Why Use a Tenant Estoppel Agreement
By Mercedes Shaffer l Published in AOA Magazine
When selling, financing or re-financing a rental property the tenant estoppel often comes up during the due diligence phase of an acquisition or during the underwriting of a loan. What exactly is a tenant estoppel certificate and how does it work? Let’s dive in and take a closer look.
What is a Tenant Estoppel? The legal definition of an estoppel certificate is that it’s a “signed statement by a party certifying for another’s benefit that certain facts are correct, as that a lease exists, that there are no defaults, and that rent is paid to a certain date. A party’s delivery of this statement estops that party from later claiming a different state of facts.’’ Black’s Law Dictionary, (7th Ed., 1999).
In other words, a tenant estoppel is a certified statement by a tenant that verifies the terms and conditions and current status of their lease. The word “estop” means to prohibit, and the purpose of a tenant estoppel is to prohibit a tenant from taking a position contrary to what is stated in their certificate. This is used in addition to the lease because it confirms that there have not been any modifications to the lease or any verbal agreements between landlord and tenant.
How Could a Buyer Be Affected by Verbal Agreements? If a buyer is purchasing a rental property and they are only provided with the current lease agreements, it may not tell the full story. For example, if six months into a lease the landlord/seller verbally agreed to allow a tenant to have a pet and accepted an additional pet deposit, and didn’t document it, this would be a material fact that the interested buyer needs to know before purchasing the property. Once this is revealed, the proper remedies and lease amendments could be put in place before the close of escrow so that there are no surprises that could cause a dispute between the tenant and new owner after the purchase of the property.
Why is an Estoppel Certificate Important for Banks? The tenant estoppel provides proof of cash flow, which is an important factor to a potential investor or lender. A very relevant example in today’s rental market would be if a landlord has made an agreement either verbally or in writing with a tenant that allows for a rent reduction due to financial hardship caused by COVID-19. This would be important for the investor and lender to know before purchasing or financing the property as it could negatively impact the cash flow.
When Does a Landlord Obtain an Estoppel Letter or Certificate? When an owner is selling a rental property, an estoppel certificate is typically obtained within the first seven days after an offer has been accepted. Depending on what’s written in the purchase agreement, a signed estoppel certificate by all the tenants may be a requirement in order to close escrow, though there are exceptions that can be negotiated.
What if a Tenant Refuses to Sign a Certificate? Most leases will have a provision requiring a tenant to provide a tenant estoppel letter or certificate upon request. If the lease requires a tenant to sign an estoppel certificate and the tenant refuses, then the tenant is in default of their lease agreement and potentially can be evicted. If the lease does not require a tenant to sign an estoppel, if they decide not to, then there’s nothing a seller can do to make them sign it, however from my experience most tenants will cooperate and sign.
What’s in a Tenant Estoppel Certificate? While the actual items required in a tenant estoppel may vary, in general its purpose is for the tenant to confirm that all the details that are in the lease agreement are true and unmodified. Details such as the current amount of rent due, the deposit amount, the commencement date of the lease, etc. If anything has been modified in the lease and/or if there are any defaults by the tenant or the landlord, it needs to be stated in the estoppel certificate. Once the tenant signs the certificate, they cannot later make claims that contradict what’s written in the estoppel certificate. For example, going back to the pet example, if the tenant gave the previous landlord an additional pet deposit, but they did not document it in the estoppel certificate nor was it in the lease, when the tenant moves out, the new owner is not responsible for accounting for the additional pet deposit.
Conclusion The tenant estoppel is a common item that often comes up during the due diligence phase of an acquisition and during the loan underwriting process. It’s used to provide a third-party insight into the relationship between a landlord and a tenant.
Most rental property leases require a tenant to provide an estoppel letter or certificate upon request. If your lease does not require a tenant to sign an estoppel, you can create an amendment to the lease agreement and have the tenants sign it now so that later down the road if you want to sell your property, this won’t come up as an issue.
If you have any questions regarding estoppel certificates or how to create a lease amendment that requires a tenant to sign an estoppel letter, feel free to contact me and I would be happy to help you. Mercedes Shaffer is an agent with Pacific Sotheby’s International Realty and specializes in investment real estate and 1031 Exchanges. For help with buying or selling investment property, Mercedes can be reached by phone at 714.330.9999, by email at InvestingInTheOC@gmail.com or visit her website at www.InvestingInTheOC.com. DRE 02114448.