This
article was written by David B. Lipski, Esq of Howard & Howard Attorneys,
P.C. and ran in Commercial Inc., Magazine in 2001
Preventive
Strategies for Owners and Managers
If
the tenant pays, the tenant stays, and the commercial property owner is
satisfied, at least for a month. When the tenant defaults, in falling to pay
rent or other charges due under the lease, the real estate investment is at risk,
and both the owner and manager have a problem. As a commercial property owner,
you need your tenant to comply with its lease agreement and pay the rent as it
comes due. Alternatively, you need a replacement tenant. The owner counts on the
property manager to encourage ten ant compliance, as the Income stream from
leases in red estate developments provides the cash flow necessary to pay the
bills as they come due, to the lender or otherwise, and to make the real estate
investment a worthwhile and profitable venture.
If
you have a non-compliant tenant, and the fiscal goals of the real estate
development are not being met, you may need to evict your defaulting tenant and
replace it with a better candidate. At
the same time, you want to remove the tenant effectively and efficiently and
collect the overdue money, without protracted and costly litigation. What can
you do to increase the likelihood of the tenant compliance with the lease
agreement or, alternatively, facilitate eviction, the insertion of a replacement
tenant, and the collection of the tenant’s arrearage? The short answer is,
know the relevant law and how to apply it, and have your contracts drafted with
an eye toward the effective application of that law. Now, you may be thinking,
“yeah, great, but my leases are already signed, I can’t change them now,
and it’s too late to get a personal guaranty or a security agreement” But
that is not totally true, you can also use the applicable law as a technique for
changing existing agreements and creating new and improved contracts.
I.
The
At
the heart of managing the defaulting tenant is the Michigan Summary Proceedings
Act which was created in 1972 to create a single, uniform system of law for the
summary repossession of premises by a real estate owner and to replace the
widely disparate and chaotic law prevailing at the time. For the most part, that
goal has been accomplished, when one compares the brevity of a District Court
summary proceeding to the antiquated Circuit Court ejectment action. You con
still seek eviction in Circuit Court through an ejectment action, but it
doesn’t happen often, as it takes too much time, Of course, the defaulting
tenant prefers to deal with eviction in Circuit Court, where time is on its
side. Using the Act strategically, in combination with well written agreements,
can effectively thwart this type of tenant delay tactic.
There
are five general stages in the life of a summary proceeding: (1) a seven day
demand for possession, or a thirty day notice to quit (2) the summons and
complaint; (3) the hearing and/or trial; (4) the judgment; and (5) the order of
eviction.
A.
Demand for possession The first step in a summary proceeding Is to
serve a written demand for possession on the tenant. The demand customarily
gives the tenant seven days to cure a default and If the default is not cured w
that time, the landlord may have Its attorney start the summary proceeding
lawsuit on the eighth day. The demand may be based on one of several bases,
including the non-payment of rent, a continuing health hazard, or continuing
injury to the premises. However, a seven day demand for possession may be
redeemed, or cured, If the tenant pays the amount specified in the demand within
ten days of any Judgment Issued by the District Court. its Important to remember
that If you serve a demand for possession, the tenant stays if the tenant pays.
Demands
for possession can, and should, be prepared and served by the properly manager
or owner. How ever, before doing it for the first time, you should walk through
the appropriate court forms with an experienced real estate attorney and then
once you have them mastered, do it your self. This will save time and money as
the properly manager is the person most aware of the specifics of a tenancy. A
good rule of thumb is to immediately serve a demand for possession each and
every time a tenant defaults. Whether you actually follow through on the lawsuit
is another Issue. By incorporating the demand into your standard business
practice, you are always ready. This is effective for building a future
termination case where the lease a for termination if the tenant defaults
repeatedly during a certain calendar period. it is especially effective for
encouraging tenant compliance and preventing costly delays.
B.
Notice to Quit
Managers and owners may also prepare and serve thirty day notices to quit.
By serving a thirty day notice to quit, you are seeking possession with out
giving the tenant a right of redemption. Possession through notice to quit may
be sought based on a ten ant’s breach of the lease, or at the expiration of
the lease, in this situation, if the tenant pays, but does so after a valid
notice to quit is timely served, the tenant doesn’t stay. Be careful when
accepting rent payments after serving a notice to quit.
1.
Mid-Stream Termination
if
you are seeking to terminate a tenancy in the middle of the lease term, as
opposed to at its natural expiration, the lease must provide that the landlord
has a right to terminate for the specific breach upon which you base the
eviction. Otherwise, you will be forced to litigate whether the breach is
material prolong the proceeding. The problem with debating the mater a breach is
that It Is evaluated on a continuum, and the answer Is not clear cut. it Is
often costly to litigate the issue of materiality and may allow the defaulting
tenant more time to occupy the premises while In breach and prevent you from
starting a bu out arid the rent commencement with a replacement tenant.
2.
Termination at Expiration
There
is some disagreement on whether you must serve a thirty day notice to quit after
lease expiration, or whether you can immediately file the summary proceeding
action on the day after the lease expires. The Act itself suggests that you may
do either. However, when a ease expires, it becomes a month to month tenancy.
There is a statute that requires a notice to
quit to terminate a month to month tenancy. As different Judges may interpret
the law differently, the safest move Is to serve a notice to quit thirty days
before the expiration of the lease term, assuming that you want the space back.
C.
The Lawsuit, the Judgment, the Eviction After the expiration of the
demand or notice, you may have your attorney start the eviction action. Unlike
the demand or notice to quit, the complaint must be signed by an attorney, and
the attorney must appear in The District Court on behalf of the landlord. The
hearing will occur, on average, about two weeks after the filing of the
complaint, At that time, the Court will usually do one of three things (1) hold
o hearing and rule on whether there is a triable Issue; (2) hold an immediate
trial; or (3) adjourn the matter for trial at a later date, which may or may not
be a trial by jury, depending on what the lease says and whether the tenant made
a timely jury demand and paid the jury fee.
At
the hearing or trial, the tenant will raise its defenses to the eviction, which
are also enumerated In the Act. Tenants will often argue that the eviction is In
retaliation for its complaints about the condition of the premises and file
counterclaims for a rent set-off based on these alleged breaches of lease by the
landlord.
Once
the judge or jury makes its determination a judgment will be entered.
If the judgment is in favor of the landlord, the tenant will be given ten
days to move, After the ten day period passes, the landlords attorney may file
an order of eviction and cause a court officer to physically remove the tenant
and its belongings. All of this can
transpire in as little as thirty to sixty days, depending on whether you serve a
demand for possession or notice to quit. However, the speed and efficiency of
the summary proceeding will be dictated by the contents of the agreements
between the part and whether you and your attorney correctly follow the
procedures of the Act.
II.
Tenant Viability and Preventive Drafting of Agreements
A.
Tenant Viability and Bargaining Power Your ability to succeed In a
summary proceeding Is gauged In large part by the content of the contracts with
the tenant, as well as its financial wherewithal As you well know, the first
steps In the commencement of any tenancy, is to evaluate the financial
capability of the tenant, the amount of risk it represents to the development,
and how it harmonizes with neighboring tenants. The nature of the development
will obviously determine how finicky one can be. The situation will vary with
whether the development is office, industrial or retail, the caliber and
occupancy of the building or shopping center, and the strength of the tenant.
Some landlords must rely more on small business tenants, and others do not have
that concern, as their developments are in demand, and in optimal locations. The
bargaining power of the parties usually affects what is included in the lease
agreement or other contracts between them.
B.
The Lease, Guaranty and Security Agreement In any tenancy situation, once
you have decided to do business with a tenant, the important issue becomes the
terms of the agreements between the parties and how they work in conjunction
with the Act.
1.
Personal or Corporate Guaranty
To
the extent you can, try to get a personal guaranty of either the parent
corporation of your tenant, one of the tenant’s principals, or another credit-
worthy
person, All too often, tenant bankruptcies make it virtually impossible to
collect from or evict a tenant until the bankruptcy court grants per mission,
after the court imposed dead line for assuming or rejecting a lease has passed.
A detailed analysis of the effects of bankruptcy law on tenancies is beyond the
scope of this article. The important point is that a personal guaranty of one of
the principals of a corporation or another person or entity can help the
landlord collect if the tenant files for bankruptcy and can encourage tenant
compliance based on the risk imposed on the guarantor when the tenant defaults.
2.
Security Agreement, Financing Statement, Fixture Filing
If
you finance a tenant build out, and you want to make sure you are paid on a
construction loan, be aware that in
3.
Lease Agreement
The
default provisions of a lease agreement are critical and dictate how effectively
one can use the Act. If the landlord files a summary proceeding, and the tenant
has a competent attorney, it will file an answer to the complaint, affirmative
defenses, a jury demand, and a counterclaim alleging a set-off right. Even if
the defenses and counterclaims are meritless, they buy the tenant time, which is
always the tenant’s best friend. As such, you want to make sure your lease
contains a waiver of jury trial, waiver of counter claim and waiver of set-off.
Some
tenant attorneys will try to incorporate language into a lease dictating that
the performance covenants of the lease are dependent covenants, such that a
failure to per form by one party discharges the performance requirements of the
other. This will tie up an eviction. Tenants are also big fans of inserting
clauses requiring that any dispute under the lease be submitted to non-binding
facilitation or mediation for at least sixty days, which essentially kills the
summary proceeding. by eliminating the landlord’s best weapon. . . speed.
Accordingly, your lease should expressly indicate that the tenant’s duty to
perform is independent from the landlord’s, and that all covenants of the
lease are independent.
As
a deterrent, and to aid your principal’s bottom line, the lease should call
for maximum interest on past due obligations and a requirement that tenant pay
the attorneys’ fees incurred as a result of any collection or eviction effort
by the landlord. These are strong clauses, can encourage compliance, given the
downside they represent for tenant, and can make the eviction process a less
expensive venture for the landlord. If at all possible, try to avoid any
pro-tenant clauses that give the tenant more notice and time to cure than the
seven days allowed for with a demand for possession. The longer the cure period,
the greater the likelihood the tenant will race to Circuit Court and file an
action to determine interests in land and/or for an injunction and declaratory
judgment, to avoid the speed of a summary proceeding, in favor of lengthy and
costly Circuit Court litigation
III.
Using the Act to Revise Bad Agreements and Create New Ones
Bad
agreements can delay or even prevent the expeditious use of the Act. This can
cost money in delaying the build out and insertion of a replacement tenant. Many
times property managers and landlords were not responsible for negotiating the
agreements that exist between the landlord and the tenant, For example, when a
REIT buys a shopping center, it inherits someone else’s leases and worse yet,
those leases are in mid-stream, The same is true for a pension fund buying an
office building.
By
closely monitoring all the dead lines for payment and other performance in a
lease and strictly enforcing them, you may find an actionable breach. The mere
threat of an expedient summary proceeding may bring a tenant to the bargaining
table. By sending a demand for possession or notice to quit based on a breach,
and if necessary, filing and serving a summary proceeding complaint, you open
the door to new documentation.
IV.
Conclusion