The COVID-19 pandemic shutdowns have impacted small businesses differently. Many businesses that were unable to maintain normal operations are now under significant economic pressures, ranging from paying rent to filing for bankruptcy protection.
Between March and July, 2020, business owners had been protected from eviction for non-payment of rent, and charges for late fees and penalties. Now that the commercial eviction moratorium has expired, business owners delinquent in their rent must be prepared to address the situation head-on and actively engage with their landlords to reach workable resolutions.
NEVADA’S EMERGENCY DIRECTIVES
Nevada’s emergency directives strongly encouraged business owners and landlords to enter into voluntary repayment agreements to allow businesses to cure defaults in rent payments related to the COVID-19 pandemic. Cooperation could resolve those defaults, maintain or revive performing tenancies and reduce inevitable congestion in the court system. Business owners should recognize their interests align with those of their landlords more than they think. While businesses have been adversely impacted by the shutdowns, landlords face challenges created by the non-collection of rent, a lack of viable replacement tenants and a significantly weakened leasing market. Property taxes and common area maintenance and utility expenses also remain due and payable regardless of whether the rentable space is occupied, likely incentivizing landlords to work with tenants, rather than incurring the time, expense and uncertainty evicting and re-marketing the space.
FINDING WORKABLE SOLUTIONS FOR LANDLORDS AND BUSINESS OWNERS
Understanding the difficulties facing both sides to a lease and acknowledging the unprecedented circumstances of the shutdowns allows the parties the opportunity to craft perhaps not ideal, but workable solutions. To that end, they should be willing to explore all options. For example:
• Application of a portion of current rent payments to an arrearage balance accompanied by an extended lease term.
• Forbearance of collection of default balances for a stated period followed by “ramp up” payments as economic conditions improve.
• Providing increased security to the landlord in the form of new physical collateral or an additional guarantor.
WHEN NEGOTIATIONS AREN’T POSSIBLE — BEST NEXT STEPS
A successful negotiation is not always possible. If a business owner is in default for non-payment of rent, the landlord is within its rights to serve a Notice to Pay Rent or Quit to commence the summary eviction process.
• If served with an eviction notice, and the business owner has decided to close and/or vacate the premises, arrangements should be made with the landlord to voluntarily vacate and turn over possession. Doing so reduces the expense to the landlord of going all the way through the eviction process and in turn could reduce the amount of damages the landlord may ultimately seek as a result of the default.
• Second, the business owner should check that the amount of delinquent rent alleged in the eviction notice is accurate. If that sum is significantly greater than what the business’ records reflect, the business owner should file a statutory affidavit in opposition to the eviction notice to obtain a hearing in front of a judge. At the hearing, the judge will determine the correct sum(s) due, which could affect the amount of damages the landlord may seek later. Additionally, filing an opposing affidavit pauses the eviction process until the hearing occurs. This pause could create an opportunity to negotiate, as various jurisdictions in Nevada are making efforts to construct eviction mediation frameworks for both commercial and residential tenancies.
• Finally, an important concern for many business owners is the personal guarantee. Even if the business is shut down, the tenancy terminated, and/or the business entity dissolved, the principal may be liable for any lease obligations under a personal guarantee, exposing the owner’s personal assets. This reinforces the importance of negotiating a resolution with the landlord and illustrates when seeking bankruptcy protection may be advisable.
THE SMALL BUSINESS REORGANIZATION ACT
If bankruptcy is the only option, Congress gave small businesses an assist last year when it passed the Small Business Reorganization Act (“SBRA”). The SBRA creates a new subchapter of Chapter 11 of the Bankruptcy Code that gives small businesses and individual debtors a less expensive route to reorganization, avoiding what might have otherwise been a sure liquidation. To be eligible, at least half the debt of the debtor must arise from commercial or business activity, and the debtor’s principal activity cannot be a single asset real estate operation. The SBRA was further expanded under the CARES Act, which nearly tripled the maximum debt threshold to $7.5 million (until March of 2021). The debtor also may not have to include any EIDL or PPP funds received in the bankruptcy.
If a debtor qualifies under the SBRA, there are several important new benefits it gains over a traditional Chapter 11 bankruptcy:
• Only the debtor can submit a reorganization plan, as opposed to creditors filing competing plans.
• The debtor is not required to submit a disclosure statement, which traditionally provides creditors with information regarding the debtor’s financial affairs.
• Creditors’ committees are not required, unless ordered by the court for cause, saving the debtor from paying those costs.
• The court can confirm the reorganization plan without support from impaired creditors.
• Equity holders can retain their ownership interest without having to make a substantial contribution to creditors (avoiding the New Value Rule).
• The debtor may delay payment of administrative expense claims over the term of the plan.
In conjunction with the increased debt limit and forgivability of EIDL and PPP loans, these new benefits can swing the balance for a debtor and allow an efficient restructuring where a liquidation was previously the only option. When contemplating bankruptcy and restructuring, businesses should consider the beneficial options created by the SBRA and the CARES Act.
Business owners in crisis in the wake of the COVID-19 shutdowns must act to secure some measure of relief. Depending on the specific circumstances, open negotiations with the landlord and creative thinking offer potential solutions, while the recent SBRA and its expansion under the CARES Act presents an accessible path towards reorganization in bankruptcy.
Nathan Owens is the managing partner of the Newmeyer Dillion Las Vegas office and Aaron Lovaas is a partner. The law firm is headquartered in Newport Beach, California.