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Subordination, Non-Disturbance and Attornment (SDNA) Clauses in Commercial Leases

Posted by: on Sun, Nov 25, 2012

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Subordination, Non-Disturbance and Attornment (SDNA) Clauses in Commercial Leases

When the economy is thriving, as it was in Las Vegas during the boom years in the early 2000s, it is rare for a borrower to default on its loans so to the extent that its secured lender needs to repossess its assets or commence foreclosure proceedings. It is even rarer for a commercial landlord to suffer such a profound loss of cash flow that it cannot service its mortgage debt and ultimately loses the property to its mortgagee or lender. Consequently, few in the leasing industry were well practiced or experienced in either scenario before 2008. After the last several years of this extended recessions, however, lenders and attorneys all too familiar with these situations, particularly in Nevada.

In entering into a new lease and establishing its premises at a new location, a commercial tenant will likely have invested a considerable amount of money in its premises for leasehold improvements and will very often view its new business location as critical to its operations. In uncertain economic times, if the tenant’s landlord defaults under its obligations to its mortgage lender, depending upon the relative priorities between the tenant’s lease and the lender’s mortgage, the tenant may risk being evicted and suffering significant disruption to its operations and financial loss, even though the tenant has not defaulted in its obligations contained in its lease. From the tenant’s point of view, this hardly seems fair, but this is exactly what can happen where the lease is subordinate to the mortgage or deed of trust and the lender elects to enforce security following a loan default by the landlord by commencing foreclosure proceedings.

Tenants who become tired when reading complex and lengthy leases may be tempted to skip over a paragraph at the end of the lease that starts with the words “Subordination, Non-disturbance, and Attornment” (SNDA). However, the SNDA language has taken on significant new importance in this extended recession in which it is no longer shocking to learn that a commercial landlord has walked away from its real estate project after defaulting on the mortgage.

When a landlord defaults on its mortgage, and there is a foreclosure sale, either judicial or private, the tenant is at risk of losing its lease, even if it has installed expensive tenant leasehold improvements at the property, developed goodwill at the location, and abided by all the terms of the lease.

This risk of loss is the result of being “junior” to the lender, such as a bank, who holds the first or senior trust deed on the property. Of course the tenant is always junior to the lender, either because the lender’s deed of trust was recorded before the lease was signed or because the lease states that, even if the lease is signed before the deed of trust, the tenant agrees that the lease is subordinate (junior) to any existing or future lender’s deed of trust on the property.

Because the tenant is junior to the lender, if the lender forecloses on the building, the lender or other purchaser at the foreclosure sale has a right to terminate the lease and evict the tenant. This often results in a legal dispute over which of the tenant’s improvements are removable personal property or have become so affixed to the leasehold that they have become non
removable fixtures.

The way for a tenant to protect its lease from termination upon foreclosure is to obtain an SNDA. An SNDA is a three-party agreement entered into by a tenant, a landlord, and the landlord’s lender. The SNDA obligates the lender, or purchaser at a foreclosure sale, to recognize the validity of the tenant’s lease. This prevents the disruption to the lease that the tenant would otherwise suffer.

Why would a Tenant Want an SNDA?

The lease will include a provision that requires the tenant to subordinate its lease to all existing and future loans. This gives the lender the option, after a foreclosure, to either recognize the lease or terminate it.

It doesn’t matter if the tenant is a creditworthy tenant who complies with all of its lease obligations. If the tenant doesn’t have an SNDA, the new owner has the right to terminate a “junior” lease as a result of a private or judicial foreclosure sale of its mortgage or deed of trust.

In exchange for a tenant’s agreement to subordinate its lease to the lender’s deed of trust, the lease should provide that the lender will agree that if there is a foreclosure sale by the lender (or any third-party purchaser at the foreclosure sale) the lender will not disturb the tenant’s right of possession under the terms of the lease, assuming the tenant is not in default. In order for this “non-disturbance” protection to be enforceable against the lender, and a purchaser at a foreclosure sale, the lender has to sign the SNDA agreement.

Can the Tenant Obtain the SNDA clause?

Landlords often say they don’t want to be obligated to get an SNDA for the tenant. However reasonable it is for the tenant to request an SNDA, the vast majority of landlords will not commit to obtaining an SNDA from the lender for the benefit of the tenant.

The best that most tenants get in a lease is a provision that the landlord will make commercially reasonable efforts to obtain an SNDA on the terms of the lender’s standard form. Unless a tenant is taking a very significant portion of the building, that is the best the tenant can usually expect. The tenant should not get less than that, unless the tenant is leasing a very small portion of a building for a very short term. At least this requires the landlord to make a reasonable attempt.

Even with an SNDA, however, the tenant will bear some risk in the event of a foreclosure because of the terms and provisions of the SNDA.

What Should the SNDA Provide?

In a standard SNDA clause, the tenant will agree to subordinate its lease to the lender’s deed of trust (subordination) in exchange for the lender’s agreement that, if there is a foreclosure, the lender or purchaser at the sale will recognize the tenant’s lease and not disturb the tenant’s possession (non-disturbance) if the tenant is current in the lease terms. Each will agree to recognize the other as the valid landlord and tenant under the lease (attornment), after the foreclosure sale.

Although the SNDA provides protection for the tenant, the SNDA also typically limits the obligations of the lender or a purchaser at a foreclosure sale when that party becomes the successor landlord. The most frequent modifications to the lease terms require the tenant to agree that if the lender or purchaser becomes the landlord, that party:

  • is not obligated to return the tenant’s security deposit (unless the lender or purchaser has actually received it, which is almost never the case)
  • is not obligated to make any tenant improvements that have been agreed to in the lease
  • is not liable for any existing defaults of the prior landlord

While the lender may agree to some minor modifications to these provisions, there is usually not much flexibility in terms of the substance of these provisions. A tenant should be aware that even if its lease remains in effect following a foreclosure, the tenant’s security deposit is probably lost and any improvements that have not yet been made by the landlord will probably not be made. However, the tenant’s right to possession will be undisturbed.

While an SNDA is very important to a tenant’s continued right of possession, the tenant is best advised to undertake due diligence before signing the lease in order to have some knowledge as to the landlord’s ability to continue to make the payments under its loan.

What Happens After the SNDA is Signed?

An SNDA is enforceable between the parties signing it (lender, landlord, tenant), whether or not it is recorded. However, a recorded SNDA provides greater protection because it puts any third-party buyer at a foreclosure sale on constructive notice that the tenant’s lease cannot be terminated by means of a foreclosure. This can reduce the potential for future litigation. To record the SNDA, the original signed and notarized document is sent to the county recorder’s office to be recorded, with full legal descriptions, street addresses, and parcel numbers.

Generally, as discussed above, a commercial tenant may not have any ongoing rights to occupy a leased premises if the landlord defaults on its mortgage and the lender forecloses on the premises. This is because mortgages are typically subordinated to the lender’s interest in the property, and without the protection of an SNDA, a lender may be able to terminate the lease upon foreclosure. It may seem unwise for a lender to terminate the lease of a tenant that is providing rental income, but market forces and other issues may factor into a lender’s decision. The unknown poses a risk to the commercial tenant that it will lose its premises. This risk can be minimized through a well-negotiated SNDA.

In summary, a good SNDA should address the following three main topics:

a. Subordination – The tenant agrees that its leasehold rights are subordinated, or placed in a junior position, to the lender’s mortgage lien.

b. Non-Disturbance – The lender agrees that if it forecloses upon the property, it will not disturb the tenant’s rights under the lease. The Non-Disturbance provision is a critical provision for the tenant – it allows the tenant ongoing occupancy of the premises. The language of most SNDAs essentially provides that the lender or the purchaser at the foreclosure sale will step into the place of the landlord in the event of a foreclosure.

c. Attornment – The tenant agrees that it will recognize – or attorn­ to – the lender or purchaser of the premises at the foreclosure sale and continue to perform its obligations under the lease.

Lenders often have form SNDA provisions that they prefer to use, but in most situations lenders are open to some revisions of their form to include more tenant-friendly clauses.

Warning To Tenants: Seven Ways SNDA Agreements Can Modify Your Existing Lease After a Foreclosure

1. Subordination. Many lenders prepare SNDA agreements to provide that your lease is subject to the provisions of the mortgage. You should agree to be subordinate only to the lien of the mortgage and any ensuing renewals, assignments, and modifications but not to the mortgage itself. Because you usually do not have access to copies of the mortgage, and did not negotiate your lease with the mortgage in mind, you should not be bound by provisions in a mortgage that modify your lease.

2. Nondisturbance. Your lease should only be terminated in the manner set forth by its terms and conditions. The typical SNDA provision drafted by lenders eliminates whatever eviction protections that you have negotiated by adding that your possession of the premises will not be disturbed “so long as no default exists under the lease beyond any applicable cure periods.” The lender’s right to possession of the premises should be controlled by what is contained in your lease; you should not lose these rights through the SNDA agreement. Renewal lease options and options to expand the leasable space also should not be altered by any provisions in an SNDA agreement.

3. Casualty. Many SNDA agreements have a clause that states that the insurance proceeds can be used to pay down the mortgage instead of utilizing the money to rebuild a tenant’s building. Where that is the case, a tenant will often be unable to continue its business operations in a damaged building. If the insurance proceeds are applied to fix the damaged collateral, the lender still has its asset as collateral.

4. Condemnation awards. In the event the tenant may have installed costly improvements, the tenant will have most likely added provisions in the lease permitting it to enjoy the improvements for the useful life of the items constructed. The lender’s SNDA can undo all that you have sought to safeguard if it requires that the mortgage governs the disposition of condemnation awards. The lender could then decide to apply the proceeds to pay down the landlord’s mortgage and not utilize the funds to rebuild your store. You will be at the mercy of the lender as to how award will be distributed.

5. Acts or omissions of any prior landlord. Lenders will rarely agree to pay money damages to the tenants. That is why lenders add provisions in their SNDA agreements stating that they are not liable for any acts or omissions of the prior landlords (pre-foreclosure sale). Despite this reluctance, it is reasonable for a tenant to insist the lender remedy any breaches or defaults that exist after the date they obtain possession of the premises, where the lease would require any other landlord to do so. The lender should be aware of such conditions prior to the date it succeeds to the landlord’s interest in the premises. If the lender wants to receive the rents and other ownership benefits, it should also agree to the responsibilities that come with ownership.

6. Offsets and counterclaims. You will likely not be successful as a tenant if you ask your successor landlord to take anything out of its pocket to remedy a default. That is why lenders add provisions to their SNDA agreements stating that they are not liable for any offsets and counterclaims of the prior landlords. In determining whether something should be a valid offset item, a tenant could consider whether the successor landlord should be obligated to remedy the matter if you, as tenant, did not previously take care of the issue. If the answer is yes, then it should likely be a valid offset item.

7. Amendment, modification or cancellation of the Lease. Lenders often provide that they must give written consent to any amendment, modification or cancellation of your existing lease. If a landlord permits a reduction of a tenant’s material obligations under the lease it would be reasonable for a lender to insist that its consent is needed as a pre-condition to the effectiveness of the change. Tenants should question a lender’s desire, however, to get involved in insignificant or nonmaterial changes in a lease’s day-to-day operational obligations. A tenant should ask that the lender give up the need for its such consent if the proposed change to the subject lease is insignificant or not material.

Lenders should be mindful that tenants play a key role in the lending relationship. Without the tenant’s involvement in a commercial lease, the economics of the loan would not make sense. Without the tenant, the landlord would be holding space that is not providing income to satisfy its loan. The tenant’s concerns are important, since it brings value to the property and that value is the lender’s real security for the loan.

About the Authors: The law firm of Albright, Stoddard, Warnick & Albright is an A-V Rated Nevada-based full-service law firm having attorneys licensed in Nevada, California and Utah. Our law practice includes a strong emphasis on all areas of construction law.

Note: This article, and any other information you obtain at this website, is not offered as legal advice, nor should it be relied upon as such, nor is it a solicitation for legal services. Only a licensed attorney can advise you with respect to your specific legal needs. We welcome your contacting our firm to discuss such representation. Contacting us does not create an attorney-client relationship. Please do not send any confidential information to us until such time as an attorney-client relationship has been established.

About the Authors: The law firm of Albright, Stoddard, Warnick & Albright is an A-V Rated Nevada-based full-service law firm having attorneys licensed in Nevada, California and Utah. Our firm’s practice includes a strong emphasis on personal injury accidents. Call us at 702-384-7111.

Note: This article, and any other information you obtain at this website, is not offered as legal advice, nor should it be relied upon as such, nor is it a solicitation for legal services. Only a licensed attorney can advise you with respect to your specific legal needs. We welcome your contacting our firm to discuss such representation. Contacting us does not create an attorney-client relationship. Please do not send any confidential information to us until such time as an attorney-client relationship has been established.