Many small businesses now have no revenue. The notion of paying rent seems absurd. That has created a national stand-off between tenants and property owners, who count on rental income to pay their own expenses and prevent foreclosure.
Many tenants and many business owners who guarantied their business leases would like nothing more than to terminate their leases, terminate their guaranties, and walk away. In a minority of cases, they may have the right to do that, an exit right. It depends on what they negotiated with the property owner when they signed their lease and any separate guaranty.
Some leases and guaranties include an exit right, but it can be very tricky to exercise.
Ranjan Samarakone
Some leases give the tenant an outright option to terminate. More often, the lease was signed by a corporation or limited liability company, without a termination right, and the owner of the business signed a separate guaranty to backstop the tenant’s obligations under the lease. In many cases, though, it’s just a “good guy guaranty.” That means the guarantor has the right to terminate its liability if the tenant stops paying rent but behaves like a “good guy”: it moves out and doesn’t make the property owner endure the eviction process.
After that, the property owner can still sue the tenant for unpaid rent, damages, and other things. Usually the tenant has no assets and vanishes into the night. When the business owner starts her next business, she will set up a different company. (On the other hand, if the tenant wants to keep doing business using the same company and name, a good guy guaranty won’t work as well as a simple right to terminate the lease.)
Exit rights for leases and guaranties can be very valuable to tenants and small business owners. They’re tricky, though. If a business owner just remembers she has an exit right for her lease or guaranty, she still must understand exactly how that tool works.
Owners and their counsel try to make exit rights difficult. So the tenant or guarantor must read the lease or guaranty to understand exactly what it takes to escape. At a minimum, it will often cost at least an extra month’s rent as an exit fee. The tenant or guarantor will also often need to give a certain minimum prior notice of termination, typically 30 to 180 days. This just inflates the termination fee, if the tenant cannot actually do business in the notice period. And the notice will need to be given in a certain way, perhaps with certain documents.
Beyond time and money, the exit right may require more. It will often require the tenant to leave the space in a certain condition. Ideally, the tenant will just need to take its stuff and sweep the floor. Sometimes, though, the tenant may need to remove any construction the tenant performed, or even return the space to its original condition. Or the tenant might have to assure all equipment in the space is in proper working order. Typically none of these extra measures is reasonable, sensible, necessary, or practical, but an exit right sometimes requires them.
Exit rights have other tripwires. For example, if the tenant doesn’t move out when they said they would, sometimes the exit right goes away. Other times, the lease or guaranty imposes huge daily penalties for delayed departure. The exit right might go away if, in the notice period, the tenant somehow does anything that violates the lease – not just failing to pay rent but also perhaps something as trivial as not fixing a broken toilet seat.
To add insult to injury, if a tenant or guarantor loses an exit right because of tripwires like these, the lease often says there won’t be a second chance. The exit right is gone forever.
In short, before placing too much weight on an exit right in a lease or a guaranty, it pays to take out a magnifying glass and read the exit right carefully, to understand exactly how it works. This should be done sooner rather than later, as the exit right will often have its own delays before anyone can terminate liability.
Once the tenant or guarantor understands and wants to exercise an exit right, the next steps can be delicate with plenty of room for error. If taken correctly, though, those steps can give the tenant or the guarantor a great escape hatch from an intolerable situation. And whenever the tenant or the business owner is ready to reopen, maybe even at the same location, it will benefit from what should become a much more tenant-friendly rental market.