Q&A – Covid-19 and pending commercial agreements
- Does the COVID-19 pandemic constitute a force majeure reason in the Italian legal system?
The COVID-19 is a pandemic also from a legal perspective and therefore constitutes a force majeure reason.
Although the Italian legal system does not provide for a precise definition, according to the case law, the force majeure is an objective, extraordinary and unforeseeable event that prevents and makes impossible the fulfilment of an obligation and that is not attributable to the obliged party. The force majeure exempts the debtor from its liability in case of non-fulfilment of its obligations arising from the agreement.
Apart from the above general regulation, commercial agreements may contain a specific force majeure clause. Of course, the content of such a clause is subject to negotiation between the parties and may be partially different from case to case. It is, therefore, necessary to analyse the single clause to ascertain if the COVID-19 falls within the scope of the provision.
- Does the Italian civil code specifically regulate the legal consequences of the supervening impossibility of an obligation due to an unpredictable event?
The supervening impossibility is the impossibility to fulfill a specific obligation arising from an agreement, which occurs after executing the same agreement. It must be caused by an unforeseeable and external event.
As a rule, when an obligation becomes impossible, the debtor cannot be held liable for the breach and the obligation is extinguished. Nevertheless, the specific consequences depend on the type of impossibility.
Indeed, pursuant to the Italian civil code the supervening impossibility of an obligation may be: total or partial, permanent or temporary.
In case of total impossibility, the debtor is not liable for its breach of contract, its obligation expires, and the agreement automatically terminates.
If an obligation becomes only partially impossible (and therefore if a part of the same can be fulfilled), the other party has the right: (i) to a reduction of its obligation or (ii) to withdraw from the agreements if it has no interest in the partial fulfillment.
In case of temporary impossibility, the obligation does not expire; as long as the temporary impossibility persists, the debtor is not liable for the delay in performance. If the temporary impossibility ceases and the creditor still has an interest in achieving it, the debtor will fulfill, without any liability for the delay. The obligation is extinguished only if the temporary impossibility persists until – concerning the title or object – the debtor can no longer be considered obliged to perform it, or the creditor no longer has an interest in achieving it.
- Does the Italian legal system provide for the right of a party to terminate the agreement for hardship?
Article 1467 of the Italian civil code specifically regulates the termination of the agreement for Hardship. In particular, according to such a provision, in case of agreements having a continuous or periodic or deferred performance, if the obligation of one of the parties has become excessively burdensome due to the occurrence of extraordinary and unforeseeable events that do not fall within the normal contractual risk, the party that has to fulfill the obligation may request the termination of the agreement. However, the party against whom termination is sought may avoid it by offering to amend the terms of the agreement fairly.
In other words, the remedy of termination for hardship requires the existence of two necessary conditions: (i) an imbalance occurred between the obligations not provided for at the time of executing the agreement, and therefore a significant alteration of the original relationship between the parties and (ii) the attributability of the hardship to extraordinary and unforeseeable events that do not fall within the normal risk of the agreement.
The termination due to hardship does not work automatically but must be ascertained by a judge.
The party which intends to avail of it must act in court for the termination while the party against whom the termination is requested may avoid it by offering to amend the conditions of the agreement fairly.
- In case of lease agreement, has the tenant the right to withdraw from the agreement for “serious reasons” due to Covid-19 pandemic?
According to article 27, paragraph 8, of law 392/1978 the tenant has the right to withdraw from the lease agreement for “serious reasons” at any time, with six months’ notice.
According to the case law, serious reasons able to justify the withdraw of the tenant from the lease agreement must be extraneous to its will, occurred after the execution of the agreement, unforeseeable and such as to make the continuation of the lease relationship extremely burdensome. The events falling within the ordinary business risk cannot, therefore, constitute serious reasons justifying the tenant withdrawal.
The COVID-19 pandemic, in itself, is not sufficient to justify the tenant withdrawal but the economic consequences that the tenant’s business actually suffers due to the pandemic and due to the measures adopted by the Italian Government to limit and contain it, could be considered as serious reasons.
In order to ascertain the concrete applicability of such a remedy to terminate the lease agreement, it is necessary to verify the actual economic consequences of such an event on the single lease relationship, on a case-by-case basis.
While according to the previous and consolidated orientation of the case law, the seriousness of the reasons had to be assessed considering the global dimension of the company, according to the most recent case law, the recurrence of the serious reasons suitable to the withdrawal must refer to the specific branch of business to which the lease agreement refers.
- In case of lease agreement, has the tenant the right to a reduction of the rent for the days of forced closure imposed by the Italian government?
Under Italian law, the main obligation of the landlord is, pursuant to article 1575 of the civil code, to ensure to the tenant the peaceful use of the premises.
Theoretically, it is true that the forced closure of the stores because of an order of the Italian Government does not prevent the tenant to use the premises, and therefore it can be assumed that the tenant obligation to pay the rent is not touched by such an event.
Nevertheless, the forced closure imposed by the Italian Government prevents the tenant to use the unit as a shop and therefore does not allow the tenant to carry out its business – the sale of goods – which is the reason why it entered into the lease agreement.
It could be therefore argued that this circumstance constitutes a partial impossibility of the landlord obligation to ensure the use of the unit as a shop and that therefore the tenant has the right to a reduction of its obligation of payment of the rent, according to the general rules on supervening impossibility mentioned above.
The strength of the above argument also depends on the specific content of the single lease agreement, and specifically the emphasis given by the parties to the use the unit for the activity of the sale of goods and on the fact that such use is an essential element of the lease agreement.
The right of the tenant to a reduction of the rent for the shut-down days could also arise from the application of the equity principle.
In fact, according to article 1374 of the Italian civil code, the contract obliges the parties not only to what it is therein expressed, but also to the consequences deriving from equity principle (in other words, the contract must be integrated according to equity principle). Such a principle has been invoked by the judges to avoid unjust damages to one of the parties and to restore the balance between the parties in case of extraordinary and unpredictable events. It could, therefore, be argued that the payment of the rent during the forced closure period is contrary to equity principle, which imposes an integration of the contract with a reduction of the lease rent at least for the store forced shut down period.
- In case of business lease agreement, has the tenant the right to a reduction of the rent for the days of forced closure imposed by the Italian government?
In case of business lease, the arguments in favor of the tenant’s right to a reduction of the rent for all days of forced closure of the shop could be stronger.
Indeed, in case of business lease, the landlord grants to the tenant the right to make use of business, which has to be productive or, at least, potentially productive.
The forced closure of the stores because of an order of the Italian Government is a fact which prevents the tenant from making use of the business, since it determines the impossibility for the business to be productive.
Therefore, it could be argued that the obligation of the landlord has become partially impossible and therefore that the tenant has the right to reduce its obligation of payment of the rent accordingly.
Furthermore, the tenant could insist on the application of the equity principle as mentioned above.
- What are the risks in case of non-payment of the rent?
The risks that the tenant takes in case of non-payment of the rent for the shut-down days depend on the content of the lease agreement.
The first risk is the termination of the agreement. The lease and f business lease agreements usually contain a clause according to which the landlord is entitled, pursuant to article 1456 of the Italian civil code, to automatically terminate the agreement by means of a simple communication, in case of non-fulfillment of the obligation of payment of the rent, by sending a simple written notice to the tenant, without granting any grace period to remedy the breach.
Without such a clause, the landlord has, in any case, the right to terminate the agreement, according to article 1454 of the civil code. However, in this case, the non-breaching party (landlord) must serve a written notice on the other party (tenant), inviting it to care for the breach within an appropriate time. In case of termination of the agreement, the tenant could be ordered to pay damages.
The second risk is the enforcement of the bank guarantee. Indeed, usually the tenant’s obligations under the agreement are guaranteed by a bank guarantee delivered from the tenant to the landlord at the execution of the agreement. In case of non-payment of the rent, the landlord could enforce such a guarantee and, therefore, ask the bank to pay the due amount.
The third risk is the application of the penalty provided for in the agreement for the delayed payment of the rent.