Sometimes the result of even a good business is bankruptcy, particularly as COVID-19 and its economic and regulatory impacts run through plans that were otherwise well-laid.  This article provides no advice for a business seeking bankruptcy protection but highlights certain things commercial landlords should know when they’re unwittingly drawn into a tenant’s bankruptcy as a creditor.

• Most of your relationship with your tenant is put on hold.

The mainstay of bankruptcy is the automatic stay, which prevents a landlord from taking just about every action against a tenant in bankruptcy.  The safe bet is to put all action on hold unless and until the landlord has an order from the bankruptcy court allowing the landlord to proceed with things like evictions or collections actions – failing to respect the automatic stay (which is in the truest sense automatic, as it usually requires no notice or opportunity for a creditor to be heard) can result in severe penalties, especially if intentional.

Indeed, not every commercial landlord’s action is automatically stayed: a commercial landlord could obtain possession of the real estate if the lease term ended before, or even during, the tenant’s bankruptcy.  However, this kind of action must be taken very carefully and with guidance of an attorney, because it can be easy to slip into a violation of the automatic stay and be punished by the bankruptcy court for doing so.  For example, taking possession of the tenant’s equipment or inventory is not allowed absent a court order, and a landlord finds itself in a quandary if it tries to take possession of a premises filled with the tenant’s (read: the bankruptcy estate’s) property that it cannot touch.  In addition, lease terms will need to be carefully examined to determine whether its terms qualify for the stay exception.  All that said, commercial landlords should take no action against a tenant in bankruptcy until advised by an attorney and should be prepared to proceed carefully if at all.

• Your tenant could reject, assume, or assume and assign your lease.

An expired commercial lease does not become property of the bankruptcy estate and has options for treatment going forward that you can discuss with your attorney.  An unexpired commercial lease, however, is subjected to something of a balancing act by the Bankruptcy Code. The Code allows a tenant to either assume or reject the lease under certain conditions, and even allows the tenant to assign the lease to a third party if assumed.  This means that you might find yourself with a brand-new tenant of someone else’s choosing by the time the bankruptcy ends.  The tenant in bankruptcy has to meet several requirements to have this right to assume-and-assign, however, and landlords enjoy some protections when it comes to who any new tenant will be.  This ability to assume-and-assign can be a strong negotiation tool in the tenant’s toolbox, particularly in a chapter 11 where your tenant has a buyer that wants to negotiate terms or concessions, but your ability to insist on the Bankruptcy Code’s requirements for assumption-and-assignment can help you negotiate from a strong position as well.

• You can still have your rents paid, but with varying degrees of success depending on your lease terms and the facts of your case.

A commercial landlord’s payments from a bankruptcy estate depend on a variety of factors, including whether or not the lease is expired and whether or not you have a security interest in the tenant’s property.  Your most straightforward (and probably earliest) foray into your tenant’s bankruptcy will probably take the form of a proof of claim where your attorney will identify the amount of your claim, its status as secured or unsecured, and certain other items (and attachments) depending on the type of claim you have and the facts of your case.  

If your claim is unsecured, it will be funneled into the pool of unsecured creditors that get paid near the end of the line, usually in pennies rather than dollars.  If you’re able to make and keep a secured claim (for example, if you have a security interest in the tenant’s personal property under your lease) you’ll be able to claim better payment treatment than unsecured creditors. 

If you’re a commercial landlord with an unexpired lease, the bankruptcy trustee is required to pay continuing rents under the lease until it decides whether to assume or reject the lease.  These continuing payments should be made timely by the trustee, but some debtors politely fail to make timely payments and push a landlord to either wait for payment or move the Bankruptcy Court for relief.  Ultimately, these continuing rents are afforded administrative priority for payments from the bankruptcy estate, which means they’ll get better payment treatment than many of the other creditors in the bankruptcy.  

If the tenant in bankruptcy decides to reject your lease, you’ll then be able to make a claim against the estate for the unpaid rents under the lease, but the amount of future rents you can claim is capped by the Bankruptcy Code to the greater of one year of rents or 15% of the remaining term of the lease (but not to exceed three years).

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Proceedings in bankruptcy can have lots of moving parts, particularly depending on the filing chapter, the debtor, and the debtor’s expectations or plans for the bankruptcy.  Your decisions on how to handle your tenant’s bankruptcy will depend on your discussions with your attorney about the risks and rewards involved with each of your options and will depend even more so on the Bankruptcy Code’s limitations on your options.  Your attorney can help you navigate these options and can guide you through a bankruptcy that you did not choose to join.