Landlords often include provisions in service charge clauses to allow them to obtain payments on account to cover the cost of major work in future years. Friends Life Management Services Ltd v A&A Express Building Ltd [2014] EWHC 1463 (Ch); [2014] PLSCS 146 concerned what was to happen where the tenant had paid £795,000 on account of such work before its lease ended.
The tenant terminated its lease early, following the exercise of a break right, and the landlord began the work soon afterwards. However, the work was not completed until the following year. What then was the tenant’s service charge liability for the final service charge year? The tenant tried unsuccessfully to persuade the trial judge that the correct accounting period was from 1 January 2010 to 24 March 2010, when the lease terminated, and not 31 December 2010, when the service charge year ended. It hoped that this would relieve it of liability to contribute to the cost of the work done after the break date and bring forward the date on which the landlord would have to refund any balance due to the tenant.
Unfortunately for the tenant, the provisions of the lease were quite clear. They provided that service charge years were to run from 1 January to 31 December. This meant that costs incurred up until 31 December 2010 would fall within the service charge. However, costs incurred during the following financial year would not. Consequently, the tenant was liable to contribute to some – but not all – of the expenditure.
The judge agreed that the sums collected by the landlord should be credited against the expenditure for which they were paid. However, the landlord must bring the whole of the reserve fund into account against the service charge costs in 2010, even though the costs incurred in relation to such work in that year were less than the fund that the landlord had accumulated, because it would be unfair to allow the landlord to keep the surplus.
Could the landlord include a provision for major expenditure in 2011 in the service charge for the year ending on 31 December 2010? The reasoning in Brown’s Operating System Services Ltd v Southwark Roman Catholic Diocesan Corp [2008] 1 P&CR 7 suggested that the landlord would not have been able to extract a contribution towards future expenditure during the final service charge year of the contractual term – and the position was no different here, even though the lease had ended prematurely.
The court also had to consider how the landlord’s expenditure should be apportioned in view of the fact that the tenant’s lease ended on 24 March, but the service charge year ended on 31 December 2010. The parties agreed that there should be an apportionment for time, but disagreed how it should be done. The judge preferred the landlord’s argument that the expenditure should be apportioned on a daily basis and dismissed the tenant’s suggestion that the apportionment should reflect the cost of services provided or incurred while the lease remained in force.
No two leases are the same. However, this case provides a useful indication of the court’s approach in such cases and presents lease draftsmen with much to consider.
Allyson Colby is a property law consultant