Among the Bankruptcy Act’s most powerful double whammy, Section 365(a) allows a debtor to refuse onerous unexpired leases, and Section 502(b)(6) limits the landlord’s resulting claim for refusal damages to “the reserved rent…at the greater of one.” year or 15 percent, but no more than three years” of the remaining lease term. In the Southern District of New York, that weapon just got a little stronger when Bankruptcy Judge Michael E. Wiles deviated from previous precedent to support the “time” approach to calculating the Section 502(b)(6) rent cap. See, with respect to Cortlandt Liquidating LLC, Case No. 20-12097 (February 2, 2022).
In the Cortlandt Liquidating case, the plan administrator advocated the “time” approach, which looks at the first 15 percent of the remaining lease term, thereby depriving landlords of the benefit of scheduled rent increases. Consistent with previous precedent in the district, the landlord advocated the “rent” approach, which totals all rents due over the remaining lease term and multiplies the total by 15 percent, allowing the landlord to receive at least some benefit over future rent increases.
The district last addressed the issue in a reported decision more than a decade ago, at the time the “rent” approach was the dominant theory statewide. Nevertheless, one finds that “the weight of the competent authorities in other districts has shifted very strongly in favor of the time approach” and that “[t]The entire sentence is phrased in terms of periods of time,” Judge Wiles found persuaded to follow the “time” approach rather than the “rent” approach.
Focusing on plain language and a “natural reading” of the law, Judge Wiles found that “15 percent” changes the remaining lease term, not the reserved rent. While acknowledging that landlords would necessarily find his interpretation unfair, Judge Wiles dismissed the notion that fairness was relevant to his decision between the competing approaches, arguing that the “time” approach was consistent with legislative purpose of Congress behind Section 502(b)(6)), that is, to limit the claims of landlords relative to the claims of other creditors. Judge Wiles was further persuaded by the fact that in 2015, the leading bankruptcy law treatise, Collier’s, ditched the “rent” approach in favor of the “time” approach, and “better reasoned” decisions from Alaska to Delaware followed thereafter.
For commercial landlords doing business in the Southern District of New York, Judge Wiles’ departure from the “rent” approach and adoption of the “time” approach represents a disappointing but unsurprising pendulum swing. With rent caps looming, As the commercial real estate market navigates post-pandemic changes, Cortlandt Liquidating will provide key guidance for calculating landlord lease denial claims and for reviewing debtors and trustees and possible objections to them.
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