My sister is very worried these days. Her residential flat has been rented out and her tenant has not been paying rent since the last three months. The tenant runs a salon in a mall which has been shut down. Revenues are zero, employees were paid for a month and nothing thereafter. The tenant has also stopped paying the lease rent for the salon. There is simply no cash flow for the tenant. My sister understands and sympathizes. She does not want to rescind the rent agreement and start legal proceedings for eviction. But she wants to know whether the tenant can legally stop the rent, never mind the pandemic, and whether she will be taxed on the rent not being received.
A friend has a similar problem. He owns commercial property leased to a restaurant. The restaurant is shuttered. Most employees have been laid off. Some critical staff have seen their salaries halved. Even this truncated salary was only paid for a month after which it has stopped. My friend has not seen any lease rent for the past three months now. He also has identical questions.
They are not alone. It is happening across the length and breadth of the country. The countrywide lockdown shut down a majority of the commercial, industrial, and retail activities. Even with the opening up, it will take a long time for businesses to come back on track.
Top Indian multiplex players have decided to suspend rentals on their leased properties during the time cinemas remain shut due to the Covid crisis. They have requested the landlords and mall owners seeking waiver of rent.
India’s restaurant chains, retailers and grocery chains have done the same. They have cited zero revenues in the immediate term and a drop of at least 50 per cent in revenues for several months to come. Small businesses in malls have also made similar requests. They know that support from owners is very crucial for survival since lease rent accounts for a huge chunk of their expenses.
Some malls have already announced rent-waivers. Other malls have said they are working with tenants to find a middle ground. They have strong relationships with their business partners and wish to work with them in their best mutual interest. The malls realize that this is a time for patience and forbearance. The owners do not wish to terminate the lease agreements because it is not going to help them. If the mall is shut, even the new tenants (if they manage to find them) will be similarly situated. No, that is not an option!
IT IS HAPPENING in other countries as well. In the USA, the NBA (National Basketball Association) has been sued by the owners of the building that houses the NBA Store in New York for non-payment of rent which is contested by NBA on the ground that it was forced to close the store due to the pandemic.
To provide answers, we will first need to examine a Latin phrase – much in use these days, to wit: Force Majeure, or Superior Force.
It means an event that can be neither anticipated nor controlled. It is a provision normally provided in contracts to provide temporary reprieve to a party from performing its obligations under a contract upon occurrence of such an event.
A Force Majeure clause typically spells out specific events (such as acts of God, war, terrorism, earthquakes, hurricanes, acts of government, explosions, fire, plagues or epidemics) which would qualify as a Force Majeure event, conditions which would have to be fulfilled for such Force Majeure clause to apply and the consequences of occurrence of such an event. If an event comes within the ambit of a Force Majeure event and fulfils the conditions for its applicability, then the consequence would be that parties would be relieved from performing their respective obligations under the contract during the period that such Force Majeure events continue.
The Union ministry of home affairs in its order dated March 29, 2020, in exercise of its powers under Section 10(2)(l) of the Disaster Management Act, 2005, directed all state/union territory governments and state/union territory authorities to take necessary actions and issue necessary orders, inter alia, for waiver of rent for workers by landlords for a period of one month.
However, the government has not issued any order with respect to suspension or waiver of rentals for commercial/residential lease contracts entered into by businesses/other individuals.
In the absence of any relief by the government, business entities and retail outlets are evaluating the Force Majeure clause, if it exists, under their respective agreements. This is because waiver of rent due to a Force Majeure event can only be availed if such a relief is explicitly provided under the lease agreement.
Typically, commercial leases have a Force Majeure clause; but not residential leases.
What happens if there is no Force Majeure clause in the lease agreement?
In that event, the tenant can try to invoke the Doctrine of ‘frustration of contract’ or ‘impossibility of performance’. The said doctrine is encapsulated in Section 56 of the Indian Contract Act, 1872, which states that for a contract to do an act which, after the contract is made, becomes impossible, becomes void.
But he will most likely fail.
In the context of a tenant’s obligations, the Supreme Court had the occasion to consider this doctrine and laid down that Section 56 cannot be invoked to claim waiver, suspension or exemption from payment of rent because it cannot apply to a lease agreement which is an ‘executed contract’ and not ‘executory contract’.
In such a situation, the provisions of the Transfer of Property Act, 1882, would govern leases.
The doctrine of Force Majeure is recognized in Section 108(B)(e). If by fire, tempest or flood, or violence of an army or of a mob, or other irresistible force, any material part of the property is wholly destroyed or rendered substantially and permanently unfit for the purposes for which it was let, the lease shall, at the option of the tenant, be void.
The Supreme Court, while interpreting as to what constitutes ‘substantially and permanently unfit’ held that temporary non-use by the tenant due to any factors would not entitle the tenant to invoke this section.
Thus, temporary non-use of premises due to the lockdown cannot be construed as rendering the lease void under Section 108(B)(e) of the TPA. The tenant cannot therefore avoid payment of rent.
However, the tenant may seek suspension of rent, not its waiver, by invoking the equitable jurisdiction of the court due to temporary non-use of the premises. The question as to whether the suspension of rent, not its waiver, ought to be granted or not would depend upon the facts and circumstances of each case.
The court considers the following factors generally for determining as to whether the tenants are entitled to suspension of rent: nature of the property, financial and social status of the parties, amount of rent, any contractual conditions, and protection under any executive orders.
The Delhi High Court has recently in its order dated May 21, 2020, clarified the legal position on whether the present pandemic and resultant lockdown would entitle tenants to claim suspension of rent or waiver from payment of rent.The petitioners were tenants of a commercial premise in Khan Market, New Delhi.
Based on law and the facts of the case, it rejected the tenant’s application for suspension of rent based on the fact that there was no Force Majeure clause in the contract allowing such relief and also because the tenant did not intend to surrender the tenanted premises. However, some postponement or relaxation in the schedule of payment could be granted owing to the lockdown, not waiver.
The Supreme Court on April 30, 2020, declined to consider a PIL for granting relief in payment of chamber’s rent by advocates suffering financial losses due to lockdown. “You are not entitled to any special consideration,” the bench said. “Tomorrow engineers will come, architects will come. How can we give special dispensation to lawyers? This is unreasonable for us to do. There may be old ladies, aged persons as landlords. How can we say this?”
- If the lease agreements contain the Force Majeure clause covering the pandemic, the tenant can stop paying rent till the situation normalizes. These would typically be commercial leases.
- Where there is no such clause, whether in commercial or residential leases,there is no relief from payment.
- However, the court, by invoking its equitable jurisdiction, can suspend, not waive, the payment, depending on the facts and circumstances of each case.
These situations assume fulfilment of conditions provided in the contract and law.
So, if the Force Majeure clause allows it in the lease deed, then rent can be waived. But in other cases, it must be paid, if not today, then later. It cannot be waived. Since, normally the residential leases do not contain this clause, rent must be paid, one day or the other. But, while some tenants are seeking postponement, or re-negotiating the lease deeds to a lower rent, many are seeking waiver. Since most landlords do not wish to evict them, in the spirit of mutual accommodation, some landlords and the tenants have negotiated a deferred payment plan, or payment in installments, or a lower rent.
The worrying issue for the landlords is whether they will be taxed on the rents not received. If yes, then it will be a double whammy – not receiving the rent and on top of that being taxed on it. What does the tax law say on this matter?
SECTION 23 OF the Income Tax Act states that the annual value of the property given on rent shall either be the sum for which it might reasonably be let out, or if the actual rent is more than such figure, the amount of such rent. So, if you have rented out your DDA flat to a tenant for Rs 10,000 and the rent of the adjoining flat (completely like your flat) is rented out for Rs 15,000, then the tax authorities can tax you at Rs 15,000. If, however, you are charging Rs 18,000, then the actual rent will be taxed.
However, the actual rent received, or receivable will not include the amount of rent which the owner cannot realize. So, I will not be taxed on the rent not received, you would naturally ask?
Not quite. Rule 4 of the Tax Rules stipulate that the amount of rent which the owner cannot realize shall be the amount of rent not paid by a tenant where:
|(a)||the tenancy is bona fide;|
|(b)||the defaulting tenant has vacated, or steps have been taken to compel him to vacate the property;|
|(c)||the defaulting tenant is not in occupation of any other property of the owner;|
|(d)||the owner has taken all reasonable steps to institute legal proceedings for the recovery of the unpaid rent or satisfies the tax officer that legal proceedings would be useless.|
So, unless the tenant vacates or he has been given notice to vacate, and legal proceedings have been taken to recover rent, the exemption does not work.
Most of the owners realize the dire circumstances of the tenants. Many are on good terms with them. Most do not want to precipitate any action for no fault of the tenant.
So, what do they do?
They could invoke the principle of ‘real income’ before the tax authorities.
Income tax is a tax on the real income — the profits arrived at on commercial principles subject to the provisions of the Income Tax Act. What is chargeable to tax is only “income”. To iron out any difficulty in proper appreciation of “income”, the concept of real income was expounded. In examining any transaction and situation of this nature the court would have more regard to the reality and specialty of the situation rather than the purely theoretical or doctrinaire aspect of it.
If income has neither actually accrued nor received , such income cannot be charged to tax even though a book keeping entry might have been made recognizing such hypothetical income, which in law and in fact did not really accrue or arise or received .
The Supreme Courthas vindicated this position.
However, this course of action involves litigation. And nobody wants that. The best solution is for the government to pass an order exempting rent not received under commercial/residential leases from tax if the Force Majeure provides, and in other cases, till such time it is actually paid, if at all.
That is the only way forward. Or else people like my sister and my friend, and countless others like them, will suffer from lack of rent and paying tax on it. That will be most unjust and in troubled times such as these this is one problem they can do without.
This issue has a simple fix and requires the government to do the right thing. It has already extended a helping hand across wide swathes of the economy. This issue also deserves to be covered.