Is a landlord’s ability to recover repair costs chargeable to the lessee limited because such repair costs are included in “damages resulting from the termination of a lease of real property” pursuant to section 502(b)(6) of the Bankruptcy Code? In In re Foamex International, Inc., 2007 WL 1461954 (Bankr. D. Del. May 16, 2007), the bankruptcy judge said “Yes.”
Debtor-lessee’s have the ability to reject leases of real property under section 365 of the Bankruptcy Code. Section 502(b)(6) limits the damage claim (“Rejection Damage Claim”) of a lessor when a lease for real property has been rejected (the “Cap”). The Rejection Damage Claim, an unsecured claim, clearly includes the lessee’s past due rent that arose prior to the time the bankruptcy petition was filed and a damage element arising from the rejection; post-petition obligations incurred prior to the rejection of the lease would be separately treated as an administrative claim.
The Cap limits the Rejection Damage Claim to: “(A) the rent reserved by such lease, without acceleration, for the greater of one year, or 15 percent, not to exceed three years, of the remaining term of such lease, following the earlier of— (i) the date of the filing of the petition; and (ii) the date on which such lessor repossessed or the lease surrendered, the leased property; plus (B) any unpaid rent due under such lease, without acceleration, on the earlier of such dates.” 11 U.S.C. § 502(b)(6) (emphasis added).
In Foamex, shortly after the chapter 11 petition was filed, the court granted the debtor-lessee’s motion to reject a lease of commercial property. The rejection was deemed to be effective one month prior to the actual expiration of the term under the lease. The lease provided that the lessor and lessee each were responsible for certain repairs. After rejection, the lessor filed a proof of claim in the amount of $793,872.51, comprised of $769,400 for repairs and the balance for past due rent and real estate taxes.
The debtor-lessee objected to the claim, asserting that it exceeded the Cap authorized under section 502(b)(6). The lessor argued that the repairs were not included in the Cap because the repairs did not qualify as “rent.”
The court noted “there is persuasive case law supporting both positions.”
The court also acknowledged that the “parties are not disputing whether or not the repair and maintenance requirements under the Lease constitute rent. Clearly, were they ‘rent’ the obligations would be included as ‘rent reserved’ within the scope of the Section 502(b)(6) cap. …Having determined that Debtors’ repair obligations are not rent, the Court must still consider the effect of the lease rejection on the obligations.”
The lessor argued that the repair costs stemmed from breaches of certain covenants of the lease that arose prior to termination and were not future, speculative damages, which Congress sought to limit in establishing the Cap.
After a review of the split of authority, the court concluded that “lessors are entitled to one claim and that claim is limited by Section 502(b)(6). Furthermore, that single, capped claim governs ‘all time intervals,’ meaning prepetition and postpetition breaches of the lease and any resulting damages. (citations omitted).”
Hence, the court decided that the damages from the failure by the debtor-lessee to make the repairs under the lease were limited by the Cap, even though the repair costs were not “rent.”
Under the recent amendments to the Bankruptcy Code, if a debtor-lessee rejects a previously assumed lease of nonresidential real property, the administrative claim is limited to “a sum equal to all monetary obligations due, excluding those arising from or relating to a failure to operate or a penalty provision, for the period of 2 years following the later of the rejection date or the date of actual turnover of the premises, …and the claim for remaining sums due for the balance of the term of the lease shall be a claim under section 502(b)(6).” 11 U.S.C. § 503(b)(7) (emphasis added).
This section does not use the term “rent” to define the claim, and instead uses “all monetary obligations.” Accordingly, lessors may have a strong argument that the result in Foamex cannot be supported because had Congress intended to extend the Cap to more than “rent” it would have used “all monetary obligations.”