The Impact of COVID-19 on Commercial Real Estate Leases in California

The COVID-19 pandemic has stopped the world as we know it in its tracks. Landlords and tenants are facing unprecedented times. For tenants, governmental orders have shut down or severely curtailed their businesses. While they may be temporarily protected from eviction, the obligation to pay rent continues. For landlords, they have continuing obligations to make payments on loans secured by their properties and have ongoing expenses, such as property taxes, utilities, and insurance.

One of the newest potential changes for landlords and tenants is California Senate Bill 939 (“SB-939), which is scheduled for a hearing by the Senate Judiciary Committee on Friday, May 22.

If passed, the Bill would prohibit the eviction of tenants of commercial real property during the pendency of the state of emergency and would allow payment of past due rent unpaid during the state of emergency to be paid 12 months after the emergency ends. In addition, it would allow qualifying commercial tenants to terminate their leases without future liability under the lease, if certain conditions were met.

Background

State and local governments have issued varying orders restricting foreclosure and eviction remedies for both residential and commercial properties. In the State of California, Governor Newsom issued an Executive Order on March 4, 2020 declaring a State of Emergency for the State of California. Thereafter, on March 16, 2020 Gov. Newsom issued Executive Order N-28-20 which provides in part:

 “Financial institutions holding home or commercial mortgages, including banks, credit unions, government-sponsored enterprises, and institutional investors, are requested to implement an immediate moratorium on foreclosures and related evictions when the foreclosure or foreclosure-related eviction arises out of a substantial decrease in household or business income, or substantial out-of-pocket medical expenses, which were caused by the COVID-19 pandemic, or by any local, state, or federal government response to COVID-19”.

On March 19, 2020, Gov. Newsom issued the nation’s first “stay at home” order, Executive Order N-33-20, closing all non-essential businesses and requiring residents to “stay at home.” This was followed with Executive Order N-37-20 which included statewide residential eviction protection through May 31, 2020. The statewide protections did not preclude local jurisdictions from enacting their own restrictions on residential and commercial foreclosures and evictions.

In the City of Los Angeles, Mayor Garcetti issued an Emergency Order prohibiting residential evictions for the duration of the emergency period. In the County of Los Angeles, an Executive Order was issued on March 19, 2020 prohibiting evictions for both commercial and residential tenants. Similarly, the City of San Francisco has extended eviction protections to both residential and commercial tenants with no more than $25 million in gross receipts for 2019.

California Senate Bill 939

In California, proposed California Senate Bill 939 would prohibit the eviction of tenants of commercial real property during the state of the emergency statewide without a showing of COVID-19 financial impact and would allow payment of past due rent unpaid during the state of emergency to be paid 12 months after the emergency ends.

In addition, SB-939, as amended May 13, 2020, would allow qualifying commercial tenants to terminate their leases without future liability under the lease if certain conditions were met. In order to qualify, a tenant would be required to operate primarily in California and be a small business, or an eating or drinking establishment, place of entertainment or performance venue that has experienced a 40% decline in monthly revenue compared to either the two months prior to the government shelter-in-place order took effect, or, as compared to the same month in 2019. Eating or drinking establishments, places of entertainment or performance venues would also have to establish a decline of 25% or more in capacity due to a social distancing order or safety concerns.

If these criteria are met and the commercial tenant can show it was unable to reach an agreement for rent reduction within 30 days, despite good faith negotiations with the landlord, the tenant would have a 10-day window within which it can terminate the lease without liability for future rent, fees or costs otherwise due under the lease. The tenant would still be liable for rent due unrelated to COVID-19 and up to 3 months of rent incurred during the state of emergency to be paid within 12 months of the termination notice. Personal guarantees would also be extinguished.

SB-939 has not been enacted in law and faces strong opposition and challenges to its constitutionality.

SB-939, if passed, provides significant protections for commercial tenants and guarantors of commercial leases. Even with government legislation, restructuring commercial leases during this time will be challenging. Rent deferral, rent abatement, modification to percentage rent, modification to lease term, and use of security deposits to pay rent are all options for restructuring. The key, as in most relationships, is honest communication with each party recognizing the challenges the other is facing.

If you have any questions about SB-939, or other questions about governmental orders and regulations for landlords and tenants, please contact Dennette A. Mulvaney. Dennette is a Partner with Leech Tishman, and a member of the firm’s Real Estate and Bankruptcy & Creditors’ Rights Practice Groups. Dennette is based in Leech Tishman’s Pasadena office and can be reached at 626.796.4000 or via email at dmulvaney@leechtishman.com

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