The Circuit Court for Baltimore County held that the Rule Against Perpetuities voided an option in a lease to purchase the leased property because the option could have been exercised after the expiration of term of the lease. PMIG 1028, LLC v. Northwest Plaza Associates, LLLP, No. 03-C-16-004173 (Balt. Co. Circ. Ct. Jan. 26, 2018).
In 1975, the predecessors of the current landlord and tenant entered into a lease for a gasoline filling and service station located on a portion of a shopping center on West Northern Parkway in Baltimore City. The lease was for an initial term of 20 years with four five‑year renewal options. The lease also gave the tenant the right to purchase the property for $350,000 at any time after the expiration of the initial term of the lease. In December 2015, just prior to the expiration of the last renewal term, the tenant gave notice that it intended to exercise its purchase option. The landlord responded that the purchase option was void for violating the Rule Against Perpetuities and the Rule Against Unreasonable Restraints on Alienation.
The Rule Against Perpetuities, which has been part of the common law since the Duke of Norfolk’s Case in 1684, voids interests in property unless they must vest, if at all, within 21 years plus the period of gestation after the expiration of an identified life in being. The Court of Appeals has held that the Rule Against Perpetuities does not only apply in the estates and trusts context, but also in commercial transactions such as contracts of sale and leases. Commonwealth Realty Corp. v. Bowers, 261 Md. 285 (1971).
Maryland appellate courts have never decided whether a purchase option in a lease was subject to the common law Rule Against Perpetuities. In Commonwealth Realty, Selig v. State Highway Administration, 383 Md. 655 (2004), and Ferraro Construction Co. v. Dennis Rourke Corp., 311 Md. 560 (1988), the Court of Appeals stated that there were limited exceptions to the Rule Against Perpetuities, and that among the exceptions were purchase options contained in leases. The Court of Appeals did not point out that this exception is limited to situations where the option is exercisable only during the term of the lease, as is clearly set forth in Restatement §395(a) and its comments. Therefore, the landlord faced the challenge of convincing the trial court that the language used by the Court of Appeals was incomplete and was provided for purposes of illustration only.
In 2007, the General Assembly changed the common law Rule Against Perpetuities in Maryland by enacting §11-102.1 of the Estates and Trust Article of the Maryland Code (“ET”) and amending ET §11-102. ET §11-102.1 provides that for non-donative or commercial agreements, the Rule Against Perpetuities is not violated if an estate vests (such as when an option is exercised) within a stated or determinable period of time, even if the vesting might have occurred beyond the time period allowed by the common law Rule Against Perpetuities, and even if the parties did not include a savings clause in their agreement.
The tenant in PMIG v. Northwest Plaza argued that the 2007 legislation saved the purchase option. The tenant reasoned that the option was exercised in 2015, after the 2007 law became effective, and should have had the benefit of it. However, the circuit court rejected this contention and held that the purchase option was governed by the common law Rule Against Perpetuities.
Further, the court held that because the purchase option in the lease provided that it could be exercised in the far distant future, beyond the perpetuities period, it was void from the beginning (void ab initio). It would not have mattered if the purchase option had been exercised on the day after the initial term ended, which would have been less than 21 years after the lease was signed. Because the option might have been exercised many years thereafter, it was void ab initio. Therefore, the circuit court denied the tenant’s request for a declaratory judgment that the purchase option had been effectively exercised.
The circuit court specifically did not address the issue of whether the purchase option violated the Rule Against Unreasonable Restraints on Alienation. That Rule voids interests that last too long. (The Rule Against Perpetuities, in contrast, prohibits interests that do not vest soon enough.) However, a purchase option that could be exercised years and years from the time it was created is a textbook example of an interest that lasts too long. Hence, had the issue been considered, the purchase option would have been void for violating the Rule Against Unreasonable Restraints on Alienation.
The policy reason for both of these Rules is that an interest such as a long-term purchase option for a fixed price takes the property “out of commerce.” While the purchase option is outstanding, the owner or tenant of the property has no incentive to improve the property because a third party can buy it for an already established price.
The tenant appealed the circuit court’s decision to the Court of Special Appeals. PMIG 1028 LLC v. Northwest Plaza Associates, LLLP, No. 104, Sept. Term 2017 (Md. Ct. Spec. App.) After the parties filed briefs with the appellate court, they reached a settlement. Therefore, there will not be an appellate decision in this case.
NOTES: 1. Had this case been governed by the Uniform Statutory Rule Against Perpetuities (“USRAP”) or the current Restatement of Property, it would have been decided differently. USRAP has established a 90 year wait-and-see rule in the 28 states, the District of Columbia and the U.S. Virgin Islands, that have adopted it. Because the tenant in PMIG v. Northwest Plaza exercised its purchase option within 90 years of its creation, it would not have been void under USRAP. The Restatement (Third) of Property §27.3 (2011) has excluded commercial transactions from the effect of the Rule Against Perpetuities.
2. Gordon Feinblatt LLC represented Northwest Plaza Associates, LLLP, the landlord, in PMIG v. Northwest Plaza.
For questions, please contact Ed Levin (410) 576-1900.