On December 29, 2016, the Ninth Circuit Court of Appeals ruled that the statutory cap on a landlord’s claims against a tenant arising from lease rejection in bankruptcy applies only to claims that result directly from the lease termination. Other lease-related claims, including for legal fees and costs related to claims for unpaid past rent and defending against tenant counterclaims, are not subject to the statutory cap. This decision clarified the law, which some bankruptcy courts had interpreted as imposing a cap on all lease-related damages.
In Kupfer v. Salma (In re Kupfer), the Ninth Circuit interpreted Bankruptcy Code section 502(b)(6), which caps a landlord’s claim for damages for a terminated lease to (1) the greater of one year’s worth of rent or 15 %, not to exceed three years, of the remaining lease term, plus (2) any unpaid rent due under the lease at the earlier of the date that the bankruptcy case was filed or the date the landlord repossessed the property or the tenant surrendered it. In Kupfer, the landlord prevailed against the debtor tenants after a binding arbitration, and was awarded unpaid past rent and future rent discounted to present value amounting to nearly $1.3 million. The landlord also defeated the tenant’s claims for breach of contract, etc. The arbitrators awarded attorneys’ fees and arbitration fees of almost $200,000 to the landlord.
The Ninth Circuit Court of Appeals emphasized that section 502(b)(6) does not cap damages resulting from every breach of contract -- only those claims for “damages resulting from the termination of a lease.” Thus, fees attributable to litigating the landlord’s claims for future rents are capped because those claims would not arise were the lease not terminated. But the arbitration award also included damages for past rents, which the landlord could claim independent of termination, and the fees attributable to that portion of the litigation are not capped. Nor were the legal expenses incurred in litigating the tenant’s counterclaims capped, to the extent that the counterclaims concerned “ordinary breaches” independent of a lease termination.
As a result, the Ninth Circuit sent the case back to the lower court, with instructions to categorize all claims as either directly resulting from termination of the leases or not, with the former claims being capped and the latter not being capped. The lower court was instructed to apportion the associated legal fees and costs accordingly. The Ninth Circuit left it up to the lower court’s discretion whether to take additional evidence or conduct further hearings in aid of the apportionment.
Overall, the Kupfer case is a win for landlords, who are forced to litigate claims against defaulting tenants and who ultimately prevail, but then are faced with the tenant’s subsequent bankruptcy filing. However, the Ninth Circuit did potentially create additional work for judges and lawyers, who must apportion the legal fees and costs into those arising from termination of the lease (capped) and those not directly resulting from termination of the lease (not capped), which could lead to further litigation over the apportionment.