In the case of commercial premises, the lease dictates which service charge costs can be recovered from the tenant and, read in conjunction with the RICS code of practice for commercial properties, sets out the basis of service charge recovery. Any challenges on recoverability would then be brought through the Court.
Where the service charge relates to residential long leases, there is an additional layer of protection for a tenant under statute. A landlord can only recover costs that are ‘reasonable’ and a tenant has the right to challenge the level of service charges through the Court or the Leasehold Valuation Tribunal (the LVT - soon to be incorporated into the Property Chamber of the First-tier Tribunal).
The Landlord and Tenant Act 1985 (LTA 1985) and the Landlord and Tenant Act 1987 (LTA 1987) set out most of the basic principles in relation to the recovery of residential service charges. However, the legislation does not override the lease which provides vital information about which service costs can be recovered.
When managing a scheme containing residential long leases a landlord must also take into account the guidance provided by the RICS in the Service Charge Residential Management Code. Whilst a landlord is not obliged to follow the code it is considered desirable and non-compliance would need to be justified in the event of a challenge.
Residential premises - legislation
S18 (1) LTA 1985 defines a service charge as:-
"an amount payable by a tenant of a dwelling as part of or in addition to the rent
(a) which is payable, directly or indirectly, for services, repairs, maintenance, improvements or insurance or the landlord’s costs of management; and
(b) the whole or part of which varies or may vary according to the relevant costs”
If the service charge comes within this definition it will be subject to the provisions of S18 to S30 of the LTA 1985 which places strict requirements on a landlord in relation to the management of the services and recovery of the costs.
Service Charge Demands
When demanding payment of service charge, care must be taken to ensure that the form of demand complies with the terms of the lease and also the relevant statutory requirements.
S47 LTA 1987
Where a written demand for service charge is given to a tenant, it must contain the name and address of the landlord and, if that address is not in England and Wales, an address in England and Wales at which notices may be served on the landlord by the tenant (see Beitov Properties Ltd v Martin 2012).
The service charge is not payable until this information is given to the tenant and the landlord would not be able to rely on any late or non-payment provisions in the lease in the meantime.
S21B LTA 1985
A summary of rights and obligations as provided for in the Service Charges (Summary of Rights and Obligations, and Transactional Provisions) (England) Regulations 2007 (2007 Regulations) must be sent with each demand for residential service charge. The 2007 Regulations set out the information to be included and it is important that the summary accompanies the demand (see Tingdene Holiday Parks Ltd v Cox 2011).
Again a tenant can withhold the payment of service charge from the landlord until S21B has been complied with and any lease provisions relating to late or non-payment do not have effect during this period.
S20B LTA 1985
S20B provides that if relevant costs are ‘incurred’ more than 18 months before a demand for those costs is served then (subject to S20B(2)) the tenant will not be liable to pay the same. Costs are ‘incurred’ when an invoice is presented or when payment is made, depending on the facts of the case (OM Property Management Ltd v Burr 2012).
Any costs which are included in a budget sent to the tenants at the start of the accounting period are protected for the purpose of S20B (Gilje v Charlgrove Securities Ltd 2003).
If it becomes apparent to a landlord that it is not going to be in a position to serve a demand within the 18 month period, it can protect its position under S20B(2) by writing to the tenant (within the 18 month period) notifying them of the level of costs incurred and advising that the tenant will subsequently be required to contribute to them.
Requests for Information
The LTA 1985 also provides that, on written request, a tenant is entitled to be provided with certain information relating to service charge costs and to insurance. They are also entitled to copies of documents in support of the information provided (S21, S22, S23 and S30). Should a landlord fail to comply with these statutory requirements it commits a summary office punishable by a fine.
The requirement of reasonableness
S19(1) of the LTA 1985 provides that service charge costs in relation to residential properties must be reasonably incurred and the services/works to which they relate must be of a reasonable standard.
Unfortunately the LTA 1985 does not provide a definition of what is “reasonable” and the Court or Tribunal will make a decision on the evidence in front of them should the matter proceed to a hearing. An example of the Courts/Tribunals approach to the issue of reasonableness can be seen in Garside v RFYC Ltd 2011.
S20 LTA 1985 - consultation
Consultation plays a significant part in service charge recovery, particularly when major work is planned.
S20 of the LTA 1985 sets out very stringent requirements in terms of the level of consultation required in the case of residential dwellings. There are two circumstances where a landlord may have to consult under S20.
Qualifying Works (QWs)
QWs mean works on a building or any other premises. Where a landlord is proposing to carry out QWs and any one tenant would have to contribute more than £250 to the cost of those works, the landlord must follow the consultation provisions set out in S20 (see Phillips v Francis 2012).
Qualifying Long Term Agreements (QLTAs)
A QLTA is an agreement entered into by (or on behalf of) a landlord for a term of more than 12 months. Consultation under S20 will apply if the relevant costs incurred under a QLTA (in any accounting period) exceed an amount which results in any one tenant’s contribution being more than £100.
There are certain contracts which are not classed as QLTAs, and are therefore exempt from the consultation requirements, but these are limited (see reg. 3 of Service Charges (Consultation Requirements) (England) Regulations 2003 (the 2003 Regulations)).
What form of consultation is required?
The form of consultation which has to be undertaken depends on the type of work to be carried out and / or whether a QLTA will be or has already been entered into. It is also relevant whether public notice is required under the Public Contracts Regulations 2006 (ie notice in the Official Journal of the European Union).
There are five different procedures set out for consultation and these are contained in Schedules 1 to 4 (parts 1 and 2) of the 2003 Regulations.
Non-compliance with the consultation requirements
The penalties for non-compliance with S20 are severe. If consultation should have been carried out and was not, in relation to a QLTA the landlord is only entitled to claim £100 per tenant and in relation to QWs it is only entitled to recover £250 per tenant.
Clearly failure to comply could have a significant financial impact on a landlord. However, in certain circumstances, dispensation from the consultation requirements may be obtained from the LVT. Dispensation can be requested in advance (ie where emergency work is needed) or after the event (ie where the original notices were invalid). However, it is often difficult to obtain, particularly when applied for retrospectively. The Tribunal will consider whether there has been any prejudice to the tenant(s) and in making its decision will disregard the financial impact on the landlord if dispensation is not allowed (see Daejan Investments Ltd v Benson 2011).
The First-tier Tribunal (Property Chamber)
Currently service charge disputes can be dealt with in the Court or the LVT although in reality it is usually the latter. However, subject to the final approval of Parliament, a Property Chamber of the first-tier Tribunal will be created in May 2013 which in the future will deal with service charge disputes (and other leasehold management applications currently dealt with by the LVT).
A new set of rules, the Tribunal Procedure (first-tier Tribunal) (Property Chamber) Rules 2013, are also going to be put in place. The Property Chamber will operate under these rules, which much more akin to the Civil Procedure Rules followed by the Courts.
The new rules are currently in draft form and have been subject to extensive consultation which ended in September last year. Unfortunately neither the results of the consultation, nor a final draft of the new rules, have yet been published.
Service charge management on mixed use and residential schemes is increasingly becoming the topic of regulation and case law. With the introduction of the new Property Chamber and proposals for the introduction of a self-regulatory regime by ARMA (‘ARMA-Q’) there are many things to consider moving forward and it has never been more important for practitioners to get to grips with the relevant issues.
Why this matters
With the increasing popularity of mixed use schemes, it is becoming more and more important to ensure that management of this type of scheme is carried out diligently, particularly in terms of service charge recovery.
Landlords (and management companies – where they are responsible for the services) often have narrow margins and cannot afford to be faced with a determination of the Court or Tribunal which results in a reduction in the level of service charges they can recover. This is especially so as they will undoubtedly have already incurred the full cost of providing the services.
As case law evolves, it is becoming apparent that the Courts and Tribunals are taking a firm approach in relation to interpretation of leases and the costs which a landlord can recover through the service charge provisions. They also expect very strict compliance with the relevant legislation and the RICS code of practice. Therefore practitioners (whether they be managing agents, landlords, surveyors or solicitors) must ensure that the terms of the lease relating to service charge have been fully considered and that the procedures set out in the Landlord and Tenant Act 1985 have been followed. Failure to do this can lead to significant financial losses for a landlord or management company.