More States Favor Mutually Dependent Covenants Rule in Commercial Leases
In most states, commercial property leases adhere to the independent covenants rule, whereby landlords' and tenants' obligations are independent of one another. Thus, a tenant is expected to pay rent even if the landlord fails to uphold some of its responsibilities under the lease.
The independent covenants rule stems from agricultural feudalism, when landowners leased parcels for farming. The land-use right was the key element of the bargain since tenants were allowed to keep the crops grown on the land. Any obligations a landlord owed a tenant were treated as independent of the tenant's obligation to pay rent for using the land. This common law rule proliferated over the years and eventually applied to leases in which use of all or a portion of a property's improvements was the deal's primary element. In many cases, landlords had significant obligations to tenants under these lease terms.
However, states such as Arizona, Pennsylvania, Utah, and others have jettisoned the common law rule in favor of the mutually dependent covenants rule in the commercial lease context. This rule already is the standard in residential leases.
The rule of mutually dependent covenants is reflected in the American Law Institute's Restatement (Second) of Property (Landlord and Tenant), section 7.1 (1997), which states, “Except to the extent that the parties to a lease validly agree otherwise, if the landlord failed to perform a valid promise contained in the lease … and as a consequence thereof, the tenant is deprived of a significant inducement to the making of the lease, and if the landlord does not perform his promise within a reasonable amount of time after being requested to do so, the tenant may terminate the lease.” States that have adopted the mutually dependent covenants rule find that if a tenant enters a lease in which the primary benefit is use of the premises in exchange for rent, but the use is adversely affected by the landlord's failure to meet its obligations, the tenant should not be forced to continue to pay rent.
Massachusetts Overturns Common Law Rule
In September 2002, Massachusetts became the latest state to strike down the common law rule. In Wesson v. Leone Enterprises, Inc., the state's Supreme Judicial Court adopted the rule of mutually dependent covenants in commercial leases.
In this case, the court found that the “landlord's failure to keep the roof of the building in good repair deprived the tenant of a substantial benefit significant to the purpose for which the lease was entered.” Therefore the court concluded that the tenant had the right to terminate the lease and recover relocation expenses.
Leone Enterprises is a financial printing company that leased space from Wesson. Leone complained of significant roof leaks, which posed a danger to its equipment. The landlord repaired the problem, but after patching, the leaks resumed. Several additional rounds of complaints, repairs, and further leaks occurred, and Leone notified Wesson in writing that it intended to vacate the premises, although more than a year remained in the lease term. Leone paid rent through the year's end and moved out. Wesson filed a complaint for breach of the lease and damages.
At trial, the lower court found that the roof leaks resulted in a constructive eviction, or a condition that prohibits the tenant from possessing the premises in any practical way, which relieved Leone of its obligation to pay rent. In an alternative rationale, the judge ruled that the tenant lawfully could withhold rent even if it was not constructively evicted because the landlord failed to provide dry space essential to the tenant's printing business.
The landlord appealed, and the Supreme Judicial Court affirmed the decision, although it ruled that the constructive eviction finding was erroneous. Instead it adopted the rule of mutually dependent covenants for commercial leases and held that breach of the landlord's covenant to maintain the roof deprived Leone of a significant reason for entering into the lease and entitled the tenant to terminate the lease.
The court traced the history of the mutually dependent covenants rule in leases and stated “the reality of the typical modern commercial lease … is intended to secure the right to occupy improvements to the land rather than the land itself and … usually contemplates a continuing flow of necessary services from landlord to tenant, services that are normally under the landlord's control.”
Will commercial properties in Massachusetts become more difficult to finance as a result of this decision? Time will tell, but it isn't likely because the court provided an exception. In adopting the Restatement position, the court stated that the mutually dependent covenants doctrine applies “except to the extent the parties to a lease validly agree otherwise.” Sophisticated commercial property landlords are likely to require that tenants “agree otherwise” and waive the mutually dependent covenants doctrine.
Will Mutually Dependent Covenants Prevail?
In anticipation that other states may follow Massachusetts' lead, landlords most likely will include provisions affirming the validity of the independent covenants doctrine in the next generation of leases. After all, the doctrine of independent covenants does not prevent a tenant from seeking redress if the landlord fails to perform; it simply does not allow tenants to easily offset their rental obligations, providing landlords and their lenders greater stability.
Rather than fight a likely losing battle to have covenants declared dependent, tenant representatives should include in leases an enforceable provision that allows the substantially prevailing party to recover its attorney's fees and other costs from the opposing party if litigation occurs. Such a provision keeps both parties honest and eliminates a disparity in bargaining positions that might otherwise inhibit the tenant from bringing a complaint when one clearly is warranted.