COVID-19’s Affect on Contractual Duties of Parties in Real Estate
by Andrew Pardun on June 8th, 2020 in Business & Corporate Law, Real Estate Law
In recent months, the United States of America and the world have been shaken by the novel Coronavirus (COVID-19). As a result of COVID-19, the economy has experienced unprecedented stress with mounting unemployment numbers and an overall halt in demand and discretionary spending. With so many Americans without jobs, serious questions have arisen regarding the financial stability of the nation at large. Investments that once appeared attractive now may seem to be a sinking ship. In the early stages of COVID-19, the stock market was experiencing daily drops in the Dow Jones Industrial Average of 1,000 points, 2,000 points and even more. Our office has received a wave of inquiries over the past few weeks from investors, buyers and sellers of real estate who all want to know and understand where they stand under their contracts.
Force Majeure Clauses, Impossibility, and Impracticability of Performance of Contractual Duties
I will begin this discussion with an overview of some contractual clauses and the law around those clauses regarding: Force Majeure Clauses, Impossibility, and Impracticability of performance of contractual duties. For those that are unfamiliar, a Force Majeure clause is also generally known as an “Act of God” clause which states in the event of an Act of God, the parties will be temporarily relieved of their contractual duties. These clauses are generally intended to cover situations where closing is not possible due to a hurricane or an earthquake. Most people, myself included, never would have thought that this clause would come into play in the event of a pandemic. I will now discuss some of the specifics of a Force Majeure clause and how it relates to COVID-19. Generally the non-performing party in a contract seeking to use a Force Majeure clause as relief for non-performance bears the duty of proving that the event was indeed beyond the party’s control and that the party was without fault or negligence. Force Majeure events are typically required to be unforeseeable, although Florida law indicates that in some instances where “foreseen” circumstances will relieve performance. As a general rule, the doctrine of impossibility should be applied with great caution if the relevant business risk was foreseeable at the inception of an agreement. This could come into play for parties entering into a contract today to close in a month from today as we do not know how long we will be affected by COVID-19. If a contract does not have a Force Majeure clause the law will not imply one, however, Florida courts do recognize other excuses to a breach of contract. In the absence of a Force Majeure clause, Florida courts have recognized the common law doctrines of “impracticability,” “impossibility,” and “frustration of purpose.” Impracticability applies if there is a non-occurrence which was a basic assumption upon which a contract was formed. Impossibility refers to a situation where the purpose for which a contract was made is impossible to fulfill. The doctrine of frustration of purpose has three elements:
- the event giving rise to the claim must be completely unexpected and unforeseeable
- the risk of the event must not be provided for
- the performance of the contract must be impossible or commercially impracticable
The above may come into play as a result of COVID-19. However, in my experience I have found that in many instances, buyers have been using this clause as an excuse not to perform, not because it is impossible but because they have had a change of heart as to acquiring property in light of the current economic landscape. I would contend that in this circumstance, the buyer would not be relieved of their obligation to close.
Practical Implications of Leasing in the Commercial and Residential Arenas
The next topic I would like to discuss is the practical implications of leasing in the commercial and residential arenas. Due to COVID-19 many tenants, both commercial and residential, have ceased paying their rent. This has a ripple effect of economic hardship as many landlords rely on their rental income to meet their debt and/or mortgage obligations. For those landlords who can endure a slowdown in their rent collection, many have elected to enter into a formal “Forbearance Agreement” stating that rent would be deferred until such time and the tenant is able to resume paying rent. A typical Forbearance Agreement would state that the tenant shall be charged reduced rent for a period of time which is generally equal to the landlord’s carrying cost of the property (mortgage, tax, insurance etc.). The reduced amount is then deferred until a later date and it is agreed that the tenant will repay the amount of the deferred rent installments to the landlord over a subsequent period of time. This is a positive solution for several reasons. For one, the landlord could seek to default the tenant but given the current economic landscape it is unclear how long it would take the landlord to find a replacement tenant. If the landlord has a tenant that has always been good paying but for the hardship realized by COVID-19, that landlord may wish to keep this tenant in place and make an effort to get the tenant back on track with rental payments after COVID-19 has passed.
What is clear is that COVID-19 has created new and unforeseen challenges both in commercial and residential real estate. From experience, the best advice I can give at this juncture is to tell everyone to be patient and that this will eventually pass in time. Our office continues to close real estate transactions each week although we have been faced with new challenges throughout the process. There are many moving parts in a real estate transaction and with everyone working from home and buyers and sellers attempting to invoke Force Majeure clauses and lender’s experiencing an influx of loan applications due to historically low interest rates, government stimulus loans, and a workforce that is at home, patience has become the true mantra of our real estate legal team.