree that the lender can take over your lease instead of the landlord. If it’s not on your rental agreement, you’ll need to get an undisturbed arrangement in which each successor to your landlord agrees not to disrupt your occupancy of the room.

If your landlord seems to be violating your rental agreement, possibly due to lack of maintenance or other issues, now is the time to act. You should declare default and, if the lease allows, terminate the lease before foreclosure or bankruptcy occurs so you don’t have to get the court to terminate the lease.

When negotiating a move into a new property with a landlord whose financial health is in doubt, watch out for tenant improvement promises that will entice you into signing the lease. A landlord who files for bankruptcy cannot keep their promise to provide the tenant improvement funds.

To protect yourself, you may want to require the landlord to put the tenant improvement funds in an escrow where the funds are automatically released when certain tenant improvement works are completed and paid for.

The story goes on

Related: Here are the winners and losers of real estate in the new normal

Hold your ground

One of the special powers given to debtors in bankruptcy proceedings is the ability to refuse certain contracts in which they are a party, including leasing contracts. The injured counterparties, together with all other creditors, must file a lawsuit with the bankruptcy court. Fortunately, there is protection for tenants under Section 365 (h) of the Bankruptcy Act, which provides that the tenant has the choice to either consider the rejected lease terminated or to keep the lease for the remainder of the term and an extension or extension if the Tenant has the unilateral right.

There’s a catch: if the renter chooses to stay after the landlord refuses the lease, the renter’s only remedy to seek compensation for non-performance by the landlord is to deduct it from the rent owed.

Unfortunately, this tenant right of residence is not always respected as another provision of the Bankruptcy Act (in Section 363) allows bankrupt companies to sell property they own freely and free from other obligations for the property, including its leases.

While a majority of the courts continue to protect tenants’ use rights during such a sale, a minority believe that a property could be sold rent free despite the tenant’s use rights under Section 365 (h) above. If you find yourself in this situation, you can seek compensation for the loss of your rental interest from the proceeds of the property sale by asking for “reasonable protection” of your interest in the property.

Related: There’s never been a better time to be a DIY rental company

Make your claim

If you owed money from your landlord, it’s time to file a bankruptcy lawsuit. A skilled bankruptcy advisor can use a mechanism called redress to let you know if there is a way to deduct the amounts owed by the landlord from the landlord’s debts. There are many strategies for improving the priority of your bankruptcy claim that a professional advisor, such as Proxifile, a company I co-founded, or a specialized lawyer can help you with.

Once the bankruptcy petition is filed, under no circumstances should you pursue the landlord directly for the money you owe. Doing so would violate an important provision of bankruptcy law called automatic residency, which would result in significant penalties from the bankruptcy court. Instead, prepare to make a claim. If you are lucky enough that the landlord decides to proceed with the lease (known as “taking over” the lease), they have an obligation to remedy their previous failures and provide reasonable assurance that they can meet their rental obligations in the future.

Related: Get Your Feet Wet In The Rental Property Business

Keep it up to date

If you want to keep your rental agreement, don’t miss any deadlines for paying the rent. The fact that your landlord may be bankrupt doesn’t give you carte blanche to withhold payments.

Sometimes during a landlord’s bankruptcy, you will receive a notification that you need to transfer your rental payments to a new account or person. This change occurs when a trustee has been asked to step into and run the bankrupt business (your landlord), or when the landlord has been looking for a new source of funding that wants to receive payments directly.

Before forwarding payments to a new person, address or account, you should check with the court or the landlord himself where the rental payment should be directed. Never accept changes to money orders without verifying them directly at an address or phone number that you know really belongs to the party that needs to be paid.