The default clause of most leases provides that upon the tenant’s material default, the landlord has the right to retake possession, relet the premises at the tenant’s expense and accelerate the tenant’s rent payment obligation. In a recent decision issued by the Massachusetts Appeals Court, Cummings Properties, LLC v. Hines, the Court held that a liquidated damages provision that accelerates rent upon a tenant’s default of a lease is unenforceable unless it provides that the tenant will be credited for any rent collected from a new tenant during the balance of the lease term or discounts the stipulated damages to reflect the likelihood of reletting.
In early 2016, Massachusetts Constables Office, Inc. (“MCO”) secured a contract with the Massachusetts Department of Revenue (“DOR”), leading Darryl Hines, the owner, sole officer and director of MCO, to seek out office space in Woburn, the town where he thought the majority of his work would occur. On April 15, 2016, MCO entered into a five-year lease with Cummings, a major player in the Massachusetts commercial real estate market, with a base rent of $16,374 per year. The default provision of the lease provided that upon a default in the payment of rent continuing ten days after notice, the landlord could terminate the lease, and in addition to any other remedies, “the net present value of the entire balance of the rent due herein as of the date of LESSOR’S notice. . .[would] become immediately due and payable as liquidated damages.” Hines personally guaranteed the lease.
Shortly after the lease was executed, DOR suspended its contract with MCO, and MCO defaulted on its lease. In August 2016, Cummings obtained a judgment for possession and damages against MCO for the present value of the remaining term of the lease ($74,076.24). In September 2017, Cummings signed a four-year lease with a new tenant. Notwithstanding the new lease, in January 2020, Cummings sued Hines as guarantor, seeking the accelerated rent due for the entire five-year term of the MCO lease.
The Appeals Court noted that a rent acceleration clause may constitute an enforceable liquidated damages provision so long as it is not a penalty. The purpose of the clause is to assure payment of the amount the landlord is to be paid under the lease. Such a clause will be upheld if (1) at the time the agreement was made, potential damages were difficult to determine, and (2) the clause was a reasonable forecast of damages expected to occur in the event of a breach. In Cummings, only the reasonable forecast part of the analysis was at issue. Where the acceleration clause allowed the landlord to retake possession, relet the premises, collect rent from the new tenant, and recover all remaining rent owed by MCO, without having to account for rent received from the new tenant during the original lease term, the Court held that it bore no reasonable relationship to expected damages and was an unenforceable penalty. The Appeals Court stated that a reasonable estimate of damages would have included either some accounting to MCO for any rent received from a new tenant or a discounting of stipulated damages to reflect the likelihood of reletting the space.
In-house counsel should review the default clauses of existing leases against the Cummings decision. Those holding the landlord’s position should revise them as necessary to comply with Cummings upon lease renewal. Those holding the tenant’s position should be aware that even if a liquidated damages provision is held to be unenforceable under Cummings, the landlord is still entitled to recover its actual damages upon proof of the same.
For other blog posts dealing with the enforceability of liquidated damages provisions more generally, click here.