How Much Protection Does A
Leasehold Mortgagee Need?
Joshua Stein
In this article, the author presents and explains a set of ‘‘middle ground’’
leasehold mortgagee protections that try to balance the concerns of the landlord
and the leasehold mortgagee in a simple and straightforward way.
Every real estate developer, investor, or attorney who
negotiates a long-term ground lease (a ‘‘Lease’’)
1
knows that the Lease must be ‘‘nanceable.’’ This
means the Lease must contain certain provisions (the
‘‘Leasehold Mortgagee Protections’’) to protect the
interests of a likely future Leasehold Mortgagee.
Those interests boil down to assuring that Leasehold
Mortgagee can always: (a) take and readily enforce a
Leasehold Mortgage; (b) preserve the Lease and its
value, even if the transaction goes into default or
surprises occur; or (c) abandon a bad investment.
2
To achieve these goals, Tenant and its counsel
might say a Lease should contain: (a) every possible
Leasehold Mortgagee Protection any real estate lawyer
has ever devised; (b) absolute clarity and full detail
about every single element of every single one of those
Leasehold Mortgagee Protections, leaving nothing to
be resolved later and no possible hypothetical sequence
or conuence of events unaddressed; and perhaps (c)
as many words and pages as possible devoted to
protecting Leasehold Mortgagee. Such an approach, if
carefully and intelligently implemented, may minimize
the possibility that any particular prospective Lease-
hold Mortgagee or its counsel ever will nd a substan-
tive basis to disapprove a Lease. It can, however, lead
to complexity, verbiage, negotiations, and risk of
error.
3
At the opposite extreme, Tenant and its counsel
might say a Lease should contain only the bare mini-
mum Leasehold Mortgagee Protections necessary to
satisfy the literal requirements and expectations of the
rating agencies. The Lease would simply parrot the
express requirements of the rating agencies (just the
words in their published ground lease criteria), so that
in any securitization the Lease should match up to the
published words and pass without objection. This ap-
proach keeps everything simple and avoids problems.
‘‘Minimal’’ Leasehold Mortgage Protections will
work, though, only if: (a) Landlord and its counsel
don't try to festoon those ‘‘minimal’’ Leasehold
Mortgagee Protections with too many conditions, limi-
tations, procedures, qualications, requirements,
restrictions, and so on; and (b) no future prospective
‘‘B-piece’’ buyer, Leasehold Mortgagee, participant,
purchaser, rating agency, or syndicate member ever
decides it wants the Lease to contain more than the
bare minimum Leasehold Mortgagee Protections as
the rating agencies had publicly dened them when the
parties negotiated their Lease.
4
The author has previously published Leasehold
Mortgagee Protections at both the ‘‘minimum’’ and
‘‘maximum’’ extremes suggested above.
5
In response
to reactions from readers, the author has now prepared
a ‘‘middle ground’’ set of Leasehold Mortgagee Pro-
tections, which is presented here, after these introduc-
nance partner with Latham & Watkins LLP. He is a member
of the American College of Real Estate Lawyers; Secretary
of the New York State Bar Real Property Law Section; and
author of
New York Commercial Mortgage Transactions
(Aspen 2002),
A Practical Guide to Real Estate Practice
(ALI-ABA 2001), and over 100 articles, outlines, and other
materials about commercial real estate transactions. Some
of his articles are reprinted at www.real-estate-law.com.
The author acknowledges the contributions of his partners
Richard L. Chadako and James I. Hisiger, and of the fol-
lowing other individuals: Arthur S. Adler, Sullivan & Crom-
well; Hugh P. Finnegan, Siller Wilk LLP; Gary A. Goodman,
Sonnenschein Nath & Rosenthal; Andrew L. Herz, Bingham
McCutchen LLP; Donald H. Oppenheim, Meyers Nave PC;
and Benjamin Suckewer, Fischbein Badillo Wagner Harding.
THE REAL ESTATE FINANCE JOURNAL/SPRING 2003
5
tory comments. These ‘‘middle ground’’ Leasehold
Mortgagee Protections seek to give Tenant and Lease-
hold Mortgagee a reasonably succinct, simple, straight-
forward, ‘‘fair,’’ and almost always adequate way to
address each of the usual, typical, and standard con-
cerns of a generic Leasehold Mortgagee.
These Leasehold Mortgagee Protections omit many
of the following items that often inate and complicate
any Leasehold Mortgagee Protections:
E Options. ‘‘Bells and whistles’’ for unusual or
nonstandard structures.
E Negotiations. Landlord-oriented concessions or
qualications, beyond the bare minimum neces-
sary to prevent laughter by Landlord's counsel.
E Details. Detailed procedures, time limits, notice
requirements, and the like.
E More Details. Extreme levels of clarity, specic-
ity, and completeness.
Even without these elements, the ‘‘middle ground’’
Leasehold Mortgagee Protections oered here should
cover every nanceability issue adequately and make
any Lease nanceable in the eyes of any reasonable
Leasehold Mortgagee.
6
Of course, if a transaction
needs ‘‘bells and whistles,’’ these ‘‘middle ground’’
Leasehold Mortgagee Protections will not provide
them. The author's previously published ‘‘maximum’’
Leasehold Mortgagee Protections can help ll that gap.
By leaving out some details, these ‘‘middle ground’’
Leasehold Mortgagee Protections increase the risk of
glitches, uncertainty, and surprises. That may, in turn,
increase the risk of litigation if: (a) some unusual left-
eld circumstance or sequence of events occurs; (b)
the Leasehold Mortgagee Protections do not address it
perfectly; and (c) the parties cannot resolve it in a rea-
sonable way. In general, though, the details omitted
from these Leasehold Mortgagee Protections relate
only to very hypothetical and unlikely events. More-
over, in the real world, parties can and do virtually
always negotiate a reasonable resolution for most un-
expected problems that might arise, assuming each has
reasonable leverage, although the process can be pain-
ful and expensive.
These Model Leasehold Mortgagee Protections
omit a few provisions that sometimes appear in Lease-
hold Mortgagee Protections. Each such omission
reects a judgment that the particular provision either:
(a) represents excessive detail; (b) imposes a burden
on Landlord that is both unreasonable and unneces-
sary; (c) is highly unlikely ever to become relevant,
and can be dealt with in some other reasonable way if
it ever does become relevant; or (d) otherwise does not
need to be covered.
In addition to looking for ‘‘pure’’ Leasehold Mort-
gagee Protections, which serve Leasehold Mortgagee's
interests without directly serving Tenant's, any Lease-
hold Mortgagee evaluating a Lease as possible collat-
eral for a loan will also care about all the other terms
of the Lease—everything that makes the Lease a valu-
able asset. That analysis forces Leasehold Mortgagee
to consider nearly every issue that can arise in a Lease.
Nearly every such issue, if handled badly enough, can
make a Lease ‘‘unnanceable.’’
To try to cover all these issues in a discussion of
Leasehold Mortgagee Protections could turn the dis-
cussion into a general discussion of ground leases,
which is not the goal here. Nevertheless, Tenant and
Leasehold Mortgagee share a few very fundamental
concerns. The issues on that ‘‘short list’’ are commonly
regarded as Leasehold Mortgagee Protections even
though they are not unique to Leasehold Mortgagees.
The following ‘‘medium’’ Leasehold Mortgagee Pro-
tections cover a few of those fundamental ‘‘shared is-
sues’’
7
before turning to issues of concern primarily to
Leasehold Mortgagees.
The numbered comments at the end of this article
(the ‘‘endnotes’’) describe some judgment calls, be-
yond mere omissions, that these Leasehold Mortgagee
Protections reect. Anyone can always argue for some
other judgment call. That is inevitable once one tries to
identify a ‘‘middle ground’’ approach to a document.
Similarly, anyone might deem any omitted issue to be
worth covering.
8
Because of their substantive nature, the endnotes
are an important part of this article, which should be
considered by anyone reading this article.
In addition to dening a ‘‘reasonable’’ set of Lease-
hold Mortgagee Protections, the following model seeks
to demonstrate straightforward, simple, and compre-
hensible legal writing, consistent with the author's
published pleas for use of Plain English even in so-
phisticated commercial real estate transactional
documents.
9
The author tries to prove in this document
that attorneys can write substantial legal documents in
readable English that nonlawyers can readily
understand. Legal documents don't need to be written
in some weird and perverted form of quasi-English,
marked by long sentences, convoluted verb structures,
the passive voice, redundancy, and gratuitous
complexity.
10
The author welcomes comments on these Leasehold
Mortgagee Protections, both substantive and stylistic.
Denitions
‘‘Bankruptcy Termination Option’’ means Tenant's
right to treat this Lease as terminated under 11
U.S.C.A. § 365(h)(1)(A)(i) or any comparable provi-
sion of law.
‘‘Fee Estate’’ means Landlord's fee interest in the
Premises,
11
including
12
Landlord's reversionary inter-
est, all subject to this Lease.
‘‘Foreclosure Event’’ means any: (a) foreclosure
sale, trustee's sale, assignment of this Lease in lieu of
foreclosure, sale under 11 U.S.C.A. § 363, or similar
transfer aecting this Lease or (b) Leasehold Mortgag-
How Much Protection Does A Leasehold Mortgagee Need?
6
THE REAL ESTATE FINANCE JOURNAL/SPRING 2003
ee's exercise of any other right or remedy under a
Leasehold Mortgage or applicable law as a result of
which Tenant is divested of its interest in this Lease.
‘‘Incurable Tenant Default’’ means any Tenant
Default that Leasehold Mortgagee or New Tenant can-
not reasonably cure.
‘‘Lease Impairment’’ means Tenant's: (a) cancel-
ing, modifying,
13
surrendering, or terminating this
Lease, including upon a Loss; (b) waiving any term of
this Lease; (c) subordinating this Lease to any other
estate or interest in the Premises; or (d) exercising a
Bankruptcy Termination Option.
‘‘Lease Termination Notice’’ means a notice stat-
ing that this Lease has terminated, and describing in
reasonable detail all uncured Tenant Defaults.
‘‘Leased Fee Value’’ means the fair market value
of the Fee Estate, considered as if it were unimproved
14
and subject to this Lease.
15
‘‘Leasehold Mortgage’’ means a mortgage, deed of
trust, collateral assignment, or other lien (as modied
from time to time) encumbering this Lease and Ten-
ant's rights under this Lease, including Tenant's
leasehold interest and Preemptive Rights.
16
‘‘Leasehold Mortgagee’’ means a holder of a Lease-
hold Mortgage and its successors and assigns, provided
that: (a) it is not an Aliate of Tenant; and (y) Landlord
has received notice of its name and address and a copy
of its Leasehold Mortgage.
17
‘‘Loss’’ means a casualty or condemnation aect-
ing the Premises.
‘‘Loss Proceeds’’ means any insurance proceeds or
condemnation award paid or payable for a Loss.
‘‘New Lease’’ means a new lease of the Premises
(as amended from time to time in compliance with its
terms) and related customary documents such as a
memorandum of lease and a deed of improvements.
Any New Lease shall: (a) be on the same terms, includ-
ing Preemptive Rights, and have the same priority, as
this Lease; (b) commence immediately after this Lease
has terminated; (c) continue for the entire remaining
term of this Lease, as it existed before termination,
subject to Preemptive Rights; (d) give New Tenant the
same rights to improvements that Tenant had under
this Lease; and (e) require New Tenant to cure, with
reasonable diligence and continuity, and within a rea-
sonable time, all Tenant Defaults (except Incurable
Tenant Defaults) not previously cured or waived.
‘‘New Tenant’’ means Leasehold Mortgagee or its
designee or nominee, and any of their successors and
assigns.
‘‘Preemptive Right’’ means any renewal, expan-
sion, or purchase option; right of rst refusal or rst of-
fer; or other preemptive right this Lease gives Tenant.
‘‘Remaining Premises’’ means any Premises that
Landlord continues to own after a Total Loss.
‘‘Tenant Default’’ means any default or breach by
Tenant under this Lease.
‘‘Tenant Default Notice’’ means Landlord's notice
of a Tenant Default, which notice shall describe such
Tenant Default in reasonable detail.
‘‘Termination Option Loss’’ means any Loss that
occurs during the last months of the Term or
would cost more than $ (beyond available Loss
Proceeds) to restore.
‘‘Total Loss’’ means any: (a) condemnation that af-
fects all or substantially all the Premises; (b) partial
condemnation after which Tenant cannot reasonably
restore the remaining Premises for use for its previous
purpose; or (c) casualty after which, because of
changes in law, Tenant cannot legally restore the
Premises for use for its previous purpose. Tenant, act-
ing reasonably, shall determine whether a ‘‘Total
Loss’’ has occurred under clause ‘‘b’’ or clause ‘‘c,’’
but Tenant's determination that such a ‘‘Total Loss’’
has occurred shall not be eective without Leasehold
Mortgagee's consent.
Use
Tenant may use the Premises for any lawful purpose.
18
Assignment
Tenant may, without Landlord's consent, at any time
assign this Lease provided that Tenant or the assignee
gives Landlord a copy of the assignment documents
and also, except in the case of an assignment through a
Foreclosure Event or a collateral assignment to a
Leasehold Mortgagee, Tenant: (a) has achieved Sub-
stantial Completion of Development; and (b) causes
the assignee to deliver to Landlord an assumption of
this Lease.
Subleases
Tenant may, without Landlord's consent, sublease the
Premises in whole or in part. If this Lease terminates,
Landlord shall not disturb the possession, interest, or
quiet enjoyment of any Subtenant not in default be-
yond applicable cure periods under its Sublease,
provided that either: (a) such Sublease demises the
entire Premises and is in all material respects at all
times no less favorable to Landlord than this Lease; or
(b) all the following conditions have been satised: (1)
Subtenant is unrelated to Tenant; (2) the Sublease was
on commercially reasonable and fair market terms
when Subtenant became legally bound;
19
and (3) at
least one Leasehold Mortgagee has agreed to grant
Subtenant nondisturbance protection.
20
Loss
21
If a Loss occurs: (a) the party that rst becomes aware
of it shall notify the other party; (b) the parties shall
direct the payor to pay all Loss Proceeds to Leasehold
Mortgagee;
22
(c) Loss Proceeds shall be applied as fol-
THE REAL ESTATE FINANCE JOURNAL/SPRING 2003
7
lows until exhausted; (d) each party's rights to receive
Loss Proceeds shall be subject to the rights of such
party's mortgagee(s); and (e) the parties shall have the
following rights and obligations.
23
Landlord's Costs. First, Landlord shall receive Loss
Proceeds sucient to reimburse Landlord and Fee
Mortgagee for their reasonable costs and expenses,
including reasonable attorneys' fees and expenses,
incurred because of the Loss.
24
Total Loss. Second, if a Total Loss occurs, this
Lease shall terminate. Landlord shall receive Loss
Proceeds equal to the Leased Fee Value as if the Total
Loss had not occurred. If, after the Total Loss, any
Remaining Premises exist, then: (a) Landlord may
require Tenant to remove from the Remaining Premises
all debris resulting from the Total Loss, ll in any
substantial excavations in the Remaining Premises, and
return the Remaining Premises to a level and vacant
condition; and (b) Landlord's share of Loss Proceeds
shall be reduced by the value of the Remaining
Premises. Tenant shall then receive all remaining Loss
Proceeds.
25
Termination Option Loss. Third, if a Termination
Option Loss occurs, Tenant may (subject to the provi-
sions of this Lease on Lease Impairments) terminate
this Lease by notice to Landlord.
26
Upon such a termi-
nation, Landlord shall receive all Loss Proceeds.
27
Rent Adjustment. Fourth, in the event of any con-
demnation of the Premises, except a temporary con-
demnation or a Total Loss: (a) future Rent under this
Lease shall be reduced by the product of such future
Rent (as it would have been determined but for the
condemnation) times the percentage of the Premises
taken, by value; and (b) Landlord shall receive Loss
Proceeds equal to the diminution in the Leased Fee
Value resulting from such condemnation, taking into
account the foregoing reduction in Rent and the eect
of the condemnation on the value of Landlord's
reversion.
Restoration. Fifth, if this Lease does not terminate
because of a Loss, Tenant shall apply Loss Proceeds to
remove all debris remaining from the Loss and to
restore the Improvements substantially as they existed
before the Loss (subject to changes that this Lease
would otherwise allow Tenant to make), to the extent
reasonably possible under the circumstances.
28
Tenant
shall then receive any remaining Loss Proceeds.
Disbursement. To the extent that this Lease requires
Tenant to apply Loss Proceeds for a specied purpose,
Loss Proceeds shall be: (a) disbursed from time to time
under reasonable and customary disbursement proce-
dures in Leasehold Mortgagee's loan documents (or,
absent such procedures, disbursement procedures as
Landlord reasonably determines); and (b) released to
Tenant, to the extent remaining, only if and when Ten-
ant has accomplished that purpose.
Fee Mortgages
29
Every Fee Mortgage shall be, and shall state that it is,
subject and subordinate to this Lease and any New
Lease.
30
Any Leasehold Mortgage shall attach solely
to Tenant's leasehold estate under this Lease. Any
Foreclosure Event under a Leasehold Mortgage shall:
(a) transfer only Tenant's interest in this Lease; and (b)
not impair any estate or rights under any Fee
Mortgage.
31
Leasehold Mortgages
Without Landlord's consent, from to time, but subject
to all other terms of this Lease not inconsistent with
this paragraph: (a) provided that any Event of Default
has been, or simultaneously is, cured, Tenant may grant
Leasehold Mortgage(s);
32
(b) Leasehold Mortgagee
may initiate and complete any Foreclosure Event; and
(c) any transferee through a Foreclosure Event, and its
successors and assigns, may assign this Lease.
Lease Impairments
Any Lease Impairment made without Leasehold Mort-
gagee's consent shall be null, void, and of no force or
eect, and not bind Leasehold Mortgagee or New
Tenant.
33
Notices
No notice that Landlord gives Tenant shall be eective
unless Landlord has given a copy of it to Leasehold
Mortgagee. If any Tenant Default occurs for which
Landlord intends to exercise any remedies, Landlord
shall promptly give Leasehold Mortgagee a Tenant
Default Notice.
Opportunity to Cure
Landlord shall accept Leasehold Mortgagee's cure of
any Tenant Default
34
at any time until days
35
af-
ter both: (a) Tenant and Leasehold Mortgagee have
received the Tenant Default Notice; and (b) Tenant's
cure period for the Tenant Default has expired. If
Leasehold Mortgagee cannot reasonably cure the Ten-
ant Default within such period, Leasehold Mortgagee
shall have such further time as it shall reasonably need
so long as it proceeds with reasonable diligence. If
Leasehold Mortgagee cannot reasonably cure a Tenant
Default without possession of the Premises, or in the
event of an Incurable Tenant Default, Leasehold
Mortgagee shall be entitled to such additional time as
it shall reasonably need to consummate a Foreclosure
Event and obtain such possession, provided Leasehold
Mortgagee timely exercises its cure rights for all other
Tenant Defaults. If Leasehold Mortgagee consum-
mates a Foreclosure Event, Landlord shall waive all
Incurable Tenant Defaults.
Cure Rights Implementation
At any time when Leasehold Mortgagee's cure rights
How Much Protection Does A Leasehold Mortgagee Need?
8
THE REAL ESTATE FINANCE JOURNAL/SPRING 2003
have not expired, Landlord shall do nothing to termi-
nate this Lease or accelerate any rent, or otherwise
interfere with Tenant's or Leasehold Mortgagee's pos-
session and quiet enjoyment of the Premises. Leasehold
Mortgagee may at its option enter the Premises to seek
to cure a Tenant Default. This right or its exercise shall
not be deemed to give Leasehold Mortgagee posses-
sion of the Premises. Leasehold Mortgagee need not
cure any Tenant Default arising from any lien or
encumbrance that attaches solely to this Lease (and not
to the Fee Estate) but is junior to its Leasehold Mort-
gage, provided that Leasehold Mortgagee endeavors
with reasonable diligence to consummate a Foreclo-
sure Event.
New Lease
If this Lease terminates for any reason (except with
Leasehold Mortgagee's consent or because of a Total
Loss), even if Leasehold Mortgagee failed to timely
exercise its cure rights for a Tenant Default,
36
then
Landlord shall promptly give Leasehold Mortgagee a
Lease Termination Notice. Upon Leasehold Mortgag-
ee's request, Landlord shall enter into a New Lease
with New Tenant. Any such request must be made, if
at all, at any time before the day that is days after
Leasehold Mortgagee has received Landlord's Lease
Termination Notice. Landlord's obligation to enter into
a New Lease shall be subject to the conditions that New
Tenant shall (in accordance with the Lease Termina-
tion Notice): (a) cure all remaining uncured Tenant
Defaults that New Tenant can then reasonably cure;
and (b) pay Landlord's reasonable costs and expenses
(including reasonable attorneys' fees and expenses) in
terminating this Lease, recovering the Premises, and
entering into the New Lease.
37
New Tenant need not
cure any Incurable Tenant Default.
New Lease Implementation
If Leasehold Mortgagee timely requests a New Lease
in conformity with the conditions and requirements of
this Lease, then from termination of this Lease until
execution and delivery of a New Lease: (a) New Ten-
ant shall be entitled to all net income of the Premises;
and (b) Landlord shall not terminate any Subleases
except for Subtenant's default, or enter into any lease
aecting any of the Premises except with New Tenant.
When the parties sign a New Lease, Landlord shall co-
operate with New Tenant to transfer to New Tenant all
Subleases (including any security deposits Landlord
held), service contracts, and operations of the
Premises.
38
Landlord shall cause every Fee Mortgagee
to unconditionally subordinate to any New Lease.
Tenant's Rights Under Lease
If this Lease contains any Preemptive Right and Ten-
ant does not timely exercise it when this Lease allows,
Landlord shall promptly notify Leasehold Mortgagee.
Until days after Leasehold Mortgagee has re-
ceived such notice, Leasehold Mortgagee may exercise
the Preemptive Right for Tenant. Leasehold Mortgagee
may exercise any or all of Tenant's rights (including
Preemptive Rights) under this Lease.
39
So long as
Leasehold Mortgagee's cure rights under this Lease
have not expired, Leasehold Mortgagee may exercise
any such rights even if Tenant is in default under this
Lease, notwithstanding anything to the contrary in this
Lease. Tenant irrevocably assigns to Leasehold Mort-
gagee,
40
to the exclusion of Tenant and any other
person, any right to exercise any Bankruptcy Termina-
tion Option.
41
Certain Proceedings
If Landlord or Tenant initiates any appraisal, arbitra-
tion, litigation, or other dispute resolution proceeding
aecting this Lease, then the parties shall simulta-
neously notify Leasehold Mortgagee. Leasehold Mort-
gagee may participate in such proceedings on Tenant's
behalf, or exercise any or all of Tenant's rights in such
proceedings. At Leasehold Mortgagee's option, any
actions of Leasehold Mortgagee under the preceding
sentence shall be to the exclusion of Tenant.
42
Any
settlement shall not be eective without Leasehold
Mortgagee's consent.
43
No Merger
If this Lease and the Fee Estate are ever commonly
held, they shall remain separate and distinct estates
(and not merge) without consent by Leasehold Mort-
gagee and Fee Mortgagee.
No Personal Liability
No Leasehold Mortgagee or New Tenant shall have
any liability under this Lease beyond its interest in this
Lease, even if it becomes Tenant. Any such liability
shall: (a) not extend to any Tenant Defaults that oc-
curred before such Tenant took title to this Lease (or a
New Lease), except any identied in a Tenant Default
Notice or Lease Termination Notice; and (b) terminate
if and when any such Tenant assigns (and the assignee
assumes) or abandons this Lease (or a New Lease).
Multiple Leasehold Mortgagees
44
If at any time multiple Leasehold Mortgagees exist: (a)
any consent by or notice to Leasehold Mortgagee refers
to all Leasehold Mortgagees; (b) except under clause
‘‘a,’’ the most senior Leasehold Mortgagee may exer-
cise all rights of Leasehold Mortgagee(s), to the exclu-
sion of junior Leasehold Mortgagee(s); (c) to the extent
that the most senior Leasehold Mortgagee declines to
do so, any one other Leasehold Mortgagee may exer-
cise those rights, in order of priority;
45
and (d) if
THE REAL ESTATE FINANCE JOURNAL/SPRING 2003
9
Leasehold Mortgagees do not agree on priorities, a
written determination of priority issued by a title insur-
ance company licensed in the State shall govern.
Further Assurances
Upon request from Tenant or any Leasehold Mortgagee
(prospective or current), Landlord shall promptly and
in writing, under documentation reasonably satisfac-
tory to Landlord and the requesting party: (a) certify
that this Lease is in full force and eect, whether it is
subject to any Lease Impairment, that to Landlord's
knowledge no Tenant Default exists, the date through
which Rent has been paid, and such other similar mat-
ters as may be reasonably requested, all subject to any
then exceptions reasonably specied in such certi-
cate; (b) agree directly with Leasehold Mortgagee that
it may exercise against Landlord all of Leasehold
Mortgagee's rights under this Lease; (c) acknowledge
any Subtenant's nondisturbance and recognition rights
(provided Subtenant joins in such agreement); and (d)
provided that Tenant reimburses Landlord's reason-
able attorneys' fees and expenses, enter into any Lease
modication that any current or prospective Leasehold
Mortgagee requests, if it does not adversely aect
Landlord in any material respect or reduce any pay-
ment this Lease requires.
Miscellaneous
Notwithstanding anything to the contrary in this Lease,
Leasehold Mortgagee: (a) may exercise its rights
through an aliate, assignee, designee, nominee, sub-
sidiary, or other Person, acting in its own name or in
Leasehold Mortgagee's name (and anyone so acting
shall automatically have the same protections, rights,
and limitations of liability as Leasehold Mortgagee);
(b) shall never be obligated to cure any Tenant Default;
(c) may abandon such cure at any time;
46
and (d) may
withhold its consent or approval for any reason or no
reason, except where this Lease states otherwise. Any
such consent or approval must be written. To the extent
any Mortgagee's rights under this Lease apply after
this Lease terminates, they shall survive.
1
The sample Leasehold Mortgagee Protections below
dene many capitalized terms. Obvious denitions of other
capitalized terms are omitted. ‘‘Lease’’ should include any
amendments made in compliance with the Lease.
2
Tenant does not directly share the special concerns of a
Leasehold Mortgagee—at least if Tenant knows with abso-
lute certainty that it, and its successors and assigns, will never
need a Leasehold Mortgage. A more typical Tenant will, of
course, care a great deal about Leasehold Mortgagee
Protections. They make a Lease nanceable and hence more
valuable to a broader universe of future debt and equity
investors.
3
It also causes headaches, according to counsel for at
least one Landlord.
4
The rating agencies' published standards do not always
track their current practices.
5
See Joshua Stein, ‘‘Model Leasehold Mortgagee Protec-
tions,’’ The American College of Real Estate Lawyers Pa-
pers, October 1999; updated and republished for Chicago
Title Insurance Company continuing legal education program
(2000), Association of the Bar of the City of New York
(2000), New York State Bar Association Real Property Law
Section (2000); New York State Bar Association Real Prop-
erty Law Section, Advanced Real Estate Practice, 2000; and
New York Mortgage Bankers Association (2001). Except the
1999 publication, each of the foregoing included both the
‘‘maximum’’ and the ‘‘minimum’’ Leasehold Mortgagee
Protections. Both are periodically updated. Current versions
may be obtained from the author.
6
This is not a representation or warranty. Any prospec-
tive Leasehold Mortgagee's counsel can, if it wishes, almost
always nd some basis to disapprove any Lease.
7
Beyond the ‘‘shared issues’’ covered here, a Leasehold
Mortgagee would also look rst at the following issues:
remaining term, transferability, rent adjustment (including
particularly the absolute clarity of any revaluation formula),
unusual obligations, alterations, demolition, insurance, and
environmental matters.
8
Anything these Leasehold Mortgagee Protections omit
is generally covered, often at length, in the author's previ-
ously published ‘‘maximum’’ Leasehold Mortgagee
Protections.
9
See Joshua Stein, ‘‘Writing Clearly and Eectively:
How to Keep the Reader's Attention,’’ New York State Bar
Association Journal, July/August 1999, at 44; Secured
Lender, November/December 1999; ‘‘Template for a Tem-
plate: A Checklist To Prepare or Improve Any Model Docu-
ment,’’ The Practical Lawyer, April 2000, at 15; reprinted in
Real World Document Drafting: Form, Style, and Substance
(ALI-ABA professional skills course materials), December
2001, at 131; April 2002, at 151; ‘‘How to Use Dened
Terms to Make Transactional Documents Work Better,’’ The
Practical Lawyer, October 1997, at 15, republished in ALI-
ABA's Practice Checklist Manual on Advising Business
Clients II: Checklists, Forms, and Advice from The Practical
Lawyer, 2000; and ‘‘Cures for the (Sometimes) Needless
Complexity of Real Estate Documents,’’ Real Estate Review,
Fall 1995, at 63.
10
In ‘‘Short and Simple,’’ The American Lawyer, October
2002, at 59, the author suggested these seven principles for
better legal writing. (1) Break long sentences into shorter
ones. (2) Get rid of words, sentences, and paragraphs you do
not need. (3) Prefer verbs to nouns. (4) Question any use of a
word that includes ‘‘here’’; try to substitute something less
legalistic. (5) Use simple words if you can. (6) Use the active
voice. (7) Write larger numbers as numerals. These principles
are hardly new, unique, or previously undiscovered. See, e.g.,
William Strunk, Jr. & E.B. White, The Elements of Style (4th
ed. 2000). Even so, the legal profession remains largely
oblivious to them. The author has tried to apply them consis-
tently in these Leasehold Mortgagee Protections.
11
‘‘Premises’’ should include appurtenant air rights and
development rights.
12
The Lease should say somewhere, once, that ‘‘include’’
means ‘‘without limitation.’’
13
‘‘Modication’’ seems synonymous with ‘‘amend-
How Much Protection Does A Leasehold Mortgagee Need?
10
THE REAL ESTATE FINANCE JOURNAL/SPRING 2003
ment’’ or ‘‘change,’’ both of which one also often expects to
see, redundantly, in any denition like this one.
14
This assumes the Lease originally demised raw land.
The valuation of Landlord's leased fee estate raises many is-
sues, including nuances such as how to deal with downzon-
ing or upzoning since the Commencement Date.
15
For this and other value-related provisions, the Lease
should set appraisal procedures.
16
Mezzanine lenders may want protections like those of
Leasehold Mortgagee, but this language does not provide
them. Landlord may argue that a mezzanine lender is ef-
fectively an equity investor and should rely on its rights as an
equity investor rather than bother Landlord. Landlord may
want to limit the amount, purpose, or type of loan(s) that
Leasehold Mortgages secure. For long-term ground leases,
such limitations are generally not market standard or ap-
propriate, at least after Tenant has completed initial
construction/development. Once Tenant has reached that
point: (a) any Leasehold Mortgage of any size to any Lease-
hold Mortgagee merely creates a possible future Foreclosure
Event and a possible future Lease transfer; (b) Landlord
should not care; and (c) even if overleverage creates some
theoretical possibility of slightly impairing or temporarily
deferring Landlord's rental income, Landlord's concerns are
not compelling. Tenant will usually agree that Leasehold
Mortgagee must: (1) be ‘‘institutional’’; (2) have a minimum
net worth; and (3) meet other objective and reasonable
criteria. These concessions will cause denitional issues,
complexity, and risk of obsolescence.
17
Landlord may also want copies of: (a) the unrecorded
loan documents; and (b) future amendments. Neither request
seems justied.
18
Leasehold Mortgagee will usually tolerate a somewhat
narrower permitted use. Some argue that the breadth of the
use clause merely aects the value of the Lease rather than
its nanceability. That argument may be correct, assuming a
narrower use clause remains broad enough so Leasehold
Mortgagee can still easily resell the Lease after a Foreclosure
Event.
19
Landlord may also want to assure that, even if the
Sublease is at market, Subrent does not decline over time and
Subtenant agrees to pay Subrent upon request (and any
Sublease termination payments) directly to Landlord.
20
Landlord (and its Fee Mortgagees) may hesitate to
‘‘nondisturb’’ (or more often ‘‘recognize’’) all future Sub-
tenants, even under the conditions stated. Landlord may
argue that once the Lease terminates, Landlord should re-
cover clear possession of the entire Premises, without having
to deal with any bits or pieces of Tenant's failed plan for the
Premises. Subtenants that make substantial investments in
their space (and Tenant and Leasehold Mortgagee) will feel
otherwise, and will usually win this discussion.
21
The possibility of a Loss and its variations often
consume many pages in a Lease. The parties can negotiate
and ne-tune this topic, and create new categories, distinc-
tions, and conditions, to whatever degree they want or can
stand. Of all the issues these Leasehold Mortgagee Protec-
tions cover, the treatment of a Loss may be the one least
suited to a ‘‘one size ts all’’ resolution, but also the one
where cost-benet considerations most cry out for it. These
Leasehold Mortgagee Protections make a valiant eort. One
lawyer has proposed, not entirely as a joke, that the govern-
ment should: (a) prohibit all condemnation clauses; (b)
require any condemning authority to compensate each holder
of an interest in the condemned property for the separate
value of that interest; (c) collect a minuscule fee from each
real estate transaction to establish a condemnation under-
compensation protective fund; and (d) use that fund to make
whole any real property owner ever undercompensated for a
condemnation.
22
Even if Landlord has agreed to allow just anyone to be
Leasehold Mortgagee, Landlord can legitimately set stan-
dards for who may hold Loss Proceeds.
23
On the issue of a temporary condemnation, silence will
usually suce.
24
Tenant may want to cap or narrow these expenses, or
treat them as a risk of ownership.
25
Leasehold Mortgagees often want Loss Proceeds to go
rst to repay all Leasehold Mortgages in full. This may be
unreasonable, based on the following arguments. A condem-
nation clause should give each party a package that reects
the value and relative risks/benets of its position under the
Lease if the Lease had continued. Neither party should nd
itself in a better position (wealthier) after a condemnation
than before. Absent condemnation, Landlord would hold a
low-risk high-priority relatively xed annuity (much like a
rst fee mortgage, see, e.g., ‘‘Special Report: CMBS:
Moody's Approach to Rating Loans Secured By Ground
Leasehold Interests,’’ October 23, 2001). In contrast, as
holder of a higher-risk and lower-priority interest in the real
estate, Tenant (and its mortgagees) would bear the risk of
‘‘rst loss’’ if the value and cash ow of the property could
not adequately support Landlord, Tenant, and their lenders.
To do justice to these positions after a single unexpected
‘‘liquidation’’ of the Premises because of a Loss, Landlord
should be paid rst, but only to the extent of the value of
Landlord's low-risk annuity under the Lease, including the
reversion. Tenant should own what's left: the risk of inade-
quate Loss Proceeds, and the possible windfall of excessive
Loss Proceeds. In response to these issues, some Leases say
Landlord and Tenant share Loss Proceeds in proportion to
the relative values of their positions. Landlord may fear that
any formula tied to the value of Landlord's position at the
moment of condemnation may undercompensate Landlord if
a condemnation occurs during high interest rates or an anom-
alous real estate market, such as the market that existed in
1991. This undercompensation is much like the loss a
mortgagee suers under 11 U.S.C.A. §§ 506(a) and
1129(a)(7), which let a debtor ‘‘cram down’’ a mortgagee
based on current adverse circumstances - temporary impair-
ment of value of the collateral—at the moment of a bank-
ruptcy ling, even though the mortgagee thought it had
bought into the real estate for the long haul. The condemna-
tion formula can set a oor for Landlord's share of the award,
taking into account such factors as the remaining term, a
maximum discount rate, and a minimum projected residual
value. Any such protection will create a corresponding risk
for Tenant and Leasehold Mortgagee (a ‘‘zero-sum game’’).
Some of this risk may be insurable.
26
Landlord may want to add a decision deadline. Without
one, the courts will infer a ‘‘reasonable’’ time, creating toler-
able uncertainty. If a Lease is fully nonrecourse, then: (a)
Tenant has a termination option at all times; (b) a further
termination option might be a waste of words, so long as
Tenant must unambiguously leave behind all Loss Proceeds
THE REAL ESTATE FINANCE JOURNAL/SPRING 2003
11
if Tenant ever just ‘‘walks away’’; and (c) a Loss-based
termination becomes interesting only when Tenant wants the
right to terminate and yet keep some Loss Proceeds, a pos-
sibility not provided for here.
27
A ‘‘Termination Option Loss’’ lets Tenant decide
whether to terminate. In such a case, Landlord would reason-
ably argue that Landlord should keep Loss Proceeds, or Ten-
ant should nevertheless restore. Tenant and Leasehold
Mortgagee may disagree. Landlord would say that Landlord's
claim to the value of the improvements should defeat the
claim of the ckle Tenant and Leasehold Mortgagee, who
‘‘chose to walk away.’’ If, however, Tenant and Leasehold
Mortgagee had no real choice, then Landlord's
‘‘expectation’’-based claim to Loss Proceeds seems weaker.
For example, if a 60-story oce building was originally a
‘‘legal nonconforming use’’ but current code allows restora-
tion only as a single-family residence, or if the condemnor
took 95% of the site (either, a ‘‘Total Loss’’), then Landlord
still receives its rst-priority claim for any resulting diminu-
tion in the Leased Fee Value, but any remaining Loss
Proceeds (typically the value of the improvements) go to
Tenant and Leasehold Mortgagee.
28
Tenant and Leasehold Mortgagee cannot just ‘‘take the
money and run.’’ Landlord has its own independent and le-
gitimate interest in seeing the Premises restored. But what
happens if Loss Proceeds are insucient to restore as
required? Typically a Lease will require Tenant to make up
the shortfall before starting work, but that obligation will not
be personally guarantied. If at that point Tenant chose to
‘‘walk away,’’ then Landlord would receive the remaining
Loss Proceeds. The Leasehold Mortgage loan documents will
also have something to say about this issue. Landlord will
want some ability to control how Tenant restores the
Premises. This will raise the same issues as any other major
construction project on the Land and usually justify the same
outcomes.
29
These Leasehold Mortgagee Protections do not require
that any Fee Mortgage must be ‘‘subordinate’’ to every
Leasehold Mortgage. That issue is a can of worms caused
mostly by confusion about leasehold transactions. Instead,
this paragraph tries to explain very succinctly how Fee Mort-
gages, the Lease, and Leasehold Mortgages interact.
30
Tenant should agree, in the Leasehold Mortgage, not
even to try to subordinate the Lease to any Fee Mortgage.
Landlord or Fee Mortgagee may suggest that Fee Mortgagee:
(a) be superior and prior to the Lease, but (b) enter into an
absolute and unconditional nondisturbance agreement with
Tenant and Leasehold Mortgagee. Tenant and Leasehold
Mortgagee typically reject that proposition in short order, in
part because it might be treated as an executory contract in
Fee Mortgagee's bankruptcy. They may, however, reluc-
tantly tolerate a prior Fee Mortgage if Fee Mortgagee ‘‘joins
in’’ the Lease when the parties sign it—a joinder in the pres-
ent creation of a property interest rather than an ‘‘executo-
ry’’ promise to do something later. As another option, the
Fee Mortgage could be expressly subordinate to the Lease,
except during any period when Fee Mortgagee is bound by a
fully eective nondisturbance agreement in the form the
Lease requires. If the nondisturbance agreement goes away,
so does the subordination of the Lease.
31
Fee Mortgagee may want the right to cure Landlord
defaults. Given the limited scope of Landlord's obligations
under a Lease, Fee Mortgagee's cure rights can be simpler
than Leasehold Mortgagee's. But Fee Mortgagee cure rights
are neither relevant to nanceability of Leases nor uniformly
included in Leases.
32
The parties may want to say that Leasehold Mortgag-
ee's rights end when Tenant has repaid its loan. This seems
obvious and hence unnecessary. Silence avoids the need to
identify, dene, and carve out loan repayments that should
not terminate Leasehold Mortgagee's rights (e.g., those
resulting from a Foreclosure Event).
33
Without Leasehold Mortgagee's consent, any Lease
amendment is not even eective as between Landlord and
Tenant. This may be overkill, but it prevents issues, complex-
ity, and controversy that might arise if some amendments
were eective between Landlord and Tenant but did not bind
Leasehold Mortgagee.
34
If the parties disagree over an alleged Tenant Default,
Leasehold Mortgagee may want the right to pay under protest
and obtain a refund if Leasehold Mortgagee wins the ght.
Such a provision probably duplicates what any court would
do anyway under the circumstances. It does not seem es-
sential to nanceability, as its absence should not create in-
tolerable risks. Leasehold Mortgagee will want to conrm
that Tenant has ample cure periods and dispute rights even
before Leasehold Mortgagee's cure period begins.
35
Landlord may want a shorter cure period for failure to
insure. Although this sounds compelling, it is probably not
realistic. Landlord should rely on its own (and Leasehold
Mortgagee's) monitoring, a 30-day notice requirement for
cancellation, and, if necessary, the ability to expeditiously
force-place single-interest coverage at Tenant's expense.
36
Landlord may argue that this gives Leasehold Mort-
gagee too many bites at the apple and, for example, Leasehold
Mortgagee should lose its New Lease rights if at any time
any monetary obligation was more than days past due.
Leasehold Mortgagee usually wins this discussion.
37
If a dispute exists about any of these items, Leasehold
Mortgagee may want a New Lease even while the dispute is
being resolved.
38
From Lease termination until New Lease execution,
the Lease could set rules to govern Landlord's interim leas-
ing program, Subleases, operations, and so on. Given how
rarely (if ever) any Landlord has ever terminated a Lease and
then entered into a New Lease, the topic probably does not
merit the attention it sometimes receives. These Leasehold
Mortgagee Protections cover it in a minimal and ‘‘broad
brush’’ way.
39
The preceding sentence is not standard, but some sec-
ondary market players want it.
40
This assignment should also appear in the Leasehold
Mortgage and loan documents.
41
Many Leases address the Bankruptcy Termination Op-
tion at length. Everything they say boils down to this sentence
and the denition of Lease Impairment. If Landlord rejects
the Lease in bankruptcy and Tenant does not exercise the
Bankruptcy Termination Option, then Tenant can oset dam-
ages against rent. Incorrect osets can conceivably lead to
Lease terminations. Thus, some Leases let Leasehold Mort-
gagee approve and conrm each oset. These Leasehold
Mortgagee Protections contain no such procedures, because:
(a) such osets are quite rare (the author will pay $1.00 to
anyone who can identify one that ever occurred under any
mortgaged Lease); and (b) Leasehold Mortgagee can reason-
ably protect itself through pre-emptive litigation if necessary.
How Much Protection Does A Leasehold Mortgagee Need?
12
THE REAL ESTATE FINANCE JOURNAL/SPRING 2003
42
Tenant will want Leasehold Mortgagee not to exclude
Tenant unless an uncured Event of Default exists. Any such
restrictions belong in the loan documents, not the Lease.
43
If a proceeding involves a monetary claim of less than
$, perhaps Tenant should be able to settle it without
Leasehold Mortgagee's consent.
44
The senior Leasehold Mortgagee may want more
control than this paragraph grants. All Leasehold Mortgagees
need an intercreditor agreement.
45
This clause ‘‘c’’ governs as between Landlord and
Leasehold Mortgagees as a group. The most senior Leasehold
Mortgagee might want to go further, reserving the right to
determine that a particular Leasehold Mortgagee Protection
shall not be exercised at all, by anyone. That issue belongs in
the intercreditor agreement among Leasehold Mortgagees,
not the Leasehold Mortgagee Protections.
46
Landlord may want Leasehold Mortgagee to commit at
some point that Leasehold Mortgagee will in fact eventually
cure a Tenant Default, especially if construction-related.
Leasehold Mortgagee, though, will want a ‘‘right to walk’’
at any time, regardless of how long Landlord may have had
to ‘‘wait around,’’ and will point out that all monetary obliga-
tions will have been kept current at all times.
THE REAL ESTATE FINANCE JOURNAL/SPRING 2003
13
