The case of Syed Balkhi v Southern Land Securities Ltd (2016) confirms that landlords cannot simply pass to their residential undertenants service charge demands received from head landlords without first ensuring they are reasonable.
The Pollen Estate Trustee Company Limited (the freeholder) owned the freehold of a building in Mayfair, London. The building comprised six residential apartments on the four upper floors and commercial premises on the ground and basement floors. Southern Land Securities Ltd (the landlord) held a lease of the four upper floors (the headlease). Syed Balkhi (the tenant) had a long lease of an apartment on the 4th floor (the lease).
The headlease obliged the freeholder to keep the structural parts of the building in good repair and condition and to rebuild/renew these as necessary. It was also obliged from time to time to redecorate, treat, clean and preserve the exterior of the building. The freeholder could recover its costs of this work through a service charge.
In addition to sums actually incurred throughout the service charge year, the freeholder could also demand contributions from the landlord towards a sinking fund. The landlord had to pay 63.56% of the overall amount of service charge charged by the freeholder for the building. The lease obliged the tenant to pay 20.04% of the service charge.
In its statements of anticipated service charge expenditure issued to the tenant, the landlord included a 'landlord estate charge', which was the service charge it paid to the freeholder to include the freeholder's sinking fund. During earlier years the amount was a fairly small sum but from 2011 it became large and the tenant objected, refusing to pay towards the sinking fund.
In 2013 the landlord issued a claim against the tenant for unpaid sums of over £12,000. The tenant defended the claim saying the amounts claimed were unrecoverable and unreasonable.
The First Tier Tribunal held that the landlord was entitled to recover the landlord estate charge under the lease. The sums charged were reasonable because the building was over 100 years old and the exterior needed work; it was reasonable to build up a sinking fund for this.
The tenant appealed and permission to appeal was granted on the basis that the decision did not explain why the sums for the sinking fund were reasonable.
The tenant brought evidence from two surveyors to the effect that only minor exterior works were needed and major repair works would not be needed for another 15 - 20 years. While ongoing external redecoration would be required, this could be done as part of regular maintenance works.
The landlord produced the service charge statements it had received from the freeholder. These were drafted by an experienced firm of managing agents who explained that the sinking fund was needed for external redecoration works. Rather than hitting the tenants with a huge bill in one year, they had split the demand across two years, each demanding £20,000. This was later changed to being split across three years totalling £70,000. No explanation was given as to the contemplated extent of the works, how the costs were made up or why the two contemplated collections totaling £40,000 had turned into three totalling £70,000.
The tenant argued that section 19(2) of the Landlord and Tenant Act 1985 applied to say that service charge sums must be reasonable in their amount. Its expert evidence showed that the amounts were not reasonable and so they were not payable.
The landlord admitted that no works had yet been done but formal consultation documents recently issued by the freeholder for substantial works included external redecoration. Therefore, all of its rights concerning recovery were reserved and any argument was for the future concerning whether the expenditure eventually incurred was actually reasonable. Pending those arguments, there was no justification for refusing to pay. Also, the building was old and located in Mayfair meaning the works would likely be expensive.
The Upper Tribunal held that the tenant was liable to pay sums that were properly payable by the landlord to the freeholder notwithstanding that these included payments towards the freeholder's sinking fund.
Section 19(2) of the Landlord and Tenant Act 1985 provided that:
'Where a service charge is payable before the relevant costs are incurred, no greater amount than is reasonable is so payable, and after the relevant costs have been incurred any necessary adjustment shall be made by repayment, reduction or subsequent charges or otherwise.'
A landlord cannot say it is reasonable to demand sums simply because it has paid those sums to its own landlord. It is for the immediate landlord making the demand to justify the reasonableness of the sums claimed through evidence and it may need to question its own landlord. The tenant's expert evidence was sufficient to raise serious questions regarding the reasonableness of the charges.
It was not enough, without evidence, to say that the building was large, old and situated in Mayfair to show that a substantial sinking fund was reasonable and leave it up to the Tribunal to decide what is reasonable.
The only evidence as to reasonableness from the freeholder was the explanation from its agents for the two £20,000 instalments needed, resulting in £40,000 overall. There was no satisfactory explanation as to why the position changed from this to £70,000 overall. On this basis, the reasonable amount for the landlord to have paid to the freeholder was 63.56% % of the £40,000, amounting to c.£25,000. The reasonable amount for the tenant to then pay was 20.04% of this, which was just under £4,000.
In seeking to pass on service charges from superior landlords, landlords should not blindly pass on demands to their own tenants but should first check both the:
- wording of the underlease, to ensure recovery of the particular items is permitted; and
- sums being charged are reasonable, both in amount and in what they are for - if there is no breakdown or explanation, this should be requested.