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The Role of Estoppel Certificates in Commercial Real Estate Transactions
Published: March 10, 2009
Author: Edward J. Lawton
Estoppel certificates or estoppel letters are tools used by commercial real estate purchasers and lenders [1] to limit the risk that a target property is subject to tenant lease default and tenant relationship problems. [2] Estoppel certificates or letters request that a tenant verify the terms of their relationship with the current property owner and/or manager. These give a potential acquirer greater confidence as to the state of the target property at or near the closing date from sources other than the seller. They also provide the purchaser assistance in the event a tenant takes a position in litigation contrary to the information contained in the estoppel document.
The typical estoppel document prepared by the purchaser’s attorney will ask the tenant to confirm:
- The nonexistence of any breach of the lease
- The identity and condition of the leased premises (possibly including an address and/or unit number, dimensions of the leased space, or a legal description)
- The term of the lease
- The terms of options to renew or extend the lease
- The terms of options to renew or extend the lease
- The amount of the security deposit (if any) paid by the tenant
- That the tenant has not assigned or sublet the lease space
- That there have been no rent prepayments
- That the landlord has fulfilled its obligations with respect to improvements to the property in general and the tenant’s space
It is advisable to attach a copy of the lease to the estoppel document and request that the tenant certify that the attached lease is in full force and effect with respect to such tenant. An estoppel letter or certificate will also usually provide space for a tenant to explain deviations from the form of the estoppel letter or certificate. These explanations should be reviewed carefully.
Tenants, for a variety of reasons, will frequently be reluctant to sign estoppel documents despite the fact that most commercial leases include provisions requiring that tenants provide estoppel certificates or letters. Purchasers should have realistic expectations about the response rate when dealing with properties with significant numbers of tenants. It is prudent to identify key tenants, where possible, from whom estoppel documents must be obtained. In many cases purchasers will include the receipt of satisfactory estoppel documents from key tenants as a contingency or closing condition in a real estate purchase agreement. Key tenants may use their leverage in these situations to extract concessions from the other parties.
There have been only a handful of court decisions regarding the interpretation of estoppel certificates. [3] Two cases, one from Illinois and one from Ohio are instructive.
In K's Merchandise Mart, Inc. v. Northgate Ltd. Partnership, [4] the Appellate Court of Illinois held that,
A party who executes an estoppel certificate should not be allowed to raise claims of which it knew or should have known at the time the certificate was executed. A party who executes an estoppel certificate that there are no defaults is under a duty to inquire and determine, insofar as reasonably possible, what claims exist. On the other hand, an adverse party may not use an estoppel certificate as a device to make undisclosed changes to the lease. Those who prepare estoppel certificates should be encouraged to make specific reference to known items of dispute, not rely on all-encompassing language of waiver.
This ruling suggests that both purchasers/landlords and tenants must exercise care in drafting estoppel certificates. Tenants must use ordinary diligence to confirm the terms of the lease and that there are no defaults of the landlord or of the tenant. At the same time the court will look with disfavor on attempts by a landlord to slip lease modifications into estoppel certificates. The Court here prefers that a purchaser directly identify potential areas of conflict rather than employ broad waiver language. This may be somewhat unrealistic with respect to some aspects of the landlord-tenant relationship, as a purchaser has limited information about that relationship prior to the acquisition. For this reason estoppel certificates will frequently include broad waiver language but will invite tenants to identify exceptions. Such an arrangement should satisfy a court’s desire for a sense of balance and fairness in these documents.
The Court of Appeals of Ohio also held that estoppel certificates may be evidence of the defense of equitable estoppel but are not necessarily conclusive. [5] The Court noted that estoppel certificates do not replace the common law doctrine of equitable estoppel. That is, where an estoppel certificate fails by its terms or fails to deal with some issue conclusively, the common law defense of equitable estoppel is still available.
These cases highlight the fact that transactional documents such as estoppel certificates or letters may be employed as part of a broad transaction risk mitigation strategy however they are not necessarily panaceas. It is important to remember that in litigation, courts may interpret these documents in light of all the facts, circumstances and arguments brought to bear by counsel. The results may differ from that expected and intended by the drafter.
[1] For simplicity this article refers to both purchasers and lenders when the word purchaser is used.
[2] Payoff letters from lenders and other creditors are some times referred to as estoppel certificates or estoppel letters as well.
[3] Estoppel certificates are also commonly used in Canada and have been the subject of litigation there. See 473807 Ontario Ltd. v. TDL Group Ltd., (2006) 271 D.L.R. (4th); Vancouver City Savings Credit Union v. New Town Investments Inc., 2008 BCSC 1617; Goodyear Canada Inc., v. Burnhamthorpe Square Inc., (1998) 41 O.R. (3rd) 321.
[4] 359 Ill.App.3d 1137, 835 N.E.2d 965, 296 Ill.Dec. 612
[5] Mark-It Place Foods, Inc. v. New Plan Excel Realty Trust, 156 Ohio App.3d 65, 804 N.E.2d 979 (Ohio App. 2004).
Edward J. Lawton is a member of Axley Brynelson, LLP's Business Practice Group. He focuses on transactional matters including the purchase and sale of businesses, and the purchase, sale, development and leasing of real estate. For more information, contact Mr. Lawton at 608.283.6717 or elawton@axley.com.
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