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Impact of Covid-19 on real estate contracts in Italy

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Paolo Fedele
Chiomenti, Milan
paolo.fedele@chiomenti.net

 

Introduction

The Covid-19 pandemic and the restrictions imposed by the public authorities to reduce its spread have caused, and are still causing, severe impacts on economy and business relationships on a global scale. Italy was one of the first European countries to experience a country-wide lockdown and social distancing restrictions. Starting from March 2020 both the Italian government and local authorities have issued several decrees and/or regulations providing, inter alia, for restrictions to the circulation of individuals, the suspension of all retail activities, except for food shops and specific shops trading primary needs and goods (eg, pharmacies) and the suspension of productive and industrial activities across the entire country (with limited exceptions, such as food and beverage production and chemical and pharmaceutical industries). From April 2020, several regulations have been issued to gradually loosen the restrictions imposed through the previous measures.

The Covid-19 health emergency has deeply impacted the Italian economy causing an abrupt halt of productive activities and uncertain market trends. The real estate industry (especially hospitality and retail segments) has been suffering dramatic spillovers from the pandemic, with several real estate transactions in Q1 of 2020 interrupted or suspended in light of the challenges in assessing the recovery of the market and price-related risks.

The real estate contracts mostly affected by Covid-19 and consequent restrictions are those relating to construction activities and lease relationships.

Construction contracts

From 23 March 2020, all activities within construction sites have been suspended, save for very limited exceptions. In view of the reopening following to the lockdown period, several health and safety protocols have been adopted to provide specific rules aimed at preventing Covid-19 from spreading within construction sites. This entailed a sharp increase of the health and safety costs and, as a result, most contractors have started requesting to the principal the reimbursement of such additional costs.

Moreover, with particular reference to the delays accrued vis-à-vis agreed construction timings and effects of the suspension of works, pursuant to the aforementioned emergency-related regulations: (1) the initial and final terms set forth under construction contracts (and other contracts concerning construction works) entered into for the execution of private constructions works (lavori edili), effective in the period between 31 January 2020 and 31 July 2020 have been extended for a period of 90 days; and (2) the principal has been required to pay to the contractor the consideration for works already carried out until the date of suspension of the works, in spite of any different provision under the construction contract.

Lease agreements

With regards non-residential lease agreements (both property leases and business leases), in general terms, many of the lessees/tenants have been deeply affected by the extraordinary restrictions adopted to contain Covid-19 (especially those operating in the retail and hospitality sectors) and are now facing the negative economic fallout of the pandemic. The main consequence is that tenants have asked for reduction, suspension and/or postponement of rent and of the ancillary charges referred to the lockdown period (and often also for later periods). Tenants/lessees are also seeking protection through general remedies provided for by Italian law, such as supervened excessive onerousness (eccessiva onerosità sopravvenuta), impossibility of the performance and/or tenant's right of early termination for serious grounds (recesso per gravi motivi) pursuant to Italian tenancy law. In such respect, tenants/lessees and landlords are currently renegotiating the terms and conditions of lease agreements, often through the execution of settlement agreements, for the purpose of rebalancing contractual obligations and allocating economic burdens and related risks among the parties.

It is worth highlighting that the Italian courts have issued a number of precautionary measures (misure cautelari) with respect to landlords’ requests to enforce bank guarantees and/or deposits securing the tenants/lessees’ obligations to pay the rent. In this regard, two main trends have been recorded so far: (1) a first initial trend, favourable to tenants, rejecting the landlords’ requests of enforcement of the bank guarantees and deposits; and (2) a more recent trend, favourable to landlords, endorsed by certain courts which stated, inter alia, that there are no regulations in force allowing a tenant to suspend or refuse the payment of the rent in the event of suspension of the activity carried out by the same tenant due to the emergency regulations.

The Office of the Italian Supreme Court of Cassation in charge of summarising the Court’s has recently issued a report (No 56 of 8 July 2020) on the impacts of Covid-19 on commercial agreements. According to such report, the pandemic does not cause the impossibility to fulfil any payment obligation set out in the commercial agreements and the supervened impossibility provided for by Article 1464 of the Italian Civil Code does not apply to lease agreements, since the obligation of the landlord to grant the use of the property to the tenant remained possible and kept being fulfilled by the landlord also in the context of the unprecedented situation as a result of the pandemic. Furthermore, according to the above report, even though the pandemic may lead to qualify certain obligations contained in the agreements as excessively onerous, the only remedy available to the party affected by the excessive onerousness is the termination right set forth by Article 1467 of the Italian Civil Code, meaning that such party cannot arbitrarily reduce or suspend its contractual obligations and in order to obtain the termination of the agreement it shall submit a specific claim to the competent court, providing evidences of the excessive onerousness incurred. The Office also refers to the principle of ‘renegotiation in good faith of the terms and conditions of the agreement’ to overcome the effects of the pandemic. Although this document is not binding, the above report may be of help to manage (and possibly avoid) controversies in connection with the Covid-19 situation, as to a certain extent it reflects the position that the Italian Supreme Court of Cassation may adopt in the future in this regard.

Incentives

Among the most significant measures which have been adopted by the Italian government for the purpose of supporting the real estate operators both under tax and financial standpoints, it may be worth mentioning the following:

Tax incentives:

  1. Tax credit equal to 60 per cent of the rent paid for March 2020, in favour of tenants occupying properties falling under cadastral category ‘C1’ (which is the most common category for retail buildings) and carrying out business activities which have been suspended during Covid-19 health emergency; such tax credit can be used to offset other taxes or assigned in favour of third parties, including banks and other financial intermediaries.
  2. Tax credit equal to 60 per cent of the rent paid for March, April and May 2020 in favour of tenants occupying properties used for business activities. Such tax credit applies also to business leases (affitti di azienda) whose business includes at least one non-residential property, but in this case the tax credit is equal to 30 per cent of the rent paid in the aforementioned reference months. To be eligible, as a rule, tenants shall meet specific requirements: (i) turnover not exceeding €5m in 2019; and (ii) decrease of turnover by at least 50 per cent in the reference months of 2020, compared to the same months of 2019. Retail tenants not meeting requirement (i) above may benefit from the tax credit in a reduced amount of 20 per cent or ten per cent. Such tax credit cannot be used jointly with the tax credit under point (i) above. This tax credit can be used by tenants in the tax return for tax period 2020, or used to offset other taxes, or assigned in favour of third parties, including banks and other financial intermediaries, and landlords, as partial payment of the rent (in such case, tenants shall pay to landlords only the difference between the rent due and the tax credit assigned). The assignee can then set off such credit against its own taxes.

Financial incentives:

  1. The possibility for micro-businesses and small and medium-sized enterprises established in Italy, whose exposures are not classified as ‘non-performing’, to benefit from an ex lege moratorium.
  2. An Italian state-backed guarantee (ie, Garanzia Italia, issued by Sace SpA),[1granted at favourable terms and conditions in order to facilitate access to financing (issued by banks) necessary to face Covid-19. Such guarantee originally could be used to cover personnel costs, investments or working capital deployed in production facilities, business activities located in Italy and the payments of rents or the instalments related to the loans due or falling to be due during the emergency period.

Note

[1] Sace SpA. is the Italian export credit agency, indirectly wholly owned by the Italian Ministry of the Economy.

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