Shav Associates v. Metro Park Office Building

A-3525-97T5 (N.J. Super. App. Div. 1999) (Unpublished)
  • Opinion Date: February 17, 1999

LEASES; CONSTRUCTION—A lease term that calls for the landlord to get a share of mortgage refinancing proceeds is strictly construed.

Two parties entered into a 99 year lease. According to the tenant, the parties intended a sale of the property and they used the 99 year device only to avoid a capital gains tax which the landlord would otherwise be required to pay. The lease gave the tenant virtually complete control of the property. A dispute arose over a particular paragraph of the lease which set out certain conditions under which the landlord could share in an increase in the value of the property. It provided that if, during the life of the lease, the tenant should “refinance” the “original institutional permanent mortgage encompassing the demised premises and improvements thereon,” then the landlord was to receive a percentage of the “net proceeds of the refinancing.” There was also a mechanism by which the landlord could participate in the increased value of the property even if there were no refinancing. It provided that, “[i]n the event that no refinancing shall occur for a period of twenty (20) years following the commencement date hereunder,” the parties were to have three appraisers fix the value of the property. The landlord was then to receive a percentage of the appraised value of the property, less the existing mortgage on the property. Approximately one year before expiration of the 20 year period, the tenant undertook a complex refinancing of the mortgage, but, in essence, did not borrow any more money than was needed to repay the remaining principal balance of its original loan. Under the lease, the landlord was required to subordinate its interest to any permanent mortgage obtained by the tenant. However, when the tenant called on the landlord to execute such a subordination, it refused to do so. The landlord claimed that the replacement did not constitute a refinancing within the meaning of the lease because the tenant had not sought the maximum funds available by means of a remortgaging of the property. Therefore, according to the landlord, the provisions giving it a percentage of the appraised value of the property should have come into play.

The tenant disputed the landlord’s interpretation of the lease. It claimed that there was no requirement that it maximize the possible proceeds of any refinancing and, pointing to the way in which the refinancing had been undertaken, claimed that it acted in good faith and for a valid business reason. Thus, the tenant concluded that the provisions of the lease which applied in the absence of a refinancing within a 20 year period were inapplicable. The tenant further testified that the entire provision was inserted in the lease solely to provide the landlord with a hedge against adverse tax treatment. The tenant also testified that the landlord was concerned that the lease would be treated as a sale and that the landlord would have been required to pay capital gains taxes at the time of entering into the original deal and that the landlord’s accountants needed to show that the landlord was still a participant in the project. The tenant testified that it never expected to pay any money to the landlord pursuant to the refinancing provision. The landlord’s version of the negotiation was significantly different. According to it, the form of the transaction was largely dictated by its desire to retain a parcel of property which it thought likely to increase in value. While at the time it was not able to undertake development itself, it did not want to lose the property.

The lower court believed the tenant’s testimony. It described the lease as carefully drawn and the transaction as one entered into between two sophisticated, experienced real estate developers. It refused to rescue anyone from a bad deal, or make a better deal for either of the parties. It found no requirement that refinancing had to be for some designated amount, or had to maximize the sum available. It found the refinancing to be bona fide and to have been undertaken in good faith, for legitimate business purposes. The lower court therefore determined that there was no occasion to employ the lease’s appraisal procedure. On appeal, the landlord argued that the lower court erred by reading the words in the lease literally, but ignoring the obvious substantive meaning of the refinancing provision. The Appellate Division had no disagreement with the impressive array of authority submitted by the landlord for the proposition that the literal language of an agreement must give way to the overall intent and rationale of the document. On the other hand, it did not agree that these principles led to the conclusion urged by the landlord. Once the lower court accepted the tenant’s testimony that neither party expected the landlord to realize any financial benefit from the refinancing provision, the landlord got precisely what it bargained for. It agreed with the tenant that the lease meant precisely what it said and found it significant that in a lease drawn with the care and professionalism with which this lease was drawn, there was no language to support the landlord’s interpretation.