Service Charges

What is a service charge?

A service charge is a contractual payment that tenants must pay to landlords for services as part of their lease, standard contract or tenancy agreement.

Why would you have a service charge?

The purpose of service charges is to ensure a building is kept in good repair and run efficiently when there are numerous users. When you have more than one user of a building it could get very complicated when deciding how best to allocate and pay for works, as different users would have different priorities. The service charge mechanism allows the landlord or management company to collect and pay for the works it deems necessary to ensure the building is maintained to a good standard – this in turn protects the tenants of the building, as their interest in the building is protected.

Services can include repair work or maintenance to roofs, foundations, window frames, guttering, cables, lifts, fire safety, communal drains and pipes and sometimes insurance of the building.

Service charge is meant as a cost-neutral exercise for a landlord and they should not be making any profit from the service charges.

The landlord wants to try to ensure that rents obtainable from such properties are not reduced by the landlord having to pay for various services provided to the individual units or common areas of the building or estate.  This is often in direct conflict with the tenant’s aim which is to carve out items from the service charge that it thinks the landlord is liable to pay.

What can the landlord charge for?

The landlord can only charge for items which are specified in the lease. A comprehensive list of services should be included in the lease. Tenants and landlords should be having discussions upfront on potential issues under the services provided so that only relevant services are included.

A tenant will not generally be expected to pay to upgrade or improve the landlord’s property as opposed to repairing it. But some upgrading may be inevitable if an item is replaced and a like for like item is not available.

Do charges have to be reasonable?

Unless there is an express term which states that charges are to be fair and reasonable, reasonableness will not be implied in commercial leases.  This does not mean that the landlord has the ability to charge whatever it wants as a court would likely find against a landlord who carried out services to the highest possible standard regardless of the nature of the property and sought to recoup this from the tenant.

How are service charges calculated?

As the charges are contractual sums, the lease or tenancy document will set out the mechanism and calculation for how service charges are payable.

Usually, the amount is directly linked to how much the landlord spends on the building and the communal areas used by all the users of the building. However, it is possible to get a fixed-service charge sum or agree a cap on service charge.

Most modern agreements allow for the landlord to prepare an estimate of the services and costs they anticipate they will need for the year and then prepare a final year end account once all the costs have been calculated. The landlord will then request that the tenant top up the account or provide a credit note.

How does a tenant know how much the service charge will be?

The tenant should ask for and the landlord should provide an estimated costs schedule to the tenant of the anticipated service costs. The service costs will then be payable by the tenant on an estimated basis.

At the end of the relevant period, the landlord will confirm to the tenant the actual costs of the services and whether the tenant has overpaid or underpaid for these. If additional payments are due these will be requested from the tenant. If there has been an overpayment, this will usually be used as credit against the next service charge payment due.

When will the service charges be due?

Tenants will need to consult the lease to determine when the payments are due. Usually, payments will be made twice yearly or quarterly – but some leases will allow monthly payments.

How should a landlord demand service charges?

If the charges relate to residential premises, then there are numerous statutory requirements that will need to be satisfied and the demand should be in a prescribed form. If the notice isn’t in a prescribed form or is missing important details, the tenant may refuse to pay the charges.

There are less strict rules with commercial service charge – but it is good practice for a landlord to include as much information as possible to avoid disputes.

The lease may have provisions allowing tenants to inspect receipts and invoices if they have a query about any charges and residential tenants will have statutory rights to insist on the same.

What is a sinking fund?

Some leases allow for a landlord to keep and hold a sinking fund. This is effectively a ‘rainy day’ fund, which allows the tenants to save for significant or expensive works. The purpose of these funds it to avoid tenants having surprise large bills and should allow the landlord to set up a suitable program of works.

Is the service covered under the lease?

It is important that landlords and tenants consult the lease to understand exactly what services and works can be claimed. If the agreement does not require the tenant to contribute towards improvements, then the charges will not be due. However, sometimes it is difficult to establish what is repair and what is improvement and sometimes some improvement is unavoidable.

What if the charge is unreasonable?

The charge claimed must be reasonably incurred and the work should be of a reasonable standard.

Residential tenants can challenge the charges claimed by applying to the Tribunal, which has the power to make a ruling whether the charge is due or how much is reasonable to pay.

If a landlord of residential property proposes to carry out works that will cost any one leaseholder more than £250, they are required to go through a statutory consultation. This allows the tenants to make representations and sometimes put forward their quotes for a contractor.

If you would like to challenge a service charge, contact one of our property disputes experts today for a no-obligation discussion to see if we can help.

How to challenge service charges?

If the charges are expensive or if the work is not done to a suitable standard or if items not covered in the lease are claimed you can challenge the charges refer the claim to the Residential Property Tribunal.

It is important that tenants do not ignore or refuse to pay service charges as the lease may allow the landlord to forfeit the lease if there are arrears. It is usually the case of ‘pay first, challenge later’.

However, a landlord must meet all the legal and statutory requirements before they can forfeit the lease.

It is important that landlords and tenants take legal advice as soon as possible once a dispute or challenge is made to ensure that they are sufficiently protected.

Drafting points

The content of a service charge clause depends on the relative bargaining strength of the parties, but it should include as a minimum:

• A definition of the services which can be charged for;
• a clearly defined obligation on the tenant to pay towards services which shows how the tenant’s proportion of the overall cost will be calculated;
• which services the landlord is obliged to provide including essential services and other services which may be provided; and
• the mechanics of the service charge which typically will include: dates for payment, how the service charge accounts are prepared and a mechanism for resolving disputes.

Although it is impossible to guarantee that a dispute will not arise at some stage, the risk can be reduced where the lease terms are clear and the parties know precisely where they stand in relation to the provision of services and who is liable to pay for them.

Our team regularly supports landlords and tenants when it comes to service charges and service charge claims. Contact us for a free no-obligation call.