(US) The Case That Could Disrupt a Century of Settled Law: PA Supreme Court to Hear Appeal of Shedden v Anadarko

This post and related article was written by Steven Chadwick, Michael Joy and Robert Jochen

In an article that appears in The Legal Intelligencer, the authors discuss the significant impact that will result from a successful PA Supreme Court appeal of the lower court decisions surrounding Shedden v. Anadarko E & P Co., L.P., 88 A.3d 228 (Pa. Super. Ct. 2014).

The Court's decision will have far-reaching implications for the constantly evolving relationship between landowners and oil/gas producers in the Commonwealth. The legal issues before the Supreme Court include the enforceability and effect of Mother Hubbard Clauses and the doctrine of estoppel by deed. This appeal has the potential to not only change more than 100 years of settled law, but to disrupt the long-standing paradigm of using Mother Hubbard Clauses in oil and gas leases to address the very issues now before the Supreme Court.

The full text of the article can be found here.

(US) Public Private Partnerships Can Work: Pittsburgh Penguins and Community Agree on Development Plans

The Pittsburgh Penguins have finalized a groundbreaking agreement with local community groups after years of negotiations involving the development of the 28 acre site where the former Civic Arena once stood. The agreement provides for, among other things, the inclusion of minority participation in the development of the 28 acres and a percentage of affordable housing.

The announcement, made by City and County officials earlier this week, was a turning point in what has been a long process of negotiations between competing interest groups and stakeholders in the Hill District. In articles published in the Pittsburgh Post-Gazette and Pittsburgh Business Times, the team and local political leaders announced a wide ranging set of terms addressing the minority participation details and the percentage of affordable housing.

The full text of the Post-Gazette article can be found here.

The full text of the Pittsburgh Business Times article can be found here.

(US) California Green Building Boom Adds Many Shades Of Legal Work

In an article appearing on law360.com, Simon Adams of Reed Smith's Real Estate Practice Group was interviewed on the impact of changes to California green building laws and mandates. In particular, his comments focused on new real estate investors and developers:

"Certainly, in terms of counseling anybody particularly coming in from outside of the state, we’re quick to advise as to the changes they may see that would be different from their state,” said Simon T. Adams of Reed Smith's San Francisco office. “Or if they’re coming in from outside the U.S., we advise as to how to address these issues.”

The full article, including additional comments from Simon, can be found here.

(US) Subrogation Waivers: They Can Protect Both The Landlord and Tenant

Subrogation is the principle under which an insurer that has paid a loss under an insurance policy is entitled to all of the rights and remedies belonging to the insured against a third party with respect to any loss covered by the policy. In simple terms, subrogation means substitution of one person for another. Subrogation permits a landlord’s insurer, in the event of a casualty negligently caused by one of its tenants, to “step into the shoes of landlord” and make a claim against such tenant. Because such a claim could mean millions of dollars to a client, counsel should pay careful attention to matters of subrogation in lease negotiations.

How subrogation works is best explained with an example:

A tenant leases office space from a landlord in a multi-tenant office building. The landlord is responsible for maintaining insurance covering damage to the office building and common areas, while the tenant is responsible for maintaining insurance covering tenant’s personal property and any improvements within the leased premises. The lease agreement between landlord and tenant does not include a waiver of subrogation provision. As a result of tenant’s negligence, a fire causes $1.5 million in damage to the building. Landlord files a claim with its insurer and landlord’s insurer pays landlord $1.5 million. Under landlord’s policy, the insurer is subrogated to landlord’s claim against the tenant (meaning that once the insurer pays landlord, landlord’s claims against tenant are assigned to its insurer). The insurer then sues tenant for the $1.5 million loss.

Without mutual waiver of subrogation the landlord’s insurer could obtain a judgment against landlord’s negligent tenant, which may make it difficult or impossible for tenant to make its rental payments. Such a result would have a direct impact on landlord’s income stream.

By including a waiver of subrogation provision in the lease, however, landlord and tenant waive the right of their respective insurers to make a claim against the negligent party who caused the casualty. Mutual waiver of subrogation can be desirable to both tenant and landlord because it places the risk on the insurer. Because the insurer has been paid (in the form of premiums) to assume the risk of a casualty, insurers frequently agree to waive subrogation. Waiver of subrogation also can prevent costly litigation for all parties.

If the parties negotiate a mutual waiver, here are some practice tips to keep in mind:

  • If subrogation is waived, each party will look to its own insurance to cover the damage, so it is critical that landlord and tenant have their respective insurance advisors confirm whether the applicable insurance policy’s coverage amounts are adequate. Counsel should check that the correct additional insured parties are named.
  • Simply including waiver language in a lease agreement is not always sufficient. Tenant and landlord should each review a copy of each other’s insurance policies to see if they allow waivers of subrogation.
  • Counsel should consider how the remaining sections of the lease fit together with the waiver of subrogation provision, particularly the indemnification section. Counsel should revise such section to make clear that the obligations are subject to the waiver of subrogation provision.
  • Some lease provisions are conditioned on obtaining a waiver of subrogation from the insurer of each party. It is good practice for counsel to advise its client of the need for follow up to obtain the waiver from the insurer and to confirm that the other lease party has done the same.

(US) Estoppel by Deed Follow-Up: PA Supreme Court To Consider Appeal of Superior Court Decision

this is a follow-up to an earlier blog post on this issue from March, 2014

On Thursday, August 14, 2014, the Supreme Court of Pennsylvania advised that it would consider the appeal from the Superior Court determination dated March 14, 2014 in the matter of Sheddon v. Anadarko E&P Co. LP. We will continue to update this blog as new information regarding the Supreme Court’s review becomes available.

(US) Pop-up Shops: Here Today, Gone Tomorrow

This entry was written by Lesley Vars and Leah Speckhard

Recent years have seen the increase in popularity of pop-up shops as solutions for landlords in need of cash flow. Retailers like pop-ups as a chance to test the waters before signing a long-term lease or to sell seasonal merchandise. Pop-up shops began to take hold during the 2008 recession, when retail vacancies were high and landlords became more open to alternative leasing structures. For the small business owner, pop-up shops provide an opportunity to see how their goods fare and how much foot traffic there is around their store. For established larger retailers, pop-up shops provide a unique or seasonal marketing boost as demonstrated by Patagonia, Kate Spade and Toys R Us, among many others. For the landlord, a pop-up shop can serve as a quick fix until a longer-term tenant can be secured.
The short-term nature of pop-up shops does not necessarily mean that they are low risk with respect to legal issues from the landlord or tenant perspective. Below are some of the items that landlords and tenants should consider when negotiating a pop-up arrangement:

Lease or License:
Landlords and tenants must consider which type of agreement is best for the space. Whether the parties agree to a license or a lease is largely dependent on the length of the proposed tenancy and the prospect that the arrangement may become long-term. Landlords and tenants should be aware of the fundamental difference between a lease and a license. A lease conveys exclusive possession of a space in exchange for rent from the tenant. A license makes permissible a tenant’s (licensee’s) acts in the space that would not otherwise be permitted was the license not granted. Furthermore, licenses are typically revocable by the landlord (licensor) allowing a landlord to use self-help to remove a defaulting tenant. Landlords should, however, be aware of the fact that even if a license is used instead of a lease and the tenant fails to timely vacate the space, the tenant may allege a landlord-tenant relationship and a right to possession which may result in litigation.
Given the short term nature of pop-up arrangements, Landlords will want to make sure the space is preserved in good condition by the tenant. The amount and type of changes that can be made to the space should be limited so that the space remains as vanilla as possible and attractive to both potential long term tenants and other pop-up tenants without the landlord having to spend significant amounts of money. In contrast, a retail tenant may want the right to make necessary alterations to make the space suitable for their short term needs, and may want to minimize the need for landlord approvals because of the limited time frame of occupancy.
Landlords should make sure that adequate insurance is in place, exactly like it would be in a long term lease. This usually includes public liability, product liability, employer liability, and accidental damage liability, but depending on the space and situation, different types of insurance may be required. Retailers in particular may want to consider business interruption and loss of profits insurance.
Landlords must insure that they are adequately protected and compensated should a tenant fail to vacate the space upon expiration of the agreement. Even if a license agreement includes standard provisions such as:

  • (i) the right of the landlord/licensor to revoke the license “at will”,
  • (ii) landlord’s obligation to supply all the services to the space for the tenant to carry on its business and
  • (iii) landlord’s complete control over the space,

given that that the agreement gives exclusive use to the tenant/licensee for a defined period of time and for a defined space, a court may find that the pop-up arrangement is in fact a lease. This gives rise to a landlord-tenant relationship and therefore removing a tenant may not be all that simple. At the same time, tenants, especially small business retailers, will want to negotiate minimal penalties for failure to timely vacate whether using a license or lease structure. 
Utilities and Maintenance:
As in a long term lease arrangement, the documentation must address which party is responsible for providing and paying for utilities and maintenance of the premises. From the tenant’s perspective, the tenant will want the landlord to deliver the space with HVAC and all systems properly functioning from day one. The tenant will also want the landlord to be responsible for all costs and expenses of continual maintenance of these systems. In contrast, the Landlord may want to minimize the amount that landlord is investing in the space given that the tenant is short term. The landlord may insist on delivering the space “as is” and refuse to take on significant on-going maintenance responsibilities.

The list above should serve as a starting point for issues to consider in the context of a pop-up arrangement and is by no means exhaustive. Although pop-up arrangements are short term, the risks may be just as substantial as those found in a long term leasing arrangement.

(US) PA Oil & Gas Lease Act: There's more to Section 34.1 and the Rule of Apportionment

This entry was written by Michael Joy, Robert Jochen and Steven Chadwick

Article 34.1 of the Pennsylvania Oil and Gas Lease Act was enacted July 9, 2013, and has received heavy scrutiny since its enactment based on the misperception that it permits unfettered, "forced pooling" by oil and gas developers.

In an article written by Michael Joy, Robert Jochen and Steven Chadwick in the July 29th, 2014 edition of The Legal lntelligencer,  the authors address this misconception and consider the second part of the statute that has received little public attention, that of apportionment.

The full text of the article can be found online at www.thelegalintelligencer.com


(US) EB-5 Visas: When Real Estate and Immigration Law Collide

Part 5 of a series on creative Real Estate financing.
A developer financing method returns - IRS provides clarity on the use of historical rehabilitation tax credits 
Using Crowdfunding to finance real estate projects
Using New Market Tax Credits to finance projects
Let the Purchaser do the Financing

 E5-B visas are another growing source of liquidity in the real estate and construction world.

The Immigrant Investor Program, commonly known as the EB-5 Program, is a federal immigration program run by the U.S. Citizenship and Immigration Services that gives foreign nationals a tempting proposition: invest at least $500,000 in a U.S. business in an economically depressed area and obtain an EB-5 visa for themselves and their families. At the end of a two-year period, if the investment creates 10 new full-time jobs, the investor and accompanying relatives obtain permanent residency in the U.S. The Program applies to projects in non-economically depressed areas as well, but the minimum required investment is increased to $1,000,000.

Originally launched in 1990 to little fanfare, the EB-5 Program has boomed in the past seven years, in part due to Chinese nationals looking to invest in the U.S. real estate market and avoid the regular green card lottery. It’s quite possible another surge in applicants is on its way, this time from Russia.

The Program is proving to be very popular with hotels and franchise owners looking for new franchisees. The Wall Street Journal reports that Marriott International Inc., Sony Pictures Entertainment, and the developers of the Barclays Center, home of the Brooklyn Nets, are some of the larger companies that have funded projects using EB-5 visas.
Investors typically see a low rate of return on their investment - around 1 to 3% - which can be very attractive to developers looking to borrow at low cost. EB-5 Program funds also are considered more flexible because they usually do not carry as many restrictions as loans from a traditional lender. The dependence on USCIS approval, however, can create timing issues in the development process. Additionally, there have been some concerns of fraud and the SEC has recently been involved in multiple investigations.

The Program’s growth will likely continue as long as the lending market remains tight and any substantial immigration reform remains tabled in Washington.


(US) The Keys that Unlock Trapped Commercial Real Estate Value

In an exclusive two-part interview with commercial real estate website GlobeSt.com, Joseph Marger of Reed Smith's New York office offers his views on sale-leasebacks and the opportunities they represent to free substantial real estate value for companies.

Part One of the Interview is concerned with the state of the sale-leaseback market.

Part Two addresses when sale-leasebacks work best and the challenge of completing these deals.

(US) Act 13 in the news: Commonwealth Court of Pennsylvania Holds Additional Act 13 Provision Unconstitutional

This post was written by Steven Chadwick and Sean Delaney.

On Thursday, July 17, 2014, in the matter of Robinson Township, et. al. v. Commonwealth of Pennsylvania, the Commonwealth Court of Pennsylvania issued the latest decision in the state judicial system’s ongoing review of amendments to Pennsylvania’s Oil and Gas Act (“Act 13”).

Under a prior decision issued on July 26, 2012, the Commonwealth Court held as unconstitutional those portions of Act 13 requiring the implementation of uniform zoning ordinances applicable to oil and gas development by municipalities throughout Pennsylvania. Following an appeal by the Governor, the Supreme Court, by decision dated December 19, 2013, ultimately agreed with the Commonwealth Court, although for different reasons, remanded the matter back to the Commonwealth to determine whether certain previously undisturbed provisions of Act 13 were severable from the stricken section.

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(UK) Landlord's Liability to Pay Rates Following Disclaimer

This post was written by Katherine Campbell and Siobhan Hayes.

We have just had a reminder that a landlord’s obligation to pay rates can arise when it has the legal right to take possession even though it is careful not to do so. The case in question is Schroder Exempt Property Unit Trust v Birmingham City Council.

In this case, the liquidator disclaimed the interest in the property but the guarantor continued to pay rent pursuant to the guarantee covenants in the lease. The landlord did not exercise any right to physical possession of the property following the disclaimer. The question was whether the landlord was the owner (within the meaning of sections 45(1)(b) and 65(1) of the Local Government Finance Act 1988) and thus liable for rates.

The landlord argued that a disclaimer has the effect of ending the liabilities of a tenant, but not ending the lease for all purposes. They maintained that the lease continued for certain purposes.

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(US) Oil and Gas Development on Public Lands Clears the PA State Legislature

On Tuesday, July 8, 2014, the Pennsylvania State Senate passed the Commonwealth’s fiscal code by a margin of 26 to 22. Included within the fiscal code, as a companion piece to the legislation, were provisions critical to the Commonwealth’s commitment to future natural gas development on state lands. Specifically, the fiscal code included measures which: 1) allow drilling for natural gas on state land; and 2) separate regulations applicable to conventional oil and gas drilling from unconventional drilling. The measure was passed by the Pennsylvania State House last week and is now awaiting the signature of Governor Tom Corbett.

Prior bills seeking to differentiate regulations imposed upon conventional and unconventional drilling failed to survive review by the State Legislature. Consequently, the inclusion and passage of both measures in conjunction with the fiscal code have drawn the ire of Governor Corbett’s political opposition as lacking transparency and circumventing the legislative processes of debate and discourse. Moreover, prior to passage of the fiscal code by the State Senate, concerns were raised by opponents of the measure (which was comprised of more than 31 separate provisions, some of which were unrelated) that the bill violated the single-subject provision of the Pennsylvania Constitution. However, despite that argument, the fiscal code, and the pro-Oil and Gas Industry provisions included therewith, passed.

It is anticipated that Governor Corbett will sign the measures into effect, as doing so will enable him to fulfill his recent promise to lift former Governor Ed Rendell’s moratorium on additional leases of public land. The result will certainly be a mutually beneficial result for oil and gas operators and the Commonwealth as it will renew oil and gas operators the potential ability to develop previously inaccessible public lands, while raising an estimated $95 million for the state budget.

(US) Pennsylvania Legislature Clarifies Open-End Mortgage Exception to Priority of Mechanics' Liens

On July 9, 2014, Governor Corbett signed Act 117 of 2014, amending Pennsylvania’s Mechanics’ Lien Law of 1963 (Act of August 24, 1963, P.L. 1175, No. 497, 49 P.S. §1101, et seq.). One of the principal purposes of the amendments appears to be the overruling of the Pennsylvania Superior Court’s decision in Commerce Bank/Harrisburg, N.A. v. Kessler. In Commerce Bank, the Court determined that under the 2006 amendments to the mechanics’ lien law (effective January 1, 2007), the exception in the mechanics’ lien law giving priority to open-end mortgages would not give an open-end mortgage priority over a mechanics’ lien unless all of the proceeds secured by the mortgage had been used to pay the costs of “completing erection, construction, alteration or repair of the mortgaged premises.

The Court stated that “any other interpretation of the statute would permit lenders and owners to improperly manipulate the system to defeat lien rights.” The Court’s interpretation, however, was contrary to the longstanding practice of having open-end mortgages secure a variety of project costs in addition to direct costs of construction, including in some cases, the cost of acquisition of the underlying property. The Commerce Bank interpretation of the 2006 amendments to the mechanics’ lien law created a great deal of consternation in the Pennsylvania construction lending market.

The new amendments provide priority to an open-end mortgage over mechanics’ liens if at least 60% of the proceeds of the mortgage “are intended to pay or are used to pay all or part of the costs of construction.” A definition of “costs of construction” has been added to section 201 of the mechanics’ lien law (49 P.S. §1201), as follows:

“Costs of construction” means all costs, expenses and reimbursements pertaining to erection, construction, alteration, repair, mandated off-site improvements, government impact fees and other construction-related costs, including, but not limited to, costs, expenses and reimbursements in the nature of taxes, insurance, bonding, inspections, surveys, testing, permits, legal fees, architect fees, engineering fees, consulting fees, accounting fees, management fees, utility fees, tenant improvements, leasing commissions, payment of prior filed or recorded liens or mortgages, including mechanics liens, municipal claims, mortgage origination fees and commissions, finance costs, closing fees, recording fees, title insurance or escrow fees, or any similar or comparable costs, expenses or reimbursements related to an improvement, made or intended to be made, to the property.

Therefore, open-end mortgages have regained their “super-priority” over mechanics’ liens, as long as at least 60% of the proceeds of the open-end mortgage are used to pay or intended to pay all or part of the costs of construction. These amendments restore a great deal of the simplicity which construction loans enjoyed in Pennsylvania prior to the 2006 amendments to the mechanics’ lien law.

The new amendments also allow a party who has paid a contractor to obtain a discharge of liens filed by subcontractors on certain types of residential property to the extent of the payment to the contractor.

The amendments will be effective September 7, 2014, and apply to mechanics’ liens perfected on or after that date, even if the work for which the lien is filed was performed prior to the effective date.

(US) Construction Allowance in Commercial Leases: Do You Want Income Taxes With That?

Negotiation of the construction allowance is an important part of most commercial lease transactions and usually centers around the size of the allowance and the type of improvements to be constructed. However, the tax consequences flowing from the construction allowance are frequently subject to far less negotiation. If the tenant owns the improvements after construction, the value of the construction allowance will be considered as current taxable income to the tenant and taxable in the year in which it is received.
There is, however, a safe harbor for commercial tenants who received a “qualified lessee construction allowance” under the Taxpayer Relief Act of 1997 (the “Act”) and the Treasury Regulation promulgated under Section 110 of the Act (Treas. Reg § 1.110.1) (the “Regulation”). Section 110 of the Act provides that a retail tenant with a “short-term lease” for “retail space” that receives cash or rent reductions from a landlord is not required to include the cash or credit in gross income if the funds are used to construct improvements of “qualified long-term real property.”

  • A “qualified lessee construction allowance” is defined as any amount received in cash, or treated as a rent reduction, by landlord or tenant (i) under any short-term lease of retail space; (ii) for the purpose of constructing or improving qualified long-term real property for use in tenant’s trade or business; (iii) to the extent that the amount is expended by the tenant “in the taxable year received.”
  • A “short-term lease” is defined as a lease with a term of 15 years or less including option periods (unless renewable at fair market value).
  • “Retail space” is defined as real property leased, occupied or otherwise used by a tenant for the sale of tangible personal property or services to the general public, and includes not only the space where the retail sales are made, but also space where activities supporting the retail activity are performed (such as an administrative office, a storage area, and employee lounge). This broad definition of retail space extends to office and warehouse leases of retail tenants. In addition, the Regulation provides examples of “services [sold] to the general public” such as hair stylists, tailors, shoe repairmen, doctors, lawyers, accountants, insurance agents, stock brokers, securities dealers (including dealers who sell securities out of inventory), financial advisors and bankers, and goes on to state that a taxpayer will be considered as selling to the general public if the products or services for sale are made available to the general public, even if the product or service is targeted to certain customers or clients.
  •  “Qualified long-term real property” is defined as nonresidential property that is part of, or present at, the retail space and reverts to the landlord when the lease terminates.

The construction allowance will qualify for the safe harbor only if the lease agreement provides that the allowance is for the purpose of constructing or improving qualified long-term real property for use in the tenant's trade or business at the retail space. However, an ancillary agreement between landlord and tenant providing for a construction allowance, executed contemporaneously with the lease or during the term of the lease, is considered a provision of the lease agreement so long as the agreement is executed before payment of the construction allowance.

Expenditures will be deemed first made from the tenant’s construction allowance and tracing of expenditures to the allowance is not required. An amount is deemed expended by the tenant “in the taxable year” in which it was received only if the amount is spent within 8 ½ months after the close of the taxable year, or if the amount received represents a reimbursement from the landlord for amounts spent by the tenant in previous years for which the tenant has not claimed any deductions.

Because most retail leases are for terms of less than 15 years and allowances rarely exceed construction costs, Section 110 provides a safe harbor for most retail tenants receiving construction allowances. However, Section 110 is not a cure-all. It applies only to realty improvements, and allowances for non-realty improvements may be subject to tax. Tenants should also be mindful of the time frame for spending the construction allowance. If the funds to be received cannot be spent within 8 ½ months after the taxable year in which they are received, it would be preferable to receive the allowance in installments.

Finally, both landlord and tenant should remain aware of another important tax principle that comes into play here: the owner of a leasehold improvement must depreciate the improvement ratably over 39 years. Therefore, if the tenant owns the improvements, the tenant must depreciate the improvements constructed with the construction allowance over 39 years even if the allowance qualifies for the safe harbor. For the landlord, this means the construction allowance can be “written off” over the lease term. If the lease includes options periods, the write-off period may include the option periods if there is reasonably certainty at the time of lease execution that the options will be exercised. However, this certainty does not exist for options exercisable at market rates, and these types of option terms are rarely added to the period over which the construction allowance may be written off.

(US) The Doctor Is In: A Review Of The Medical Office Building Market

What’s happening in the medical office building market in 2014?

Data supplied by Real Capital Analytics Inc reveal a slight downturn in early 2014 for sales of medical office properties. That is somewhat surprising considering the very strong 4th Quarter 2013 results for this market segment.

Nationally, we have seen a number of notable sales above the $5 million mark. These include the sale of Rockville, MD based Washington Real Estate Investment Trust (NYSE: WRE) to Chicago based Harrison Street. This transaction developed in tranches, with the final tranches resulting in the transfer of 20 medical office buildings to the buyer in early 2014 .

Other medical office transactions show a relatively steady market developing, with an average price per square foot of $245. That is a slight reduction over year-end 2013. Cap rates around 6.7% are seen in the deals.

Brokerage firms are reporting strong demand. The national healthcare group at CBRE estimates investors have allocated over $8 billion for medical office building transactions in 2014.

Here’s an example concerning the medical office marketplace. I’ve recently worked on a transfer of medical office building interests for a client in Southern California. This complex deal involved three main campus-style buildings on separate parcels as well as a fourth land parcel permitted for a future medical office building.

Our Reed Smith team guided the buyer through the purchase, negotiating the loan documents with a California based fund. We also provided assistance with the finance Head Lease, sublease arrangements and ownership interests of the investors. The intricate consummation of the transfer included a simultaneous land swap as part of the closing process. This was achieved in record time, allowing our buyer to quickly sell off one asset under a separate contract.

While certainly not an everyday transaction, this example demonstrates the length to which investors will reach to purchase desirable medical office properties in strong markets.