The casualty provision in a commercial lease is often overlooked during lease negotiations, but recent natural disasters like the Los Angeles fires and Hurricane Helene underscore the importance of carefully negotiating these provisions.

One of the biggest issues to consider is the right to terminate the lease following a casualty.  Most lease forms provide the landlord with broad rights to terminate the lease while limiting the tenant’s right to terminate under similar circumstances.  Some leases do not even allow a tenant to terminate due to casualty under any circumstance.

Termination rights are typically tied to either the amount of damage caused or the amount of time it will take to rebuild.  For example, a typical lease will afford the landlord the right to terminate the lease if the casualty causes damage to more than 25% or 50% of the premises or the center or if the casualty will take more than 180 days or 365 days to repair.  Landlords also often include a right to terminate if the landlord does not have sufficient insurance proceeds to repair the damage or if the casualty occurs in the last one or two years of the lease term regardless of the extent of the damage or the amount of time it will take to repair it.  A good rule of thumb is for the tenant to try to obtain reciprocal rights to terminate, although in several cases, the provisions will require more nuance.  In some circumstances, the tenant will not want to give the landlord any right to terminate following a casualty and instead will want to insist that the landlord rebuild.  This is usually reserved for relatively large tenants with significant leverage that plan to spend millions of dollars to build out their premises.  In these instances, the tenant does not want to lose a lease following a substantial investment after what could potentially be a few months or years into a long-term lease.

In some jurisdictions, if a lease is silent on casualty termination rights, then a tenant may have the right to terminate the lease under law.  For example, in California, Sections 1932 and 1933 of the California Civil Code provide the tenant with a right to terminate if the premises are destroyed by a casualty; however, landlords have the right to require their tenants to waive these statutory protections in their leases and most landlords include such waivers.

Another important issue to address is what happens to the rent following a casualty.  Many leases provide that the rent will continue even if the tenant is unable to use the premises.  Some landlords argue that the tenants should obtain business interruption insurance to cover this risk; however, it is not unusual for landlords to back off this position and agree to provide their tenants with either full rent abatement or at least base rent abatement (e.g., excluding triple net charges such as real estate taxes which the tenant would continue to pay).  In these cases, the landlords will look to recover their rental loss from their own insurance policies.  If rent is abated, tenants sometimes push for that abatement to continue for a period of time after the landlord completes its repair work so that the tenant can have additional time to perform the necessary re-construction of its own improvements.

There are multiple other areas to consider when negotiating casualty provisions such as the definition of a casualty.  Is it just damage to the premises?  What if the premises remain fully intact but other critical portions of a center are damaged such as the parking area or important access points?  Should a tenant have the right to terminate in those circumstances?  Most leases say no.  What if the premises and the space next door are both destroyed but the landlord chooses to only terminate your lease while rebuilding the other?  This can happen in a variety of circumstances including a situation where the landlord signed a bad lease with you but a good lease with your neighbor and wants to get out of your lease but not the other.  Tenants will often want to require the landlord to only terminate their lease if the landlord also terminates all other similarly damaged premises to avoid this type of gamesmanship.

While a landlord may focus on limiting its restoration obligations and minimizing loss of rental stream, and a tenant may focus on maximizing flexibility and getting equitable remedies, both parties will benefit from a well-crafted casualty clause that clearly allocates risks and responsibilities in the face of unexpected casualties.