SJC Decision Gives Commercial Tenants NewRights but Allows Landlords to Waive Them

Published on: October 22, 2002

The state Supreme Judicial Court (SJC) has altered the legal landscape for commercial landlords and tenants in subtle but significant ways.

In a decision that may have somewhat more impact on legal theory than on real estate practice, the court ruled that the obligations of commercial landlords and tenants are “mutually dependent.” That means commercial tenants for the first time have a recognized right to break a lease in some circumstances if the landlord fails to provide services that the lease guarantees. But the court also ruled that landlords and tenants may waive this new right if they choose, creating a legal eraser that landlords and their attorneys will almost certainly apply to future leases.

The SJC decision, in Wesson v. Leone Enterprises, clarifies a long-standing question about the relationship between commercial landlords and tenants that is best understood with a little historical background. Traditionally, the obligations of landlords and tenants were viewed as “independent covenants,” meaning that one party’s breach of the lease obligations did not justify a breach by the other. The tenant was required to continue paying rent even if the landlord failed to maintain the property.

Common Law Roots

That theory reflected a common law principle dating back to agrarian times when leases usually centered around the land and the buildings were peripheral to the tenancy. The law assumed that the tenant would work the land and would make any necessary repairs, even if the lease required the landlord to do so. This “independent covenant” principle applied to both residential and commercial leases until 1973, when the SJC established a very different standard for residential landlords and tenants. A residential lease, the court ruled in Boston Housing Authority v. Hemingway, “is essentially a contract between the landlord and the tenant, wherein the landlord promises to deliver and maintain the demised premises in habitable condition and the tenant promises to pay rent for such habitable premises. These promises,” the court said, “constitute interdependent and mutual considerations.”

The notion that the obligations of landlords and tenants are “interdependent,” laid the legal groundwork for residential tenants to withhold rent, initiate repairs and deduct the cost from their rent, and terminate their lease without liability if the landlord failed to provide a “habitable” residence. This produced a sea change in residential landlord-tenant law, but it had no immediate impact on commercial tenancies. In fact it didn’t create even a ripple in the commercial sector for almost a decade. However, in 1983, a state appeals court suggested for the first time that the “independent covenant” rule might be as irrelevant to modern-day commercial leases as the SJC had found it to be for residential leases. While the Court’s suggestion did not alter the existing law, it did muddy the waters considerably as some courts continued to apply the independent covenant principle while others refused to do so.

The division of judicial opinion made it impossible for tenants involved in disputes with their landlords to know what remedies they had, and made it difficult for lawyers to know what advice to offer: Withhold rent and hope to draw a judge who agreed that the remedy was justified (knowing that a judge with a different view would guarantee a “slam dunk” in favor of the landlord); or continue paying rent, sue the landlord to make the necessary repairs, and wait two years or more for a decision.

Clarifying the Rules

The Wesson decision has eliminated that uncertainty. The dispute in this case involved a higher tech printing company that complained repeatedly about leaks the landlord failed to repair. The company ultimately moved and the landlord sued, claiming a breach of the lease. The tenant argued that the leaks amounted to a “constructive eviction”; the landlord denied that the space had been rendered unusable and argued further that even if necessary repairs had not been made, the landlord’s breach did not relieve Wesson of his obligation to continue paying rent.

The court made quick work of the constructive eviction claim, agreeing with the landlord that there was “no evidence that the leaks caused a work stoppage or otherwise prevented the tenant from carrying on business.” The leaks may have made the operation “less convenient,” the court said, but “they did not rise to the level of a constructive eviction.”

Middle Ground

However, the court found that the tenant had another valid remedy that did not require evidence of a constructive eviction. To reach that conclusion, the SJC determined that the “independent covenant” principle no longer applies to commercial leases. The court did not completely embrace the “dependent covenant” principle Hemingway established for residential tenancies, however. While acknowledging that the old agrarian-based notions no longer fit very well with modern commercial leases, the court said it continues to recognize “significant differences” between commercial and residential tenancies “and the policy considerations appropriate to each.”

Within those differences, the court carved out a middle ground — “mutually dependent covenants” — in which the obligations of landlords and tenants are neither totally independent (as they were under common law) nor totally dependent, as they are now in the residential sector. This approach recognizes that commercial tenants can reasonably expect landlords to meet at least some of their obligations and can terminate their tenancy in some cases if the landlord breaches that obligation. Commercial tenants can exercise that option, the court said, if three conditions apply:

  • The landlord must fail to execute a lease obligation.
  • That failure must deprive the tenant of a benefit that was a basis for the tenant’s decision to sign the lease.
  • The landlord must fail to remedy that breach within a reasonable period of time.

A Significant Inducement

Under this standard, the court noted, the tenant does not have to show that the breach made the space uninhabitable, as required for a constructive eviction. “It is sufficient for the tenant to demonstrate the landlord’s failure, after notice, to perform a promise that was a significant inducement to the tenant’s entering into the lease in the first instance.” The court added that the benefit must be “substantial” and it must be “understood at the time the lease was entered to be significant to the purpose thereof.” In this case, the significant benefit for the printing company was dry space, but the court made it clear that other cases might involve very different benefits, for example, the landlord’s agreement not to rent space to a competing enterprise.

On its face, the decision seems to substantially alter the balance of power between landlords and tenants. However, the SJC added an exception that may overtake the rule. The principle of mutually dependent covenants will apply to commercial leases, the court said, “except to the extent the parties validly agree otherwise.” In other words, the new rights the court outlined for commercial tenants will apply unless the lease contains a provision saying the tenant can’t exercise them.

A Huge Exception

Despite that huge caveat, the decision is still important because it eliminates a fog that has hung over commercial lease beach issues for years. Tenants and landlords will no longer have to guess how a court will rule if a tenant ends a dispute by walking out on a lease; they can look at the lease and know precisely how the judge will apply the law.

As a practical matter, of course, landlords will include lease provisions specifying that a breach by the landlord does not allow the tenant to withhold rent or terminate the lease. Many leases already include such provisions. This would seem to leave the balance of power tilted very much in favor of landlords, or at least, in favor of landlords whose attorneys recognize the importance of including a “no you can’t” clause in their leases.

But the relative negotiating positions of landlords and tenants will vary with market conditions. While tenants may not be able to preserve the mutually dependent covenant rule, they may have other options. For example, recognizing that repairs – or the landlord’s refusal to make them – are the cause of many landlord-tenant disputes, we often suggest establishing a mechanism within the lease for identifying necessary repairs and dealing with them.

One approach that seems to work well is to include language requiring an independent inspection to verify the need for a repair the tenant is demanding. (The best time for the landlord and tenant to select the inspector is when they are negotiating the lease, not when they are locked in battle over the repair.) If the inspector agrees the repair is needed, the landlord pays for both the inspection and the repair (or the tenant is allowed to deduct those charges from the rent). However, if the inspector sees no need for the repair, the tenant must pay for the inspection. This enables the tenant to deal with serious problems without having to sue the landlord, but it also gives the landlord some protection against tenants who complain constantly about minor or nonexistent problems.

Where From Here?

The SJC obviously did not go as far as it might have in Wesson, but the logic of the decision suggests that the court might well go somewhat further, although, probably not as far as some observers have suggested. One example: The decision establishes termination of the lease as the tenant’s only remedy; it does not specifically allow rent withholding as an option. But picking up and moving is not an option for most tenants and the SJC’s reasoning suggests that, confronted with the question, the court would probably permit rent withholding as well – absent a specific lease provision preventing it. Otherwise, landlords might intentionally withhold repairs to force an existing tenant to leave in order to rent the space to a new tenant under more favorable terms — a result the court clearly did not intend.

On the other hand, the SJC probably will not go so far as to find that an “implied warranty of habitability” exists for commercial property as it does for residential property — a step the court specifically declined to take in this case. “Adopting such a warranty,” the court explained, “is not necessary to the adoption of a dependent covenant rule and, as noted, [it would raise] a different set of policy issues and considerations in the commercial context.” The court did not state flatly that there is no warranty for commercial property, which leaves open the possibility that it might establish one in the future. But that would require something of a legal stretch, the economics of which would be substantial. Of course courts and their thinking change and court decisions have shocked me before. So I won’t say this evolution is impossible; only that it seems highly unlikely. Then again, I thought the Red Sox would go all the way this year.