Service charge paid in respect of anticipated works

In the Friends Life Management Services Limited case [2014] EWHC 1463 (Ch) it was the tenant of certain floors and the car park in an office building where it paid service charge calculated by deducting the annual expenditure from the gross annual expenditure.

Gross annual expenditure was defined as the aggregate of:

  • fees, expenses and outgoings due to the landlord, A & A Express Building Limited, during the current financial year;
  • fees, expenses and outgoings incurred in previous years which had not already been taken into account; and
  • a provision in respect of major works which were anticipated by the landlord in future years.

Annual expenditure was defined as all costs incidental to the services provided to the tenant or recoverable from the tenant.

Over the term the service charge came to a total of £875,000. At the time of the determination of the lease the tenant had paid £795,112.50.

Break clause

On 24 March 2010 on the expiry of the 12th year of the term the tenant ended the lease by serving a break notice to accord with the break option. At this point the major works which were anticipated in the gross annual expenditure had not been carried out. The works began in September 2010 with the majority of the work being completed in 2011. The tenant sought an apportionment of the service charge for 2010 and reimbursement for the excess sums paid in relation to anticipated works for the time when it had already vacated the building and was not going to obtain any benefit from the completed works.

The court identified three specific accounting stages for computation of the service charge in the lease on an annual basis:

  • collaboration between landlord and accountant for preparation of certified accounts showing, for a relevant financial year, the amount of the gross annual expenditure, the amount of the annual expenditure and a summary of the relevant expenditure;
  • apportionment of the annual expenditure in relation to the premises and of the annual expenditure in relation to the car park; and
  • comparison between the amount of the service charge for the financial year and the amount of the provisional sum for that financial year.

The tenant's case was that it wanted only to pay for actual moneys incurred whilst the lease was in place and not have to pay for the charges that had accrued after it had vacated.

It was decided that the tenant was liable only to pay service charge in the financial year of the break, but not for anticipated works.

The court, giving effect to the express terms in the lease, believed that the tenant's liability should be computed by preparing a certified account for the year which ran to 31 December 2010 (being the financial year for the last accounting period under the lease). The costs for the major works in 2010 should be included in the amount, but not the costs for the major works in 2011. All other costs qualifying under the definition of gross annual expenditure should be included.

The court ordered that, according to the provisions in the lease, the landlord also had to determine a "fair and reasonable proportion" of the gross annual expenditure attributable to the premises. The court believed that an apportionment from day to day offered the most appropriate method and ordered the tenant to pay a fraction being 83/365 of the total yearly expenditure for the year 1 January 2010 and 24 March 2010. The landlord therefore was unable to pass all charges it had incurred to the tenant and had to apportion the amounts spent.

If major works are to be considered then careful attention needs to be made to the terms of each tenant's lease within the area of those works. Service charges are contentious and particularly so when major items of expense are being incurred. It is necessary to carry out a proper lease audit before commencing works that will involve large sums.

Remember:

  1. The court will give effect to the terms of the contract, the lease.
  2. If there are provisions for "fair and reasonable proportions" this doesn't just mean on a floor area basis as this case demonstrates, this can also mean for the time in which the tenant remains in occupation if this is part way through the year.
  3. Service charge clauses will be construed in favour of the person being charged where there are ambiguities. Careful drafting is key.

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.