Precision drafting: Making the clauses reflect intent

November 2010

Precision drafting: Making the clauses reflect intent

bouton-vers-francaisFredric L. Carsley
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A perceptive thought from an experienced litigator: The success or failure of a contractual lawyer's career will, in the end, be judged by the number of times the contracts he or she participated in ended up in Court. The types of agreements real estate lawyers typically draft or review, such as leases, mortgages, reciprocal contractual easement and operating agreements and development agreements, are often long term contracts. The longer the duration, the less likely the original negotiators will be available to explain intent when an interpretation dispute arises. So, to avoid conflict, our job is to ensure that contracts accurately document the common intention of the parties.
 
A January 28, 2010 judgment of the Québec Court of Appeal1 which unanimously reversed the Superior Court decision, provides an insightful analysis within a fairly high stakes setting of how conflicting clauses have to be treated.
 
Société Immobilière du Québec ("SIQ") is the Québec Government body that leases space for the various provincial departments and agencies. In this case, it controlled a piece of land. Rather than developing, building and financing the project itself, it granted emphyteusis (a form of Civil Law ground lease) to a developer for 30 years, and in turn leased the project from the developer as a tenant for 30 years.
 
Under this lease arrangement, the basic rent was to be adjusted every five years to reflect increases or decreases in the mortgage rate the developer would then be paying for its first ranking, blended payment mortgage secured on the project. When the lease was executed, there was no such financing in place. So the parties added a special condition, setting the financing rate at two percentage points above the Québec Savings Bond rate at the time, which resulted in a rate of 12.5%. Subsequently, although eligible mortgage financing was placed on the project, the parties continued to adjust on the basis of the Québec Savings Bond rate, although in so doing, the developer realized that it was losing money and would continue to do so for many years. In fact, when the proceedings were instituted, over $500,000 of loss had already been accumulated.
 
The developer sought a declaratory judgment, asking the Court to rule that the special condition only applied when no mortgage financing was in place; otherwise, the rate and consequential rental adjustment should be done on the basis of the actual mortgage financing rate.
 
The SIQ argued, and won in first instance, that the parties added this special condition with the intent that it apply regardless of whether or not mortgage financing was in place. The argument was supported by the fact that the developer, by its prior conduct over 16years, had confirmed this to be the proper construction of the lease.
 
In reversing the first instance judgment, the Court of Appeal applied numerous rules of interpretation found in the Québec Civil Code. The Court reasoned:

(i) Contracts must be considered in their entirety, such that each provision may be given some meaning. If this special condition was in fact to become the general rule, then why did the parties retain the mortgage adjustment clause in the lease?
 
(ii) An exception should not become the general rule: To give the special condition status at any time other than when no mortgage is in place, is to convert the special clause from an exceptional situation to deal with stop gap measures into a general rule.
 
(iii) What was the true intent of the transaction? At its root, this was a financing transaction structured on a cost of funds basis. Instead of the SIQ borrowing the money and developing itself, it proceeded via a developer, and adjusted the rent upwards or downwards with the percentage changes in the cost of funds. There is no risk/reward scenario here, but the Court reasoned that the developer should not lose money by a misapplication of the lease clauses.
 
(iv) The impact of prior conduct: Article 1425 of the Québec Civil Code permits to be taken into consideration, inter alia, the interpretation already given to the contract by the parties. However, prior case law on this topic requires that the conduct be unequivocal and constant. Here, objections were made to the SIQ as early as 1994. The SIQ categorically refused to consider anything but the special condition and the developer somewhat begrudgingly accepted the rent based upon the SIQ's premise and calculations. With deference to the trial judge, the Court of Appeal refused to conclude that this conduct evidenced the developer's agreement with the SIQ's interpretation.

Hindsight is 20/20 vision, but these situations allow us to ask ourselves — what could be have done or could be done in the future, to ensure the correct result without having to involve the Courts?
 
One provision that could have been added to the special condition might have read as follows:

"For clarity, it is agreed and understood that this special condition will only apply if, at the time of any five (5) year rent adjustment, the mortgage conditions stipulated in Section "?" of this lease have not been fulfilled, it being the express intention of the parties that this special condition be used only in that exceptional circumstance."

Fredric L. Carsley is a Partner in the Montreal law firm De Grandpré Chait LLP and heads its real estate practice group. Carsley is a past ICSC Canadian Division Government Relations Chair and a 2006 recipient of the ICSC Trustees Distinguished Service Award.
 
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[1] Pomerlim, Société en commandite v. Société Immobilière du Québec, 200-09-006373-085 reversing 200-17-006019-053

This bulletin provides general comments on recent developments in the law. It does not constitute and should not be viewed as legal advice. No legal action should be taken on the basis of the information contained herein.

 

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