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Ground leases are an essential - if somewhat unusual - part of the property finance industry. Because they usually cover large expensive residential or commercial properties like Rockefeller Center and The Empire State Building, to call 2, and last a long time (99 years and as much as start) the possibility of something unanticipated or unexpected occurring is high. This likelihood increases considerably if, as highlighted below, one or both of the lease parties' files for personal bankruptcy. Accordingly, property professionals must take note and take care when entering into any transaction involving a ground lease.

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Ground leases have actually been around given that the Middle Ages and insolvency laws have actually existed because at least Roman Times. Given this long history, it is not a surprise that a great deal of law has established on the interaction of personal bankruptcy and ground leases. This is especially so given that the development of the "contemporary" United States Bankruptcy Act in 1898 and the substantial changes to title 11 of the United States Code implemented to it in 1978, when Chapter 11 of the United States Bankruptcy Code (the "Code") was enacted. [1] In particular, Section 365 of the Code supplies special guidelines for the presumption or rejection of a ground lease-as well as its possible sale and transfer by a debtor to a 3rd celebration.

Knowing these rules is critical to any . Here are the basics:

A ground lease, often referred to as a "land lease," is an unique mechanism for the advancement of business property, enjoyed by those entrusted with developing the Rockefeller Center and the Empire State Building, for example. The plan permits for extended lease terms frequently as much as 99 years (with the option of renewal) for the landowner to keep ownership of the land and collect lease while the developer, in theory, might surpass the land to its benefit as well. Both historically and presently, this irregular relationship in the genuine estate space generates ample conversation weighing the structure's advantages and disadvantages, which inherently grow more made complex in the face of a ground lessor or ground lessee's personal bankruptcy.

According to the majority of courts, including the Second Circuit, the threshold concern in evaluating the previously mentioned possibilities regarding a ground lease in bankruptcy court is whether the ground lease in question is a "true lease" for the function of Section 365. Section 365 applies, making the ground lease eligible for, presumption or rejection, just if it is a "true lease." [2] While what exactly makes up a "true lease" will vary state by state, it is widely accepted that "the correct query for a court in figuring out whether § 365 [] governs an arrangement fixing residential or commercial property rights is whether 'the parties meant to enforce obligations and provide rights considerably different from those developing from the regular landlord/tenant relationship.'" Intl. Trade Ad. v. Rensselaer Polytechnic, 936 F. 2d 744 (2d Cir. 1991). This "intent" is figured out based upon that of the celebrations at the time of the lease's execution. In re Big Buck Brewery Steakhouse, Bkrptcy No. 04-56761-SWR, Case No. 05-CV-74866 (E.D. Mich. Mar. 9, 2006). Despite there being "a 'strong presumption that a deed and lease ... are what they purport to be,'" the economic substance of the lease is the main determination of whether the lease is thought about "true" or not, and in some states (like California), is the only suitable factor to weigh. Liona Corp., N.V. v. PCH Associates (In re PCH Associates), 804 F. 2d 193 (2d Cir. 1986) mentioning Fox v. Peck Iron & Metal Co., 25 Bankr. 674, 688 (Bankr. S.D. Cal. 1982). Generally, the further away those "financial truths" are from the normal landlord/tenant relationship, the less likely a lease will be considered a "real lease" for the function of Section 365. Id. For example, if residential or commercial property was bought by the lessor particularly for the lessee's use or entirely to protect tax benefits, or for a purchase price unassociated to the land's value, it is less most likely to be a real lease.

If the ground lease remains in truth determined to be a "true lease" (and subject to court approval), the appointed trustee or debtor-in-possession in an insolvency case may then either presume or turn down the lease as it would any other unexpired lease held by the debtor.

However, exceptions apply. These heavily depend on a debtor's "sufficient assurances" to the staying celebrations to the contracts. Section 365 of the Code provides that if there has been a default on a debtor's unexpired lease, the DIP might not presume the aforementioned lease unless, at the time of presumption, the DIP: (i) treatments or supplies "appropriate assurance" that they will in fact "quickly treat [] such default"