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Sixth Avenue Electronics City, Inc. v. Scharf

A-6217-97T5 (N.J. Super. App. Div. 1999) (Unpublished)

LEASES; OPTIONS—Where the parties to a lease with a purchase option did not contemplate that a change in circumstances would make an included interest rate formula unworkable, a court can approximate the rate it believes the parties would have intended.

A purchase option in a lease provided that the landlord would take back a purchase money mortgage. The term of the mortgage was to be twenty years, less the number of years of the Lease Term that elapsed before closing of title. The interest rate was to be the lowest interest rate for a comparable mortgage loan of the same maturity quoted by three named banks. If written quotations were not obtainable from at least two of those banks, the interest rate was to be equal to 300 basis points above the yield of a United States Treasury Bill of comparable maturity. Exercise of the option and scheduling of the ultimate closing were heavily contested and the Chancery Court was involved at a number of stages. Ultimately, the lower court set the final closing date. At the time of closing, commercial loans with a fixed rate of interest for the duration calculated under this option were impossible to obtain. The tenant-buyer’s counsel provided an indication from one bank that had it been making loans of that type and maturity, the interest rate would have been the Treasury Bill yield plus 2%. Another bank apparently stated that its interest rate would have been 8.85%. Given that the Treasury Bill rate on the appropriate date was 6.33%, the tenant-buyer contended that the proper rate of interest for the mortgage was 8.33%. On the other hand, the landlord contended that the quotations were not bona fide and therefore contended that the appropriate rate of interest was 9.33%. A telephone conference with the lower court judge took place during closing, and the judge concluded that the appropriate rate of interest was 9%. On appeal, the landlord-seller contended that the lower court erred in not using the “specific methodology” set forth in the lease for determining the interest rate. The Appellate Division, however, supported the lower court’s conclusion. It held that the parties were in basic agreement that, at the time of closing, commercial lenders would not grant a fixed interest rate mortgage for the remaining term of the lease. “Rather, it was common knowledge at the time that a commercial lender would re-price the rate of interest every five or ten years.” The lower court thought that “what actually happened was a change in business practices that was not contemplated by either of the parties at the time that the lease was executed.” While a court is required to enforce a contract as written and is not permitted to make a better contract for either of the parties, it was clear to the Court that “a contract must be interpreted considering the surrounding circumstances and relationship of the parties, at the time that it was entered into, to understand their intent and give effect to the nature of the agreement as expressed on the written page.” In essence, the lower court concluded “that due to an unanticipated change in the banking industry from the date the lease was entered into and the option to purchase was exercised, a comparable loan could not be obtained at a fixed rate of interest.” Accordingly, “[the Court] must decide whether the [lower court] mistakenly exercised its discretion in setting a rate of interest which is at variance with the contractual formula.” The Court believed that the lower court did not mistakenly exercise its discretion, that its remedy closely approximated the parties’ initial intent, and that it accomplished substantial justice for the parties.


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