Nearly a decade ago, I wrote an article for the New England Real Estate Journal about a decision issued by the Massachusetts Supreme Judicial Court that provided an important reminder to commercial leasing practitioners on the proper use of liquidated damages and rent acceleration clauses in remedies provisions in Massachusetts (“MA”). Now, a recent opinion issued by the Massachusetts Appeals Court, Northern District (the “Appeals Court”) in Cummings Properties, LLC v. Francois & Associates, LLC, 2020 Mass. App. Div. 90 (“Cummings II”) provides us with not only a reaffirmation of MA jurisprudence in this area of commercial contract law, but also some useful insight into which factors MA courts might weigh in evaluating remedies provisions in commercial leases.
Before my discussion of the recent Cummings II case, a brief refresher:
In its opinion in 275 Washington Street Corp. v. Hudson River International, LLC, et al., the Massachusetts Supreme Judicial Court (the “Court”) reminded commercial landlords of the importance of having a sufficiently explicit liquidated damages clause in the remedies provisions of commercial leases in MA. The Court’s opinion described the pertinent lease provisions as follows: “Under paragraph 21(h) of the lease, if the tenant defaulted, the landlord had the right to reenter and take possession of the premises, and declare the term of the lease ended, ‘without prejudice to any remedies which might be otherwise used for arrears of rent or other default.’ Paragraph 21(h) also included an indemnification clause, which provided that ‘Tenant shall indemnify Landlord against all loss of rent and other payments which Landlord may incur by reason of such termination during the remainder of the term.’ The lease did not grant the landlord a liquidated damages remedy or any other remedy apart from indemnification for the loss of post-termination rent, but included a cumulative remedies clause…”
The landlord sued to recover its damages resulting from the original tenant’s breach of the lease. After some disagreement among the lower courts as to whether the landlord was entitled to collect post-termination damages pursuant to the indemnification provision alone, the case wound up before the Court. In rejecting the trial court’s reasoning in awarding landlord post-termination damages, the Court once again stated the “bright line” rule in MA for awarding post-termination damages, namely, that such recovery only arises when a landlord has explicitly reserved its right to liquidated damages in the lease. Even then, a liquidated damages clause should be drafted with caution and specificity to ensure that the landlord is permitted to recover liquidated damages at the time the lease is terminated.
The Court’s holding was twofold: (i) a landlord cannot recover for post-termination damages under an indemnification clause in a lease until the end of the period specified in the lease (when the amount of damages the defaulting tenant is on the hook for can be ascertained with a greater degree of certainty), unless the indemnification clause specifically provides that damages may be recovered earlier (i.e., through rent acceleration); and (ii) a landlord has no common-law remedy for damages following the termination of a lease where no provision in the lease otherwise provides such a remedy. In arriving at its holding, the Court reaffirmed the foundation for awarding post-termination damages to commercial landlords in MA; reiterating that indemnification clauses—no matter how broadly drafted—do not automatically entitle landlords to post-termination damages.
Leasing practitioners in MA are likely familiar with the required language for liquidated damages clauses, which has emerged from previous judicial opinions issued by MA courts considering this issue. The language can essentially be broken down into three components: (i) that actual damages would be difficult—if not impossible—to calculate; (ii) as a result of this difficulty, landlord and tenant agree that “X” is a reasonable estimate of the actual damages that landlord would incur as a result of tenant’s breach; and (iii) that the payment of the foregoing estimate of actual damages is not a penalty, but rather liquidated damages payable by tenant under the lease. The permissible amount of “X” will generally depend on how well the liquidated damages and other pertinent lease provisions are drafted, but courts in MA have upheld liquidated damages provisions allowing for full rent acceleration (though generally minus the proceeds from reletting the premises by virtue of landlord’s duty to mitigate damages and the implied covenant of good faith and fair dealing inherent in all MA contract law).
In discussing the Court’s opinion in 275 Washington Street Corp., I concluded by advising commercial landlords in MA to take a second look at the standard leases they use to ensure compliance with the Court’s holding in that case. Now, after carefully reviewing the Appeals Court’s opinion in Cummings II, I felt it would be useful to write again to highlight the Appeals Court’s focus on the question of whether a liquidated damages and/or rent acceleration clause constitutes a “penalty” for purposes of determining the enforceability of such a clause and the appropriate damages to be awarded.
In reversing the lower trial court’s decision to award possession of the leased premises to Landlord, but awarding no damages to Landlord, the Appeals Court in Cummings II noted:
- “A liquidated damages provision in a lease is enforceable as a reasonable estimate of damages as viewed by the parties at the time the lease was executed. It is well settled that a contract provision clearly and reasonably establishing liquidated damages should be enforced so long as it is not so disproportionate to anticipated damages as to constitute a penalty. The test for enforceability of such a provision is whether, at the time the contract is formed, (i) actual damages flowing from a breach were difficult to ascertain, and (ii) the sum agreed on by the parties as liquidated damages represents a reasonable forecast of damages expected to occur in the event of a breach.”
- “Importantly, the enforceability of a liquidated damages clause is determined by considering the circumstances as of the contract formation date, not at the time the breach occurs. A ‘second look’ at the actual damages after the contract has been breached is not one of those circumstances to be considered. In concluding that the liquidated damages provision in that lease was enforceable, the Court reasoned that at the time the parties entered into the lease, they could not have foreseen when a breach for nonpayment of rent would occur, what the commercial rental market would be at the time of that breach, or what the cost of finding another tenant and the length of time the property might remain vacant would be.”
- “If a liquidated damages clause is a penalty, that is, if the damages to which a party agreed at the outset of the lease were disproportionate to a reasonable estimate of actual damages likely to result from a breach, the clause would be unenforceable.”
In its opinion in Cummings II, the Appeals Court reiterates the general “law of the land” for the use (and enforcement) of such clauses in MA commercial leases, as expressed in the 275 Washington Street Corp. and earlier Cummings Properties, LLC cases and discussed in detail above, but it also gives us a glimpse inside the mind of a MA trial court judge in terms of which factors may be weighed in making a determination as to whether an award of liquidated damages (and the amount thereof) is appropriate. There is little doubt that well-considered and carefully drafted remedies provisions must be included in MA commercial leases, especially with respect to liquidated damages and rent acceleration. The Cummings II case can be viewed as an invitation from the Appeals Court for commercial landlords to take great care in reviewing and revising such provisions.
———————————————————————————-
This DarrowEverett Insight should not be construed as legal advice or a legal opinion on any specific facts or circumstances. This Insight is not intended to create, and receipt of it does not constitute, a lawyer-client relationship. The contents are intended for general informational purposes only, and you are urged to consult your attorney concerning any particular situation and any specific legal question you may have. We are working diligently to remain well informed and up to date on information and advisements as they become available. As such, please reach out to us if you need help addressing any of the issues discussed in this Insight, or any other issues or concerns you may have relating to your business. We are ready to help guide you through these challenging times.
Unless expressly provided, this Insight does not constitute written tax advice as described in 31 C.F.R. §10, et seq. and is not intended or written by us to be used and/or relied on as written tax advice for any purpose including, without limitation, the marketing of any transaction addressed herein. Any U.S. federal tax advice rendered by DarrowEverett LLP shall be conspicuously labeled as such, shall include a discussion of all relevant facts and circumstances, as well as of any representations, statements, findings, or agreements (including projections, financial forecasts, or appraisals) upon which we rely, applicable to transactions discussed therein in compliance with 31 C.F.R. §10.37, shall relate the applicable law and authorities to the facts, and shall set forth any applicable limits on the use of such advice.
