Daily Development for Friday, January 23, 2004 by: Patrick A. Randolph, Jr. Elmer F. Pierson Professor of Law UMKC School of Law Of Counsel: Blackwell Sanders Peper Martin Kansas City, Missouri dirt@umkc.edu LANDLORD/TENANT; LANDLORD'S REMEDIES; DAMAGES; ACCELERATION: Pennsylvania a landlord will not be able to accelerate rent against a defaulted tenant if the lease does not contain an acceleration clause. Therefore, without an acceleration clause, the landlord's remedy will be limited to collecting rents only in installments as they accrue unless the landlord terminates the lease. Onal v. BP Amoco Corp., 2003 WL 21887770 (E.D. Pa. 2003). Ground lease tenant, Amoco, intended to construct a gas station and large convenience store on the rented property. Among other things, the parties disputed whether the tenant had a right to terminate the lease because of (1) the tenant's failure to obtain required permits or (2) the landlord's failure to obtain non-disturbance agreements in acceptable form. Further, there was a claim that the landlord had accepted the tenant's surrender of the property. Perhaps the most significant legal issue in the case was whether the absence of an acceleration clause in a lease limits a landlord's recovery to rent and other payments that have accrued as of the time of trial. Because the site was in Bristol, Pennsylvania, Judge Robreno applied Pennsylvania law and refused to award damages, as requested by the landlord, for future rents and other charges. Judge Robreno stated that in order to answer that question he had to consider 1) whether a landlord must remain out of possession in order to collect future rents, 2) whether the right to collect those rents in a lump sum depends entirely on the inclusion of an acceleration clause in the lease and 3) whether the absence of the duty of a landlord to mitigate damages under Pennsylvania law affects the landlord's right to recover that lump sum. He concluded that the courts and the commentators have found the interplay of these issues "complex," and "confusing." Also, that courts have taken varying approaches depending on whether leases are analyzed under contract or real estate principles. For example, Judge Robreno contrasted the implied warranty of habitability in a lease which is a "creature of contract law," with the issue of whether a landlord has a duty to mitigate damages on the tenant's breach, which is based on real property law doctrines in Pennsylvania. He concluded that in Pennsylvania, generally, a landlord must elect to limit recovery to actual damages by repossession of the property; or as an alternative, it may leave the tenant with the right to possession (even if tenant has abandoned) and charge the tenant for rent. This rule prevents a non-breaching lessor from obtaining the "double recapture" that would result from a rule allowing a landlord to possess the property, and possibly reap a profit from renting or selling it, at the same time that landlord collects rent from a breaching tenant. Typically, however, Pennsylvania landlords elect a third remedy - they accelerate the rent - obtaining all the rent payable on the lease in one payment, and then, apparently as a consequence of the same default, relet the premises to third parties. To prevent the "double recapture," the landlord must pay over to the old tenant any rents collected from the new tenant in excess of the accelerated rent the landlord had obtained. And, although the landlord has not duty to seek to relet, it does have a probable obligation to accept a suitable substitute tenant tendered by the old tenant. This accelerated rent remedy available in Pennsylvania is quite different from the damages right that is described as 'accelerated rent" in other jurisdictions. In those other jurisdictions, the tenant can collect the future rents in a lump sum only to the extent that they exceed the provable prospective fair rental value of the property. As the fair rental value in the remote future is difficult to prove, and as the burden is on the landlord to show that the contract rents exceed fair value, typically the landlord can accelerate only six or seven years' rent at the most. The Pennsylvania tenant gets all the rent for the whole term, and gets it without reduction for fair value (but subject to the duty described above to remit excess rents in the future.) The landlord thought that it had such a right here, but the court held that it is available only when the lease provides. : "If a landlord remains out of possession, however, he may receive a lump sum all rents (sic) that will fall due during the unexpired term of his lease, only if the lease in question contains an acceleration clause; otherwise he may recover future rents on the property only as they become due. ... (The acceleration is ... a guarantee to the lessor that he will receive immediately all of the monies (or other compensation) to which he is entitled under the lease without having to harass a reluctant tenant as periodical payments become due?) ..." As the lease had no such clause, there was no acceleration right. The landlord could only collect back rents and future rents as they fell due. But tenant Amoco argued further that even this right to future rents was barred due to landlord's conduct. Amoco argued that the landlord had repossessed the properties and effectuated a surrender and therefore, regardless of the lease provisions, it should not be able to collect any future rent. Amoco's contention in this regard was that the landlord's actions in listing the property for rent on several occasions was tantamount to his repossessing it from Amoco. Amoco's best proof on this issue was that the landlord's attorney testified that as of the time of trial, he was assisting the landlord in efforts to lease the property to another tenant in the wake of Amoco's breach of the lease. The landlord's attempts had been unsuccessful, even though he had used four different realtors to find another tenant. On this issue Judge Robreno found that the mere act of listing the property for rent, without actually re-letting it to a tenant, in no way interferes with Amoco's possessory rights and access to the property, and, as a matter of law, is unlikely to constitute an acceptance of Amoco?s surrender. Also, those activities fall "far short of constituting clear and convincing proof that Onal accepted Amoco's surrender of the property for the simple reason that no testimony fixes Onal's alleged acceptance of surrender in time." As such, there was sufficient evidence from which the jury could determine a date certain at which the landlord took possession of the property and thus extinguished Amoco?s duty to pay him rent. Since Amoco had failed to sustain its burden of proving that Onal accepted surrender of the property by taking possession, the court then had to determine whether he could recover all past and future rents in a lump sum even though the lease did not contain an acceleration clause. Held that, absent contract, acceleration was not available as a matter of common law in Pennsylvania. "The fact that the lease in question does not contain an acceleration clause is dispositive of the issue. As noted above, absent an acceleration clause, a Pennsylvania landlord, provided that he remains out of possession, may collect rents only in installments as they accrue. ... Therefore, Onal is entitled to collect only those rents and other payments that had accrued under the lease as of the time of trial. Because the jury awarded those amounts and no future rents, the verdict must be affirmed." The landlord argued that because Pennsylvania law imposes no duty to mitigate his damages under the case of Stonehedge Square Ltd. Partnership v. Movie Merchants, Inc., 715 A. 2d 1082 (Pa. 1998), he is entitled to collect all rents up front, despite the lack of an acceleration clause. Judge Robreno rejected that argument and found that the no-mitigation rule relieves the landlord only of the duty to seek a replacement tenant. But that rule does not abrogate the long standing Pennsylvania rule that prohibits double recovery or the rule that requires the presence of an acceleration clause in the lease to recover future rents in one lump sum. This case emphasizes the importance to Pennsylvania landlords of including acceleration clauses in their leases. If landlords do not use those clauses, apparently Pennsylvania courts will require landlords to sue defaulting tenants every month, or every few months if they elect to accrue a few defaulted payments ? unless those landlords terminate the lease and sue for damages. That expense of successive legal actions and inconvenience will have to be incurred even when the tenant has made clear that it will not make any more payments under a lease. A landlord may be forced under those circumstances to follow that procedure for the remaining years of a lease. Reporter's Comment 1: Apparently, when it comes to leases, the federal court is of the view that a Pennsylvania court will not honor the concept of an anticipatory breach which is relied upon in other contractual contexts. The general rule, where a party breaches a continuing obligation under a contract, is that damages for an anticipatory breach should be measured by the value of the contract to the end of the term. Generally, the lump sum will be calculated by determining the present value of the anticipated future payments. For example, what would happen if a borrower stops making required payments under a note or a mortgage that does not have an acceleration clause? Or, suppose a buyer stops making payments under an installment agreement? If these defaulting debtors do not intend to make any more payments, it seems likely that Pennsylvania courts will require them to pay damages in a lump sum representing future payments. Under the Onal case, that is not a convenience that Pennsylvania landlords will have available to them against defaulting tenants unless they take back the property, or the lease contains an acceleration clause. Reporter's Comment 2: One of the issues, which the court did not have to discuss, was how damages would be calculated if the landlord had accepted surrender of the property and terminated the lease. However, language in a footnote may disturb some landlords because some may read it to limit the right of the landlord to collect full damages under these circumstances. That footnote (FN9) provides: "Stonehedge does not purport to disturb the principle that a landlord must choose between taking possession of the property and collecting future rents. Indeed, a landlord's choice between possession with the right to collect actual damages and the right to collect rents on the property remains firmly in place under the non-mitigation rule. The landlord must select among (1) terminating the tenant?s lease by accepting the tenant's surrender of the premises and therefore discharging the tenant of its obligation to pay rent, see Stonehedge Square Ltd. P'Ship v. Movie Merchants, Inc., 454 Pa. Super 468, 685 A.2d 1019, 1023 (Pa. Super. 1996) (discussing effect of surrender). (2) allowing the premises to remain vacant and continuing to collect rent from the breaching tenant for the remainder of the lease term, cf. e.g., Pierce, 236 A.2d at 830, and (3) accelerating the rent if the lease so provides, taking possession and re-letting the premises, with a credit to the tenant in the amount of rent paid by the replacement tenant. See e.g. H. A. Steen Indus., Inc. v. Richer Communications, Inc., 226 Pa. Super. 219, 314 A.2d 319 (Pa. Super 1973). (emphasis supplied). Does this eliminate the possibility of the landlord invoking another remedy commonly recognized in other jurisdictions - the repossession of the abandoned rental property and the reletting of it as the "implied agent" of the tenant - leaving the original lease in place and the original tenant liable for any difference between rents earned and the original tenant's contract rental? [The Reporter doesn't think so.] A reasonable reading of item (1) of this footnote would be that while the termination of the tenant's lease could discharge the tenant from its continued obligation to pay rent, it does not discharge the tenant from its obligation to pay damages based on its anticipated loss of rent for the balance of the leased term with or without an acceleration clause. Editor's Comment: The Pennsylvania rule for commercial leases has also been recognized as a valid contract option in Iowa. The purpose, of course, is to leave the tenant with the problem of finding a substitute user for the space. But the editor tends to side with those who argue that the law ought to encourage full use of the property. The Pennsylvania approach tends encourage landlords to grab the accelerated rent and then ignore the property. The "relet as agent" rule, in the editor's view, is better policy, as it leaves some incentive in the landlord to relet. Although the landlord may have no formal duty, the landlord is exposed to the possibility that over time the old tenant may become judgment proof, and therefore the landlord would be unable to collect all the rent as it comes due over time. Therefore, the landlord has a greater incentive to seek to relet. As the landlord is the party most likely to relet successfully, the editor prefers a rule that keeps a little heat on. The editor, however, would not turn up the heat so high as to create a duty to mitigate beyond the landlord's own economic self interest. Although it might be argued that we ought to permit parties to reach whatever bargain they choose on the question of lease remedies, we have never permitted parties to bargain for a penalty. Since money now is quite different from money later, the editor views the accelerated rent approach, even with adjustment to current value, as a form of penalty, and thus there is some justification for refusing to enforce it. The Reporter for this item was Harris Ominsky of the Blank Rome firm in Philadelphia. The Editor, however, has substantially revised the report and even made some revision in the reporter's comments.