Arizona Court of Appeals Division One Holds That The Rule of Merger Applies to Leases and Evidence of Contrary Intent May Preclude a Finding of Merger.

Eric and Amy Lutz were the sole members of WKL, Inc.  WKL entered into a contract to purchase a building from North Scottsdale Gateway, LLC (“Gateway”).  Before WKL completed the purchase, it leased office space in the building from Gateway.  The Lutzes executed a guaranty and agreed to pay WKL’s obligations under the lease in the event of default.  The Lutzes then entered into an agreement to sell the building to another entity, United, once it was acquired from Gateway.  Shortly thereafter, WKL and Gateway amended the lease and the Lutzes expressly extended their guaranty.   

WKL ultimately purchased the property from Gateway in accordance with the purchase agreement and conveyed the property to United that same day.  Four years later, United filed an action against WKL for breach of the lease and against the Lutzes for breach of the guaranty.  The Lutzes moved for summary judgment on the ground that the lease terminated by operation of law under the rule of merger when WKL acquired title to the building.  Both the Lutzes and United cross-moved to strike numerous facts from their respective statements of fact, arguing that they were irrelevant, hearsay, or improper opinion testimony.  The superior court granted both motions.  The court then granted the Lutzes’ motion for summary judgment, ruling that the common law doctrine of merger extinguished WKL’s obligations under the lease when WLK acquired title to the building.  United appealed.

The Court of Appeals held that the common law doctrine of merger has been replaced by the modern rule of merger in Arizona.  Under the modern rule:

The execution of a sale for real property between a landlord and tenant serves to merge the landlord-tenant relationship into the vendor-vendee relationship and thus effectively terminates the former unless the parties clearly intend the contrary result.

(citing 49 Am. Jur. 2d Landlord and Tenant § 195(2006)).  The Court was not persuaded by the Lutzes assertion that the modern rule did not apply to leases.  Instead, the court specifically held that the modern rule of merger applied to leases as well as mortgages and deeds of trust.  The Court further found that the superior court erred in granting the Lutzes’ motion to strike several portions of United’s statement of facts relevant to the parties’ intent, including portions of the sale agreement and second lease agreement as well as testimony by Mr. Lutz tending to show that the parties intended the lease to survive WKL’s acquisition of title to the building.  Because the superior court struck this evidence, the Court of Appeals determined that a question of material fact existed regarding whether the parties intended for the lease to merge with WLK’s title to the building. 

Judge Irvine authored the opinion; Judges Gemmill and Timmer concurred.