Appeals Court Rules That Liquidate Damages Clause Is Unenforceable Where It Allowed For Recovery of Rent For Remaining Term On Top of Rent Received From New Tenant
If you enjoyed the famous Seinfeld episode where George Costanza was accused of “double dipping” his chips and dip at a family funeral, then you’ll appreciate this post. The case is Cummings Properties LLC v. Hines (Mass. Appeals Court Dec. 6, 2022) where the Appeals Court struck down a liquidated damages clause in a commercial lease which purported to allow the landlord to recover a large financial penalty even though it was able to re-lease the premises.
The case is a good example of what can happen where a party can get a bit too greedy in seeking damages in a commercial lease case. Cummings Properties, one of the largest commercial real estate firms in the Greater Boston area, has a well deserved reputation of being an overly litigious commercial landlord (in my humble opinion). I’ve dealt with them several times, and I can tell you a few stories offline. Anyways, in this case, Cummings leased office space to Darryl Hines, who owned a constable/process serving business. Hines had just secured a lucrative contract with the Mass. Dept. of Revenue and needed a larger office for the new business. The lease was for 5 years at around $16,000 annually. Unfortunately, only a month into the new lease, the DOR abruptly cancelled the contract with Hines, leaving him in severe financial distress. Hines tried to work out a resolution with Cummings but it refused to release him from the lease obligations. Hines then defaulted. A year later, Cummings was able to find a new tenant and signed a 4 year lease. Cummings sued Hines, who signed a personal guaranty, for some $82,000 in damages representing the entire balance of the 5 year lease.
The lease provided for a rather common acceleration and liquidated damage provision:
"In the event that . . . LESSEE defaults in the observance or performance of any term herein, and such default is not corrected within 10 days after written notice thereof, then LESSOR shall have the right thereafter, without demand of further notice, to declare the term of the lease ended, and/or to remove LESSEE's effects, without liability, including for trespass or conversion, and without prejudice to any other remedies. If LESSEE defaults in the payment of any rent, and such default continues for 10 days after written notice thereof, and, because both parties agree that nonpayment of said sums is a substantial breach of the lease, and, because the payment of rent in monthly installments is for the sole benefit and convenience of LESSEE, then, in addition to any other remedies, the net present value of the entire balance of rent due herein as of the date of LESSOR's notice, using the published prime rate then in effect, shall immediately become due and payable as liquidated damages, since both parties agree that such amount is a reasonable estimate of the actual damages likely to result from such breach."
There has been a fair share of litigation in the last several decades over the enforceability of liquidated damage penalty clauses. These clauses are generally enforceable as long as it is not so disproportionate to anticipated damages as to constitute a penalty. Courts will generally enforce these clauses if (1) at the time the agreement was made, potential damages were difficult to determine, and (2) the clause was a reasonable forecast of damages expected to occur in the event of a breach. Massachusetts used to have a “second look” rule where judges could consider the state of events at the time of the breach, however, the SJC stopped that practice in 1999 in favor of a “single look” approach which only accounts for the circumstances present at contract formation.
The fatal problem for Cummings in this case was that its liquidated damage provision permitted it to have its cake and eat it too. That is, it allowed Cummings to re-lease the premises, collect rent from the new tenant without credit or offset to Hines, then on top of that, pursue all of the rent owed by Hines through the end of the 5 year term. This is akin to the “double dipping” perpetrated by said George Costanza in Seinfeld. The Appeals Court ruled that the clause allowed for such double dipping and was therefore an unfair penalty.
So what are the take-aways from this case? The obvious one for commercial landlords is don’t be a pig and chase a small business owner for tens of thousands of dollars over and above what you received in new lease funds. As far as drafting these clauses, it’s a tough one because so far humans have been unable to accurately predict future outcomes. I would say that your liquidated damage clause should have some type of caveat that the tenant will get credit for any rent received from a new tenant and be liable for the differential in rent through the end of the term. Hopefully that would work.