AN UNEXPECTED RISK FOR BANKS

AN UNEXPECTED RISK FOR BANKS:  THE CHICAGO RESIDENTIAL LANDLORD AND TENANT ORDINANCE

by Jonathan M. Weis

It is an all too common scenario these days with mortgage foreclosures at an all-time high:  someone leases a single family home or condominium unit (used for residential purposes) from the then owner of the property.  Subsequent to this lease being executed and the tenant taking possession, the owner goes into default on his or her mortgage, the owner’s lender (i.e., a bank) files a judicial foreclosure action and, as is often the case, the bank becomes the owner of the property.  Typically in these scenarios the bank will have a court appointed receiver manage the property during the foreclosure process and/or hire a manager subsequent to the foreclosure process to manage the property and address any tenant issues.

As the lease nears expiration, the tenant, who is likely aware of the foreclosure, inquires of the former owner and the bank, as to the status of his or her security deposit (which, for higher-end properties in Chicago, can easily exceed $5,000.00).  The former owner, if they respond at all, tells the tenant about the foreclosure and that the former owner has no assets in any event, and that the tenant should contact the bank to get their security deposit.  Upon contacting the bank, the bank responds that the former owner’s security deposit was never transferred to it during the course of the foreclosure or at any other time, and that the tenant should seek the return of their security deposit from the former owner.  A conundrum is afoot.  Is the tenant simply out of luck?  The answer to this question has not been specifically addressed by the Illinois courts; however, the Chicago Residential Landlord and Tenant Ordinance (RLTO) likely gives us the answer, and it is not good for the bank.

The RLTO has long been the bane of many landlords’ existence in the City of Chicago, but it could quickly become a thorn in the side of foreclosing lenders as well.  According to the City, the purpose of the RLTO is “to protect and promote the public health, safety and welfare of [the City of Chicago’s] citizens, to establish the rights and obligations of the landlord and the tenant in the rental of dwelling units, and to encourage the landlord and the tenant to maintain and improve the quality of housing.”  (RLTO, Section 5-12-010).  Excluded from coverage under the RLTO are: (i) dwelling units in owner-occupied buildings containing six units or less; (ii) dwelling units in hotels, motels and the like; (iii)  housing accommodations in a hospital, convent, monastery, extended care facility or dormitory; (iv) a dwelling unit occupied by a purchaser pursuant to a real estate purchase contract prior to the transfer of title to such property to such purchaser, or by a seller of property pursuant to a real estate purchase contract subsequent to the transfer of title from such seller; (v) a dwelling unit occupied by an employee of a landlord whose right to occupancy is conditional upon employment in or about the premises; and (vi) a dwelling unit in a cooperative occupied by a holder of a proprietary lease.

In our situation above (which is, by the way, a real life situation), the tenant realizes that his former landlord is still liable under the RLTO for the security deposit.  At the same time, however, the tenant understands that the former landlord is unlikely to have the security deposit and unlikely to have the assets to satisfy a judgment if the tenant were to sue the former landlord under the RLTO.  Therefore, the tenant looks to the bank for the return of his or her security deposit.

Unfortunately for the bank, the RLTO does appear to cover this set of facts and subjects the bank to liability for the return of the security deposit.  In fact, not only can the bank be liable to the tenant for the return of his or her security deposit but, like any landlord, the bank can be subject to severe penalties should it fail to comply with the relevant terms of the RLTO with respect to the security deposit.  The liability stems from the RLTO defining “landlord” as including the original landlord’s successor in interest, i.e., the bank in this instance.

Specifically, Section 5-12-80(e) of the RLTO states that:

[i]n the event of a sale, lease, transfer of ownership or control or other direct or indirect disposition of residential real property by a landlord who has received a security deposit or prepaid rent from a tenant, the successor landlord of such property shall be liable to that tenant for any security deposit, including statutory interest, or prepaid rent which the tenant has paid to the transferor.

The transferor shall remain jointly and severally liable with the successor landlord to the tenant for such security deposit or prepaid rent, unless and until such transferor transfers said security deposit or prepaid rent to the successor landlord and provides notice, in writing, to the tenant of such transfer of said security deposit or prepaid rent, specifying the name, business address and business telephone number of the successor landlord or his agent within ten days of said transfer.

Based on these provisions of the RLTO, whether or not the bank received the security deposit from the original landlord, it would be liable to the tenant for the maintenance and return of the security deposit.

Section 5-12-80(e) of the RLTO further provides that:

[t]he successor landlord shall, within 14 days from the date of such transfer, notify the tenant who made such security deposit by delivering or mailing to the tenant’s last known address that such security deposit was transferred to the successor landlord and that the successor landlord is holding said security deposit. Such notice shall also contain the successor landlord’s name, business address, and business telephone number of the successor landlord’s agent, if any. The notice shall be in writing.

If the bank fails to follow these precise requirements, it would further violate the RLTO.  In terms of penalties for violation of the RLTO, the bank is subject to strict liability damages in an amount equal to two times the security deposit plus interest and attorneys’ fees and costs.

The bank is now left with the option to defend a lawsuit initiated by the tenant, which the tenant has a likelihood of winning and to then being awarded his or her attorneys’ fees and costs, or coming out of pocket for the security deposit, thereby hopefully being able to negotiate with the tenant to avoid the severe penalties imposed by the RLTO.

Any lender foreclosing on a property covered by the City of Chicago RLTO would be well-advised to become familiar with the ordinance and do everything possible to comply with its terms.  We would be happy to address any questions you may have with respect to this subject matter.

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