Good Faith & Fair Dealing

First, let me explain how this month’s topic landed on my desk and in your email inbox folder. I am a licensed lawyer in both Texas and New York. As such, my clients come from a diverse geographic area. Property owners, tenants, landlords, developers, brokers, agents and property managers in New York have a different view of The Way Things Work then we do in Texas.

Some of their differing views of TWTW relate to an obligation of good faith and fair dealing. And, this duty (or, non-duty) then trickles down to the choice of law clause found in virtually every Contract and Lease.

Let me [try to] explain by using a recent case to illustrate.

Hilfiker Square owns land in which Thrifty Payless is a tenant. Recorded covenants prohibit construction without first obtaining 90% consent of the those who own and those who occupy the shopping center.

In 2010 Hilfiker had an opportunity to sign a long-term ground lease with a restaurant tenant. In 2011 Hilfiker started to request the needed consents in order to proceed with development and leasing.

All parties including the City agreed to the plan. But not Thrifty. Thrifty objected to the plan for three distinct reasons – parking utilization, driveway operations, and visibility.

Hilfiker engaged a third-party engineering firm and a third-party architectural firm to analyze and address these concerns. Each specialist concluded that development would not materially impact Thrifty’s parking, driveways, or visibility.

Undaunted, Thrifty still refused to consent. So Hilfiker sued Thrifty Payless, alleging that Thrifty breached an implied covenant of good faith and fair dealing by depriving Hilfiker of its opportunity to enter into the ground lease with the restaurant-tenant. Hilfiker claims that its damages are $1.6 million, which corresponds to the amount the ground lease area would be worth if it were developed as projected.

Thrifty defended by claiming that the recorded covenants grant to Thrifty the absolute right to prevent Hilfiker from building a restaurant at Hilfiker Shopping Center. No reasons required. Consequently, Thrifty requested that the Court toss the case.

This case comes to us from Salem Oregon, and so far the only portion that has been litigated to completion is Thrifty’s request that the Court dismiss the lawsuit.

The Oregon Court found that Oregon law imposes a duty of good faith and fair dealing in the performance and enforcement of every contract. The purpose, writes the Court, is to prohibit improper behavior and ensure the parties will refrain from any act that would have the effect of destroying or injuring the right of the other party to receive the “fruits” of the contract.

I suppose that Oregon contracts bear “fruit.” But that’s a digression.

From there, it wasn’t a far stretch for the Oregon Court to conclude that Hilfiker had a reasonable expectation that Thrifty would negotiate, reasonably and in good faith, concerning any proposed amendments to the recorded covenants as long as such amendments are not materially adverse to Thrifty’s financial interest.

And so Hilfiker’s claim withstands Thrifty’s Motion to Dismiss. See Hilfiker Square, LLC v. Thrifty Payless, Inc., 6:16-cv-01855-MC; District Court of Oregon; November 29, 2016: https://casetext.com/case/hilfiker-square-llc-v-thrifty-payless-inc.

This is the place where I stress that Oregon’s laws are different than those in Texas, at least on this point. Texans don’t have a duty of good faith and fair dealing with respect to real estate purchases, sales, leasing, management, and development, unless that obligation is inserted into the document or unless a special relationship exists between the parties.

But Texas real estate brokers and agents do have a similar, implied duty!

Lessons learned:

1.      The laws of each State (take Louisiana, as an extreme example) can be radically different than other States. See above.

2.      This case illustrates why contracting parties need to be smart about the boilerplate choice of law clause hidden on Page 23 of the Contract or Lease. Depending on the clarity of your crystal ball, selecting Texas in that section may backfire.

3.      The B/L: Some “standard” Contract and Lease provisions deserve attention and consideration. The choice of laws clause, often overlooked, might require more scrutiny.

                                                                                    Stuart A. Lautin, Esq.*

               * Board Certified, Commercial (1989) and Residential (1988) Real Estate Law,

                  Texas Board of Legal Specialization

                 Licensed in the States of Texas and New York

                Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc.

Tell Me Again Why I Can't Lease It for Income?

Ken Tarr bought a house in the Timberwood Park subdivision of San Antonio in 2012. In 2014, when his employer transferred him to Houston, he began leasing his San Antonio home for short durations.

In the summer and fall of 2014 Ken entered into 31short-term rental agreements ranging from one to seven days, totaling ~ 102 days. Ken did not lease rooms separately, but rather leased the entire home each time.

In the same time period Ken was notified by the Timberwood Park Owners Association Inc., that he would be fined if he continued to use the house as a rental property.

Predictably, Ken was fined so he scheduled a meeting with the Association’s board to review and appeal their decision.

Ken lost the hearing before the Association’s board in September 2014. To avoid paying the fines but primarily to continue his use of his property for income purposes, Ken sued the Association, seeking a declaration that the Restrictive Covenants imposed by Timberwood did not prohibit his leasing activity.

The Association responded by claiming that there were no facts at issue, and that the Association was entitled to a Judgment by operation of law. The Court agreed with the Association and rendered Judgment for the Association.

Ken appealed.

The Restrictive Covenant reviewed on appeal stated substantially “All tracts shall be used solely for residential purposes . . .” That gave Ken the ammunition to claim that indeed his property was being used a residence. A leased one. But still – it was built for human habitation and, humans were, well, habitating [yes I know English grammarians are going to yell at me for converting that noun into a verb. But it happened. It’s the new me, in a new year.]

The Association replied that Ken’s short-term renters are not “residents” and are not using the property for “residential purposes,” but rather they are transients using the property temporarily. And the Association further argued that a temporary residential use does not equal the “residential purpose” mandate.

The Texas Appellate Court determined that if a person comes to a place temporarily, without any intention of making that place his of her home, then that place is not considered the person’s residence. And from there, it wasn’t a far stretch for the Texas Appellate Court to conclude that the lease of a home to be used for transient purposes is not in compliance with the restrictive covenant that it be used solely for residential purposes.

Perhaps sensing an appeal to the Supreme Court, the Texas Court of Appeals also noted that the Austin Court of Appeals came to the opposite conclusion in 2015, holding that a covenant requiring use “for single family residential purposes” was fatally ambiguous.

Regardless, the 4^th Texas Court of Appeals affirmed the trial court’s Judgment. Ken Tarr lost and may not rent his property, at least not in the manner he had been leasing it. Timberwood Park Owners Association Inc. wins again.

See Kenneth Tarr v. Timberwood Park Owners Association Inc.; Texas 4^th Court of Appeals, San Antonio; Case Number 04-16-00022-CV; November 16, 2016: http://caselaw.findlaw.com/tx-court-of-appeals/1754436.html.

Lessons learned:

1.      I have clients, some institutional, that need to lease residential properties where restrictive covenants might be read in a manner to prohibit that activity. We have different appellate decisions across the State. Our Texas Supreme Court needs to accept a case and give us some definite guidance.

2.      Texas brokers and agents enter the danger zone when they assume that their clients are purchasing property for their own residential use. But even if that is the stated purpose, the clients still need to be aware if covenants are in existence that could impede later leasing activities. Things change.

3.      The problem is amplified when principals are buying properties with the stated intent of converting them to income-producing. Beware, my Texas cadres, and review the covenants before the Contract is signed, so that buyers are making an informed, educated and intelligent decision!

                                                                                    Stuart A. Lautin, Esq.*

 

Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc. 

 

 

Fun with Percentage Rental Clauses

In 1993, Ralphs Grocery Company signed a 20-40 year lease with Midtown Shopping Center Associates for 53,000 square feet in a Los Angeles shopping center. Under the lease, Ralphs is required to pay an annual base rental rate of almost $1 million per year, plus 1.25% of gross sales over $31 million.

The lease defines “gross sales” as the amount of the sales price, whether or not for cash or upon credit, of all merchandise and goods, and the charges for services sold on or delivered from the shopping center property. The lease excludes 15 items from gross sales, including sales tax, deposits on returned items, refunds and credits for defective items, sales from other stores, interest and credit card charges, sales from lottery tickets and coin-operated devices, coupons, commercial sales of scrap materials and bulk sales consisting of inventory, fixtures and equipment.

Also excluded are “. . . discounts allowed to any customer pursuant to any customary and reasonable policy adopted by Ralphs . . .”

Ralphs created a Rewards program in 1997 intended to encourage and reward customer loyalty. In this program, Ralphs charges two prices for merchandise: (1) a higher price paid by customers who do not participate in the Rewards program; and (2) a lower price paid by customers who sign up for the customer loyalty program.
 
Paper transaction receipts generated at the check-out stand detail what Rewards customers would have been charged without the program discounts, and calculates their “savings.” The program has been quite successful: transactions by Rewards customers account for 97% of all transactions at Ralphs.

Ralphs provided Midtown yearly statements reflecting what it believed constituted “gross sales” from the Midtown store, using the amount Rewards customers actually paid rather than the amount they would have paid for the same items had they not participated in the loyalty program. When Midtown expressed its view that Ralphs was under-reporting “gross sales” by excluding the amounts Rewards customers could have been charged, Ralphs filed a lawsuit against Midtown.

The trial court concluded that “gross sales” was based on sales prices Rewards customers would have paid absent the program discounts. Accordingly, the court awarded Midtown $305,000.

Ralphs appealed.

The Court of Appeals determined that a reasonable, fair and just definition of “gross sales” is one that looks to the amounts Ralphs actually charges its customers, as opposed to the hypothetical amount Ralphs opts not to charge them.

The Court of Appeals also found that the Rewards program is a discount pursuant to a “customary and reasonable policy” adopted by Ralphs, as specifically contemplated by the lease even though it was created four years after the lease was signed.
        

The Judgment of the trial court is reversed. The term “gross sales” in the Ralphs – Midtown lease does not include amounts Ralphs never charged its Rewards customers. Consequently, Ralphs owes no additional rental.

See Ralphs Grocery Company v. Midtown Shopping Center Associates; No. B252292; California Court of Appeal, Second Appellate District, Division Two; June 17, 2015.

Lesson learned: It is difficult in commercial leasing to anticipate every issue that will occur over a 20 or 40 year lease term. Gross sales clauses are constantly being  probed and tested, as are CAM triple-net pass-through clauses of taxes since Texas franchise and margin taxes didn’t exist seven years ago. Be extra careful when you are addressing percentage-of-gross-sales and expense reimbursement provisions.

 

Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc.

Tax Forfeiture

In 1995 Urban Retreat leased space in a retail center from BPMT, LLC, to operate its day spa business. Urban continued to lease the property for more than 10 years, executing renewals and lease extensions. The most recent extension was signed in 2006, and extended the lease to April 30, 2011.

Francie Willis signed the lease extension solely in her capacity as an officer of Urban. Evidently there were no personal guarantees.

Urban’s corporate charter was forfeited by the Secretary of the State of Texas on July 30, 2010. Urban made no further rental payments from August 2010 until the end of the lease on April 30, 2011. The total rental owing in that nine-month period was $112,735. Some of the rental was composed of base rent; other obligations pertained to payment of triple net charges.

BPMT sued Urban Retreat for delinquent rent. Because Urban’s corporate privileges were forfeited for failure to pay franchise taxes, BPMT also sued Francie Willis, Urban’s President.

The theory of liability pursued by BPMT against Willis was that since Urban’s corporate privileges were forfeited, Willis became liable for the entity’s debts. See Texas Tax Code 171.255(a): http://www.statutes.legis.state.tx.us/Docs/TX/htm/TX.171.htm.

The trial court ruled for BPMT and held Willis liable for $38,327, being a portion of the rent owed by Urban Retreat between 2010 and 2011, and conditionally, $45,000 in attorney’s fees.

Willis appealed, claiming that the tax laws did not have the effect of imposing personal liability on her in this situation involving base rental with CAM reimbursements and triple net annual adjustments.

The tax statute imposes liability on a corporation’s officers for “. . . each debt of the corporation created or incurred in this state after the date on which the report, tax or penalty is due . . . [emphasis added]” Willis argued that the lease agreement provided for a debt that was “created or incurred” in 2006 – four years before corporate privileges were forfeited.

BPMT advanced the position that the debt in this situation was uncertain due to the application of triple net charges, and consequently, was not known until after forfeiture. And as a consequence, Willis is personally liable.

The appellate Court evaluated the meaning of “debt” in Texas law by reviewing not only previous Texas cases but also citing both Black’s Law Dictionary (debt is liability on a claim) as well as Merriam Webster Collegiate Dictionary (debt is an obligation or something owed).

Ultimately the Court concluded that a “debt” is created at the time a lease agreement is signed, even if the amount of the debt is uncertain. Accordingly Urban Retreat’s debt was created in 2006 – well before the corporate forfeiture of privileges in 2010.

Willis is not liable under the tax code for Urban Retreat’s leasing debts created in 2006 and subsequent forfeiture of corporate privileges in 2010. Willis wins; BPMT loses. See Francie Willis v. BPMT, LLC; Cause No. 01-14-00537-XC; Texas Court of Appeals 1st District; July 23, 2015.

Lessons learned:

1.  Practice Point: Don’t put yourself in this position and don’t allow your principals to do so either. It’s easy enough to check the standing of Texas business entities: https://mycpa.cpa.state.tx.us/coa/Index.html.

2.  Practice Point: Want to go above and beyond for your clients? Mark your calendars to check their standing with the Texas Comptroller annually, maybe on the anniversary of the closing or lease execution. Send them annual updates that all is well, or maybe something fell through the cracks. Be proactive!

3.  NTCAR Expo: I sure enjoyed visiting with many of you at the Expo on September 2. Thanks for stopping by!

Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc.

Jackin' with Effective Dates

Pursuant to a Lease of September 3, 2004, Sidney Wicks leased various commercial properties in Addison Texas to Transcontinental Realty Investors. On May 17, 2006, Sidney formed the Sidney Wicks Revocable Trust and assigned all of his properties to the Trust. The assignment was not made in the traditional form of Deed, but rather in a more general form of “Assignment and Declaration,” which presumably was not recorded with the Dallas County Clerk.

TRI began making rental payments to the Trust on receipt of the Assignment and Declaration.

On December 2, 2010, Sidney filed a lawsuit against TRI for breach of the Lease, then later amended it to substitute the Trust as the Plaintiff instead of Sidney. TRI answered the lawsuit by contending that the Trust lacked standing to assert claims, stating that Sidney should have been the correct party – not his Trust – as Sidney failed to convey his property interests by Deed.

TRI’s point was that the 2006 Assignment and Declaration is not effective in Texas to transfer ownership in real estate. Only Deeds in Texas would suffice for that purpose. And, if the Assignment and Declaration is ineffective, then the Trust lacked standing or capacity to sue TRI as only Sidney would have that right.

On July 1, 2011, the trial court granted the Trust’s Motion for Judgment, finding that there were no material issues of fact in controversy, and that the Trust was entitled to Judgment by operation of Texas law.

The trial court did not deal with damages though, and reserved that issue for a jury trial to be conducted more than one year later.

On September 6, 2011, Sidney executed and recorded a General Warranty Deed which transferred his real estate to the Trust. On the same date Sidney also executed an “Assignment and Assumption of Lease.” Both the Assignment and the Deed stated that although the documents were signed on September 6, 2011, they each had an “effective date” of May 17, 2006. Over five years prior to the date that each was executed and the Deed recorded.

Having already won Round One, the issue of damages owed by TRI to the Trust proceeded to a jury trial. In October 2012 the jury determined in Round Two that TRI owed the Trust $1 million plus interest, attorney’s fees and expenses.

The trial court converted the jury’s award to Final Judgment. TRI appealed.

TRI again claimed that the Trust lacked standing in Court. That Sidney failed to timely sign and record a Deed to the Trust. That using an artificial “effective date” was not lawful. And that Sidney would have been the proper party in interest at the time of the lawsuit. Not the Trust.

The Trust countered by arguing that there was no provision in Sidney’s Lease with TRI requiring that an assignment would only be effective upon execution. And, consequently, Sidney was not prevented from executing the docs in 2011, with a 2006 “effective date.”

The Appellate Court agreed with the Trust. Sidney’s Trust won and Transcontinental Realty Investors lost. See Transcontinental Realty Investors, Inc. v. Sidney Wicks, Trustee of the Sidney Wicks Revocable Trust; No. 05-13-00362-CV; Texas Court of Appeals; 5^th District; August 5, 2014.

Lessons learned:

1.  I see this issue often. Parties want to make documents “effective” as of a date that is not identical to the date the documents were actually signed, notarized and / or recorded. Title companies see this daily. In my world, the documents and the Settlement Statements very rarely line up 100% with the actual date of closing / funding / recording.

2.  This appellate decision makes clear that, at least in Texas and assuming there is no prohibition against it in documents already signed by the parties, using an artificial “effective date” can be lawful.

3.  Practice Point: Although using an “effective date” that does not exactly line up with the “execution date” may be Ok generally, I suspect it may not be acceptable for tax purposes, including federal income tax, Texas franchise / margin tax, Texas sales tax, and even local ad valorem tax. Be careful and get professional advice before you go jackin’ with effective dates.

Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc.

Commercial Leasing (times two)

1.  Arbitration

On March 15, 2001, 175 Broad Street LLC (landlord) entered into a five-year lease with The Nead Organization, Inc. (tenant) for 12,017 SF in a commercial building. The lease was amended and extended in September 2005.

The holdover provision stated that if Nead continued occupancy after March 31, 2011 without the Landlord’s consent, then Nead would pay double the amount of base rent.

Nead was evidently not ready to vacate by the end of the stated lease term. Nead actually paid double rent from April through July 2011, but then stopped paying rental altogether. Nead ultimately vacated the premises on August 16, 2011.

175 Broad sued Nead for breach of the lease. 175 Broad alleged that Nead vacated the premises without proper notice, failed to pay rental and other charges, neglected to remove fixtures and failed to restore the premises to its original condition. 175 Broad alleged total damages of $224,468.

Shortly after 175 Broad filed its lawsuit, Nead asked the court to dismiss the complaint, citing a mandatory arbitration provision contained in the lease. 175 Broad defended by claiming that the arbitration provision was not intended to cover money disputes.

The court agreed with Nead and dismissed the lawsuit. 175 Broad appealed.

The Court of Appeals reviewed the arbitration section closely, which stated: “All disputes under this Lease, other than those relating to the payment of rent or other charges by Tenant, must be submitted to arbitration.”

Concluding that a part of the dispute related to rent but other claims did not, the Court of Appeals agreed that, regardless, the case must be dismissed to allow the parties to pursue arbitration.

The tenant Nead won and the lawsuit was dismissed. See 175 Broad Street, LLC v. The Nead Organization, Inc.; Docket No. A-3600-11T4; Superior Court of New Jersey – Appellate Division; January 10, 2013.

The results of the arbitration were not publicized.

2.  The Pain of Non-Payment

N. Providence LLC leased property to The Great Atlantic & Pacific Tea Company, Inc. Some of you will recognize the tenant as “A&P.” In the Lease, A&P promised to construct a new grocery store for itself in the shopping center, and Providence agreed to pay A&P a construction allowance of $1.9 million within 90 days following the date that A&P opened its store.

A&P opened for business on September 24, 2010, thereby giving Providence 90 days or until December 23, 2010 to pay the construction allowance. Providence secured a loan from UBS and advised A&P that it was ready to fund the $1.9 million allowance.

All was proceeding well. Until A&P filed bankruptcy on December 21, 2010. UBS informed A&P it was prepared to fund the construction allowance as soon as A&P assumed the Lease in the context of the bankruptcy proceeding.

A&P then assumed the Lease. Six months later. On June 22, 2011.

The first obvious result was that the construction allowance wasn’t funded within the 90-day window. The second not-so-obvious result was that A&P withheld all rent and other charges from December 23, 2010 (the last day to properly fund the construction allowance) until September 29, 2011 – being the date the allowance was finally paid.

Providence filed a lawsuit against A&P, claiming that the $1.9 million allowance must be reduced by the amount of rent withheld. The court ruled for A&P in holding that the Lease plainly stated no rental was due until the construction allowance was paid.

Providence appealed.

It took 20 pages for the appellate court to decide that indeed A&P had the right to withhold rent payments to Providence. And that A&P’s bankruptcy filing and delayed receipt of the construction allowance had saved A&P a substantial sum. See The Great Atlantic & Pacific Tea Company, Inc. . N. Providence, LLC; Case No. 13-CV-5588 (CS); United States District Court – Southern District of New York; April 28, 2014.

And this makes me wonder if the A&P bankruptcy filing was followed by Providence’s bankruptcy filing. How many landlords can survive without rental payments for nine months relative to a ‘big box’ lease?

Lessons learned:

1.      I am not a big fan of arbitration and usually I work to delete the provision regardless of the side I am representing. Yes a case can be resolved faster in arbitration, but at significantly greater expense and then the winner receives an “Award” which is unenforceable without filing litigation too. I prefer litigation over arbitration. But even when arbitration is appropriate, be careful how the provision is drafted to avoid unintended results.

2.      The A&P case involved two uber-sophisticated parties, yet the offset / abatement language wasn’t as clear as it might have been to prevent this catastrophic result. Lawyers and parties cannot think through every possible scenario. Such as the tenant’s bankruptcy that delayed the landlord’s construction allowance payment and the unintended results that followed.

3.      Do you see the relationship between these two cases? I should have captioned this article *Unintended Consequences*.

Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc.

Non-Disclosure is Bad. Fraud is Worse.

Tukua Investments entered into a commercial listing agreement with Century 21 Charlotte Banks, to sell Tukua’s commercial property in Eagle Pass, Texas. The property was advertised as being benefited by a triple-net, licensed nursing and rehab center, with a Tenant paying base rental of $300,000 per year. The listed sales price was $2.75 million.

C-21 found a California buyer at the tail end of an IRS Section 1031 tax-deferred exchange. The Contract was prepared on August 16, 2007. In order to attain the benefits of IRS Section 1031, the buyer needed to identify exchange property candidates not later than October 1, 2007, and close not later than February 13, 2008.

The Contract was signed on September 12, 2007, and presumably Buyer timely identified the nursing / rehab center as a deferred exchange candidate. Buyer first learned of a problem with the new tenant, Signature Healthcare, one month later. At that time, it became evident that Signature was not going to fulfill the terms of the Lease.

As Buyer was exploring the reason and basis for the problem, Buyer inadvertently received a copy of a letter referring to an eviction notice from Tukua to Signature of August 8, 2007 – about one week before the first Contract was prepared and submitted to Tukua.

Since it was then too late for Buyer to designate new replacement property candidates, Buyer could only withdraw from the Contract and pay the gains generated from the sale of Buyer’s California property. The extra income tax bite was over $240,000.

Buyer filed a lawsuit for fraud and negligent misrepresentation against the Seller, Tukua. The jury found for Buyer on both counts, and the trial court converted the verdict into Judgment, awarding over $1.3 million to Buyer. Since the underlying damages were $240k, one might assume that a substantial part of the verdict and Judgment was composed of exemplary or punitive damages – the type that is reserved only for fraud cases.

Tukua appealed.

The Court of Appeals carefully analyzed all of the elements of fraud, Texas style. Buyer claimed that Tukua represented to Buyer that there was a valid 10 year lease. The Appellate Court found that Tukua’s representation was true when it was made. There was indeed a valid 10 year lease. The fact that Tukua claimed that Signature was in default did not affect the validity of the lease. That only gave Tukua the right to terminate the lease, evict Signature, or exercise other remedies.

Further, the Court allowed that the lease did not automatically terminate on default. In point of fact, even the delivery of an eviction notice does not serve to terminate the lease. Termination of rights of possession – yes; full-on lease termination; no.

On the fraud point the Appellate Court concluded that representations about future rents or income are typically statements of opinion. Not representations of fact. As such, there can be no actionable fraud claim.

The Buyer then claimed that Tukua had not truthfully represented the conditions, rights, benefits and validity of the lease and that there were serious issues existing with Signature Healthcare.

The Court of Appeals found an appellate decision from Dallas in 1961 stating “A company does not have a duty to disclose all of its financial difficulties while conducting business if it is actively working towards remedying the situation. Silence on the issue alone is not enough to constitute fraud.”

Standing alone it seems this position is subject to challenge, given the facts of this case. However, the Appellate Court then uses several pages to investigate further, and conclude that for an unknown reason this Buyer did not complete the normal due diligence of a typical commercial real estate purchaser. No one from the Buyer’s team really questioned Signature about why they weren’t paying rent. No one asked about unresolved licensing issues.

It seems possible that no Estoppel Statement (or equivalent) was requested of Signature by the Buyer and basically the Buyer just assumed that all was well. That leads me to think that perhaps Buyer was purchasing this parcel for cash, since normally a lender would insist on an Estoppel in this situation.

The Appeals Court overturned the lower court’s judgment. Tukua wins; Buyer loses.

See Tukua Investments, LLC v. Spenst; No. 08-11-00014-CV; Texas 8^th Court of Appeals, August 14, 2013.

Lessons learned:

1.  This case was decided on very narrow facts. Don’t count on getting the same results. Our rule of law, to avoid the courthouse, is unchanged: Disclose too much, not too little. Err on the side of over-communications.

2.  Доверяй, но проверяй. What’s the matter - your Russian a bit rusty? It’s from an old Russian proverb and rhyme – doveryai, no proveryai. Trust, but verify.

3.  Practice Tip: I live in the world of Tenant-Estoppels. We don’t obtain them in multi-family transactions because as a practical matter it is impossible. But we obtain them in every other commercial transaction involving tenants of a significant size. Even if a lender is not involved, commercial buyers need to receive updated, current Tenant Estoppel Certificates, signed by each Tenant. Not the kind that the Landlord signs through a lease-derived power-of-attorney paragraph.

 Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc.

Hate It When This Happens

In June 2004 AGF Spring Creek / Coit II, Ltd. leased office space in Richardson Texas to Atrium Executive Business Centers Richardson, LLC

Later there were three Lease Amendments. Each was signed by Curtis for the tenant, as its President or CEO. The last Amendment extended the lease term into 2015.

Atrium, however, was never formed. Instead, Curtis formed “AEBC-Richardson, Inc.” After formation, AEBC occupied the leased premises and operated a business there for six years. Although AEBC offered executive suites at the leased premises to subtenants, it was Atrium that was shown as the tenant in the Lease and all Amendments, and Dawn Curtis signed each on behalf of Atrium, not AEBC.

In March 2010 Curtis sent an email to representatives of the Landlord stating that revenues were too low to continue in operations, and asking AGF to handle the details of the pending lease default. No further rent was paid and AGF terminated the Lease by written notice issued later that month.

In April 2010 AGF initiated a lawsuit against Dawn Curtis individually for breach of the 2004 Lease, as extended and amended. AGF contended that although Atrium was the named tenant, in fact (and in law) Atrium never existed as it was never formed. And consequently, Dawn Curtis was 100% liable as if she had signed an unconditional Guaranty.

The jury entered a verdict in favor of AGF in trial court, and the judge converted it into a Judgment. Curtis appealed.

On appeal Curtis acknowledged her mistake in failing to change the name of the tenant on the Lease, and her further mistakes in signing the Lease Amendments as President of an LLC that did not exist. She requested however that the Court overlook these mistakes and instead impose a lease agreement between AGF and AEBC through the action and conduct of the parties.

To support her argument, Curtis provided evidence that reimbursement of the tenant’s move-in expenses, all rental payments, fax transmissions, insurance policies, sales and use tax permits and subtenancy agreements with executive suite customers were all made in the name of AEBC rather than Atrium, and further – that Landlord was aware of these documents and payments.

However, Landlord refuted those arguments by stating that the Lease was unambiguous. Atrium Executive Business Centers Richardson, LLC was identified as the Tenant. Not AEBC-Richardson, Inc. The Lease also contained an “incorporation” clause providing that the Lease could not be altered, waived, amended or extended unless by written agreement.

Obviously changing the identity of one of the parties to the Lease is serious business and not easily accomplished without a written agreement between both parties.

Curtis’ lawyers found an interesting case from Fort Worth. An Appeals Court decided in 1997 that, in a similar situation as this case, “a promoter is relieved of personal liability only when the corporation subsequently adopts the contract either expressly or by accepting its benefits.”

But in our case the entity was never formed, and could not “subsequently adopt” the Lease. AEBC was ultimately formed. Not Atrium. And if Landlord had sued AEBC for breach of Lease, AEBC could have easily defended claiming it never signed the Lease or any of the modifications or anything else (such as a Lease Guaranty) leading to imposition of liability against AEBC.

Ultimately the Appeals Court overturned the lower court’s judgment, but due to entirely other issues: the jury had miscalculated the proper amount of the award. So while I must truthfully tell you that Curtis won this round, I must also conclude that if this case isn’t settled but instead is retried, Curtis will surely lose again.

See Curtis v. AGF Spring Creek / Coit II, Ltd.; No. 15-12-00429-CV; Texas 14^th Court of Appeals, August 28, 2013.

Lessons learned:

1.  Dawn Curtis made the cardinal mistake of signing an important legal document on behalf of an entity before the entity was formed. I see this problem daily. Ok daily is an exaggeration, but I see it very often.

2.  If a document is signed for a non-existent entity, personal liability is typically imposed upon the person signing. There is a way to finesse this when you know the entity has not yet been formed. Write in a special provision eliminating all personal liability once the entity has been formed and evidence of formation and adoption by the new entity is sent to the other parties who have signed the contract.

3.  Practice Tip: When I encounter an entity (whether as a client, adverse party, service provider, vendor, etc.) I check to be sure it is formed in its state of organization, and qualified to do business in Texas. Typically I start here. It’s a free search: https://ourcpa.cpa.state.tx.us/coa/Index.html. Then if it will be a client or adverse party, I’ll dig further, but be prepared to pay $1 per search: https://direct.sos.state.tx.us/acct/acct-login.asp.

Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc.

Sick of Paying Excess CAM Charges?

In 1995, Garden Ridge leased space from Fiesta Mart. Fiesta Mart sold the shopping center to Clear Lake Center in 2003. Garden Ridge audited its allocated share of common area maintenance charges and sued its Landlord, Clear Lake Center.

This comprehensive commercial lease obligated the Landlord to operate, manage, maintain and repair the common areas, but Tenant was required to pay its prorate share of the expenses. The long list of allowable common area costs had virtually no limitations, although Landlord’s fee for “supervision” of the common areas was capped at 7.5% of the total of all CAM charges.

Evidently Garden Ridge had no issue with the CAM computations made by Fiesta Mart. However – Clear Lake added the 7.5% “supervision” fee to its CAM management fee. As well, Garden Ridge wasn’t pleased that both of such fees were paid to an affiliate of Clear Lake.

From 2003 to 2009 Garden Ridge paid $470,000 to Clear Lake for both management and supervisory fees. In 2009 Garden Ridge’s auditor concluded that Clear Lake charged an exorbitant amount.

So Garden Ridge sued Clear Lake in 2009 for breach of the Lease Agreement. The trial court awarded Garden Ridge $470,000 in damages and $530,000 in attorney’s fees, for an even $1 million dollar judgment. The judgment for $470,000 represented the full return of all management fees and supervision charges during that six year period.

Clear Lake appealed and, hoping to overturn the judgment, attempted to delineate between management fees and supervision fees.  As you would expect, Clear Lake mostly failed in that endeavor.

Clear Lake’s backup position was that even if the supervision fees were duplicative of the management fees, surely Garden Ridge was obligated to pay one or the other or some portion of both. And that even if Clear Lake had no right to upcharge the management fees with a 7.5% supervisory fee overlay, still Clear Lake paid honest expenses to operate, manage, maintain and repair the common areas and Garden Ridge should be responsible for its allocated share. Which share, if not $470,000, should have been something fairly close to it.

The Texas Court of Appeals agreed with Clear Lake. Clear Lake was not prohibited from contracting with a third party (although affiliated) for management of the common areas and passing on to Garden Ridge a pro rata share of those expenses. And if “supervision” fees were indeed separate from management expenses, then presumably Clear Lake could recover those too.

The Appellate Court sent the case back to the trial court to start over. The trial court can then determine what part of “management” fees are the same as “supervision” fees, if any, subtract such amount from $470,000 and enter a judgment accordingly.

Clear Lake wins, sort of. Garden Ridge also wins, sort of. I guess the lawyers in this litigation are the ones that really won.
See Clear Lake Center, L.P. v. Garden Ridge, L.P.; No. 14-12-00414-CV; Texas 14^th Court of Appeals, July 18, 2013.

Lessons learned:

1.      Garden Ridge, presumably a very sophisticated tenant, signed a Lease obligating it to pay both “management” and “supervision” fees. If those two terms are duplicative then Garden Ridge will win this case. Otherwise if Clear Lake can prove a meaningful distinction, then Clear Lake will win.

2.      CAM provisions, allocations and pro rata / sharing clauses are inherently difficult to comprehend and challenging to explain, particularly to 12 people sitting in a jury box or a judge who is unfamiliar with commercial leasing practices. From the Tenant’s perspective, capping controllable expenses (typically everything but taxes and insurance) and allowing only marginal annual increases will go a long way to preparing a meaningful expense budget. And keeping a Landlord from using CAM charges as a hidden profit center.

3.      Even with all the right verbiage in place, placing limits on the Landlord’s CAM charges is only as good as the Tenant’s investigation abilities, due diligence and audit. Without a meaningful way to review the Landlord’s books a lawsuit will be required. So – be sure you have both appropriate caps and limits as well as the right of Tenant to easily peek into the books and records of the Landlord, and force the Landlord to pay for the audit too if the overcharges are excessive.

Reprinted with the permission of North Texas Commercial Association of REALTORS®, Inc.