What is a service charge and why must it be paid?
The terms of the lease will usually make the leaseholder liable to pay service charges in return for services provided by the landlord or any managers that are appointed. The legal definition of a service charge is an amount payable by a leaseholder/tenant, in addition to any ground rent, for services, repairs, maintenance, improvements, insurance and the cost of management; the whole or part of which may vary, from year to year, according to the costs incurred.
The service charge applies to the communal parts of the estate and the leaseholders will incur these charges in addition to the costs of maintaining their own flat. The service charge may also include annual contributions to a reserve fund, which is service charge money set aside to help cover the costs of major works (please see the LA Information Sheet 105 Reserve Funds). Service charges must be paid to ensure that the landlord or managers have sufficient funds to provide all of the services and maintenance needed for the effective management of the property. All service charges received by landlords or managers are held in trust, which will usually ensure that these monies will be protected if the company goes into administration or liquidation.
What services will the landlord or managers provide?
The services provided will be determined by the lease for that particular property. This will depend upon what will be required to manage the property but typically the following services will be provided:
- Maintenance, repair and redecoration of communal areas;
- Collection of service charges;
- Upkeep of any gardens and grounds;
- Arranging buildings insurance;
- Provision of staff such as a caretaker, concierge or scheme manager.
This is not an exhaustive list and the lease should be thoroughly examined to see what services are required. If the lease allows a service to be provided it will allow the full cost to be recovered from leaseholders by way of the service charge. The lease will usually allow the service charge to include the reasonable costs of management. (Please see the LA information sheet 104 Management Fees).
Why are service charges usually payable in advance?
The vast majority of leases will allow the landlord or manager to estimate and demand payment of service charges in advance of the accounting year. This ensures the landlord or manager has the funds available throughout the accounting year to meet the cost of providing the services. The landlord or manager must try to ensure that the amount payable in advance is reasonable but there is no legal requirement for consultation with leaseholders such as a budget meeting to allow debate regarding any prospective charges.
However, the Government approved codes of practice state that the landlord or manager should produce a proposed budget and hold a meeting with the leaseholders to allow consultation. It should be emphasised that the budget produces an estimate of the annual service charge, which will be adjusted when the actual expenditure is known at the end of the accounting year.
What level of service charges are payable and are they likely to increase?
As very few leases will refer to fixed service charges, they will be variable and likely to increase with inflation every year. However, the service charge the leaseholder is required to pay must be reasonable and reflect the actual costs the landlord or manager has incurred.
As stated above, most leases will allow service charges to be payable in advance and the lease will usually specify the frequency and method of collecting service charges. It is unusual for a lease to require the full year’s service charge to be paid in advance in one lump sum and typically payments could be paid half-yearly, quarterly or monthly. The landlord or manager will be relying on the prompt payment of service charges in order to continue to provide all of the services that are set out in the lease.
What is a reasonable service charge and can it be challenged even after it has been paid?
There is no legal definition of what might be reasonable and if a dispute cannot be settled between the parties it can be referred to a First-tier Tribunal (FTT) who have the authority to determine this exercising judicial discretion. It is possible to challenge a service charge that has already been paid as long as the leaseholders have not admitted that they agreed with the full amount charged. If a service is not specified in the lease, the landlord or manager is most unlikely to recover the costs from the leaseholders.
If there is a dispute regarding whether a service charge is payable or the amount charged, the LA can help its members by proving conciliation or by referring the matter to an independent Service Charge Panel for resolution.
Should leaseholders consider challenging service charges payable in advance?
Leaseholders should note, before challenging service charges payable in advance, that these are an estimate of the amount that will be needed to manage the estate for the forthcoming year and the actual expenditure on services will not be known until after the accounting year-ends. Although it is understood that leaseholders will not wish to pay a great deal more in advance than is necessary it is the actual expenditure that will be the most significant factor. If the landlord or manager finds that the expenditure was less than they predicted in the service charge budget, any excess, known as a surplus, will be credited against future service charges or returned to the leaseholders, depending upon the wording of the lease. If there is a shortfall, known as a deficit, the lease will usually require the leaseholders to pay this in full as soon as the amount has been identified in the annual service charge accounts.
The landlord will have the contractual right to set the level of service charge payable in advance, although this is required by legislation to be a reasonable amount. If agreement cannot be reached between the landlord or manager and the leaseholders regarding the service charge payable in advance, members can seek advice from the LA. If the LA considers it appropriate for investigation it will review the matter by looking at the lease, the proposed budget and the previous year’s service charge accounts to try to assist both parties to resolve the matter. If agreement cannot be reached at this stage, it may be referred to an independent Service Charge Panel (SCP).
If either party was dissatisfied with the decision of the SCP they could make an application to an FTT, which has the authority to make a decision on whether any service charge might be reasonable. It is hoped that an application to the FTT can be avoided but in some cases, the LA might help with this process where there is no alternative. Leaseholders should be aware that if they make an application to an FTT, against professional advice, and subsequently lose the case, they may incur the other parties’ costs which may be substantial.
Does the leaseholder have a right to know what service charges are being used for?
Regardless of whether the lease allows for this, the leaseholder has a legal right to request service charge accounts, also known as a summary of relevant costs, at the end of each accounting year. If landlords or managers fail to provide these accounts leaseholders can make a formal written request for this financial information. If a written request is made, the landlord or manager must provide the summary within one month of the request or within six months of the end of the period covered by the summary, whichever is the later.
Following the receipt of this summary, leaseholders have an additional legal right to carry out an inspection of all the invoices, receipts and other documents that support the summary. Again a written request must be made by a leaseholder and it is an offence for a landlord or appointed managers to fail to provide a summary, to ignore a request for inspection or to refuse to allow it to take place.
Should the landlord collect deficits at the end of each accounting year?
Some landlords or managers may neglect to collect deficits when identified at the end of the accounting year and have allowed them to accumulate. If the lease states that the deficit must be demanded on an annual basis then the landlord has a contractual obligation to comply with this. It is not regarded as good practice to allow deficits to build up and ideally they should be recovered at the end of each accounting year even if the lease does not specifically say so.
Is there a time limit in which the landlord can recover service charge costs?
Legislation often known as the ’18 month rule’ requires the landlord or manager to issue a demand for service charge items within 18 months of them incurring the cost. If the demand for payment is received later than this, the landlord or manager cannot recover the costs relating to this item, unless a notice was served during the 18-month period stating that the costs have been incurred and that the leaseholder would be required to contribute to them at a later date. It has now been established that the 18-month period should begin from the date the landlord or manager receives the final invoice for the works or services they arranged.
What documents must be provided with service charge demands?
Legislation requires the landlord or manager to send the leaseholder a summary of their rights and obligations with any demand for payment of service charges. If the landlord or manager fails to provide the summary the leaseholder can withhold an appropriate amount of the service charge until it is provided. This summary, which is in a prescribed form, sets out some of the leaseholders’ rights regarding service charges and informs the leaseholder how they can formally challenge the amount demanded and whether the charge is payable. Click here to read our summary of rights and obligations
What proportion of the total service charge is payable by each leaseholder?
The lease will usually specify the proportion of the total service charge that each leaseholder will be responsible for although this may not always be equal and may depend upon factors such as the number of rooms or the floor area of the property. The proportion is very unlikely to change. An exception might be where there is an additional property that reduces the proportions paid by other leaseholders e.g. the sale of a flat formerly occupied by a staff member.
Should a leaseholder withhold service charges?
The LA would not advise withholding service charges especially as an application can be made to an FTT even in cases where a disputed service charge has been paid in full, as long as the leaseholders have not admitted that they agreed with the full amount charged. Leaseholders can also apply to an FTT in respect of service charges demanded in advance and with regard to the standard of any works that the service charge is being used to pay for. The FTT will consider the evidence that is presented by both parties before making a decision on what is reasonable.
There are only two situations in which leaseholders can legally withhold payment;
- if the demand does not include the landlord’s name and address; or
- if the demand is not accompanied by a summary of rights and obligations.
It should be noted that the leaseholder can only withhold service charges until the above is rectified by the landlord or manager.
What action might be taken if service charges are not paid?
As the lease will require the leaseholder to pay the service charge in full, failure to do so is likely to be regarded by the landlord as a breach of the lease. If a leaseholder is having difficulty in paying service charges the first step is to contact the landlord or manager to try to make an arrangement.
If a leaseholder does not keep to an agreed payment arrangement or fails to keep in contact with the landlord or manager to try to resolve the arrears problems, they may find that one of the following enforcement options is taken for recovery of the debt:
- Contacting the leaseholder’s mortgage lender.
- Civil action, such as a small claims action or a county court judgement.
- Forfeiture, although this is a complex procedure and relatively difficult for the landlord to achieve, (please see LA information sheet 119 Leaseholders’ Rights and Obligations for full details).
Many leases will allow the landlord to make charges in respect of late payment and legislation now allows a reasonable administration charge to be made even if the lease does not specify this. The lease may also allow the landlord to charge interest on the outstanding service charge for the period that it remains unpaid.
Is the leaseholder obliged to pay before works have been completed?
The terms of the lease should be examined to see if payment can be demanded in advance of the works. If there is no reserve fund to cover the costs, most leases will allow estimated costs to be demanded either in part or in full before the works are carried out.
What consultation is required when major expenditure on works is proposed?
There is legislation relating to major service charge expenditure by the landlord or manager, which requires consultation with leaseholders when an amount of £250 or more is spent in relation to any leasehold flat. This also applies to any qualifying long-term agreement which is an agreement entered into by or on behalf of the landlord for a term of more than 12 months and if the annual amount payable by any one leaseholder exceeds £100.
If the landlord fails to consult in accordance with the legislation, which is ‘Section 20 of the Landlord and Tenant Act 1985’, the landlord might be unable to recover any amount in excess of £250. (Please see the LA Information Sheet 109 Section 20 Consultation).
Does a leaseholder have to pay towards the maintenance of a lift if they do not use it?
The leaseholder should always refer to the terms of the lease in order to establish what they are required to pay for. In almost all cases the lease will give the landlord the right to recover the costs of maintaining the communal parts of the property and all of the leaseholders will be required to contribute towards the cost of these facilities, such as the lift, regardless of whether they use them.
Do leaseholders have to contribute towards the cost of improvements?
The lease should be examined to find out whether the costs of improvements can be included in the service charge. If the lease does not require payment towards improvements leaseholders may not have to contribute towards the costs. However, in some cases there can be difficulty discerning between repairs and improvements depending on the nature of the works and if members are in doubt regarding this they can contact the LA for advice.
Do leaseholders have to pay for Health and Safety inspections for communal parts?
Asbestos and fire risk assessments to the communal parts of a leasehold block are required by Health and Safety at Work Regulations because common parts of buildings are regarded as work places in these Regulations. The landlord or managers can only recover costs relating to this from service charges if the terms of the lease allow it. Most leases include terms that allow the landlord or managers to arrange the necessary works and recover the costs as part the service charge if these works are required under a statutory duty.
Please see the LA information sheet 101 Glossary for a precise explanation of the terms used in this information sheet.
Disclaimer: This is a very general explanation of the subject. Where issues are not governed by statute the information is our opinion or best practice. You are advised to seek professional advice before acting on the guidance contained herein. Whereas The Leaseholder Association endeavours to ensure that published information is correct, it does not warrant its completeness or accuracy. The Leaseholder Association assumes no responsibility or liability for any injury, loss or damage incurred as a result of any use or reliance upon the information and material contained herein.
Info Sheet: 103/4/15 ©Copyright