Commercial Leases – The Right to Assign or Sublet, a Potential Trap for the Unwary Tenant


Julia Wei

by Julia Wei on August 5, 2013

in Contract Disputes, Landowner Liability, Negotiating Transactions, Real Estate Law

Commercial leases tend to be negotiated for long periods of time (10 or 15 year leases are not uncommon), especially if the tenant is making significant tenant improvements.  Accordingly, when the tenant’s business expands or contracts, a common dispute that arises is the tenant’s ability to sublease or assign the lease.

Landlord’s Right to Approve Subleases or Transfers

Unless the lease specifically states otherwise, a tenant’s rights are freely alienable—meaning the tenant can assign them at will.  However, commercial leases typically provide the Landlord the right to approve the sublease[1] or assignment[2] so long as their approval is not unreasonably withheld.

Landlord’s Right to Recapture

There is one way the landlord avoids the issue of reasonableness of the approval discussed above entirely, which is if the lease includes the landlord’s “right of recapture.”  This right of recapture is usually triggered when the tenant gives notice to the landlord of the tenant’s intent to sublease or assign and gives the landlord the right to terminate the lease and take back possession of the premises.  This process would be expressly set forth in the lease.  What this could mean timing wise is that if the tenant sends the notice, then the landlord can then exercise the right of recapture.  In that circumstance, the landlord has never evaluated the suitability of the prospective subtenant or assignee so whether the landlord was reasonable or not in withholding consent is not a factor.

The California Supreme Court ruled on the reasonability of a right to recapture provision in the case of Carma Developers, Inc. v. Marathon Development California, Inc.  As one would expect, the lease gave the landlord the following contractual right of approval for subleases and assignments:

“Tenant shall not, without the prior written consent of Landlord, which consent shall not be unreasonably withheld, assign this Lease or any interest herein or sublet the Premises or any part thereof, or permit the use or occupancy of the Premises by any person other than Tenant.”

The lease then went on to state:

“Before entering into any assignment of this Lease or into a sublease of all or part of the Premises, Tenant shall give written notice to Landlord identifying the intended assignee or sublessee by name and address and specifying the terms of the intended assignment or sublease. For a period of thirty (30) days after such notice is given, Landlord shall have the right by written notice to Tenant to terminate this Lease as of a date specified in such notice, which date shall not be less than thirty (30) days nor more than sixty (60) days after the date such notice is given. If Landlord so terminates this Lease, Landlord may, if it elects, enter into a  new lease covering the Premises with the intended assignee or sublessee on such terms as Landlord and such person may agree or enter into a new lease covering the Premises with any other person; in such event, Tenant shall not be entitled to any portion of the profit, if any, which Landlord may realize on account of such termination and reletting. From and after the date of such termination of this Lease, Tenant shall have no further obligation to Landlord hereunder, except for matters occurring or obligations arising hereunder prior to the date of such termination.”

So in the Carma case, the lease provisions were paired, giving powerful rights to the landlord to approve subleases and assignments or to simply terminate the lease, recapture possession and enter into a direct lease with the proposed assignee (or another party).  The landlord ultimately would reap the reward of any increased rental value.  The California Supreme Court found that “reasonability” or “justification” for such a provision was not necessary and instead that public policy supported the freedom of contract.  Further, the Civil Code was amended and effective since 1990, and the Carma court went on to conclude that those amended sections (such as Section 1995.240) applied to this lease and allowed lesser restrictions on transfer, such as recapture.

TIPS ON NEGOTIATING THIS PROVISION: What are ways to soften the potentially oppressive recapture provision?  For one thing, tenants may wish to consider limiting the scope of the recapture, such that only requests to sublease over a certain percentage of the lease or square footage have a minimum threshold before the landlord could exercise the right of recapture.  Additionally, tenants during a down market may be able to wrest further concessions such as the right to withdraw the Notice of Intent to Assign or Sublease the space after the landlord has indicated its intent to recapture.

If you think you may have a real estate legal matter and are seeking legal representation, don’t hesitate to contact our office at (650) 327- 2900 x 10 or on the web at www.BrewerFirm.com

 


[1] A sublease is a transfer of an interest that is less than the entire interest, so it can be for a shorter length of time than the entire term of the lease or for a smaller area than the leased Premises.  Usually the tenant would remain liable for the rent is the sublessee defaulted on the rent.

[2] An assignment is a transfer of the entire remaining interest the tenant has in the lease.

Related Posts Plugin for WordPress, Blogger...

Leave a Comment

{ 1 trackback }

Previous post:

Next post: