Daily Development for
Wednesday, July 3, 1996

by: Patrick A. Randolph, Jr.
Professor of Law
UMKC School of Law

LANDLORD/TENANT; REMEDIES; ACCELERATION OF RENT: Iowa Supreme Court upholds modified rent acceleration clause in five year commercial lease, but landlord must "kick back" to tenant rents actually received during balance of term. Aurora Business Park Associates v. Albert 548 N.W.2d 153 (Iowa 1996)

The lease was for warehouse and office space in an industrial and business park. The tenant abandoned after two and a half years and the landlord attempted to relet. The landlord was unable to relet promptly, and almost immediately brought a lawsuit asking for acceleration of the rent for the balance of the term. The lease included the following provision:

"In the event of termination of this Lease by reason of a violation of its terms by the Lessee, Lessor shall be entitled to prove claim for and obtain judgment against Lessee for the balance of the rent agreed to be paid for the term herein provided, plus all expenses of Lessor in regaining possession of the premises and the reletting thereof, including attorneys' fees and court costs, crediting against such claim, however, any amount obtained by reason of any such reletting."

The court enforced the provision, awarding damages in the amount of the total uncollected rent for the balance of the term without offset for the fair rental value of the premises or for any rents the landlord might collect in the future and without any adjustment for present value of the future rent obligations.

The Iowa Supreme Court affirmed, but with an important modification.

While acknowledging that some jurisdictions have found rent acceleration clauses to be unenforceable penalties, the Iowa court pointed out that the 1977 Restatement of Landlord/Tenant Law does hold such clauses to be valid Section 12.1 comnt. K). Prior Iowa authority on the subject was at best inconclusive. But the court noted that it had established a policy favoring the enforceability of reasonable liquidated damages clauses, and not rejecting them as penalties.

The court then proceeded to evaluate the clause in question as a liquidated damages clause.

The court first states that the actual damages resulting from a breach were uncertain. The landlord had not as yet relet the premises, even though it had made an attempt to do so prior to the lawsuit (we probably can assume that reletting efforts continued during the one year period between filing of the lawsuit and the trial - although the facts are unclear on this point). The court states "We find there is considerable uncertainty as to the actual amount of damages resulting from a breach of the lease two and one-half years before the end of its agreed term."

The court then considers whether the accelerated rent amount constituted a reasonable attempt to reflect the true damages. It rejects the notion that the landlord should be assessed for the fair rental value of the premises. It concludes that the remedies for breach of lease include both termination of the lease and damages. On the other hand, it appears to reiterate the established Iowa rule that a landlord has the duty to attempt to mitigate by reletting. The court holds that the clause in question takes the mitigation duty into account by crediting the tenant with any rents collected by the landlord Apparently, without really saying so, the court also is holding that the clause implicitly requires the landlord to make an effort to relet.

Having stated that the landlord does have a duty to attempt to relet and to credit the tenant with the proceeds of such reletting, the court takes the next logical step and modifies the trial court ruling by holding that the landlord must pay over to the tenant any amounts actually received during the balance of the lease term as a consequence of such reletting.

Comment 1: This brief opinion appears to take a fresh look at the economics of rent remedies and comes up with a new approach that tips the balance back towards the landlord. With appropriate language in the lease (which every Iowa landlord now will insert verbatim from this opinion) the landlord can collect a judgment now for the rent for the balance of the lease term. The court makes no present value adjustment, but one assumes that it would have done so if the balance of the lease term would have been very long, since its analysis assumes that the estimated damages approximate a fair compensation to the landlord. But, even so, the landlord can sue now when it has the tenant in court and (presumably) believes that it can wring some money out of the tenant.

Later, of course, it the landlord earns some net rents from the property, it will have a duty to pay those amounts over to the tenant, that that is later, and the landlord has the money now. Ask any landlord whether it would rather have its rent now or later. Be prepared for a very clear answer.

Comment 2: From a theoretical point of view, the working out of the remedy seems a little clumsy as compared to the more normal approach of crediting the tenant with the fair value of the premises. How does the court establish that the landlord really is going to make a good faith effort to relet the premises for the balance of the term? The landlord has little incentive at this point to do so, and the tenant will have difficulty demonstrating that the landlord is making any effort. Most likely, the only effort will be made by the tenant, and perhaps this is an appropriate burden to place upon a wilfully abandoning tenant.

But the court doesn't really explain whether the tenant must bring a new lawsuit to retrieve any further rents, or whether the trial court will retain jurisdiction and somehow supervise the property for the balance of the term. Further, the court doesn't do anything with the many nuances of rent mitigation - whether the premises can be altered or combined with other premises, what is the consequence of a lease for a longer term than the remaining term, how to deal with non-rent benefits to the landlord, how to deal with marketing costs, etc. etc. There is, of course a body of law on all of this in the context of a pre-trial history. Will things be different post-trial, when the landlord already has the money?

Comment 3: Even the court's analysis of the liquidated damages issue is a little askew. It should be evaluating whether the liquidated damages clause, looked at as of the time of the contract, was a reasonable attempt to assess likely damages to the landlord. Instead, it measures the reasonableness of the clause as of the time of the breach. This makes it difficult to predict with certainty the enforceability of the clause at the time of drafting. Of course, the whole idea of permitting parties to draft liquidated damages clauses is to permit a bargained solution to a difficult issue. A clause of uncertain enforceability is hardly a "solution." Consequently, the Iowa court really hasn't done as much for promoting market solutions to this problem as it should have.

Comment 4: Persons interesting in making use of the remedy should study carefully the provisions of comment k to Restatement 2d of Property-Landlord/Tenant Section 12.1. That section indicates a number of restrictions on the use of a rent acceleration clause:

1) The landlord cannot normally use the remedy without notice and opportunity to cure.

2) If it is used in response to a default other than abandonment, the landlord may accelerate the rent, but then does not have the right to terminate possession in response to the instant default. As to future defaults, if the landlord terminates possession, the landlord must refund the accelerated rent pro rata.

3) If invoked in response to an abandonment, the landlord must pay over to the tenant any rent collected after acceleration (similar to the Iowa requirement). The Restatement, like Iowa, but unlike many American jurisdictions, imposes an affirmative duty to mitigate on the landlord in response to an abandonment (comment I to Section 12.1 - incorporated into comment k). It is likely that virtually all American jurisdictions would impose such a duty in connection with a rent acceleration clause.

4) Acceleration of rent without adjustment of the accelerated claim to present value likely will be viewed as unconscionable where the rent term is lengthy. Parties are permitted to establish the discount factor as part of the statement of the right in the lease, and landlords might be wise to do so.

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