One common issue faced by landlords and managing agents of leasehold properties is leaseholders challenging the reasonableness of service charges.
When determining whether a particular service charge item is payable, the first step is to assess whether it falls within the service charge provisions of the lease.
If it does, the Landlord and Tenant Act 1985 provides that:
"The landlord may only include costs in the service charge to the extent that the costs were reasonably incurred and the works or services to which they relate were carried out to a reasonable standard."
The amount of any advance payment for service charges must be reasonable.
Any costs that fail these reasonableness tests cannot be included in the service charge. Tenants have the right to apply for a determination as to whether a service charge is payable under section 27A of the Landlord and Tenant Act 1985 (LTA 1985).
Are the Service Charges 'Reasonable'?
The Landlord and Tenant Act 1985 sets out a test for the reasonableness of service charges. The two key elements of this test are:
a) The landlord may only include costs in the service charge if the costs were reasonably incurred, and the works or services were carried out to a reasonable standard.
b) Any advance payments of service charges must be reasonable.
Any costs that do not meet these criteria cannot be included in the service charge.
a) Costs Reasonably Incurred and Works or Services Carried Out to a Reasonable Standard
In Forcelux Ltd v Sweetman and Parker [2001] 2 EGLR 173 (LT), the Lands Tribunal held that determining whether costs were reasonably incurred involves a two-stage test: first, whether the landlord's decision-making process was reasonable, and second, whether the sum charged was reasonable in light of market evidence.
In Waller v Hounslow LBC, the Court of Appeal clarified that while the same legal test applies to both repairs and improvements, the factors that a landlord should consider in respect of improvements may be more extensive than that for repairs. If more than one outcome was reasonable, it is for the landlord to choose between them.
b) Advance Payments Must Be Reasonable
It is common for residential leases to require payments on account of service charges at regular intervals throughout the year. Where this is the case, the interim payment must be reasonable, as set out in section 19(2) of the LTA 1985.
The case of Avon Ground Rents Ltd v Cowley [2019] EWCA Civ 1827 established that there is no rigid rule for determining whether advance payments are reasonable; it depends on the facts of the case. In this instance, it was deemed unreasonable for residential tenants to pay the full cost of remedial works upfront when a near-equivalent payment was expected from the NHBC, with no anticipated delays.
Applications for Determination of Reasonableness
When leaseholders apply to the Tribunal for a determination, common factors they raise include:
- The standard of work carried out.
- Potential conflicts of interest where contractors are linked to the landlord or managing agent.
- The frequency of works.
- The maintenance history.
- The size of the property.
- The benefit to all leaseholders.
It is essential for agents and landlords to maintain accurate records to demonstrate that their decision-making was reasonable and that the costs incurred were justified in case of a challenge.
Steps to Protect Yourself
If a leaseholder applies to the Tribunal, it is the landlord's responsibility to prove that the charges are reasonable (rather than the leaseholder needing to prove they are unreasonable).
Some practical ways to ensure that you are charging reasonable service charges, and can demonstrate this if needed, include:
- Obtain multiple quotes from different suppliers in the market.
- Be prepared to explain your decisions. Reasonableness does not require selecting the cheapest option, as long as the expenditure is in line with the market norm.
- Keep detailed records of decisions, whether related to contractor appointments or the scheduling of works.
- Make it easy for leaseholders to provide feedback on services and investigate any issues they raise.
- Regularly review contracts and providers to ensure value for money.
- Stick to your service standards. Don't commit to completion dates without a clear timeline or if the tender process hasn't started.
- Maintain open communication with your leaseholders, involving them in decision-making. This can help avoid Tribunal disputes and foster positive relationships with leaseholders.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
