“Condemnation clauses” — provisions in leases that say if the leased premises is taken, then the lease automatically terminates — are pretty common. They also “codify” the common law, which provided the same thing. These provisions also commonly allocate if and how the lessor and the lessee would divide up any compensation award (often the tenant gets nothing).
The condemnation clause at issue in Utah Dep’t of Transportation v. Kmart Corp., No. 20160653 (Sep. 25, 2018) was just one of these. It provided:
In the event all of Tenant’s buildings constructed by Landlord shall be expropriated or the points of ingress and egress to the public roadways . . . be materially impaired by a public authority or quasi-public authority, this lease shall terminate as of the date Tenant shall be deprived thereof.
Slip op. at 3. Most critically, the clause also noted that the tenant (Kmart) would be entitled to no part of the comp award to the landlord, except for compensation attributable to the loss of Kmart’s buildings or improvements. Nothing unusual there, either.
The trial court concluded that UDOT’s condemnation “materially impaired ingress and egress,” which should have triggered the condemnation clause. But the court also concluded that the condemnation clause didn’t govern because in an earlier phase of the case, the Utah Supreme Court held that the “aggregate of interests” rule applies in Utah, not the undivided fee rule.
Under the aggregate approach, the court values each of the interests in a divided property separately. Under the “undivided fee” rule, by contrast, the court determines compensation by valuing the fee simple interest (the property as if it were not divided) leaves it to the parties to determine how to divide up the pot. The trial court concluded that the aggregate approach meant that Kmart’s interest as the tenant should be valued separately, notwithstanding the condemnation clause. It awarded $1.4 million.
UDOT appealed, arguing the condemnation clause is still operative, even if the aggregate approach is used, because Kmart’s separate interest was zero. The Utah Supreme Court agreed:
¶15 UDOT asks us to adopt a termination clause rule followed in most other jurisdictions. Under this rule, when a lease agreement contains a termination clause, the lessee is not entitled to a condemnation award in the event of a condemnation, because any continuing interest in the leased property—the loss of which would otherwise have entitled the lessee to a condemnation award—has been extinguished under the lease agreement’s terms. In other words, because the lessee’s property interest is wholly created by the lease agreement, when the lease terminates, so does the lessee’s interest in the leased property, including the lessee’s right to just compensation.19 Because the termination clause rule conforms to our eminent domain and contract jurisprudence, we adopt it.
Slip op. at 6-7 (footnotes omitted).
The court first noted that the “termination by condemnation” provision is consistent with the general principle that only parties with an interest in the property are entitled to compensation. Since the tenant agreed in the lease — the very document which created the property interest — that the interest would terminate at condemnation, it has no standing to obtain compensation for that interest.
The court also held that its earlier ruling adopting the aggregate of interests approach for valuing divided interests did not render the condemnation clause “inoperative in Utah,” as Kmart argued. The court concluded that its earlier ruling was “irrelevant” to the analysis, slip op. at 13, because of the above: with no interest to value (it was extinguished upon condemnation), the tenant has no entitlement to compensation. Who has an interest is a different (and threshold) matter than the value of the interest. Slip op. at 14 (“the valuation method a court uses to determine the amount of a condemnation award does not affect the court’s determination of which claimants are entitled to a condemnation award based on their property interest—a determination that is often dictated by the terms contained in a condemnation provision[.]”).
One note: it is also the general rule in condemnation — even absent a condemnation clause — that a condemnation of the fee interest terminates any leases automatically.
One final critical note: this decision says nothing about how to value the interest of the lessor (the fee owner), only the tenant.
Utah Dep’t of Transportation v. Kmart Corp., No. 20160653 (Utah Sep. 25, 2018)