Defining Non-Disturbance Agreements
Non-disturbance agreements are the mechanism by which the tenant in a real property transaction obtains a promise that a lease will not be terminated if an encumbrancer of the real property exercises its rights to take possession of or sell the property.
In its most simple definition, a non-disturbance agreement is a three-way agreement involving the tenant, owner and lender. The tenant and lender receive certain confirmations, and the owner gives various representations, to ensure that if the lender forecloses on its security or takes possession of the property, both tenant and lender will cooperate with each other on agreed terms , and the lease will continue undisturbed. The effect of a non-disturbance agreement is to protect the tenant’s interest in continuing to enjoy the property under the lease by providing assurances that the tenant won’t lose its right to occupy the premises if the property is repossessed. A non-disturbance agreement recognizes that the basic contractual doctrine of "caveat lessee" (let the tenant beware) does not work in a world of competing claimants to a real property rent stream. It is a recognition of practical reality. Tenants of commercial and industrial properties are typically required to enter into non-disturbance agreements by lenders whose financing they seek to use to acquire, upgrade or lease such properties. Likewise, in the case of hotel owners, the possibility that the real property will be secured, in whole or in part, by debt, means that the applicant hotelier must undoubtedly be prepared to enter into a non-disturbance agreement with the lender(s) who are responsible to the bank, or other financial institution for the real property.
Common Characteristics of a Non-Disturbance Agreement
Typically, there are a few key components that make up the agreement. Specifically, a non-disturbance agreement is a contract between a property owner, the lender and the tenant that specifies the specific conditions in which a tenant will be able to continue leasing the property even if the owner defaults on mortgage, or other obligations, and the lender forecloses or acquires the property.
With that understanding, the specific elements of a non-disturbance agreement are generally divided into three parts: acceptance, non-disturbance, and attornment.
Acceptance: States that the lender and/or the property owner’s successor will accept all the existing terms in the original lease with the tenant. This can include any specific provisions of the lease that might not necessarily become binding under foreclosure, such as rent payments in installments or rent control provisions.
Non-Disturbance: The tenant’s right to continue to occupy the property is guaranteed by the lender and/or successor owner until the lease is explicitly terminated in accordance with its own terms, or the lease is renegotiated by mutual consent of the remaining parties.
Attornment: This clause states that the tenant will maintain all responsibilities as stated within the original lease notwithstanding its relationship to the foreclosing lender or new owner of the property.
Together, these key elements in a non-disturbance agreement provide the kind of assurance and security that enables lenders and owners to feel comfortable entering into a lease agreement before it has been signed.
Interplay Between Lenders, Tenants and Landlords
Lenders, tenants, and landlords are all involved in non-disturbance agreements. Generally, a mortgagee of leased premises may be in jeopardy of losing its security if it falls into a default after its title has been perfected. The remedy of a foreclosure of a mortgage, can divest the mortgagor of title and thus terminate the mortgagee’s interest. The absolute priority of the Mortgagee as a holder of a security interest in the premises supersedes the leasehold interest of a tenant, unless otherwise agreed by the parties.
Tenants are also exposed when there has been a default in the mortgage because this could lead to the termination of the leasehold occupancy. A lease that is properly executed, is valid, and takes effect in real property is afforded protection under a non-disturbance agreement.
Landlords benefit from the fact that non-disturbance agreements will prevent tenants from claiming priority over their mortgages. Priority of the mortgage over leases, exposes tenants to losing the full benefit of their leases if the property is foreclosed upon. Without a non-disturbance agreement, tenants could claim superior priority over the landlord and bargain for more favorable concessions with respect to the rental of the property. Such priorities must be considered in the context of all areas of real estate law.
Advantages of Non-Disturbance Agreements
The benefit of the non-disturbance agreement is to give the tenant, in a non-ground lease situation, the same security of tenure that is available in a ground lease, i.e. that so long as the lease is in effect as between the tenant and the landlord, the tenant’s leasehold interest cannot be terminated by the landlord’s secured creditors, or the buyer of the real estate, other than for the tenant’s default. From the tenant’s perspective, the non-disturbance agreement ensures that the tenant can operate its business even in the face of landlord default under the mortgage.
The non-disturbance agreement also provides benefits to the landlord of the real estate. If the landlord knows that the tenant has a non-disturbance agreement with the lender on a later date, exercising remedies under the mortgage may be less burdensome. Additionally, as part of the security for the loan, the lender obtains the benefit of the tenant’s covenant to pay rent, the requirement to operate under the lease, and any other benefits, which may come in handy in case of default. A mortgage lender under a long-term loan is an important potential tenant in the space, and the mortgagee may want some of the same benefits of the tenant that it financed.
Challenges and Legal Considerations
Despite the utility of non-disturbance agreements, creating them presents various issues and challenges for the parties. For example, the extent to which tenants are bound to a non-disturbance agreement that has been negotiated by the landlord and buyer can be problematic. While tenants are intended third party beneficiaries of such agreements, they have no obligation to sign them. Even where a tenant has agreed to a non-disturbance agreement, there may be difficulties in enforcing its terms. A tenant’s refusal to honour an agreement can mean that a landlord’s ability to dispose of its property can be altered in ways that were not contemplated when it entered into the transaction. There may also be practical issues to consider in drafting a tenant non-disturbance agreement where a power of sale has been registered against the property. In many cases, power of sale lenders will refuse to sign a non-disturbance agreement, or will be prepared to sign only as a last resort. While a tenant may eventually be able to compel an recalcitrant power of sale lender who is unwilling to sign a non-disturbance agreement to do so, negotiating a non-disturbance agreement may cause delays in the transaction as the parties await the lender’s execution . This is because we have seen the courts adopt a "substance over form" test to determine whether a non-disturbance agreement is enforceable, and not the necessary execution of a prescribed form. The court will consider actual conduct and the intention of the parties in making that determination. Where the facts of a case indicate that the lender was prepared to honour a tenant’s rights, however, and is merely refusing to execute a non-disturbance agreement, the tenant may be able to get the court to order execution of the agreement if a failure to honour the non-disturbance agreement would lead to foreclosure and would essentially mean subordination of the tenant’s rights in the process. Non-disturbance agreements are commonplace in modern real estate transactions, but there are still a number of important issues to consider. In particular, the issue of whether a transaction requires a tenant’s signature on a non-disturbance agreement should be considered case by case, although landlords often insist on it even where it may be unnecessary. In practice, however, non-disturbance agreements are often required by commercial landlords to ensure the ability to finance their projects.
How to Obtain a Non-Disturbance Agreement
As a tenant, it is important to your business that if the landlord defaults on its mortgage, the lender cannot disturb your possession of the leased premises and may have to honor the lease terms if the lender forecloses on its mortgage rights. Generally, this is accomplished through a non-disturbance agreement, which is a written agreement between the tenant and the mortgage lender under which the lender agrees not to disturb your possession of the space so long as you are not in default under the lease terms.
A non-disturbance agreement will usually be included in a subordination, non-disturbance and attornment agreement (SND&A) that will also contain the provisions of the lease to which the lender will agree to attorn.
The goal is to have the lender execute the SND&A when your lease is signed so that such agreement runs with the lease. However, for one reason or another, you may not be able to accomplish this. Therefore, the follow steps can guide you through the process of negotiating the agreement.
- Ask for a non-disturbance agreement when negotiating individual lease terms
- Understand and negotiate the timing of the lease transaction and the lender’s response
- Determine if the early execution of the non-disturbance agreement is important to you
- Decide if the qualification of the tenant is important to the landlord, tenant or lender
- Decide your current position if a default occurs due to foreclosure or the sale of the property, and whether you want to hold out for additional incentives if you need to enter into the SND&A after the fact
- Determine if you should accept lender delays in negotiating the SND&A
- Obtain release of estoppels and waiver of offsets if you have already signed the subordination of rights section of the lease and could have gone through bankruptcy protection and decided to reject the lease
- Be prepared to negotiate a "reasonable" form for the SND&A on the lender’s terms
- Understand that the lender will only agree to abide by a certain provisions of the lease and that the term "reasonable" does not require the lender to assume the landlord’s liabilities under the lease
- Determine if you will always get the same lender, or will the lender change depending on the situation
- Understand provision that could turn a non-disturbance agreement into a nuisance to your lease
Legal Issues and Best Practices
Non-disturbance agreements are significant documents in the context of any commercial real estate transaction. They are important not only because they protect a tenant from losing its leasehold interest in case of a foreclosure of the property, but also because they must be negotiated, drafted and executed properly to ensure enforceability. One key consideration is that it is generally accepted that non-disturbance agreements do not have to be recorded to create enforceability. That said, recording follows common sense best practice in this regard as it provides the public with constructive notice of the agreement, protecting the tenant from any bona fide purchaser who may claim not to have knowledge of the existence of the agreement. Although non-disturbance agreements are usually negotiated in conjunction with the tenant’s lender, they are typically in the form of an agreement between the landlord and tenant that the tenant’s lease will not be disturbed as a result of a foreclosure or deed-in-lieu of foreclosure. In order for the agreement to be effective, however, there must be some direct agreement between landlord and lender as the agreement is no protection to a tenant whose leasehold is subject to a prior encumbrance. Such an agreement would typically be formed as part of the loan package and then referenced in the non-disturbance agreement. From a drafting perspective, non-disturbance agreements should be as simple and straightforward as possible. They should also carefully consider capital stack issues so that all parties are comfortable that the agreed-upon priority of their respective interests in the property is properly documented.
Real-World Cases and Examples
In a case out of California, the court found that a tenant’s leasehold interest was a property of great value, and that the lease was a "valuable property right" which the parties intended to protect with a non-disturbance agreement. Indeed, in the real world, tenants often rely on non-disturbance agreements, particularly when their space is rent control- or rent-stabilized-otherwise, tenants would have no recourse in the event that a landlord lost ownership of the leasing space.
New York courts have provided similar protection for the tenants when a lender forecloses upon the property . For example, in Diamond v. Reliance Commercial Mortg. Capital, LLC, 945 N.Y.S.2d at 766 (2nd Dept 2011) the eviction of a tenant was barred by the mortgagee’s previously executed non-disturbance agreement. While the landlord had assured the tenant that the rent was current, the non-disturbance agreement prevented the landlord from evicting a tenant if that tenant was not in default of the mortgage. The assumption is that absent any fraud or misrepresentation, such language would protect the tenant against vacate demands in the event of a foreclosure.