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Why Retail Landlords Want Bankruptcy Reform

Since its release in October 1997, a report by the National Bankruptcy Review Commission — a special committee appointed by Congress to study and propose recommendations to change the Bankruptcy Code — has motivated sponsorship of comprehensive bankruptcy reform legislation in every ensuing Congressional legislative session.

Although both houses of Congress affirmed a reform proposal during the Clinton administration, a presidential veto killed it and no subsequent proposal has even come close to becoming law for political and other reasons.

Each proposal put forth has included a section addressing shopping center tenant bankruptcies, which have their own special provisions in the existing Bankruptcy Code. These provisions ostensibly are designed to protect landlords due to the unique nature of shopping center landlord/tenant relationships and concerns about the growing number of Chapter 11 protections by tenants.

The Burden of Deadline Extensions

Under current shopping center law, tenants seeking to declare bankruptcy are expected to decide whether to assume or reject their leases within 60 days of filing their bankruptcy petition. The courts, however, have leeway to extend this deadline if good cause is established.

In the spirit of protecting the interests of the various classes of creditors, the courts today routinely grant extensions of time to assume or reject leases. The expensive and challenging burden then shifts, de facto, to the landlords to prove that good cause to extend the deadlines does not exit.

Such extensions can continue for months and even years. And while tenants must pay rent during this period, the negative effects on shopping centers can be considerable. At minimum, there is uncertainty as to whether the tenant will reject the lease and terminate rent payments on short notice. That uncertainty also impacts lease-up or sales of the center and/or redevelopment efforts.

In addition, “going out of business” signs posted by debtor tenants can cause skepticism about the health of the center overall, which in turn can reduce consumer traffic. If a store has gone dark, it can interrupt percentage rents, diminish retail synergy and cross sales in the center, and create the potential for tenants to exercise rent abatement or escape provisions of their leases that are tied to co-tenancy.

In addition, some debtor tenants don't use the allotted time period for the legitimate purpose of evaluating plans for the leasehold and pursuing assignees willing to tender consideration of the leasehold interest. Instead, they attempt to pressure landlords into rent concessions with no relevance to market rents, lease buyouts at unfavorable discounted present values and, in some cases, distress sales of the centers.

Although landlords have the legal right to proceed against post-bankruptcy lease defaults when continuous operation clauses are breached, courts typically have not granted landlords' pleas for relief. Though landlords are entitled to protect exclusives granted to other tenants, the courts have been unwilling to limit use of the premises by the assignees of debtor tenants, as provided in the lease. The courts also have used a narrow definition of what constitutes a shopping center, causing many to be ineligible for protection under the law.

Remedies Forthcoming?

Legislation now pending in Congress, which was introduced in previous legislative sessions and did not pass, would provide needed relief. While the pending legislation would double the time a bankrupt tenant has to assume or reject its lease from 60 to 120 days, the courts would then only be able to extend that date once — for another 90 days. The landlord would decide whether to grant any extensions that might be sought by the bankrupt tenant beyond the 210-day maximum.

The proposed legislation also would require adherence of use clauses and other provisions upon assignment of the lease; greater access by landlords to creditors' committees; creating administrative priority of rents due under leases that are assumed and later rejected; and curing of certain non-monetary defaults before a lease can be assumed or assigned.

A Needed Compromise

For its part, the 16,000-member Institute of Real Estate Management (IREM), many of whose members manage shopping centers, supports as a much-needed remedy for shopping center owners the proposed 210-day maximum for a debtor tenant to reject or accept a lease.

Regrettably, however, this proposal likely will languish in the current Congressional session given the upcoming presidential election and anticipated legislative lethargy thereafter until a new Congress is sworn in. So it is incumbent upon IREM, in concert with shopping center investors, to keep the reform issue on the legislative radar screen and push harder than ever for decisive action to be taken.

Charles Achilles is vice president of legislation for IREM and Megan Booth is senior policy representative for NAR and IREM.

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