Rent Acceleration Clauses in New York

When is a rent acceleration clause in a commercial lease enforceable? New York's highest court, the Court of Appeals, addressed that question recently, in 172 Van Duzer Realty Corp. v. Globe Alumni Student Assistance Association, Inc. (NYLJ 12/19/14, p. 23., col. 5). The court gave an answer that is unlikely to be helpful to anyone but litigators: A rent acceleration clause is enforceable unless it constitutes a penalty. The court, however, provided little guidance about when a rent acceleration clause would constitute a penalty.

The Case

The landlord leased the premises to the Association for one year for use as a dormitory by Globe Institute of Technology (Globe), a for-profit educational institution. The landlord and the Association then extended the lease for a nine-year period, and Globe signed a guarantee making it jointly and severally liable with the Association. The lease included a rent acceleration clause providing that upon the tenant's default, the landlord “shall be entitled to recover, as liquidated damages a sum of money equal to the total of ' the balance of the rent for the remainder of the term.” The lease also provided that “[i]n the event of Lease termination Tenant shall continue to be obligated to pay rent and additional rent for the entire Term as though th[e] Lease had not been terminated.”

Several months after signing the lease extension, the landlord sent the Association a notice to cure for failure to maintain the premises, citing violations issued by the New York City Environmental Control Board. The notice demanded cure within 30 days. Instead of curing, the Association vacated the premises and stopped paying rent as of February 2008. The landlord terminated the lease, effective March 28, 2008, and, in August 2008, obtained a judgment of possession from Civil Court.

In 2009, the landlord brought an action against the Association and Globe (together, the tenants) for rent arrears and for the amount due under the rent acceleration clause ' the balance of rent for the remainder of the lease term. When the landlord moved for summary judgment, the tenants objected, contending first that the landlord could not collect under the rent acceleration clause once it retook possession, and second, that the Civil Court judgment operated to bar any further damage claim. In the alternative, the tenants sought discovery to establish the lack of proportionality between the landlord's claimed damages and the landlord's probable loss. The landlord responded that it had difficulty renting the premises because the landlord and the Association had executed a declaration with the Department of Buildings indicating that the premises would be used only as a student dormitory.

The trial court awarded summary judgment to the landlord on liability, and referred the matter to a Special Referee to determine damages. The trial court rejected the tenants' request for discovery. Upon stipulation of the parties, the court then entered judgment for the landlord in an amount equal to the rent remaining due under the lease, reduced by the amount the landlord had been able to collect by reletting the premises between August 2008 and February 2011. The First Department affirmed, and the tenants appealed to New York's highest court, the Court of Appeals.

The Court of Appeals Opinion

In an opinion by Judge Jenny Rivera for a 5-1 majority, the Court of Appeals modified, holding that no per se rule bars enforcement of a rent acceleration clause when the landlord retakes possession, but holding that the tenants were entitled to a hearing on their claim that the acceleration clause constituted a penalty. The court first rejected the tenants' claim that the Civil Court judgment operated as res judicata , emphasizing that in the landlord's holdover proceeding, the Civil Court lacked jurisdiction to address a claim for the balance of rent due under the acceleration clause. The court then turned to the substance of the rent acceleration issue.

The tenants had argued that a landlord can collect rents pursuant to a rent acceleration clause only when the tenant retains possession of the premises. The tenants had relied on the language from Fifty States Management Corp. v. Pioneer Auto Parks, Inc., 46 N.Y.2d 573. In that case, the court, while enforcing a rent acceleration clause upon the tenant's default, emphasized that acceleration clauses were enforceable, suggesting that rent acceleration clauses would be enforceable when the “tenant would be entitled to possession upon payment.” In rejecting the tenants' invocation of language from Fifty States, the judge noted that tenants “do not argue that they want to be put back in possession.”

The court then noted that this was not a case where the tenant had breached an immaterial obligation of the lease; the tenants in this case had committed material breaches, including failure to pay rent. The court also declined the tenants' invitation to impose a duty to mitigate on commercial landlords, noting that the court had rejected the argument in Hoy Properties, Ltd, L.P. v. Kenneth Cole, 87 N.Y.2d 130.

Once the court concluded that the rent acceleration clause was not per se invalid, the court turned to its reason for modifying the appellate court's determination: Tenants are entitled to a hearing on whether the damages under the clause are grossly disproportionate to actual losses. The court treated the rent acceleration clause as a liquidated damages clause, and noted that liquidated damages clauses are not enforceable if they constitute a penalty. The court labeled as “compelling” the tenants' argument that allowing the landlord to hold possession and collect rent due would create a windfall, noting that “arguably the ability to obtain all future rent due in one lump sum, undiscounted to present-day value, and also enjoy uninterrupted possession of the property provides the landowner with more than the compensation attendant to the losses flowing from the breach ' even though such compensation is the recognized purpose of a liquidated damages provision.”

But rather than adopt a per se rule invalidating such clauses when a landlord retains the right to possession, the court remanded, indicating that tenants “should have been permitted to present evidence that the undiscounted accelerated rent amount is disproportionate” to the landlord's actual losses.

Looking Forward

Left unclear by the court's opinion is what sort of evidence would be relevant in a hearing before the special referee, and what damages a landlord might be able to recover if the court decides that acceleration of all rent due is disproportionate to the landlord's actual damages. If allowing the landlord to collect all rent due for the balance of the lease term while also retaining possession seems almost certain to provide the landlord with a windfall, why have a hearing at all? Why not take the course the court rejected: a per se rule rendering unenforceable a rent acceleration clause that would permit landlord to collect all rent while also retaining possession? By remanding for a hearing, without indicating what evidence might be relevant at the hearing, the court's opinion may lead to needless litigation.

That is not to suggest that all rent acceleration clauses should be unenforceable. If, as in Fifty States Management, the landlord allows the tenant to remain in possession, enforcing the rent acceleration clause creates no opportunity for double-dipping by the landlord. And if the clause has a built-in mitigation feature, such as one that permits the landlord to collect only the difference between the rent due for the balance of the lease and the market value of the premises, no unfairness to the tenant would result. But on the facts of 172 Van Duzer, it is difficult to find a compelling rationale for the court's course of action.

Stewart E. Sterk is a Mack Professor of Law at Benjamin N. Cardozo School of Law.

When is a rent acceleration clause in a commercial lease enforceable? New York's highest court, the Court of Appeals, addressed that question recently, in 172 Van Duzer Realty Corp. v. Globe Alumni Student Assistance Association, Inc. (NYLJ 12/19/14, p. 23., col. 5). The court gave an answer that is unlikely to be helpful to anyone but litigators: A rent acceleration clause is enforceable unless it constitutes a penalty. The court, however, provided little guidance about when a rent acceleration clause would constitute a penalty.

The Case

The landlord leased the premises to the Association for one year for use as a dormitory by Globe Institute of Technology (Globe), a for-profit educational institution. The landlord and the Association then extended the lease for a nine-year period, and Globe signed a guarantee making it jointly and severally liable with the Association. The lease included a rent acceleration clause providing that upon the tenant's default, the landlord “shall be entitled to recover, as liquidated damages a sum of money equal to the total of ' the balance of the rent for the remainder of the term.” The lease also provided that “[i]n the event of Lease termination Tenant shall continue to be obligated to pay rent and additional rent for the entire Term as though th[e] Lease had not been terminated.”

Several months after signing the lease extension, the landlord sent the Association a notice to cure for failure to maintain the premises, citing violations issued by the New York City Environmental Control Board. The notice demanded cure within 30 days. Instead of curing, the Association vacated the premises and stopped paying rent as of February 2008. The landlord terminated the lease, effective March 28, 2008, and, in August 2008, obtained a judgment of possession from Civil Court.

In 2009, the landlord brought an action against the Association and Globe (together, the tenants) for rent arrears and for the amount due under the rent acceleration clause ' the balance of rent for the remainder of the lease term. When the landlord moved for summary judgment, the tenants objected, contending first that the landlord could not collect under the rent acceleration clause once it retook possession, and second, that the Civil Court judgment operated to bar any further damage claim. In the alternative, the tenants sought discovery to establish the lack of proportionality between the landlord's claimed damages and the landlord's probable loss. The landlord responded that it had difficulty renting the premises because the landlord and the Association had executed a declaration with the Department of Buildings indicating that the premises would be used only as a student dormitory.

The trial court awarded summary judgment to the landlord on liability, and referred the matter to a Special Referee to determine damages. The trial court rejected the tenants' request for discovery. Upon stipulation of the parties, the court then entered judgment for the landlord in an amount equal to the rent remaining due under the lease, reduced by the amount the landlord had been able to collect by reletting the premises between August 2008 and February 2011. The First Department affirmed, and the tenants appealed to New York's highest court, the Court of Appeals.

The Court of Appeals Opinion

In an opinion by Judge Jenny Rivera for a 5-1 majority, the Court of Appeals modified, holding that no per se rule bars enforcement of a rent acceleration clause when the landlord retakes possession, but holding that the tenants were entitled to a hearing on their claim that the acceleration clause constituted a penalty. The court first rejected the tenants' claim that the Civil Court judgment operated as res judicata , emphasizing that in the landlord's holdover proceeding, the Civil Court lacked jurisdiction to address a claim for the balance of rent due under the acceleration clause. The court then turned to the substance of the rent acceleration issue.

The tenants had argued that a landlord can collect rents pursuant to a rent acceleration clause only when the tenant retains possession of the premises. The tenants had relied on the language from Fifty States Management Corp. v. Pioneer Auto Parks, Inc. , 46 N.Y.2d 573. In that case, the court, while enforcing a rent acceleration clause upon the tenant's default, emphasized that acceleration clauses were enforceable, suggesting that rent acceleration clauses would be enforceable when the “tenant would be entitled to possession upon payment.” In rejecting the tenants' invocation of language from Fifty States, the judge noted that tenants “do not argue that they want to be put back in possession.”

The court then noted that this was not a case where the tenant had breached an immaterial obligation of the lease; the tenants in this case had committed material breaches, including failure to pay rent. The court also declined the tenants' invitation to impose a duty to mitigate on commercial landlords, noting that the court had rejected the argument in Hoy Properties, Ltd, L.P. v. Kenneth Cole , 87 N.Y.2d 130.

Once the court concluded that the rent acceleration clause was not per se invalid, the court turned to its reason for modifying the appellate court's determination: Tenants are entitled to a hearing on whether the damages under the clause are grossly disproportionate to actual losses. The court treated the rent acceleration clause as a liquidated damages clause, and noted that liquidated damages clauses are not enforceable if they constitute a penalty. The court labeled as “compelling” the tenants' argument that allowing the landlord to hold possession and collect rent due would create a windfall, noting that “arguably the ability to obtain all future rent due in one lump sum, undiscounted to present-day value, and also enjoy uninterrupted possession of the property provides the landowner with more than the compensation attendant to the losses flowing from the breach ' even though such compensation is the recognized purpose of a liquidated damages provision.”

But rather than adopt a per se rule invalidating such clauses when a landlord retains the right to possession, the court remanded, indicating that tenants “should have been permitted to present evidence that the undiscounted accelerated rent amount is disproportionate” to the landlord's actual losses.

Looking Forward

Left unclear by the court's opinion is what sort of evidence would be relevant in a hearing before the special referee, and what damages a landlord might be able to recover if the court decides that acceleration of all rent due is disproportionate to the landlord's actual damages. If allowing the landlord to collect all rent due for the balance of the lease term while also retaining possession seems almost certain to provide the landlord with a windfall, why have a hearing at all? Why not take the course the court rejected: a per se rule rendering unenforceable a rent acceleration clause that would permit landlord to collect all rent while also retaining possession? By remanding for a hearing, without indicating what evidence might be relevant at the hearing, the court's opinion may lead to needless litigation.

That is not to suggest that all rent acceleration clauses should be unenforceable. If, as in Fifty States Management, the landlord allows the tenant to remain in possession, enforcing the rent acceleration clause creates no opportunity for double-dipping by the landlord. And if the clause has a built-in mitigation feature, such as one that permits the landlord to collect only the difference between the rent due for the balance of the lease and the market value of the premises, no unfairness to the tenant would result. But on the facts of 172 Van Duzer, it is difficult to find a compelling rationale for the court's course of action.

Stewart E. Sterk is a Mack Professor of Law at Benjamin N. Cardozo School of Law.