Subordination of lease: Overview, definition, and example
What is subordination of lease?
Subordination of lease refers to an agreement in which a tenant (lessee) agrees that their leasehold interest in a property is lower in priority compared to the rights of a third party, usually a lender with a mortgage on the property. This means that if the landlord defaults on their loan and the lender forecloses on the property, the lease may be terminated or subject to new terms under the lender’s authority.
For example, if a business leases office space in a building and the landlord has a mortgage on the property, a subordination of lease clause ensures that the lender’s rights take precedence over the tenant’s lease rights in case of foreclosure.
Why is subordination of lease important?
Subordination of lease is important because it clarifies the legal hierarchy between a tenant’s lease and a lender’s mortgage. Lenders often require lease subordination agreements to protect their financial interest in case the property owner defaults on their loan.
For tenants, understanding subordination is crucial because it can affect lease security. In many cases, a subordination clause is accompanied by a non-disturbance agreement, which ensures that even if the lender forecloses, the tenant can continue occupying the property under the lease terms.
Understanding subordination of lease through an example
Imagine a company signs a 10-year lease for a retail space in a shopping center. The landlord, however, has a mortgage on the property. The lease includes a subordination clause stating that the lease is subordinate to the lender’s mortgage.
Two years later, the landlord defaults on the loan, and the lender forecloses on the property. Since the lease was subordinated, the lender has the right to terminate the lease or renegotiate its terms. However, if a non-disturbance agreement was included, the tenant may continue occupying the space under the original lease terms.
In another scenario, a landlord takes out a new mortgage on a building after leasing out several office spaces. As part of the loan agreement, the lender requires all tenants to sign a subordination agreement to ensure that the lender's rights take priority in case of default.
An example of a subordination of lease clause
Here’s how a subordination of lease clause might appear in a lease agreement:
“Tenant agrees that this Lease shall be subordinate to any present or future mortgage or deed of trust placed upon the Premises by Landlord. In the event of foreclosure, Tenant shall attorn to the lender or its successor, provided that Tenant’s right to occupancy is not disturbed so long as Tenant complies with the terms of this Lease.”
Conclusion
Subordination of lease ensures that a lender’s interest in a mortgaged property takes priority over a tenant’s lease rights. While this benefits lenders by protecting their financial interests, tenants should seek non-disturbance agreements to secure their lease rights in case of foreclosure.
By understanding and negotiating subordination clauses, businesses can better protect their lease agreements and ensure stability in their rental arrangements.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.